GEM-E3 is a recursive dynamic computable general equilibrium model that covers the interactions between the economy, the energy system and the environment. It is especially designed to evaluate environmental policies (in particular GHG emission reduction policies). GEM-E3 can evaluate consistently the distributional effects of policies for the various economic sectors and agents across the countries.
There are two versions of GEM-E3: GEM-E3 Europe and GEM-E3 World. They differ in their geographical and sectoral coverage, but the model specification is the same:
- The world version of GEM-E3 is based on the GTAP 7 database (base year 2004). The regional aggregation is flexible and allows for the individual representation of all major world economies.
- The European version covers 24 EU countries (all EU Member States, except for Luxemburg, Malta and Cyprus) and the rest of the world (in a reduced form). It is based on EUROSTAT data.
The GEM-E3 model simultaneously computes the equilibrium in the goods and services markets, as well as in production factors (labour and capital). The economic agents optimize their objective functions (welfare for households and cost for firms) and determine separately the supply or demand of labour, capital, energy, and other goods. Market prices guarantee a global equilibrium endogenously. The competitive market equilibrium under Walras’ law also includes more detailed equilibria in energy demand/supply and emission/abatement. The structural features of the energy/environment system and the policy-oriented instruments (e.g. taxation) have a considerable level of detail. The geographical regions are linked through bilateral trade.
The production of the firms is modelled with a nested CES production function, using capital, labour, energy and intermediate goods. The model allows for different market clearing mechanisms and alternative market structures, in addition to perfect competition. The amount of capital is fixed within each period. The investment decisions of the firms in the current period affect the stock of capital in the next period. Labour is immobile across national borders.
The consumers decide endogenously on their demand of goods and services using a nested extended Stone Geary utility function. In a first stage, a representative consumer for each region allocates their total expected income between total consumption of goods and services (both durables and non-durables), leisure and savings. In a second stage, the utility function distinguishes between durable (equipment) and consumable goods and services. Households obtain utility from consuming a non-durable good or service and from using a durable good above a subsistence level. The consumption of a durable good is directly linked to the consumption of non-durable good, e.g. fuel for the use of transport equipment.
The demand of goods by the consumers, firms (for intermediate consumption and investment) and the public sector constitutes the total domestic demand. Total demand is allocated between domestic and imported products, following the Armington (1969) specification. According to this specification, products are imperfect substitutes given their origin. Each region buys and imports at the prices set by the supplying regions.
The model setup includes the energy-related and non-energy related emissions of carbon dioxide (CO2), other GHG such as methane (CH4), nitrous oxide (N20) sulfur hexafluoride (SF6), hydrofluorocarbon (HFC), and perfluorocarbon (PFC). There are three mechanisms of emission reduction explicitly specified in the model: (i) substitution between fuels and between energetic and non-energetic inputs, (ii) emission reduction due to a decline in production and consumption, and (iii) purchasing abatement equipment. GEM-E3 can also be used to analyze air quality problems involving other pollutants such as sulphur dioxide (SO2), nitrogen oxides (NOx), volatile organic compounds (VOC), ammonia (NH3) and particulates (PM10).
GEM-E3 distinguishes between 9 categories of receipts, including indirect taxes, energy taxes, direct taxes, value added taxes, production subsidies, social security contributions, import duties, foreign transfers and government firms. The model is able to compare the welfare effects of various environmental instruments, such as taxes, auctioning, various forms of pollution permits and command-and-control policy in the context of climate and energy policies. It is also possible to consider various ways of revenue recycling. Recently, the GEM-E3 model has also been used in order to analyze the Marginal Cost of Public Funds (MCPF) and its cross-border effects of tax increases in the European Union.
