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A New Approach to Estimating Production Function Parameters: The Elusive Capital--Labor Substitution Elasticity

Listed author(s):
  • Robert S. Chirinko
  • Steven M. Fazzari
  • Andrew P. Meyer

Parameters of taste and technology are central to a wide variety of economic models and issues. This article proposes a simple method for estimating production function parameters from panel data, with a particular focus on the elasticity of substitution between capital and labor. Elasticity estimates have varied widely, and a consensus estimate remains elusive. Our estimation strategy exploits long-run variation and thus avoids several pitfalls, including difficult-to-specify dynamics, transitory time-series variation, and positively sloped supply schedules, that can bias the estimated elasticity. Our results are based on an extensive panel comprising 1860 firms. Our approach generates a precisely estimated elasticity of 0.40. Although existing estimates range widely, we document a remarkable convergence of results from two related approaches applied to a common dataset. The method developed here may prove useful in estimating other structural parameters from panel datasets.

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File URL: http://hdl.handle.net/10.1198/jbes.2011.08119
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Article provided by Taylor & Francis Journals in its journal Journal of Business & Economic Statistics.

Volume (Year): 29 (2011)
Issue (Month): 4 (October)
Pages: 587-594

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Handle: RePEc:taf:jnlbes:v:29:y:2011:i:4:p:587-594
DOI: 10.1198/jbes.2011.08119
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