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The shift from goods to services in the economy between 1929 and 1963, focusing on sector differences in income elasticity and changes in productivity. The author examines the growth of real output in the service sector compared to the goods sector, using two measures: one based on gross product in constant dollars and the other on gross product in current dollars. The document also discusses the difficulties in measuring real output for service industries and the impact of income, urbanization, and relative prices on demand. The author concludes that sector differences in income elasticity were likely small, but the elasticity for services may have been slightly higher than for goods.
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This PDF is a selection from an out-of-print volume from the National
Bureau of Economic Research
Volume Title: The Growing Importance of the Service Industries
Volume Author/Editor: Victor R. Fuchs
Volume Publisher: NBER
Volume ISBN: 0-87014-410-
Volume URL: http://www.nber.org/books/fuch65-
Publication Date: 1965
Chapter Title: Income Elasticity of Demand
Chapter Author: Victor R. Fuchs
Chapter URL: http://www.nber.org/chapters/c
Chapter pages in book: (p. 8 - 12)
tweenthetwosectorshasbeenslightly larger,1.7percentperannum.. Until1920,theshifttoservicescould beexplainedentirelybythemovement fromagriculturaltonon-agriculturalpur- suits;employmentinthegoodssector, excludingagriculture,roseasrapidlyas inservices.After1920,however,the ratesofgrowthdiverged;and,aswesaw inthefirstsectionofthispaper,inrecent yearsemploymentinthenon-agricul- turalgoodssectorhasbeguntodecline absolutelyaswellasrelatively.
REASONSFORTHERELATIVEGROWTH OFSERVICEEMPLOYMENT AllanG.B.Fisherwasoneofthefirst economistsinthiscenturytoemphasize thestrengthofthetrendsweareexam- ininginthispaper.Hisbook,TheClash ofProgressandSecurity,publishedin 1935,isperceptiveandcontainsmuch thatisrelevanttotheproblemsof CohnClark'swritingsonthispoint arebetterknown,particularlyhisoften- quotedconclusion,"Wemaywellnow turntoexaminewhatmuchcarefulgen- eralizationofavailablefactshowstobe themostimportantconcomitantofeco- nomicprogress,namely,themovement ofworkingpopulationfromagriculture tomanufacture,andfrommanufacture tocommerceandservices." NeitherFishernorClarkofferedasys- tematicanalysisofthefactorsrespon-
London:Macmillan&Co.,1935.E.g.,"When wereachalevelofwealthwheretheprovisionof personalservicesbecomeseconomicallyimportant, theimportanceofthelimitationsofphysicalnatural resourcesinthenarrowsensesteadilydiminishes. Wearethenmuchmoreconcernedwiththeexploita- tionofhumancapacity(whichisalsoperfectly'nat- ural')andthemaintenanceofamovingequilibrium inaprogressiveeconomycomestodependmoreand moreupontheeffectiveorganizationandeducation ofhumancapacity"(p.38). (^6) TheConditionsofEconomicProgress(1sted., London:Macmillan&Co.,1940),p.176.
sibleforthegrowthofservices;both tendedtostresssectordifferencesinin- comeelasticityandchangesinproduc- tivity.ProfessorsKuznetsandStigler havequestionedtheexistenceofsignifi- cantdifferencesinincomeelasticity,7and arecenteconometricanalysisquestions theallegeddifferenceinproductivity. Thissectionconsiderssomeevidence concerningbothmatters.
INCOMEELASTICITYOFDEMAND Whentheincomeofafamilyorana- tionrises,sodoesitsdemandformost goodsandservices.9Theratiooftheper- centageincreaseindemandtotheper- centageincreaseinincomeisreferredto asthe"incomeelasticity."Whentheper- centageincreaseindemandisequalto thepercentageincreaseinincome,the
itemsofconsumptionthathaveelastici- tiesgreaterthanunityaresaidtohave elasticdemand,whilethosewithelastic- itiesbelowunityarecharacterizedas inelastic.Thequestionatissuehereis whetherservices,intheaggregateand attheindividualindustrylevel,facede-
demandforgoods. Aclear-cutanswertothisquestionis difficulttoobtainforanumberofrea- sons.Someofthemostimportantare: 1.Tocalculateelasticities,weneed
Cf.SimonKuznets,"QuantitativeAspectsof theEconomicGrowthofNations,II,IndustrialDis- tributionofNationalProductandLaborForce," EconomicDevelopmentandCulturalChange,Supple- ment,July,1957;andGeorgeJ.Stigler,Trendsin EmploymentintheService Industries (Princeton, N.J.:PrincetonUniversityPress[fortheNational BureauofEconomicResearchj,1956),P.161. (^8) PhoebusDhrymes,"AComparisonofProduc- tivityBehaviorinManufacturingandServiceIn- dustries,"ReviewofEconomicsandStatistics,XLV (February,1963),64—69. Theexceptionsareoftenreferredtoas"in- ferior"goods,e.g.,potatoes.
measuresofrelativechangesinoutput mayberegardedasouterboundaries withinwhichthetruemeasureprobably falls. Table6showsthesectordifferentials inratesofchangeofrealoutputunder eachassumption.Thedifferentialrateof changeofemploymentisincludedfor comparison.Themoststrikingconclu- sionthatcanbedrawnfromthistable isthatdifferentialratesofchangeofreal outputwereverysmallrelativetothose foremployment.Thissuggeststhatsec- tordifferencesinincomeelasticityofde- mandwereprobablyalsosmall. Itcanbeseenthattheresultsforthe fourcomparisonsaresimilar;theprin- cipaldifferencescanbeexplainedbythe relativelyslowgrowthofagricultureand rapidgrowthofgovernment.Thefollow- ingdiscussionisbasedonthefull-sector comparisonshowninthefirstrow.Under thefirstassumption(I)aboutoutput, demandforgoodsroseslightlyfaster thanforservices,butthismightbethe resultofthechangeinrelativepriceof goodsandservicesratherthanadiffer- enceinincomeelasticity.Underthisas- sumption(grossproductinconstantdol- lars),theimplicitsectordeflatorsshow thatthepriceofgoodsdeclinedrelative tothepriceofservices.Thefactthat serviceouputrosealmost rapidlyas goodsoutput,overaperiodwhenthe priceeffectalonewouldhavecauseda shifttogoods,suggeststhattheincome elasticityforservicesmayhavebeen slightlyhigherthanforgoods. UnderAssumptionII(grossproduct incurrentdollars),realoutputinservices rose0.4percentperannumfasterthan ingoods.Thisimpliesaslightlyhigher incomeelasticityforservicesbecause underthisassumptionpricesroseatthe samerateinbothsectors,andthereis nopriceeffecttobeconsidered.Thus
pointtothesameconclusionconcerning relativeincomeelasticities. Movingfromthesectoraggregateto theindustrygrouplevelincreasestheun- certaintiesconcerningthemeasurement ofoutputandthepossibleeffectsofprice changes,butthefollowingroughqualita- tivejudgmentsseemwarranted.Income elasticityofdemandforagriculturewas probablyappreciablybelow average.
moreslowlythaninotherindustries, TABLE SECTORDIFFERENTIALSINRATESOFGROWTH OFEMPLOYMENTANDREALOUTPUT,1929- (PerCentperAnnum)
SectorDifferentiala Employ- ment (E8—E0)
Output Assumption lb Output Assumption JIC (O8—OQ) Serviceminusgoods..^ Serviceminusgoods... Serviceminusgoods.. Serviceminusgoods.
—0. —0. —0. —0.
01
aForsectordefinitions,seenotetoTablei.Eand0=aver- ageannualratesofchangeofemploymentandoutput;sandg serviceandgoodssectors. bOutputmeasuredbyGNPinconstant(1954)dollars. OutputmeasuredbyGNPincurrentdollars. Source:Output—1963,OfficeofBusinessEconomics,"GNP byMajorIndustries 1963,"SurveyofCurrentBusines,,Sep- tember1964;1929,iasedonMartinL.Marimont,"GNPby Majorindustries,"SurveyofCurrentBusiness,October,1962. Employment—sameasTable1.
versepricemovement.Theelasticityfor governmentserviceswasprobablyap- preciablyaboveaverage,asevidenced byarapidriseinoutput.Formostof theotherindustrygroups,thereisno strongindicationofanelasticitysignifi- cantlydifferentfromunity.Trendsin realoutputsuggestthattransportation mayhavebeenbelowaverage,while communicationsandpublicutilitiesand governmententerprisemayhavefaceda somewhatelasticdemand.Onbalance, thebehavioroftheindividualindustry groupssuggeststhattheelasticityforthe servicesectormayhavebeenslightly
higherthanforgoods,principallybe- causeofalowelasticityforagriculture. Itwouldbepreferabletoapplythe conceptofincomeelasticitytoindividual consumergoodsandservicesratherthan toaheterogeneouscollectionofsector andindustrygroupoutputs,whichin- cludemanythatareintermediaterather thanfinal.Ihave,therefore,attempted tocomparetherelativeelasticitiesfor goodsandservicesbyregressingchanges inreceiptsorexpenditurespercapitaon changesinincomepercapitaacrossthe forty-eightstates.Theperiodschosen were1939—38forretailsalesandsales ofselectedservices,and1942—57for selectedexpendituresofstateandlocal governments.Comprehensivedatawere availablebystateforthoseyears. Theformoftheregressionequation was
whereQ=expendituresorreceiptsper capitainterminalyeardividedbyex- pendituresorreceiptspercapitainini-
interminalyeardividedbyincomeper capitaininitialyear. Becausetheregressionswererunin doublelogform,theregressioncoefficient bmayberegardedasameasureofthe elasticitybetweenincomeandexpendi- tures.Thelatteraremeasuredincurrent dollarsandareusedasaproxyforreal consumption.Pricedoesnotenterinto theequationbecauseitisassumedthat thechangeinpricewasthesameinall states.Ifthiswastrue,thenthechange inexpendituresincurrentdollarsgives exactlythesameregressioncoefficientas wouldthechangeinrealconsumption. Totheextentthatpricesrosefasterin somestatesthaninothers,thebiasis likelytobeinthedirectionofapositive correlationbetweenchangesinpriceand
changesinincome.Theregressioncoeffi- cientsmaybeslightlybiasedupwardfor thisreason.
weighted(1958statepopulations)and unweightedform.Theresultsweresim- ilar.Iregardtheweightedformasthe moreappropriatebecausetheunderlying process(exceptinthecaseofgovernment expenditures)hasnothingtodowith statesassuch.Thesearemerelystatisti- calconveniencesforgroupingthebehav- iorofindividuals.Moreover,weighting reducesthechancesthatarandomevent orreportingerrorinasmallstatecan significantlyinfluencethecoefficients. Theresultsofthispreliminaryinquiry intoaverycomplexeconometricproblem areconsistentwiththeconclusionsbased onsectortrendsinoutput.Incomeelas- ticitiesappeartobeslightlyhigherfor servicesthanforgoods,butthedifference isnotstatisticallysignificant.Theesti- matedelasticityfortotalretailsalesof goodsis1.00,fortotalpersonalservices 1.15,andfortotalstateandlocalgov- ernmentexpenditures1.10. Interpretationoftheresultsiscom- plicatedbythefactthatchangesinin- comewereveryhighlycorrelatedwith changesinurbanization(r=.90weight- edand.79unweighted).Thelattermay haveaffectedexpenditures forsome goodsandservicesindependently of changesinincome;becausethecorrela- tionbetweenthetwovariableswasso high,itisverydifficulttodistinguish oneeffectfromtheother.Eachregres- sionwasalsoruninmultiplevariable form,withchangesinbothincomeper capitaandpercenturbanastheinde- (^11) Thestandarderrorsoftheregressioncoefficient are.06,.08,and.13,respectively.Ifonereversesthe formoftheequationandregresseschangeinincome onchangeinexpenditure,theindicatedelasticities are1.18,1.44,and1.90,respectively.Iamgrateful toMiltonFriedmanforcallingthistomyattention.
