Forest sector partial equilibrium models: Processing components

Abstract

Partial equilibrium models are used extensively in the forest sector to predict the effects of national policies and economic shocks on sector activity, especially trade. Models are made up of four components: supply, demand, processing, and international trade. We focus on the processing component. Processing component costs are commonly represented by an exogenous average per unit cost and the costs of endogenous inputs; the former costs are, in effect, constant marginal costs of production. We provide both a theoretical basis for and illustrate a method to construct a partial equilibrium model that uses variable marginal costs for production and explicitly includes the cost of endogenous inputs. Through a forest sector model, we also evaluate the implications of using constant as opposed to variable marginal costs to represent the processing component. We demonstrate that coherent processing components can be easily included in existing partial equilibrium models and that variable marginal costs in processing components improve model behavior. We conclude that the constant marginal cost components in forest sector models should be universally replaced with a variable marginal cost. © 2013 by the Society of American Foresters.