ECONOMIC POLICY OF SUSTAINABLE DEVELOPMENT BASED ON IS-LM-EE MODEL

Transcription

1 Zhang Lee: Economic olicy of sustainable develoment based on IS-L-EE model ECONOIC POLICY OF SUSTAINABLE DEVELOPENT BASED ON IS-L-EE ODEL ZHANG,. R., LEE, C.. School of Economics, Yangtze University, Jingzhou, 434,China Institute of Natural Resources anagement, National Taiei University, New Taiei City, 374,Taiwan Corresonding author cmlee@mail.ntu.edu.tw (Received th Dec 6; acceted 7 th ar 7) Abstract. Economic develoment is closely related to environmental quality. Environmental quality has become an imortant influencing factor to restrict the economic develoment. But environment quality is facing an ordeal owing to the ollution of the soil and water, greenhouse gas, extreme climate and natural disasters. It is one of the research focuses of scholars how to realize a harmonious develoment of economic and environmental by using fiscal and monetary olicy tools. We revise the IS-L-EE schedule model in the existing literature and discuss the stability conditions and the olicy signification of the equilibrium oint of the IS-L-EE schedule model. We research the otimal fiscal and money olicy combination at the equilibrium oint of the IS-L-EE model. Keywords: environmental macroeconomics, sustainable develoment, IS-L-EE model Introduction Economic develoment is closely related to environmental quality, the environment rovides energy and raw materials for economic develoment, and the economic develoment discards a large amount of the waste in natural environment and changes the environment quality. The theories of the Classical Political Economic thought that the carrying caacity of the environment is the ultimate limiting factor of an economy's scale (Rezai and Stagl, 6). How to realize a harmonious develoment of economic and environmental by using fiscal and monetary olicy tools is one of the focuses of scholars research. Daly (99) studied the macroeconomic roblems with the limited environmental resources and constructed the theory system of environmental macroeconomics. Heyes () firstly set u the IS-L-EE schedule model to research the economic olicy collocation form of sustainable develoment. Lawn (3), Sim (6), Decker and Wohar () also built different the IS-L-EE schedule model to analyze the economic olicy imlication of the model. Heyes () and Sim (6) assumed the substitution of the environmental caital for hysical caital and the EE schedule with the negative sloe was steeer than the IS schedule. Therefore, the tight fiscal and exansionary monetary olicy will be adoted in order to romote economic growth and maintain the equilibrium of environmental schedule. But Lawn (3), Decker and Wohar () denied the hyothesis of the substitution of the environmental caital for the hysical caital, they argued the comlementariness of the environmental caital for hysical caital and the EE schedule with the ositive sloe was steeer than the L schedule. They claimed the tight monetary and exansionary fiscal olicy would be adoted in order to romote economic growth and maintain the equilibrium of environmental schedule. Fontana and Sawyer (6), Jackson and Victor APPLIED ECOLOGY AND ENVIRONENTAL RESEARCH 5(3): htt:// ISSN (Print) ISSN (Online) DOI: htt://dx.doi.org/.5666/aeer/53_ , ALÖKI Kft., Budaest, Hungary

2 Zhang Lee: Economic olicy of sustainable develoment based on IS-L-EE model (6), Rezai et al. (3), and Taylor et al. (6) also researched the major role of the standard macroeconomic olicy tools in romoting the sustainable economic growth. The fiscal sending could comlement the efforts to imrove environmental quality, rendering environmental olicy easier and more cost efficient (Halkos and Paizanos, 5), Bowen et al. (4). Camiglio (4), Jackson and Victor (5), Naqvi (5) analyzed the imortance of the olicies for financial markets with the environmental sustainability. Bernardo and Camiglio (4), Daly (3, 4), Douthwaite (), Seyfang and Longhurst (3), had been studying the financial system for the sustainable economic growth. The IS-L-EE model does not analyze the stability condition of the equilibrium oint in the existing literature. In addition, Decker and Wohar () ostulated that environmental and hysical caital had a linear relationshi, so the environmental schedule EE will be a hyerbolic curve rather than a straight line, the IS and L schedule will have one or two oints of intersection with EE schedule. The stability condition and the olicy signification are different with the equilibrium oint for the different sloe of the EE schedule. Therefore, the aer will discuss the olicy signification of the stability condition in the different IS-L-EE model according to the assumtion of the linear relationshi of the environmental for the hysical caital for Decker s and Wohar s (). Policy imlications of the IS-L-EE model Constructjng IS-L-EE Schedule odel In goods market, aggregate demand consistes of consumer demand, investment demand, government demand and net foreign demand. We assume that the investment demand function is: I I br,where I is autonomous investment sending and b ( b ) measures the sensitivity of investment to the interest rate, r. The consumtion demand function is: C C cyd,where C is an autonomous consumtion and c is the marginal roensity to consume with after-tax income, Yd ( t) Y, where t( t ) is the tax rate and Y is the aggregate outut. The net foreign demand is NX and the government demand is G. The aggregate demand function is : A C I NX G. Assumed the adjustments in the excess dy aggregate outut can be written as ( A Y),where ( ) is the adjustment dt coefficient of the aggregate demand. The roduct market reaches equilibrium dy when dt. So the IS schedule is as follows: r c( t) C I NX G b b Y (Eq.) c( t) So the sloe of IS schedule is kis. The change of government b urchase exenditures G will cause the IS curve to shift when C I NX is APPLIED ECOLOGY AND ENVIRONENTAL RESEARCH 5(3): htt:// ISSN (Print) ISSN (Online) DOI: htt://dx.doi.org/.5666/aeer/53_ , ALÖKI Kft., Budaest, Hungary

3 Zhang Lee: Economic olicy of sustainable develoment based on IS-L-EE model unchanged. So the behavior of the government urchase exenditures will determine the location of the IS schedule. In the money market, we assume that the real money suly is and real money P demand is gy hr, where is the nominal money suly and the rice level P is exogenous, gg ( ) is the sensitivity coefficient of money demand to total outut and hh ( ) is the sensitivity coefficient of money demand to changes in the interest rate. dr The adjustments in the excess money demand can be written as ( gy hr ), dt P where ( ) is the adjustment coefficient of the excess money demand. The money dr market achieves equilibrium when dt. Therefore, the L curve is as follows: g r Y h Ph (Eq.) g So the sloe of L schedule is k L h and determine the location of the P L schedule. In environmental caital market, we assume the consumtion function of environmental caital is: e( r) Y ( e r) Y, where, er () is the consumtion intensity of the environmental caital and e() r e r,where e is the environmental caital consumtion intensity with given technology, is the coefficient of the environmental caital consumtion intensity to the real interest rate r. It means the substitution(comlementariness) of the environmental caital for the hysical caital when ( ). We assume that the relication growth rate of environmental caital is se er unit time, where s is the ercent growth in the environmental stock and E is the total fixed stock of environmental caital available to an economy that can be taed as an energy inut in roduction (Decker and Wohar, ). So the net rate of de environmental resource stock growth is ( e r) Y se. The environmental dt de equilibrium schedule EE is obtained when dt. Therefore, the EE curve is as follows: e se r (Eq.3) Y se So, the sloe of EE schedule is kee. Y Therefore,the Eq., Eq. and Eq.3 consist of IS-L-EE model: APPLIED ECOLOGY AND ENVIRONENTAL RESEARCH 5(3): htt:// ISSN (Print) ISSN (Online) DOI: htt://dx.doi.org/.5666/aeer/53_ , ALÖKI Kft., Budaest, Hungary

4 Zhang Lee: Economic olicy of sustainable develoment based on IS-L-EE model c( t) C I NX G r Y b b g r Y h Ph se e r Y (Eq.4) The stability condition of the IS-L-EE model requires kee kis when, or, kee kl kis when (roof see aendix). The stability condition of kee kis means that the IS curve is steeer than the EE curve when environmental caital and hysical caital are substitutes in roduction. In Heyes () IS-L-EE model, he ostulated that the EE curve is steeer than the IS curve, therefore, the equilibrium oint is unstable in his IS-L-EE model. The stability condition of kee kl kis means that the EE curve is steeer than the L curve when environmental caital and hysical caital are comlements in roduction. In Decker s and Wohar s () IS-L-EE model, he ostulated that the EE curve is steeer than the L curve, so, the equilibrium oint is stable in their IS-L-EE model. Policy imlications of the stability condition of the IS-L-EE model se The sloe of EE schedule is kee when. According to our Y hyothesis, EE schedule is hyerbola. Therefore, L and EE schedule will have one or two oints of intersection. As shown in Fig., oint A is a oint of tangency of L and EE schedule. The EE curve is steeer than the L curve at oint C and L curve is steeer than the EE curve at oint B. According to the stability condition of the IS-L- EE model, the oint C is a stable equilibrium oint, but the oint B is an unstable equilibrium oint. So we only discuss the olicy signification of the oint C. At oint C, the tight fiscal and exansionary monetary olicy will be adoted if the government hoes to decrease the economic growth with the given EE schedule.the result is consistent with the conclusion of Decker and Wohar () IS-L-EE schedule model. the exansionary fiscal and tight monetary olicy will be adoted if the government hoes to romote the economic growth with the given EE schedule. Uer limit of the exansionary fiscal and lower limit of tight monetary olicy are the economic growth achieving the total outut of oint A. Therefore, there is the maxmium of the outut with the environmental constraint, the the maxmium of the government exenditure,and the minimium of the real money suly at the oint A. APPLIED ECOLOGY AND ENVIRONENTAL RESEARCH 5(3): htt:// ISSN (Print) ISSN (Online) DOI: htt://dx.doi.org/.5666/aeer/53_ , ALÖKI Kft., Budaest, Hungary

5 Zhang Lee: Economic olicy of sustainable develoment based on IS-L-EE model r L B L EE A IS C IS IS Y Y Y Y Figure. Policy imlications in IS-L-EE odel with EE Schedule of Positive Sloe Then, we discuss the minimium of the real money suly and maxmium of government exenditure at oint A. The minimization roblem of money suly is: P min (Eq.5) min ( gy hr) ( Yr, ) s. t ( e r) Y se (Eq.6) So, we will get the solution: Y hse g (Eq.7) r e sge h (Eq.8) min hsge he ( ) P (Eq.9) Eq.7 shows the maxmium of the outut with the environmental constraint, Eq.9 shows the minimium of the real money suly in order to achieve the equilibrium of EE and L. If the government hoe to adjust the government urchase exenditure achieving the equilibrium of EE, IS and L. So the maxmium of the government exenditure will be determined by Eq., Eq.7 and Eq.8, then: APPLIED ECOLOGY AND ENVIRONENTAL RESEARCH 5(3): htt:// ISSN (Print) ISSN (Online) DOI: htt://dx.doi.org/.5666/aeer/53_ , ALÖKI Kft., Budaest, Hungary

6 Zhang Lee: Economic olicy of sustainable develoment based on IS-L-EE model max hse sge be G [ c( t)] b ( C I NX ) g h (Eq.) Which equilibrium oint does the government reference between A and C? We think that the government will refer equilibrium oint A rather than C. Because the total outut of oint A is higher than oint C, when the level of economic develoment is at the oint C, the government will adot the exansionary fiscal and tight monetary olicy to move the equilibrium oint from C to A. se The sloe of EE schedule is kee when. According to our Y hyothesis, EE schedule is hyerbola,and IS and EE schedule will have one or two oints of intersection.as shown in Fig., oint A is a oint of tangency of IS and EE schedule. The EE curve is steeer than the IS curve at oint C and IS curve is steeer than the EE curve at oint B. According to the stability condition of the IS-L-EE model,so the oint C is an unstable equilibrium oint, but the oint B is a stable equilibrium oint. So we only discuss the olicy signification of the oint B. At oint B, the exansionary fiscal and exansionary monetary olicy will be adoted if the government hoes to romote the economic growth with the given EE schedule of negative sloe. But Heyes () and Sim (6) thought that the tight fiscal and exansionary monetary olicy would romote the economic growth with the given EE schedule of negative sloe. According to the stability condition of the IS-L-EE model, there are the minimium of the outut, of the government exenditure and of the real money suly with the environmental constraint at the oint A. r L C L A L B EE Y IS IS Y Y IS Y Figure. Policy imlications in IS-L-EE odel with EE Schedule of Negative Sloe Then, we discuss the minimium of the government exenditure and of money suly at oint A. The minimization roblem of government exenditure is: APPLIED ECOLOGY AND ENVIRONENTAL RESEARCH 5(3): htt:// ISSN (Print) ISSN (Online) DOI: htt://dx.doi.org/.5666/aeer/53_ , ALÖKI Kft., Budaest, Hungary

7 Zhang Lee: Economic olicy of sustainable develoment based on IS-L-EE model min min G {[ c( t)] Y br ( C I NX )} (Eq.) Yr, s. t ( e r) Y se (Eq.) So, we will get the solution: Y bse [ c( t)] (Eq.3) r s[ c( t)] E e b (Eq.4) min bse[ c( t)] be So, G ( C I NX ) (Eq.5) Eq.5 shows the minimium of government exenditure achieving the equilibrium of EE and IS. The government hoes to adjust the money suly to achieve the equilibrium of EE, IS and L. So the minimium of money suly will be determined by Eq., Eq.4 and Eq.5, then: min bse s[ c( t)] E he ( ) g h P [ c( t)] b (Eq.6) The total outut,the government exenditure and the money suly of oint B are more than oint A, which equilibrium oint does the government reference between A and B? It is difficult to answer the roblem. We think that there are two criteria to judge the roblem. a) Risk of exansionary fiscal and tight monetary olicy. The inflation risk is robably induced when the government imlements the exansionary monetary olicy. The debt risk is robably induced when the government borrows the money to imlement the exansionary fiscal olicy. b) Cost and benefit of the imlementation of the exansionary fiscal and monetary olicy. The cost and benefit of the olicy is weighed when the government imlements the exansionary fiscal and monetary olicy. We assume that total outut is Y,real interest rate is r, government urchase exenditure is G and money suly is ( ) at equilibrium oint A, and that total outut isy, real interest rate is r, government urchase exenditure is G and money suly is ( ) at equilibrium oint B. We define that the cost of fiscal and monetary APPLIED ECOLOGY AND ENVIRONENTAL RESEARCH 5(3): htt:// ISSN (Print) ISSN (Online) DOI: htt://dx.doi.org/.5666/aeer/53_ , ALÖKI Kft., Budaest, Hungary

8 Zhang Lee: Economic olicy of sustainable develoment based on IS-L-EE model olicy is G ( ) ( G G ) [( ) ( ) ] and the benefit of fiscal and monetary olicy is Y Y Y when the government imlements the exansionary fiscal and monetary olicy from the equilibrium oint A to B. se( h b) G Y c t g ( Y Y ) Y ( ) [ ( ) ] (Eq.7) Therefore, se( h b) ( ) ; ( Y Y ) Y G ( ) Y when c t g se( h b) c( t) g ; ( Y Y ) Y G ( ) Y when se( h b) c( t) g. ( Y Y ) Y G ( ) Y when It is feasible for the exansionary fiscal and monetary olicy to shift the equilibrium oint from A to B when G ( ) Y, therefore the government can refer the equilibrium oint B, but the government must weigh the inflation risk of exansionary monetary olicy and the debt risk of exansionary fiscal olicy. The exansionary fiscal and monetary olicy is unfeasible when G ( ) Y, therefore the government can refer the equilibrium oint A. The cost of the exansionary olicy equal to the benefit of the exansionary olicy when G ( ) Y, so the government refering the equilibrium oint A or B is indifference,but but the government must weigh the inflation risk of exansionary monetary olicy and the debt risk of exansionary fiscal olicy at oint B. Conclusion Environmental quality has become an imortant influencing factor to restrict economic develoment. But environment quality is facing an ordeal owing to the ollution of the soil and water, greenhouse gas, extreme climate and natural disasters. How to maintain better environment quality and to romote economic growth is the focus of attention. In our IS-L-EE schedule model, we discuss the stability conditions and the olicy signification of the equilibrium oint. The maximal total outut is at the oint of tangency of L and EE schedule when the environmental caital and hysical caital is comlementary. If the equilibrium oint is at the left of the oint of tangency, the government will adot the exansionary fiscal and tight monetary olicy to romote the economic growth. The minimal total outut is at the oint of tangency of IS and EE APPLIED ECOLOGY AND ENVIRONENTAL RESEARCH 5(3): htt:// ISSN (Print) ISSN (Online) DOI: htt://dx.doi.org/.5666/aeer/53_ , ALÖKI Kft., Budaest, Hungary

9 Zhang Lee: Economic olicy of sustainable develoment based on IS-L-EE model schedule when the environmental caital and hysical caital is substitutability. According to the stability condition of the IS-L-EE model, there are the minimium of the outut, of the government exenditure and of the real money suly with the environmental constraint. The cost and benefit of the olicy is weighed when the government imlements the exansionary fiscal and monetary olicy in order to romoting the economic growth. REFERENCES [] Bernardo, G., Camiglio, E. (4): A simle model of income, aggregate demand and the rocess of credit creation by rivate banks. - Emirica 4(3): [] Bowen, A., Camiglio, E., Tavoni,. (4): A macroeconomic ersective on climate change mitigation: eeting the financing challenge. - Climate Change Economics 5(): 445. [3] Camiglio, E. (6): Beyond carbon ricing: The role of banking and monetary olicy in financing the transition to a low-carbon economy. - Ecological Economics : -3. [4] Chang, W. W., Smyth, D. J. (97): Stability and instability of IS-L Equilibrium. - Oxford Economic Paers 4(3): [5] Daly, H. (3): Nationalize money, not banks. Center for the Advancement of the Steady State Economy. Retrieved from htt://steadystate. org. [6] Daly, H. E. (99): Elements of environmental macroeconomics. - Ecological economics: The science and management of sustainability, [7] Daly, H. E. (99): Towards an environmental macroeconomics. - Land Economics 67(): [8] Daly, H. E. (4): Paul Craig Roberts' imortant new book. - Ecological Economics - 7. [9] Decker, C. S., Wohar,. E. (): Substitutability or comlementarity? Re-visiting Heyes IS-L-EE model. - Ecological Economics 74: 3-7. [] Douthwaite, R. (): Degrowth and the suly of money in an energy-scarce world. - Ecological Economics 84: [] Fontana, G., Sawyer,. (6): Towards ost-keynesian ecological macroeconomics. - Ecological Economics : [] Halkos, G., Paizanos, E. (5): Environmental acroeconomics: A critical literature review and future emirical research directions. htts://mra.ub.unimuenchen.de/6743//pra_aer_6743.df. [3] Heyes, A. (): A roosal for the greening of textbook macro: IS-L-EE. - Ecological Economics 3(): -7. [4] Jackson, T., Victor, P. A. (5): Does credit create a growth imerative? A quasistationary economy with interest-bearing debt. - Ecological Economics : [5] Jackson, T., Victor, P. A. (6): Does slow growth lead to rising inequality? Some theoretical reflections and numerical simulations. - Ecological Economics : 6-9. [6] Lawn, P. A. (3): On Heyes' IS L EE roosal to establish an environmental macroeconomics. - Environment and Develoment Economics 8(): [7] Naqvi, A. (5): odeling Growth, Distribution, and the Environment in a Stock-Flow Consistent Framework. - Policy Paer no 8. [8] Oleck, C. (96): On the global stability of an autonomous system on the lane. ARTIN CO BALTIORE D RESEARCH INST FOR ADVANCED STUDIES. [9] Rezai, A., Stagl, S. (6): Ecological acroeconomics: Introduction and Review. - Ecological Economics : ISSN 9-89 [] Rezai, A., Taylor, L., echler, R. (3): Ecological macroeconomics: An alication to climate change. - Ecological Economics 85: APPLIED ECOLOGY AND ENVIRONENTAL RESEARCH 5(3): htt:// ISSN (Print) ISSN (Online) DOI: htt://dx.doi.org/.5666/aeer/53_ , ALÖKI Kft., Budaest, Hungary

10 Zhang Lee: Economic olicy of sustainable develoment based on IS-L-EE model [] Samuelson, P. A. (94): The stability of equilibrium: comarative statics and dynamics. - Econometrica: Journal of the Econometric Society 97-. [] Samuelson, P. A. (94): The stability of equilibrium: linear and nonlinear systems. Econometrica: Journal of the Econometric Society -5. [3] Seyfang, G., Longhurst, N. (3): Growing green money? aing community currencies for sustainable develoment. - Ecological Economics 86: [4] Sim, N. C. (6): Environmental Keynesian macroeconomics: some further discussion. Ecological Economics 59(4): [5] Taylor, L., Rezai, A., Foley, D. K. (6): An integrated aroach to climate change, income distribution, emloyment, and economic growth. - Ecological Economics : APPENDIX We think that the equilibrium oint stability conditions are met in IS-L-EE model if the equilibrium oint stability conditions are met resectively in the IS-L, IS-EE and L-EE model at the same time.so we rove the equilibrium oint stability conditions of IS-L-EE model by using the differential system of IS-L model, the differential algebraic systems of IS-EE and L-EE model with the given EE schedule.the differential system of IS-L model, the differential algebraic systems of IS-EE and L-EE model are as follows: dy [ c( t) Y Y br ( C I NX G)] dt IS L : dr ( gy hr ) dt P (A-) dy [ c( t) Y Y br ( C I NX G)] IS EE : dt ( e r) Y se (A-) dr L EE : dt P ( e r) Y se ( gy hr ) (A-3) According to Oleck s Theorem (Oleck, 96) and Routh-Hurwitz Theorem, the local stability conditions of the differential system A- are if and only if a) [ c( t) ] b (A-4) b) h[ c( t) ] gb bh( k k ) (A-5) The stability condition of the differential algebraic systems A- and A-3 are (Chang and Smyth, 97): L IS APPLIED ECOLOGY AND ENVIRONENTAL RESEARCH 5(3): htt:// ISSN (Print) ISSN (Online) DOI: htt://dx.doi.org/.5666/aeer/53_ , ALÖKI Kft., Budaest, Hungary

11 Zhang Lee: Economic olicy of sustainable develoment based on IS-L-EE model bse [ c( t) ] b( k ) EE kis (A-6) Y gy h h [ kee kl ] (A-7) se k EE We will obtain the stability of the equilibrium oint of the IS-L-EE model when the formula (A-4)-(A-7) are satisfied at the same time. So the stability of the equilibrium oint in IS-L-EE model is as follows: a) and k k k ; L EE IS b) and k k k. EE L IS APPLIED ECOLOGY AND ENVIRONENTAL RESEARCH 5(3): htt:// ISSN (Print) ISSN (Online) DOI: htt://dx.doi.org/.5666/aeer/53_ , ALÖKI Kft., Budaest, Hungary