Measuring Capital-Labor Substitution: The Importance of Method Choices and Publication Bias

62 Pages Posted: 11 Feb 2021

See all articles by Sebastian Gechert

Sebastian Gechert

Hans-Boeckler-Stiftung - Macroeconomic Policy Institute (IMK)

Tomas Havranek

Charles University in Prague; Centre for Economic Policy Research (CEPR)

Zuzana Irsova

Charles University in Prague

Dominika Kolcunova

Charles University; Czech National Bank (CNB)

Date Written: January 1, 2021

Abstract

We show that the large elasticity of substitution between capital and labor estimated in the literature on average, 0.9, can be explained by three issues: publication bias, use of cross-country variation, and omission of the first-order condition for capital. The mean elasticity conditional on the absence of these issues is 0.3. To obtain this result, we collect 3,186 estimates of the elasticity reported in 121 studies, codify 71 variables that reflect the context in which researchers produce their estimates, and address model uncertainty by Bayesian and frequentist model averaging. We employ nonlinear techniques to correct for publication bias, which is responsible for at least half of the overall reduction in the mean elasticity from 0.9 to 0.3. Our findings also suggest that a failure to normalize the production function leads to a substantial upward bias in the estimated elasticity. The weight of evidence accumulated in the empirical literature emphatically rejects the Cobb-Douglas specification.

JEL Classification: D24, E23, O14

Suggested Citation

Gechert, Sebastian and Havranek, Tomas and Irsova, Zuzana and Kolcunova, Dominika, Measuring Capital-Labor Substitution: The Importance of Method Choices and Publication Bias (January 1, 2021). Available at SSRN: https://ssrn.com/abstract=3783902

Sebastian Gechert (Contact Author)

Hans-Boeckler-Stiftung - Macroeconomic Policy Institute (IMK) ( email )

Hans-Böckler-Straße 39
40476 Düsseldorf
Germany

Tomas Havranek

Charles University in Prague ( email )

Celetná 13
Praha 1, 116 36
Czech Republic

Centre for Economic Policy Research (CEPR)

London
United Kingdom

Zuzana Irsova

Charles University in Prague ( email )

Celetná 13
Praha 1, 116 36
Czech Republic

Dominika Kolcunova

Charles University ( email )

U Knize 8
Prague, 15800
Czech Republic

Czech National Bank (CNB) ( email )

Na Prikope 28
CZ-11503 Praha 1
Czech Republic

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