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Why Are Concavity Conditions Not Satisfied in the Cost Function? The Case of Japanese Manufacturing Firms during the Bubble Period


  • This paper is a complete revision of one previously circulated under the title ‘How Important Is Land as a Production Factor for Japanese Manufacturing Industries?’ An earlier version of this paper was presented at the informal seminar in honour of Professor Saito held at Kobe University. The author is grateful to the participants at the seminar and two anonymous referees for their helpful comments and suggestions. This research was partially supported by a Grant-in-Aid for Scientific Research (19330044) from the Ministry of Education and the Japan Economic Research Foundation. All remaining errors are, of course, my own.


This paper examines empirically the reasons why Japanese manufacturing firms frequently fail to satisfy concavity of the cost function in input prices. We focus on the ‘bubble period’ in the 1980s when land was in great demand and land prices soared. By estimating the translog cost function with land as one of production inputs, we find that violation of concavity mainly resulted from weak bank–firm relationship and massive transactions of land. We also demonstrate that elasticities of substitution between land and other inputs are estimated quite differently if the firms violating concavity are not excluded from the analysis.