This paper provides a model of firm and industry dynamics that allows for entry, exit and firm-specific uncertainty generating variability in the fortunes of firms. It focuses on the impact of uncertainty arising from investment in research and exploration-type processes. It analyzes the behavior of individual firms exploring profit opportunities in an evolving marketplace and derives optimal policies, including exit, in this environment. Then it adds an entry process and aggregates the optimal behavior of all firms, including potential entrants, into a rational expectations, Markov perfect industry equilibrium, and proves ergodicity of the equilibrium process. Numerical examples are used to illustrate the more detailed characteristics of the stochastic process generating industry structures that result from this equilibrium.
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Find related papers by JEL classification: L11 - Industrial Organization - - Market Structure, Firm Strategy, and Market Performance - - - Production, Pricing, and Market Structure; Size Distribution of Firms C73 - Mathematical and Quantitative Methods - - Game Theory and Bargaining Theory - - - Stochastic and Dynamic Games; Evolutionary Games D40 - Microeconomics - - Market Structure and Pricing - - - General D92 - Microeconomics - - Intertemporal Choice and Growth - - - Intertemporal Firm Choice and Growth, Investment, or Financing
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