What Determines the Elasticity of Substitution Between Capital and Labor? A Literature Review

Abstract

This paper provides the first comprehensive review of the empirical and theoretical literature on the determinants of the elasticity of substitution between capital and labor. Our focus is on the two‐input constant elasticity of substitution (CES) production function. We start by presenting four concise observations that summarize the empirical literature on the estimation of σ. Motivated by these observations, the main part of this survey then focuses on potential determinants of capital–labor substitution. We first review several approaches to the microfoundation of production functions where the elasticity of substitution (EOS) is treated as a purely technological parameter. Second, we outline the construction of an aggregate elasticity of substitution (AES) in a multi‐sectoral framework and investigate its dependence on underlying intra‐ and inter‐sectoral substitution. Third, we discuss the influence of the institutional framework on the extent of factor substitution. Overall, this survey highlights that the effective elasticity of substitution (EES), which is typically estimated in empirical studies, is generally not an immutable deep parameter but depends on a multitude of technological, non‐technological, and institutional determinants. Based on these insights, the final section identifies a number of potential empirical and theoretical avenues for future research.

Regime-Dependent Environmental Tax Multipliers: Evidence from 75 Countries

“…The energy-capital share in core goods production is α Z = 0.33 which restricts the wage share to 0.6. The substitution elasticity is Z = 1 which is consistent with Knoblach and Stöckl (2020). The energy share in energy-capital goods is 1 − α S = 0.2 with an elasticity of S = 1 similar to Fiorito and van den Bergh (2016).…”

Economic Growth Of The Russian Industrial Regions: The Urals Case Study

“…Many scientists worked on features of production function application. Knoblach and Stöckl (2020) made a proper review of these studies. In this research, the production function is used in order to explore the regional growth rate.…”

Residential and Industrial Energy Efficiency Improvement: A Dynamic General Equilibrium Analysis of the Rebound Effect

“…Figures 3(a) and 3(b) show the transitional and long-term effects when σ k,l = 1, a conventional value, and σ k,l = 0.87, the upper-bound value of the estimations by Knoblach and Stockl (2020), compared with the benchmark case where σ k,l = 0.3191. These figures highlight two results.…”

“…Performing a meta-analysis from 77 studies between 1961 and 2017 for the U.S. economy,Knoblach and Stockl (2020) estimate a long-run meta-elasticity ranging from 0.45 to 0.87 for te aggregate economy. Using the U.S. private sector data for the period 1948-1998,Antrãs (2004) rejects that the U.S. aggregate production function is Cobb-Douglas.…”