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The 'Elusive' Capital-User Cost Elasticity Revisited

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Executive Summary

This paper sheds new light on the estimation of the long-run elasticity of the demand for business capital-for a measure that includes both equipment and structures-to changes in its user cost using quarterly panel of two-digit manufacturing industries from South Africa from 1970 to 2000. For a variety of regression specifications, it's found highly significant estimates of user cost elasticity in vicinity of -1:0 as implied by Cobb-Douglas production function. These estimates contrast sharply with many previous studies that obtained small and/or statistically insignificant estimates of the user cost elasticity. This difference in findings may owe to the fact that the capital demand curve is better identified in small open economy because shocks to capital supply are more likely to be exogenous.

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