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The substitution elasticity, factor shares, and the low-frequency panel model
journal contribution
posted on 2017-10-01, 00:00 authored by Debdulal MallickDebdulal Mallick, R ChirinkoThe value of the elasticity of substitution between labor and capital
(σ) is a crucial assumption in understanding the secular decline in
the labor share of income. This paper develops and implements a new
strategy for estimating this crucial parameter by combining a low-pass
filter with panel data to identify the low-frequency/long-run
relations appropriate to production function estimation. Standard
estimation methods, which do not filter out transitory variation, generate
downwardly biased estimates of 40 percent to 70 percent relative
to the benchmark value. Despite correcting for this bias, our
preferred estimate of 0.40 is substantially below the Cobb-Douglas
assumption of σ = 1 . (JEL C51, E22, E24, E25, O41)
(σ) is a crucial assumption in understanding the secular decline in
the labor share of income. This paper develops and implements a new
strategy for estimating this crucial parameter by combining a low-pass
filter with panel data to identify the low-frequency/long-run
relations appropriate to production function estimation. Standard
estimation methods, which do not filter out transitory variation, generate
downwardly biased estimates of 40 percent to 70 percent relative
to the benchmark value. Despite correcting for this bias, our
preferred estimate of 0.40 is substantially below the Cobb-Douglas
assumption of σ = 1 . (JEL C51, E22, E24, E25, O41)