Bounds on elasticities with optimization frictions

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"I derive bounds on price elasticities in a dynamic model that is mis-specified due to optimization frictions such as adjustment costs or inattention. The bounds are a function of the observed effect of a price change on demand, the size of the price change, and the degree of frictions. I measure the degree of frictions by the utility losses agents tolerate to make choices that deviate from the frictionless optimum. I apply these bounds to the literature on taxation and labor supply, allowing for frictions of 1% of consumption in choosing labor supply. Such small frictions reconcile the difference between micro and macro elasticities, extensive and intensive margin elasticities, and several other disparate findings. Pooling estimates from twenty existing studies yields bounds on the intensive margin labor supply elasticity of (0.47,0.54)"--National Bureau of Economic Research web site.

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