( jumpstart to labor economics)

Estimating Factor (labor) Demands:

Recovering structural parameters of
production function
This slide is prepared to help you feel the flavor of empirical
labor economics. Don’t take it too seriously but see the flow of
logic and technique with how to draw implications.
Some background: estimating labor demand

• Suppose you are interested in estimating labor demand function. What are you going to do?

Need a model!
• Begin with a Cobb-Douglas production function.
𝑞 𝐴𝑥 𝑥
where 𝑖 𝐴 ≡𝑒 for firm 𝑖 1, 2, … , N.

• Cost minimization problem:

min 𝐶 𝑤 𝑥 𝑤 𝑥 𝜇 𝑞 𝐴𝑥 𝑥
,

• FOC(s): Set up the problem

𝑥 ∶𝑤 𝜇 𝛼𝐴 𝑥 𝑥 0 1
𝑥 ∶𝑤 𝜇 𝛽𝐴 𝑥 𝑥 0 2
𝜇 ∶ 𝑞 𝐴𝑥 𝑥 0 3
• We can get
1 𝑤 𝛼𝑥
→ 𝑅𝑇𝑆 4
2 𝑤 𝛽𝑥
• Solve (3) for 𝑥 :
Solve the problem

𝑞
𝑥 𝑥 5
𝐴
• Combine (4) and (5) to get
𝑞
𝑤 𝛼 𝐴 Manipulate your
6
𝑤 𝛽 FOCs
𝑥
• Then, by using (4), (5), and (6), we acquire ‘conditional’ factor demand such that
𝛼𝑤 𝑞
𝑥∗ 7.1
𝛽𝑤 𝐴

∗ 𝛽𝑤 𝑞 Derive what you want

𝑥 7.2
𝛼𝑤 𝐴
• Substituting theses into cost function described above
𝛼𝑤 𝑞 𝛽𝑤 𝑞
𝐶 𝑤 𝑤
𝛽𝑤 𝐴 𝛼𝑤 𝐴
𝛼 𝛽 𝑞
𝑤 𝑤
𝛽 𝛼 𝐴
• Take log of the production, cost, and conditional factor demand equations,
and replace log 𝐴 with 𝛾 𝑢 . And then obtain:
Try to express your findings
using empirical models
log 𝑞 𝛾 𝛼 log 𝑥 𝛽 log 𝑥 𝑢
𝛾 𝛼 𝛽 1 𝑢
log 𝐶 𝐵 log 𝑤 log 𝑤 log 𝑞
𝛼 𝛽 𝛼 𝛽 𝛼 𝛽 𝛼 𝛽 𝛼 𝛽
• Conditional factor demands:
𝛾 𝛽 𝛽 1 𝑢
log 𝑥 𝐵 log 𝑤 log 𝑤 log 𝑞
𝛼 𝛽 𝛼 𝛽 𝛼 𝛽 𝛼 𝛽 𝛼 𝛽
𝛾 𝛼 𝛼 1 𝑢
log 𝑥 𝐵 log 𝑤 log 𝑤 log 𝑞
𝛼 𝛽 𝛼 𝛽 𝛼 𝛽 𝛼 𝛽 𝛼 𝛽

where 𝐵 ≡ log , 𝐵 ≡ log log , 𝑎𝑛𝑑

Estimate them to obtain
𝐵 ≡ log log reasonable estimates
 Go back to think about
what you are doing and
• Comments: what you really obtain
(i) We do not have to know everything about the economy to say something about labor.
(ii) Using proper data, we can estimate any one of the four and still can recover 𝛼, 𝛽, 𝛾 (i.e., full
information about production function) without profit function and unconditional factor demands.
Think over and over until you get
• Remarks: comfortable with your results
(i) Conditional own- and cross-price elasticities of demand for the factors are estimated directly
from the conditional demands,
(ii) but can also be computed from the production or cost function estimates.
(iii) Identification: With proper information combined, we can talk about something useful.
Sufficient statistics, ….