Elasticity Of Substitution Research Articles

Sources of economic growth in models with non-renewable resources

This paper re-examines the conditions under which endogenous economic growth can emerge in neoclassical models with non-renewable resources. Our analysis is based on a general production function which encompasses the Cobb–Douglas specification. We show that endogenous growth is possible only when the elasticity of substitution between effective labour input and effective resource input is constant and equal to one. If this does not hold (as some empirical studies suggested), then economic growth is solely driven by an exogenous technological factor. We also show that the assumption on this elasticity will affect the model’s policy implications in regard to resource taxation.

Sectoral heterogeneity, industrial structure transformation, and changes in total labor income share

• Build a multi-sector dynamic general equilibrium model to characterize the impact of sectoral heterogeneity on the industrial structure transformation and labor income shares, and then perform it with numerical simulations result. • Find that the changing direction of total labor income share is same as the labor share of labor-intensive industries. • Explain the “U-shape” trend of China's total labor income share changes. • Help to further understand the economic connotation of the time-varying elasticity production function model and the ongoing structural transformation of China's economy. In recent years, China's labor income share has undergone substantial changes and the evolution of income distribution is inseparable from the process of industrial structural transformation. From the perspective of sectoral heterogeneity, this study develops Ngai and Pissarides’ (2007) model, constructing a multisector dynamic general equilibrium model. We propose that technological progress or capital deepening will promote the flow of production factors among sectors, with the direction dependent on the substitution elasticity between products, sectoral differences in the rate of technological progress, factor output elasticity, and elasticity of factor substitution. This process of factor flow also causes changes in total labor income share, and the direction parallels the labor share of labor-intensive industries. Combining the development data of China's three major industries during different periods, the results demonstrate that in the industrial period, labor flows from the agricultural sector to the industrial sector and the total labor income share decreases; in the postindustrial period, labor flows from the industrial sector to the service sector and the total labor income share increases. The contribution of this study is in presenting a comprehensive and systematic examination of the impact of sectoral heterogeneity on industrial structure transformation and labor income share, which explains the U-shaped trend of China's overall total labor income share and also helps to further understand the structural transformation of the Chinese economy.

A comment on Hamilton (2016) “Measuring sustainability in the UN System of Environmental-Economic Accounting”

Hamilton (2016) shows that an imperfect economy with extraction cost and any substitutability among inputs is sustainable along an exponentially decreasing path of extraction (EDP) under a generalized Hartwick rule with resource rent measured in SEEA-2012 (System of Environmental-Economic Accounting) units. Mathematically, the result is correct. The problem is that Hamilton offers this approach as “the correct policy rule for sustainability”, although this saving rule may be inapplicable to real economies because the prescribed investment may exceed output. In particular, the Cobb–Douglas economy’s output goes to zero along EDP even if there is no cost, no health damage from resource use, and all output is invested. The prescribed investment is feasible for the economy with the infinite resource–capital elasticity of substitution. This economy also may be sustainable, depending on initial conditions, along EDP with a reasonable constant saving rate. This result extends Hartwick (2003) disclaimer about substitutability among inputs to the generalized version of the rule. Moreover, the result shows that the assessment of sustainability and accounting prices for real economies depends, besides allocation mechanism, on specification of technology and initial conditions.

Laffer curves in emerging market economies: The role of informality

How much tax revenue can be raised in developing countries with a large informal sector? In this paper, we introduce informality into a two-sector neoclassical growth model and characterize the Laffer curves under labor, consumption, and capital income taxation. The model is calibrated for five Latin American countries: Brazil, Chile, Colombia, Mexico, and Peru, and we quantify how informality affects the fiscal space under each tax rate. We show that the peak of the Laffer curves crucially depends on the elasticity of substitution between formal and informal goods. For commonly used values of this elasticity, the tax revenue implications of informality are found to be severe. Using labor taxes, Colombia, Mexico, and Peru can only increase tax revenues within the range 2%−4%. While Chile can maximally increase tax revenues by 11% with higher labor taxes, Brazil can increase tax revenues by 6% by cutting labor taxes. The budgetary gains under capital income taxation are found to be even smaller, where the fiscal space does not exceed 4% in any country. Using consumption taxes, Mexico and Chile can maximally increase tax revenues by 8% and 3%, respectively. For the remaining countries, the fiscal space is found to be less than 1%. Finally, the iso-revenue analysis suggests that in order to maximize total tax receipts in Latin America, governments should in general raise labor and consumption taxes and cut capital income taxes.

Interfuel substitution: A copula approach

We investigate interfuel substitution using the Minflex Laurent flexible demand system and a more flexible copula estimation approach. In doing so, we relax the joint normality assumption of the errors of the demand system and estimate the model without having to delete one equation as is usually the practice under the assumption of jointly normally distributed errors. The results indicate that the short-run Morishima elasticities of substitution among crude oil, natural gas, and coal are small, implying that one fuel has hardly utilized to substitute for another fuel.

Does an Empirical Economic Relation Have a Life?

Does an Empirical Economic Relation Have a Life?

Automation, productivity, and innovation in information technology

AbstractThe rate of innovation in Information Technology (IT) has slowed down over time. The slowdown is evident both in the data on quality-adjusted prices of computers, and performance of microprocessors used in computers. The model in this paper shows that an IT–labor elasticity of substitution that is greater than 1 can explain the slowdown. With an elasticity of substitution greater than 1, however, slowing innovation can result in sustained labor productivity and output growth. Sustained growth is possible because an IT–labor elasticity of substitution greater than 1 results in a continuously increasing share of IT in production costs, which counteracts the effect of slowing innovation on labor productivity and output growth. In this environment of slowing innovation, increasing IT share and sustained growth, employment can increase or decrease, depending on the values of the IT–labor elasticity of substitution and the price elasticity of demand for IT-enabled consumption goods.

A Methodological Proposal for Implementing Demand-Shifting Strategies in the Wholesale Electricity Market

The energy transition has shown that fossil generation can be complemented with renewable energy and other resources capable of providing flexibility to the energy system’s operation, in compliance with the wholesale electricity market’s rules. This paper proposes a market-based methodology for introducing flexible demand in the energy dispatch, optimizing the scheduling of electricity system operation in the short-term, and considers the challenge of implementing an incentive scheme for participants in demand-response programs. The scheme includes the criteria of the elasticity of substitution and a renewable energy quota. This methodology is focused on a strategic demand shift to minimize the cost of supply; increase the dispatch of renewable energy; control CO2 emissions; and satisfy the generation, demand, and transmission operating constraints. These conditions encourage the development of a simulation tool that allows a sensitivity analysis to aid decision-making by operators and agents. The proposed methodology optimizes the operational cost of generation supply and specific performance indicators to determine the percentages of demand shift, the amount of CO2 emissions, the ratio of unserved power, the demand benefits obtained from an incentive scheme, and the natural market behavior.

Estimation of Armington elasticities: case of vegetables in Mongolia

Mongolian people often consume meat more than vegetable in diet due to traditional nomadic culture. Nowadays, the Mongolian people’s diet has been changing who consume more vegetables with associated urbanization (half of the population live in urban areas, mostly in the capital city). Even though vegetable consumption has been increased recently, the vegetable market is still a high reliance on imports and threatening national food security. Since 2016, the Mongolian government has especially paid attention to increasing vegetable's domestic production and substitution to import vegetables (Ministry of food and Agriculture, 2017). Therefore, this paper provided to substitution elasticity (the Armington elasticity) between import vegetables and domestic vegetables in Mongolia. Additionally, we estimated the home bias value of vegetables. The so-called Armington elasticities are widely used for computable general equilibrium (CGE) analysis, which determines a degree of substitution between import goods and domestically produced goods. Several of the authors studied Armington elasticities at the product level. We choose six vegetables (such as potato, garlic and onion, tomato, carrot and turnips, cabbage, and cucumber) related to lack of information. The empirical result shows that the Armington elasticities in the long-run higher than the short-run with exception of potato which means that products are similar in the long-run. However, our estimated Armington elasticities are quite lower than the previous studies result which means that Mongolian people indicated more prefer home growing vegetables than import vegetables. Moreover, we found that the home bias value is high in the short-run even long -run, this appears to be a higher relative weight on home vegetables.
 JEL code: F13, Q17, Q18

Bequest motives in consumption-portfolio decisions with recursive utility

This paper studies finite-horizon consumption-portfolio decisions with recursive utility. We show that the parameter seemingly representing the individual’s bequest preference in traditional recursive utility formulations is quantitatively and qualitatively misleading. The parameter value is uninformative about the optimal bequest which, in some cases, is even inversely related to the magnitude of the apparent bequest weight. We argue that the ratio between optimal bequest and the optimal consumption rate just before the terminal date is a much better representation of the strength of the bequest motive. Numerical examples illustrate the pitfalls using the traditional specification and clarifies how the bequest preference affects optimal decisions and the life-cycle patterns of consumption and wealth assuming constant investment opportunities or stochastic interest rates. We show that the typical utility representation for a unit elasticity of intertemporal substitution actually assumes a strong bequest preference.

Insights on ownership pattern and demand for machinery in Indian agriculture

As the wage rate for labour escalates in agriculture, farmers opt for other power alternatives. Mechanization of farms provides an opportunity to overcome the issue of labour scarcity and rising cost of production besides facilitating timely farm operations thereby increasing yield and farmer’s income. An examination of existing level of mechanization across the states in different crops is computed during 2018 using mechanization index for 2001–02 and 2013–14. The study concludes that the extent of mechanization is not uniform across crops and states. Wheat is the most mechanized crop and Punjab shows highest level of mechanization in the farms. The factor demand elasticity estimates confirm that change in market prices of inputs significantly affect the machinery usage in paddy and wheat. Substitution elasticities also indicate substitution between machine labour and human labour in major crops during 1996–2013.

Welfare gains through globalization: Evidence from Japan's manufacturing sector

Welfare gains achieved through international trade are a cornerstone of the literature on international economics. However, the data and research methods needed to empirically assess these welfare gains have only recently become available. Building on recently developed methodologies for estimating the elasticity of substitution and computing welfare gains from trade, we estimate Japan's welfare gains from liberalizing trade in the manufacturing sector. To do so, we estimate the elasticities of substitution using Japanese customs data at Harmonized System (HS) 9-digit product codes. The analysis shows that Japan's welfare gains from trade liberalization occurred especially from the end of the 1990s onward, and reached 16 percent vis-à-vis the autarky situation.

Validation of Improved Dynamic Spectrum and Traffic Management Models of Internet Pricing of Fair DSL-LTE Multiple QoS Network

Currently, the development of communication technology is very rapid, especially on the internet. Therefore, with the increasing need for the internet, the quality of service must also be improved. This study aims to analyze the sensitivity of the internet pricing scheme model using the modified Cloud Radio Access Network (C-RAN) model with the addition of the fair network traffic management variable and combined with the Constant Elasticity of Substitution (CES) utility function. C-RAN is a centralized radio access network to process signals and send them to the core network where the equipment used is connected to cellular antennas. The improved C-RAN model is modified into 2 cases, each of which has 3 pricing schemes, namely flat-fee, usage-based and two-part tariff, with the provision of initial usage and a predetermined amount of bandwidth consumption. This research data is secondary data obtained from the local server of local server traffic data in Palembang. Based on the analysis that has been done, the results of this study indicate that the improved C-RAN model can be utilized by Internet Service Providers (ISPs) to increase profits. The results of the sensitivity analysis for the improved model show that, if the variable is infinity, the increase and decrease are not fixed, whereas if the variable is 0.000 then the increase and decrease are fixed.

Long-Run Growth, Speed of Convergence and the Specification of Technology

Abstract This note analyzes the effect that the specification of technology has on the long-run growth rate and the asymptotic speed of convergence in the one-sector endogenous-growth model. We compare three otherwise identical economies – with the same baseline and parameter values – but with different production technologies: CES, VES or Sobelow, respectively. The long-run growth rate and the asymptotic convergence speed under CES production are lower than the corresponding ones under Sobelow production which, in turn, are lower than those under VES production. This is because a higher elasticity of substitution entails a higher easiness to substitute capital for labor which, in the end, results in a higher long-run growth rate.

Banks’ liquidity provision and panic runs with recursive preferences

How important is it to distinguish relative risk aversion (RRA) from the intertemporal elasticity of substitution (IES) to study banks’ provision of liquidity insurance and the effectiveness of deposit freezes against depositors’ panic runs? To answer these questions, I develop a Diamond–Dybvig model of banking in which depositors feature recursive preferences. In equilibrium, banks provide liquidity insurance, and a time-consistent deposit freeze prevents panic runs, only if depositors’ preferences for an early resolution of uncertainty are sufficiently strong, i.e. if RRA is sufficiently larger than the inverse of IES.

The Electricity Rebound Effect: Empirical Evidence From the Chinese Chemical Industry

The Chinese government has adopted many policies to save energy and electricity in the chemical industry by improving technology and reforming its electricity market. The improved electricity efficiency and the electricity reform may indirectly reduce expected energy and electricity savings by decreasing the effective electricity price and the marginal cost of electricity services. To analyze the above issues, this paper employs the Morishima Elasticity of Substitution of the electricity cost share equation which is estimated by the DOLS method. The results show that: 1) There exists a rebound effect in the Chinese chemical industry, but it is quite large because the electricity price is being controlled by the government; 2) the reform of the electricity market reduces the rebound effect to 73.85%, as electricity price begins to reflect cost information to some extent; 3) there is still a lot of space for the reform to improve, and the rebound effect could be reduced further once the electricity price is adjusted to transfer the market information more correctly. In order to succeed in saving electricity and decreasing the rebound effect in the chemical industry, the policy implications are provided from perspectives of the improved energy efficiency and electricity pricing mechanism.

Tourism infrastructure and the environment: how does environmental regulation affect welfare, tourism industry, and domestic wage inequality?

This study presents a general equilibrium model of a small open developing economy with pollution generated by the tourism industry. The national government issues emission permits and constructs tourism infrastructure for the tourism sector. We examine the effects of a stricter environmental regulation on welfare, production, and income distribution. If the elasticity of substitution in the tourism sector is sufficiently low, a stricter environmental regulation paradoxically expands the tourism sector and narrows domestic wage inequality, even under constant tourism terms of trade. In this model, in addition to the two traditional channels, there is a new channel through which a stricter environmental regulation affects the tourism terms of trade and domestic welfare. The new channel, which arises from the difference between the marginal value product of tourism infrastructure and its price, improves the tourism terms of trade and domestic welfare if (1) the marginal value product of tourism infrastructure is greater than its price, (2) the output of tourism infrastructure is increased by a stricter environmental regulation, and (3) the excess supply of a tourism service decreases with a stricter environmental regulation.

Carbon tax effect difference on net-zero carbon emissions target and social welfare level promotion

This research aims to find the best carbon tax regime for the achievement of net-zero carbon emissions and promotion of social welfare level. We discuss two regimes in this study, including carbon tax on total social welfare level (CTTW) and carbon tax on single social welfare level (CTSW). Findings show that the best regime depends on product substitution and product price elasticity of demand. Industrial transformation not only causes changes in product substitution and product price elasticity of demand, but also makes these two regimes have different effects on the achievement of net-zero carbon emissions and promotion of social welfare level.

Discounting the Future: On Climate Change, Ambiguity Aversion and Epstein-Zin Preferences1

We focus on the effect of preference specifications on the current day valuation of future outcomes. Specifically, we analyze the effect of risk aversion, ambiguity aversion and the elasticity of intertemporal substitution on the willingness to pay to avoid climate change risk. The first part of the paper analyzes a general disaster (jump) risk model with a constant arrival rate of disasters. This provides useful intuition in how preferences influence valuation of long-term risk. The second part of the paper extends this model with a climate model and a temperature dependent arrival rate. Since the model yields closed form solutions up to solving an integral, our model does not suffer from the curse of dimensionality of numerical IAMs with several state variables. Introducing Epstein-Zin preferences with an elasticity of substitution higher than one and ambiguity aversion leads to much larger estimates of the social cost of carbon than obtained under power utility. The dominant parameters are the risk aversion coefficient and the elasticity of intertemporal substitution. Ambiguity aversion is of second order importance.

Energy Efficiency and Directed Technical Change: Implications for Climate Change Mitigation

In the United States, rising energy efficiency, rather than the use of less carbon-intensive energy sources, has driven the decline in the carbon intensity of output. Thus, understanding how environmental policy will affect energy efficiency should be a primary concern for climate change mitigation. In this paper, I evaluate the effect of environmental taxes on energy use in the United States. To do so, I construct a putty-clay model of directed technical change that matches several key features of the data on U.S. energy use. The model builds upon the standard Cobb-Douglas approach used in climate change economics in two ways. First, it allows the elasticity of substitution between energy and non-energy inputs to differ in the short and long run. Second, it allows for endogenous and directed technical change. In the absence of climate policy, the new putty-clay model of directed technical change and the standard Cobb-Douglas approach have identical predictions for long-run energy use. The reactions to climate policies, however, differ substantially. In particular, the new putty-clay model of directed technical change suggests that a 6.9-fold energy tax in 2055 is necessary to achieve policy goals consistent with the 2016 Paris Agreement and that such a tax would lead to 6.8% lower consumption when compared to a world without taxes. By contrast, the standard Cobb-Douglas approach suggests that a 4.7-fold tax rate in 2055 is sufficient, which leads to a 2% decrease in consumption. Thus, compared to the standard approach, the new model predicts that greater taxation and more forgone consumption are necessary to achieve environmental policy goals.