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Empirical Implications of Alternative Models of Firm Dynamics

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  • Ariel Pakes
  • Richard Ericson

Abstract

This paper considers two models for analyzing the dynamics of firm behavior that allow for heterogeneity among firms, idiosyncratic (or firm specific) sources of uncertainty, and discrete outcomes (exit and/or entry). Models with these characteristics are needed for the structural econometric analysis of several economic phenomena, including the behavior of capital markets when there are significant failure probabilities, and the analysis of productivity movements in industries with large amounts of entry and exit. In addition, these models provide a means of correcting for the self-section induced by liquidation decisions in empirical studies of firms responses to alternative policy and environmental changes. It is shown that the two models have different nonparametric implications - implications that depend only on basic behavioral assumptions and mild regularity conditions on the functional forms of interest (one distinction between them corresponds to the distinction between heterogeneity and an ergodic form of state-dependence; a form in which the effect of being in a state in a particular period erodes away as time from that period lapses). The nonparametric implications enable the construction of testing and selection correction procedures that are easy to implement (they do not require the computationally difficult, and functional-form specific, estimation algorithms that have been used to empirically analyze stochastic control models with discrete outcomes in the past). The paper concludes by checking for the implications of the two models on an eight-year panel of Wisconsin firms. We find one model to be consistent with the data for retail trade.

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Paper provided by National Bureau of Economic Research, Inc in its series NBER Working Papers with number 2893.

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Date of creation: Mar 1989
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Publication status: published as Journal of Economic Theory (1998): 1-46.
Handle: RePEc:nbr:nberwo:2893

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  1. Evans, David S, 1987. "The Relationship between Firm Growth, Size, and Age: Estimates for 100 Manufacturing Industries," Journal of Industrial Economics, Wiley Blackwell, vol. 35(4), pages 567-81, June.
  2. Wolak, Frank A., 1989. "Testing inequality constraints in linear econometric models," Journal of Econometrics, Elsevier, vol. 41(2), pages 205-235, June.
  3. Hopenhayn, Hugo A, 1992. "Entry, Exit, and Firm Dynamics in Long Run Equilibrium," Econometrica, Econometric Society, vol. 60(5), pages 1127-50, September.
  4. Dunne, T. & Roberts, M.J. & Samuelson, L., 1988. "The Growth And Failure Of U.S. Manufacturing Plants," Papers 1-87-5, Pennsylvania State - Department of Economics.
  5. Jovanovic, Boyan, 1982. "Selection and the Evolution of Industry," Econometrica, Econometric Society, vol. 50(3), pages 649-70, May.
  6. Maskin, Eric & Tirole, Jean, 1988. "A Theory of Dynamic Oligopoly, I: Overview and Quantity Competition with Large Fixed Costs," Econometrica, Econometric Society, vol. 56(3), pages 549-69, May.
  7. Paul R. Milgrom, 1979. "Good Nevs and Bad News: Representation Theorems and Applications," Discussion Papers 407R, Northwestern University, Center for Mathematical Studies in Economics and Management Science.
  8. Davis, Steven J & Haltiwanger, John C, 1992. "Gross Job Creation, Gross Job Destruction, and Employment Reallocation," The Quarterly Journal of Economics, MIT Press, vol. 107(3), pages 819-63, August.
  9. S.A. Lippman & R.P. Rumelt, 1982. "Uncertain Imitability: An Analysis of Interfirm Differences in Efficiency under Competition," Bell Journal of Economics, The RAND Corporation, vol. 13(2), pages 418-438, Autumn.
  10. Maskin, Eric & Tirole, Jean, 1988. "A Theory of Dynamic Oligopoly, II: Price Competition, Kinked Demand Curves, and Edgeworth Cycles," Econometrica, Econometric Society, vol. 56(3), pages 571-99, May.
  11. Bronwyn H. Hall, 1988. "The Effect of Takeover Activity on Corporate Research and Development," NBER Chapters, in: Corporate Takeovers: Causes and Consequences, pages 69-100 National Bureau of Economic Research, Inc.
  12. Lambson, Val Eugene, 1992. "Competitive Profits in the Long Run," Review of Economic Studies, Wiley Blackwell, vol. 59(1), pages 125-42, January.
  13. Ericson, Richard & Pakes, Ariel, 1995. "Markov-Perfect Industry Dynamics: A Framework for Empirical Work," Review of Economic Studies, Wiley Blackwell, vol. 62(1), pages 53-82, January.
  14. Evans, David S, 1987. "Tests of Alternative Theories of Firm Growth," Journal of Political Economy, University of Chicago Press, vol. 95(4), pages 657-74, August.
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