The Problem of Aggregating Capital
By David Henderson
In my recent critique of Paul Romer’s attack on Joan Robinson, I pointed out that Romer was wrong. Even Paul Samuelson admitted that Robinson had won the Cambridge-Cambridge debate. One of the big issues is whether you can aggregate capital. You can’t.
But that hasn’t stopped economists from trying.
One commenter, Thaomas, says:
The Capital controversy is just the index number problem in other guise. There is not [sic] perfect way to aggregate prices and yet economists and politicians continue to do so. So what?
The index number problem is a problem. But I don’t think it’s the main problem.
The main problem is that with the assumption of homogeneous capital, which is in the Solow-Swan growth model, you’re necessarily led to the conclusion that there is diminishing marginal product of capital. But, as economist Jeff Hummel points out in a yet to be published article, heterogeneous capital, which is what we have, allows for complementarity between different types of capital. And we observe complementarity. The big bottom line for growth theory that’s different from Solow-Swan is that with heterogeneity and the implied complementarity, there is no necessity for diminishing marginal product of capital.
That’s why I say that if Solow and others hadn’t assumed homogeneous capital, we would probably be further along in growth theory.