Technical change, variable elasticity of substitution and economic growth

Abstract

Purpose The purpose of this paper is to explore the properties of the variable elasticity of substitution (VES) production function, and examine the dynamics of growth associated with it. Design/methodology/approach The VES production function is incorporated into an otherwise standard Diamond overlapping generations model. Findings Depending on parameter combinations, the economy can achieve a unique and stable steady state akin to that observed in the Solow-Swan model, reach a poverty trap or transition towards an upper bound of per capita capital stock. A special case of the VES production function is also consistent with unbounded growth. Research limitations/implications The paper is theoretical in nature. Further empirical analysis could shed deeper insights into the results presented in this study. Practical implications The VES production function, when applied to the context of the Diamond model, can capture a variety of growth experiences observed in the empirical literature. Social implications In the context of the Diamond model, a higher value of a particular parameter in the production function leads to greater intergenerational income and consumption inequality. Hence, the study provides a potential explanation for intergenerational inequalities observed in practice. Originality/value The study demonstrates the empirical value of the VES production function in explaining observed differences in factor shares, rewards and elasticities within and between countries over time.