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Countercyclical Elasticity of Substitution

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  • Koh, Dongya
  • Santaeulà lia-Llopis, Raül

Abstract

We empirically show that the short-run elasticity of substitution between capital and labor is countercyclical. In recessions, capital and labor are more substitutable than in expansions. This countercyclicality of the elasticity of substitution introduces an asymmetry in an otherwise standard competitive-markets business cycle model that contributes to resolve several labor-market puzzles: the labor productivity puzzle, the Dunlop-Tarshis phenomenon, the hours-productivity puzzle, and the labor share puzzle. Interestingly, the cyclicality of the elasticity of substitution is per se not a source of aggregate fluctuations, but it propagates the effects of other shocks.

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  • Koh, Dongya & Santaeulà lia-Llopis, Raül, 2022. "Countercyclical Elasticity of Substitution," CEPR Discussion Papers 17246, C.E.P.R. Discussion Papers.
    • Handle: RePEc:cpr:ceprdp:17246
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    More about this item

    Keywords

    Short-run; Elasticity; Substitution; Capital; Labor; Cycle; Labor market; Labor share;
    All these keywords.

    JEL classification:

    • E13 - Macroeconomics and Monetary Economics - - General Aggregative Models - - - Neoclassical
    • E32 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles - - - Business Fluctuations; Cycles

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