Estimates of Substitution Elasticities and Factor-Augmented Technical Changes

Abstract

The paper estimates substitution elasticity between labor and capital in a constant elasticity of substitution (CES) production function based on the World Input-Output Database (WIOD, Timmer 2012). I estimate the elasticities and growth rates of factor-augmented technical progress based on the two first order conditions (FOCs) under the assumption of competitive profit-maximization producers. Taking into account for the capital as a fixed input and the labor as a variable input in the short term particularly within a year, I adopt the FOC with respect to capital where capital input is the explanatory variable and the FOC with respect to labor where wage rate is the explanatory variable. The results show that the industrial elastisities fall within a range from 0.4 to 0.9 and aggregate country-level elasticity is around 0.62. 90% of the estimated annual changes in factor-augmented technology fall within a range from -0.12 to 0.17. At the country level, 35 of the 40 countries exhibit net labor-augmenting technical progress.

Keywords: Elasticity of substitution; CES function; factor-augmented technology; CGE modeling

JEL Classification: O40; O47