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Input-Output Analysis

An economic model that describes the interdependent relationships between industrial sectors within an economy

What is Input-Output Analysis?

Input-output analysis is a type of economic model that describes the interdependent relationships between industrial sectors within an economy. It shows how the outputs of one sector flow into another sector as inputs. Wassily Leontief, who was a Soviet-American economist, developed the input-output analysis method, earning him the Nobel Prize in Economics in 1973.

 

Input-Output Analysis

 

Summary

  • Input-output analysis describes the interdependent supply chains between sectors within an economy.
  • The input-output analysis table quantifies the flows of outputs from one industry (in rows) as inputs into another (in columns).
  • In the input-output analysis model, the total economy-wide impact of an economic event can be analyzed from the initial demand change and its direct, indirect, and induced impacts.
  • Input-output analysis is often used in Marxist economics as an economic planning method.

 

Input-Output Analysis Table

An industrial sector can be both a consumer of the outputs and a supplier of the inputs of other sectors in an economy. The input-output analysis model describes such an interdependent relationship. The analysis is typically presented in a matrix or table. The outputs of each sector are shown in rows and turn into the inputs of the other sectors listed in columns.

Below is an example of an input-output table for an economy with two sectors. As the first row shows, the agriculture sector produces 500 units of outputs in total, of which the majority – 320 units flow into the manufacturing sector as inputs for its production. 100 units are delivered to households directly as final demand, and the remaining 80 units are consumed by the agriculture sector itself as fodder and seeds, for example.

 

Input-Output Analysis Table

 

The second row shows where the outputs from the manufacturing sector flow to. Out of the total 260 units of output, 60 units flow to the agriculture sector as inputs or factors of production, such as reaping machines. 40 units flow back to the manufacturing sector to support further production processes. The remaining 160 units are consumed directly by households.

The table above is an oversimplified example for easy understanding. The situation in the real world is much more complicated with an extensive number of sectors and cross-sector flows of inputs and outputs.

 

Types of Impacts in Input-Output Analysis

Through quantifying the supply chain across different industries in an economy, the input-output analysis can be used to analyze the economy-wide impacts that an initial change of final demand can make. The impacts can be categorized into the following:

  1. Direct impact: The impacts of a change in final demand on the consumption of the directly associated inputs. For example, building a dam requires steel, concrete, workforce, and construction machinery. It thus has a direct impact on these inputs.
  2. Indirect (secondary) impact: The impacts as a result of the suppliers of the directly associated inputs hiring workforce to meet the increased demand.
  3. Induced (tertiary) impact: Accounts for the increase in personal consumption of goods and services resulting from the workers of suppliers.

 

The sum of the three types of impacts together with the initial demand change is the total impact of an event on an economy. Many studies agree that the impacts of the initial demand change diminish due to the leakage through savings and spending outside the local economy.

It means the induced impacts are typically smaller than the indirect impacts, which are smaller than the direct impacts. Such a diminishing effect is quantified through multipliers on the initial demand change. The greater the leakages, the smaller the multipliers are.

 

Types of Impacts in Input-Output Analysis

 

Use of Input-Output Analysis

Input-output analysis is not often used in neoclassical economics. Yet, it is a fundamental concept in Marxist economics as one of the methods of economic central planning. The input-output model analyzes the physical quantities produced and consumed in each industry and thus determines the resource allocation to reach the balance.

The input-output method is in contrast to the material-balances planning method. The latter method counts the raw materials and inputs available in an economy. It then balances the inputs with the output targets of each industry respectively through a balance sheet.

Although there are few planning economies nowadays, the input-output analysis does not lose its ground in real-world practices. One is Environmentally Extended Input-Output Analysis (EEIOA), which takes environment-related inputs into account by adding additional columns of inputs such as gasoline and coals.

 

Additional Resources

CFI is the official provider of the Certified Banking & Credit Analyst (CBCA)® certification program, designed to transform anyone into a world-class financial analyst.

To keep learning and developing your knowledge of financial analysis, we highly recommend the additional resources below:

  • Industrial Goods Sector
  • Marxism
  • Physical Capital
  • Manufacturing Resource Planning

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