CONTEMPORARY RELEVANCE AND ONGOING CONTROVERSIES RELATED TO THE CES PRODUCTION FUNCTION

“There are very few instances where empirical or theoretical economic considerations have been used to determine functional form or shape restrictions beyond the general requirements of monotonicity and concavity (or convexity). Rather, attention has focused on building flexibility into functional forms in the hope that the „true ‟ form will be close to some element of the class estimated. Perhaps it is the best that can be done, but surely it would be more satisfying if functional form restrictions could be justified on the basis of experimental or empirical evidence.” – Starett (1987, p.93). The CES specification has been an important watershed in the development of the production function and its applications over the past fifty years. While the original formulation and estimation were rooted in sound economic theory many issues have been unresolved. In particular, the economic sources of the elasticity of substitution and the meaning of the “returns to scale ” parameter remained ambiguous. Similarly, the efficient method of estimating the elasticity of substitution is as yet not clear. The primary reason is that several proposed methods of estimating the non-linear CES function did not pay attention to the economic decision processes underlying the observed choices from whic