Andreas Irmen

Endogenous technical change in a competitive economy

We develop a model of endogenous growth in an economy with competitive markets. Technical change arises from the intentional actions of entrepreneurs looking for profits. Opportunities for such profits stem from inframarginal rents. This provides a counterexample to the widespread view that endogenous technical change is possible only if innovating firms can expect to reap monopoly or oligopoly rents. The model has a unique equilibrium, which involves steady growth at a positive rate. Equilibrium growth is inefficiently low because knowledge spillover effects are neglected. The inefficiency can be eliminated by an interest rate subsidy.

Factor Substitution, Income Distribution, and Growth in a Generalized Neoclassical Model

Abstract We analyze a generalized neoclassical growth model that combines a normalized CES production function and possible asymmetries of savings out of factor incomes. This generalized model helps to shed new light on a recent debate concerning the impact of factor substitution and income distribution on economic growth. We show that this impact relies on both an efficiency and a distribution effect, where the latter is caused by the distributional consequences of an increase in the elasticity of substitution. While the efficiency effect is always positive, the sign of the distribution effect depends on the particular savings hypothesis. If the savings rate out of capital income is substantial so that a certain threshold value is surpassed, the efficiency effect dominates and higher factor substitution accelerates the accumulation of capital and works as a major engine of growth.

Mark-up pricing and bilateral monopoly

Abstract If managers use cost-based percentage margins when pricing their goods, these margins should be determined as equilibrium choices. This paper studies the case of bilateral monopoly and compares the Nash equilibrium in percentage and in absolute mark-ups. We show that percentage mark-ups lead to lower equilibrium prices and higher downstream profits.

Attribute dependence and the provision of quality

A quality improvement often necessitates modifications of varietal product features. This paper studies firms’ incentives to provide quality when this decision affects the goods’ degree of horizontal differentiation. Intuitively, one is inclined to argue that private incentives to provide quality are insufficient relative to the social optimum if a quality improvement reduces horizontal differentiation. We find that this argument depends on whether the game is simultaneous or sequential. In the former case private incentives prove excessive relative to the social optimum, and in the latter case, insufficient. As a result, a regulator might want to impose either minimum or maximum quality standards.

Capital- and Labor-Saving Technical Change in an Aging Economy

Does population aging and the associated increase in the old-age dependency ratio affect economic growth ? The answer is given in a novel analytical framework that allows for population aging to affect endogenous capital- and labor-saving technical change. The short-run analysis reveals that population aging induces more labor- and less capital-saving technical change as it increases the relative scarcity of labor with respect to capital. Due to external contemporaneous knowledge spill-overs across innovating firms induced technical change has a first-order effect on current aggregate income. In the long-run capitalsaving technical progress vanishes, and the economy’s growth rate reflects only labor-saving technical change. However, the mere possibility of capital-saving technical change is shown to imply that the economy’s steady-state growth rate becomes independent of its age structure: neither a higher life-expectancy nor a decline in fertility affects economic growth in the long run.

On the incentives to provide fuel-efficient automobiles

We argue that the provision of more fuel-efficient cars necessitates specific aerodynamic shapes. We show that the presence of this technological constraint may reduce the incentives to provide fuel efficiency. In equilibrium, cars become more similar and aerodynamic as fuel prices increase. However, the provided level of fuel efficiency falls short of the social optimal one such that a fuel-economy standard is welfare-enhancing.

Endogenous Capital-and Labor-Augmenting: Technical Change in the Neoclassical Growth Model

The determinants of the direction of technical change and their implications for economic growth and economic policy are studied in the one-sector neoclassical growth model of Ramsey, Cass, and Koopmans extended to allow for endogenous capital- and labor-augmenting technical change. We develop a novel micro-foundation for the competitive production sector that rests on the idea that the fabrication of output requires tasks to be performed by capital and labor. Firms may engage in innovation investments that increase the productivity of capital and labor in the performance of their respective tasks. These investments are associated with new technological knowledge that accumulates over time and sustains long-run growth. We show that the equilibrium allocation is not Pareto-efficient since both forms of technical change give rise to an inter-temporal knowledge externality. An appropriate policy of investment subsidies may implement

A Note on the Characterization of the Neoclassical Production Function

We study production functions with capital and labor as arguments that exhibit positive, yet diminishing marginal products and constant returns to scale. We show that such functions satisfy the Inada conditions if (i) both inputs are essential and (ii) an unbounded quantity of either input leads to unbounded output. This allows for an alternative characterization of the neoclassical production function that altogether dispenses with the Inada conditions. Although this proposition generalizes to the case of n > 2 factors of production, its converse does not hold: 2n Inada conditions do not imply that each factor is essential.

Property Rights, Public Enforcement, and Growth

We study the link between public enforcement of property rights, innovation investments, and economic growth in an endogenous growth framework with an expanding set of product varieties. We find that a government can assure positive equilibrium growth through public employment in the enforcement of property rights, if the economic environment is sufficiently favorable to growth and/or if public enforcement is sufficiently effective. However, in terms of welfare, an equilibrium path without property-rights protection and growth might be preferable. In this case, the enforcement of property rights involves too much reallocation of labor from production and research towards the public sector.

Real Factor Prices and Factor-Augmenting Technical Change

Abstract How does technical change affect real factor prices? This paper gives a comprehensive answer for the most important benchmark used in the modern debate: technical change is factor-augmenting and materializes in a neoclassical economy with competitive firms equipped with a constant elasticity of substitution (CES) production function. I establish that the effect of labor-augmenting technical change crucially hinges on whether the economy’s capital endowment exceeds or falls short of its amount of efficient labor. This distinction determines the sign of the effect for sufficiently small values of the elasticity of substitution. In the former case, labor-augmenting technical progress must increase the equilibrium wage. In the latter case the equilibrium wage is reduced. In both cases, technical progress increases the price of capital. Overall, the analysis stresses that not only the elasticity of substitution but also the degree of diminishing returns, the distribution parameters of the CES, and the level of the efficient capital intensity matter for the effect of labor-augmenting technical change on real factor prices. Mutatis mutandis, these considerations carry over to the case of capital-augmenting technical change.