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The relationship between a declining labor income share and a falling relative price of capital requires capital and labor to be gross substitutes at the aggregate level (i.e., πœŽπ΄π‘”π‘” > 1). I argue that this restriction can be relaxed if we distinguish labor by skills and identify differential capital-labor substitutability across skill groups. Using the Morishima elasticity of substitution in a three-factor nested-CES production function, I analytically estimate the elasticity of substitution parameters between capital and skilled labor ( 𝜌 ) and between capital and unskilled labor (𝜎). I then derive the necessary conditions for a decline in the labor income share based on 𝜌 and 𝜎, which does not require πœŽπ΄π‘”π‘” to be greater than unity.


Suggested Citation
Paul, S. (2018). Capital skill substitutability and the labor income share: Identification using the Morishima elasticity of substitution (ADBI Working Paper Series No. 839). Tokyo: Asian Development Bank Institue.

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Β© Asian Development Back. Available at ADB’s Open Access Repository under a Creative Commons Attribution license (CC BY 3.0 IGO).