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What to Make of the Kaldor-Verdoorn Law?

Author

Listed:
  • Deepankar Basu

    (Department of Economics, University of Massachusetts Amherst)

  • Manya Budhiraja

    (Department of Economics, University of Massachusetts Amherst)

Abstract

The Kaldor-Verdoorn law refers to a positive but less than one-for-one relationship between the growth rates of output and labor productivity, with causality running from the former to the latter. Empirical research has affirmed such a relationship and have found that the Kaldor-Verdoorn coefficient lies between 0 and 1. But the interpretation of this finding remains unclear. In this paper, we present a model to derive the Kaldor-Verdoorn law. Our results show that the Kaldor-Verdoorn coefficient is jointly determined by the elasticity of factor substitution, labor supply elasticity, the profit share and the increasing returns to scale (or demand-induced technical change) parameter. Hence, estimated Kaldor-Verdoorn coefficients cannot be used, on their own, to infer the presence of aggregate increasing returns to scale - other than in very special cases. We also show that, perhaps surprisingly, an economy without aggregate increasing returns to scale (or without any demand-induced technical progress) can generate a Kaldor-Verdoorn coefficient that lies between 0 and 1.

Suggested Citation

  • Deepankar Basu & Manya Budhiraja, 2020. "What to Make of the Kaldor-Verdoorn Law?," UMASS Amherst Economics Working Papers 2020-03, University of Massachusetts Amherst, Department of Economics.
    • Handle: RePEc:ums:papers:2020-03
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    File URL: https://scholarworks.umass.edu/econ_workingpaper/286/
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    More about this item

    Keywords

    Aggregate productivity; Kaldor-Verdoorn coefficient; labor supply elasticity; CES production function.;
    All these keywords.

    JEL classification:

    • E12 - Macroeconomics and Monetary Economics - - General Aggregative Models - - - Keynes; Keynesian; Post-Keynesian; Modern Monetary Theory
    • O4 - Economic Development, Innovation, Technological Change, and Growth - - Economic Growth and Aggregate Productivity

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