Investment and factor demand PDF
Preview Investment and factor demand
CONTRIBUTIONS TO ECONOMIC ANALYSIS 193 Honorary Editor: J. TINBERGEN Editors: D. W. JORGENSON J. WAELBROECK NORTH-HOLLAND AMSTERDAM · NEW YORK · OXFORD · TOKYO INVESTMENT AND FACTOR DEMAND Patrick ARTUS Caisse des Dépôts et Consignations (CDC) and Ecole Polytechnique, Paris Pierre-Alain MUET Observatoire Français des Conjonctures Economiques (OFCE) and Ecole Polytechnique, Paris 1990 NORTH-HOLLAND AMSTERDAM · NEW YORK · OXFORD · TOKYO ELSEVIER SCIENCE PUBLISHERS B.V. Sara Burgerhartstraat 25 P.O. Box 211, 1000 AE Amsterdam, The Netherlands Distributors for the United States and Canada: ELSEVIER SCIENCE PUBLISHING COMPANY INC. 655 Avenue of the Americas New York, N.Y. 10010, U.S.A. The present volume is a revised, expanded and updated translation of 'Investissement et Emploi', Paris, Economica, 1986 Translated by Jonathan Mandelbaum ISBN: 0 444 88105 0 ©ELSEVIER SCIENCE PUBLISHERS B.V, 1990 All rights reserved. No part of this publication may be reproduced, stored in a retrieval system, or transmitted, in any form or by any means, electronic, mechanical, photocopying, recording or otherwise, without the prior written permission of the publisher, Elsevier Science Publishers B.V./ Physical Sciences and Engineering Division, P.O. Box 1991, 1000 BZ Amsterdam, The Netherlands. Special regulations for readers in the U.S.A. - This publication has been registered with the Copyright Clearance Center Inc. (CCC), Salem, Massachusetts. Information can be obtained from the CCC about conditions under which photocopies of parts of this publication may be made in the U.S.A. All other copyright questions, including photocopying outside of the U.S.A., should be referred to the publisher. No responsibility is assumed by the publisher for any injury and/or damage to persons or property as a matter of products liability, negligence or otherwise, or from any use or operation of any methods, products, instructions or ideas contained in the material herein. PRINTED IN THE NETHERLANDS INTRODUCTION TO THE SERIES This series consists of a number of hitherto unpublished studies, which are intro- duced by the editors in the belief that they represent fresh contributions to economic science. The term "economic analysis" as used in the title of the series has been adopted because it covers both the activities of the theoretical economist and the research worker. Although the analytical methods used by the various contributors are not the same, they are nevertheless conditioned by the common origin of their studies, namely theoretical problems encountered in practical research. Since for this reason, busi- ness cycle research and national accounting, research work on behalf of economic policy, and problems of planning are the main sources of the subjects dealt with, they necessarily determine the manner of approach adopted by the authors. Their methods tend to be "practical" in the sense of not being too far remote from appli- cation to actual economic conditions. In additon they are quantitative. It is the hope of the editors that the publication of these studies will help to stimulate the exchange of scientific information and to reinforce international cooperation in the field of economics. The Editors Vil Foreword Economists differ as to the relative importance of the factors that determine business investment. Some analysts assign a key role to market prospects, others to realized profits, debt constraints and interest-rate levels. Until recently, econometric studies of investment pitted these different approaches against one another without ever successfully reconciling them in a coherent theoretical framework. One of the prime contributions of the disequilibrium theory to the econometrics of investment has been to furnish a clear and comprehensive behavioral interpretation for the main models used in empirical studies. By taking account of the constraints under which firms operate, we can describe the coexistence of several potential determinants of investment. The relative importance of these varies in response to the economic cycle. More recently, refinements in econometric techniques have made it possible to produce numerical estimates of multi-regime models. This has enhanced economic analysis by enabling periods to be distinguished according to their prevailing types of behavior. In addition, the present authors have gradually incorporated into their studies on French data the advances of economic theory in such areas as decisions under uncertainty, behavior interdependence and adjustment dynamics. The first part of the book presents an estimate of the conventional investment models, their interpretation in terms of disequilibrium, and their application to an assessment of economic policy during the 1970s. Chapter 2 opens with an investment-model typology based on the inclusion of constraints expected or perceived by firms, and on the extent of capital-labor substitution. via Foreword The chapter goes on to set out an estimate of the various models using annual time series. Chapter 3 elaborates on the hypotheses about production-technique choices and capital malleability by taking a new comparative look at the "putty-putty" and "putty-clay" models. Chapter 4 studies the fiscal, taxation and monetary policies that have affected investment since the first oil crisis, and assesses their macroeconomic impact with the aid of the METRIC model. The second part illustrates the interdependence of decisions concerning investment, labor, and consumption of raw materials and energy. For this purpose, we use a joint estimate of factor demands. Chapters 5 and 6 study the joint determination of investment and labor in two alternative hypotheses : absence of constraints (notional demand) or, on the contrary, demand constraint (effective demand). Chapter 5 is confined to the technological dependence between labor demand and capital demand. We show that factor costs have a much more limited influence than demand, and that labor reacts more promptly than investment to the various explanatory factors. Chapter 6 explicitly introduces adjustment costs into the calculation of factor demand. It also incorporates an error-correction process into the formation of demand expectations. The conclusions of this chapter corroborate those of the preceding one: capital-adjustment costs are higher than labor-adjustment costs, and the model with no demand constraint does not yield credible results. Chapter 7 extends the analysis of substitution effects to include intermediate energy consumption. This factor is complex, for the influence of energy cost on capital accumulation depends not only on the substitution between the "capital + energy" bundle but also on the direct substitution between capital and energy. The influence can therefore be positive or negative. Chapter 7 presents an estimate of three-factor demand functions for the main OECD countries that enables us to interpret the contradictory results previously Foreword i* obtained through cost functions. The final chapters implement the latest econometric theories and methods. These are first applied to the estimate of a multi-regime investment model incorporating output, labor, and financial constraints (Chapter 8), then to the joint determination of investment and labor in a context of demand uncertainty (Chapter 9). X Acknowledgements This volume is a collection of theoretical and applied studies on the econometrics of investment and employment in France published by the authors over the past decade. Most of these articles initially appeared in French journals : Revue Economique (Chapter 1), Observations et Diagnostics Economiques (Chapter 4) and, for the most part, Annales de l'INSEE (since 1985, Annales d'Economie et de Statistique) (Chapters 2, 3, 5, 6, 7 and 9). We are grateful to the editorial boards of these periodicals for permission to reprint our contributions. We also wish to thank the co-authors of certain of these studies : Michel Boutillier and Pierre Villa (Chapter 5), Bernard Migus (Chapter 6) and Claude Peyroux (Chapter 7). Last but not least, we express our gratitude to Marie-Christine Hurault and Christine Carl for their efficient assistance during the production of this book. 3 CHAPTER 1 Theoretical foundations and main models* by Patrick Artus and Pierre-Alain Muet Introduction For the past two decades, the econometrics of investment has seen the development of two distinct approaches, which we shall respectively define as "explicit" and "implicit." Both derive the investment function from a behavior that consists of an intertemporal maximization of the firm's profit. The "explicit" approach pioneered by Jorgenson [1963] links investment to variables that determine its profitability — in particular by incorporating production-function parameters. By contrast, the "implicit" approach introduced by Tobin [1969] seeks to measure that profitability directly on the basis of the stock-market value of assets. While the second approach has recently given rise to new theoretical developments, its econometric relevance cannot be compared to that of the first approach, which has more successfully integrated earlier models such as the flexible accelerator, first empirically (Jorgenson [1963]; Eisner and Nadiri [1968]; Bischoff [1971]; etc.), then theoretically (Grossman [1972]). The first section of Chapter 1 presents the theoretical foundations of the models. The second section compares the main econometric estimates by analyzing the impact of growth, factor costs and financial conditions on investment. 1. THEORETICAL FOUNDATIONS We shall begin with a highly simplified presentation of the main investment models, using a model in which labor is instantaneously adjusted whereas the change in capital requires a one-period lag. Thus investment demand in period (t) results from the capital desired by firms for the period (t+1). Choosing as decision criterion the maximization of discounted profit, we * Originally published as "Un panorama des développements récents de l'econometrie de l'investissement," Revue Economique 35(5):791-830, Sept. 1984. 4 Investment and Factor Demand shall in turn describe the main investment models in terms of the constraints perceived or expected by firms in the markets concerned by the investment decision. This leads us to distinguish between notional demand, which depends solely on factor costs, and effective demands, which depend on expected constraints on the various markets. Lastly, by introducing uncertainty or adjustment costs, we can validate the main results obtained through the implicit approach (Tobin's q). 1.1. Conceptual framework Q, L, K and p, w, q respectively designate the volumes and prices of t t t t t t output, labor and capital at the date t (stocks defined at the start of the period). I stands for investment volume.We assume that prices and costs (p, w, q) are t t t t given for the firm. The same obviously applies to the capital stock available at the start of the period (K). The decisions of firms therefore concern the t quantity of output (Q), labor (L) and investment (I) for the period. I is t t t t linked to the capital stock desired for the period (t +1) by the standard equation: t+1 (ΐ+δ) which assumes an exponential depreciation at the rate δ . Technical constraints are represented by the production function with substitutable factors: (2·) ο^ίας,ί,); (2··) Q <f(K ,L ) t+1 t+1 t+1 In keeping with the conventional analysis, we assume that firms base their production, employment and investment decisions on the maximization of discounted profit. In the simplified framework used here, where capital is treated as perfectly homogeneous and malleable, this maximization is restricted to the current period and the period after it. Discounted profit over the two periods (in other words, the increase in the firm's value over the two periods) is equal to:
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