In this paper, we discuss the development of a small global macroeconometric model involving 5 nations/areas: US, Japan, EU, China and Korea. The model has the typical features of a new Keynesian macroeconomic model, including the effects of both short-term demand shocks and long-term equilibrium conditions or supply-side constraints. The model incorporates an error correction formula to ensure the stability of the long-term conditions and the co-integrated relations. The model features partly forward-looking variables, which imply the model-consistent expectation that the minimum forecasting error is assured. The model also adopts a translog function to estimate the share functions for the bilateral trade relations instead of using the conventional function that
more effectively reflects changes in the relative price and the demand between trading partners. Several simulation analyses indicate that the multiplier of the fiscal expansion is 1.4~1.6 if the whole expenditure is regarded as “real water”. US, Japan and EU have a larger impact on China and Korea. The reverse is not true even though China has become the second largest economy; indeed, the effects are quite asymmetrical. On the other hand, China and Korea are tightly unified into one economic region through the supply chain of goods. Appreciation of the RMB will reduce China’s GDP; however, the US will not necessarily gain from it for a long time. Moreover, the welfare of the world economy could slow down overall, and only Japan will substitute to compensate for the reduction in China’s exports. In general, China and Japan are “substitutes” with respect to world trade, whereas
China and Korea are “complements”.
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