Nobel laureate Herbert Simon carefully explained in a 1979 article that the good fit of production functions to empirical data is a statistical artifact – a result of the fact that the functions reflect the accounting identity between the values of inputs and outputs. In other words, production functions are nearly tautologies – true by definition! Simon has dealt a fatal blow to neo-classical production functions, by demonstrating their innate uselessness.
Empirical data on the Cobb-Douglas and ACMS [Arrow, Chenery, Minhas and Solow] production functions have been alleged to provide substantial support for the classical theory of the firm–so substantial that further testing of that theory, as distinguished from elaboration of its detail, was no longer necessary. An examination of the evidence suggests instead that the observed good fit of these functions to data … are very likely all statistical artifacts. The data say no more than that the value of the product is approximately equal to the wage bill plus the cost of capital services. This interpretation of the statistical findings is plausible for both interindustry cross-sectional studies and time- series studies, the latter for either a single industry or a whole economy. (p. 469)
Herbert A. Simon,“On parsimonious explanations of production relations”, The Scandinavian Journal of Economics 81:4 (1979), pp. 459-474.
Political scientist Herbert Simon (1916-2001) held professorships in political science, administration, psychology and information sciences and made major contributions to psychology, economics, philosophy of science and computer science (including artificial intelligence). He coined the terms ‘bounded rationality’ and ‘satisficing’, and in 1978 was awarded the Nobel Prize in Economics “for his pioneering research into the decision-making process within economic organizations”.
This article – which ought to be required reading for every student of economics – is conspicuous by its absence from syllabi in virtually every academic institution. According to Google Scholar, the paper has been cited 67 times in the 30 years since it was published, including 4 self-citations by the author himself in subsequent publications. These are few citations indeed for an important paper drafted by a Nobel laureate. Some of my own papers have received more citations, and not one of them can hold a candle to this work.
Why have economists ignored this paper of Simon questioning neo-classical production functions? Could it be because the paper causes us to question – indeed, to throw out – a huge number of mindless empirical studies? Or, is there a fatal error in Simon’s reasoning? If this is the case, why has no-one attempted to point out or correct the error?
Tags: faith, Herbert Simon, production functions
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