The Hidden Adjustment: Re-examining the Capital-Labor-Mix in the Harrod-neutral Growth Model

de la Fonteijne, Marcel R. (2025): The Hidden Adjustment: Re-examining the Capital-Labor-Mix in the Harrod-neutral Growth Model.

Abstract

For several decades, it has been acknowledged that the conventional implementation of capital- and labor-augmenting technical progress within CES production functions gives rise to a fundamental paradox: either the production function must be Cobb-Douglas, or technical progress must be labor-augmenting only. Despite this inconsistency—commonly referred to as the “Cobb-Douglas or labor-augmenting-only paradox”—the approach remains widely used in modern growth models. In this paper, we revisit this theoretical issue through the lens of the Modern Universal Growth Theory (MUGT). MUGT rejects all existing formulations of neutral and non-neutral technical progress and offers a revised implementation that resolves the paradox. Within this framework, economic growth is represented as partially exogenous, through technical change, and partially endogenous, through capital accumulation. We derive explicit expressions to translate total factor productivity (TFP) into measurable output growth, establishing a coherent link between productivity dynamics and long-run economic performance. The central conclusion of MUGT is that no production function can yield a Balanced Growth Path (BGP) unless the capital-labor mix is explicitly adjusted over time. In this sense, MUGT exposes a structural limitation of all traditional growth models and provides a general framework to overcome it. A key contribution of this paper is the analysis of so-called Harrod-neutral (labor-augmenting) technical progress. We demonstrate that, despite its apparent simplicity, this approach implicitly requires a continuous adjustment of the capital-labor mix—a hidden mechanism that has remained largely unexamined. By revealing this adjustment, we not only explain the inner workings of Harrod's model, but also show that the same hidden mechanism exists across all combinations of capital- and labor-augmenting progress. This insight strengthens the case for adopting the MUGT as a consistent and transparent foundation for growth theory, in which each growth parameter has a clear, consistent, and economically meaningful interpretation.

• Item Type: MPRA Paper
• Language: English
• Keywords: Capital and Labor Augmented Technical Progress; Growth Model; Maximum Profit Condition; Production Functions; General Technical Progress; Capital-Labor-mix; Elasticity of Substitution; DSGE; Total Factor Productivity; Solow model; Hicks; Harrod; Modern Universal Growth Theory; MUGT
• Subjects: E - Macroeconomics and Monetary Economics > E0 - General > E00 - General; E - Macroeconomics and Monetary Economics > E2 - Consumption, Saving, Production, Investment, Labor Markets, and Informal Economy > E20 - General; E - Macroeconomics and Monetary Economics > E2 - Consumption, Saving, Production, Investment, Labor Markets, and Informal Economy > E23 - Production; E - Macroeconomics and Monetary Economics > E2 - Consumption, Saving, Production, Investment, Labor Markets, and Informal Economy > E24 - Employment ; Unemployment ; Wages ; Intergenerational Income Distribution ; Aggregate Human Capital ; Aggregate Labor Productivity

References

Acemoglu, D., 2009, Introduction to modern economic growth, Princeton University Press

De la Fonteijne, Marcel R., 2018, Why the Concept of Hicks, Harrod, Solow Neutral and even Non-Neutral Augmented Technical Progress is flawed, MPRA, https://mpra.ub.uni-muenchen.de/107730/

De la Fonteijne, Marcel R., 2023, The Consequence of the Modern Universal Growth Theory (MUGT) with respect to homogeneous degree 1 CES functions, DLF Macro Economic Research, https://mpra.ub.uni-muenchen.de/118888/

De la Fonteijne, Marcel R., 2024, The inconsistency if the production function is a homogeneous degree v CES function, solving the problem and the presentation of the Modern Universal Growth Theory, DLF Macro Economic Research, https://mpra.ub.uni-muenchen.de/121867/

De la Fonteijne, Marcel R., 2025, The Modern Universal Growth Theory (MUGT): A comprehensive upgrade to Solow, DLF Macro Economic Research, https://mpra.ub.uni-muenchen.de/ 125134/

Jones, C.I., 2013, Introduction to economic growth, WW Norton & Co