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Heterogeneous Mark-Ups and Endogenous Misallocation

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  • Michael Peters

    (Massachusetts Institute of Technology)

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    Abstract

    Why are resources misallocated across firms? I study an economy where misallocation stems from firms charging heterogeneous mark-ups. The distribution of mark-ups affects both aggregate TFP as well as equilibrium factor prices. While TFP is solely affected by the cross-sectional dispersion of mark-ups, factor prices depend only on the average mark-up. Mark-ups however are the result of firms' pricing decision and hence endogenous. In my model, they are determined by the process of entry and exit. If entry is more intense, aggregate TFP and factor prices are high, as product market competition reduces both the level and the dispersion of mark-ups. The static degree of misallocation is therefore closely linked to the dynamic evolution of the economy. I test the model's prediction using regional variation in the extent of entry into the manufacturing sector in Indonesia. I show that regional differences in the entry rate are negatively correlated with the average mark-up and the mark-up dispersion as the model predicts. In terms of welfare, the theory implies that the observed differences in mark-ups between high and low entry regions in Indonesia translate into TFP differences of 2.5%, differences in the steady state level of capital of 13% and differences in aggregate consumption of 6%.

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    Bibliographic Info

    Paper provided by Society for Economic Dynamics in its series 2011 Meeting Papers with number 78.

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    Date of creation: 2011
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    Handle: RePEc:red:sed011:78

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    1. Mark Wright & Guido Sandleris, 2008. "On the cost of financial crises," 2008 Meeting Papers 180, Society for Economic Dynamics.
    2. Gino Gancia & Fabrizio Zilibotti, 2008. "Technological change and the wealth of nations," Economics Working Papers 1125, Department of Economics and Business, Universitat Pompeu Fabra.
    3. Acemoglu, Daron & Antras, Pol & Helpman, Elhanan, 2007. "Contracts and Technology Adoption," Scholarly Articles 3199063, Harvard University Department of Economics.
    4. Paolo Epifani & Gino Gancia, 2007. "Trade, markup heterogeneity and misallocations," Economics Working Papers 1037, Department of Economics and Business, Universitat Pompeu Fabra.
    5. Chang, Tai Hsieh & Peter, J- Klenow, 2007. "Misallocation and manufacturing TFP in China and India," MPRA Paper 35084, University Library of Munich, Germany, revised 15 Jun 2007.
    6. Virgiliu Midrigan & Daniel Yi Xu, 2014. "Finance and Misallocation: Evidence from Plant-Level Data," American Economic Review, American Economic Association, vol. 104(2), pages 422-58, February.
    7. Dave Donaldson, 2010. "Railroads of the Raj: Estimating the Impact of Transportation Infrastructure," NBER Working Papers 16487, National Bureau of Economic Research, Inc.
    8. Riccardo DiCecio & Levon Barseghayn, 2009. "Entry Costs, Misallocation, and Cross-Country Income and TFP Differences," 2009 Meeting Papers 428, Society for Economic Dynamics.
    9. Andrew B. Bernard & Jonathan Eaton & J. Bradford Jenson & Samuel Kortum, 2000. "Plants and Productivity in International Trade," NBER Working Papers 7688, National Bureau of Economic Research, Inc.
    10. Parente, Stephen L & Prescott, Edward C, 1994. "Barriers to Technology Adoption and Development," Journal of Political Economy, University of Chicago Press, vol. 102(2), pages 298-321, April.
    11. Aghion, Philippe & Bolton, Patrick, 1987. "Contracts as a Barrier to Entry," American Economic Review, American Economic Association, vol. 77(3), pages 388-401, June.
    12. Yongseok Shin & Joe Kaboski & Francisco J. Buera, 2008. "Finance and Development: A Tale of Two Sectors," 2008 Meeting Papers 955, Society for Economic Dynamics.
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    Cited by:
    1. Mary Amiti & Oleg Itskhoki & Jozef Konings, 2012. "Importers, exporters, and exchange rate disconnect," Staff Reports 586, Federal Reserve Bank of New York.
    2. Zheng (Michael) Song & Guiying (Laura) Wu, 2013. "A Structural Estimation on Capital Market Distortions in Chinese Manufacturing," Economic Growth centre Working Paper Series 1306, Nanyang Technolgical University, School of Humanities and Social Sciences, Economic Growth centre.
    3. Chang-Tai Hsieh & Peter J. Klenow, 2012. "The Life Cycle of Plants in India and Mexico," NBER Working Papers 18133, National Bureau of Economic Research, Inc.
    4. Daniel Yi Xu, 2013. "Competition, Markups, and the Gains from International Trade," 2013 Meeting Papers 653, Society for Economic Dynamics.
    5. Nicolas Ziebarth, 2013. "Are China and India Backwards? Evidence from the 19th Century U.S. Census of Manufactures," Review of Economic Dynamics, Elsevier for the Society for Economic Dynamics, vol. 16(1), pages 86-99, January.

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