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Impact of Uncertainty and Sunk Costs on Firm Survival and Industry Dynamics

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  • Vivek Ghosal

Abstract

This paper examines the role played by uncertainty and sunk costs on the timeseries fluctuations in industry structure as captured by the number of firms and establishments, and concentration. Using an extensive dataset covering 267 U.S. manufacturing industries over a 30-year period, our estimates show that time periods of greater uncertainty, especially in conjunction with higher sunk costs, results in: (i) decrease in the number of small firms and establishments; (ii) less skewed size distribution of firms and establishments; and (iii) marginal increase in industry output concentration. Large establishments are virtually unaffected. We also control for technological change and our estimates show that technical progress decreases the number of small firms and establishments in an industry. While past studies have emphasized technological change as a key driver of industry dynamics, our results indicate that uncertainty and sunk costs play a crucial role. Our findings could be useful for competition policy, study of firm survival, models of creative destruction, evolution of firm size distribution, and mergers and acquisitions. ZUSAMMENFASSUNG - (Die Bedeutung von Unsicherheit und 'sunk costs' für das Überleben von Unternehmen und die Weiterentwicklung von Industrien) In diesem Diskussionspapier wird die Rolle untersucht, die Unsicherheit und 'sunk costs' auf die Zeitreihenfluktuationen in der Industriestruktur, wie sie durch die Anzahl der Unternehmen abgebildet wird, und in der Unternehmenskonzentration haben. Dafür wird ein umfassender Datensatz verwendet, der 267 Firmen des verarbeitenden Gewerbes in den U.S.A. über einen Zeitraum von 30 Jahren enthält. Unsere Schätzungen zeigen, daß sich Zeiten größerer Ungewißheit auf die Industrie auswirken, vor allem wenn die Unsicherheit mit höheren sunkcosts verbunden ist, indem (i) die Zahl kleinerer Unternehmen abnimmt; (ii) die Verteilung der Unternehmen nach ihrer Größe weniger schief-verteilt ist; und (iii) ein Grenzzuwachs an Outputkonzentration der Industrie zu verzeichnen ist. Große Einrichtungen bleiben dagegen nahezu unberührt. Wir habe unsere Untersuchung darüberhinaus auf technologischen Wandel hin kontrolliert und festgestellt, daß die technische Weiterentwicklung die Zahl der kleinen Unternehmen eines Industriezweigs ebenfalls reduziert. Während frühere Studien gerade den technologischen Wandel als den treibenden Faktor für die dynamische Entwicklung von Industrien herausgestellt haben, weisen unsere Ergebnisse allerdings den Faktoren Unsicherheit und 'sunk-costs' die entscheidende Rolle zu. Diese Ergebnisse können fruchtbar für weitere Studien im Bereich der Wettbewerbspolitik sein, für Studien zum Überleben von Firmen, für Modelle kreativer Zerstörung, der Evolution von Firmengrößenverteilung und nicht zuletzt für Unternehmensaufkäufe und -zusammenschlüsse (M&A).

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Paper provided by Wissenschaftszentrum Berlin (WZB), Research Unit: Competition and Innovation (CIG) in its series CIG Working Papers with number SP II 2003-12.

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Length: 36 pages
Date of creation: Sep 2003
Date of revision:
Handle: RePEc:wzb:wzebiv:spii2003-12

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Keywords: Industry dynamics; firm survival; firm size distribution; uncertainty; sunk costs; technological change; creative destruction; option value; financing constraints.;

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Citations

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Cited by:
  1. Jellal, Mohamed & wolff, François charles, 2005. "Free entry under uncertainty," MPRA Paper 38376, University Library of Munich, Germany.
  2. Kessides, Ioannis N. & Tang, Li, 2011. "Sunk costs, market contestability, and the size distribution of firms," Policy Research Working Paper Series 5540, The World Bank.
  3. Kerstin Pull, 2003. "Der Einfluss personalpolitischer Flexibilität auf die Standortwahl Multinationaler Unternehmen: eine empirische Analyse," IAAEG Discussion Papers until 2011 200301, Institute of Labour Law and Industrial Relations in the European Union (IAAEU).
  4. Vesa Kanniainen & Mikko Leppämäki, 2009. "Union power, entrepreneurial risk, and entrepreneurship," Small Business Economics, Springer, vol. 33(3), pages 293-302, October.
  5. Vivek Ghosal, 2003. "Firm and Establishment Volatility: The Role of Sunk Costs, Profit Uncertainty and Technological Change," CESifo Working Paper Series 980, CESifo Group Munich.
  6. T. Huw Edwards, 2006. "Who Gains from Restructuring the Post-Soviet Transition Economies, and Why?," International Review of Applied Economics, Taylor & Francis Journals, vol. 20(4), pages 425-448.
  7. Vivek Ghosal, 2004. "Endemic Volatility Of Firms And Establishments: Are Real Options Effects Important?," Royal Economic Society Annual Conference 2004 4, Royal Economic Society.
  8. Werner Hölzl, 2003. "Tangible and intangible sunk costs and the entry and exit of firms in Austrian Manufacturing," Working Papers geewp33, Vienna University of Economics Research Group: Growth and Employment in Europe: Sustainability and Competitiveness.
  9. Roy Thurik & Enrico Santarelli & David Audretsch & Luuk Klomp, 2002. "Gibrat's Law: Are the Services Different?," Scales Research Reports H200201, EIM Business and Policy Research.
  10. Fariñas, Jose C. & Ruano, Sonia, 2005. "Firm productivity, heterogeneity, sunk costs and market selection," International Journal of Industrial Organization, Elsevier, vol. 23(7-8), pages 505-534, September.
  11. Fredrik Wilhelmsson & Konstantin Kozlov, 2007. "Exports and productivity of Russian firms: in search of causality," Economic Change and Restructuring, Springer, vol. 40(4), pages 361-385, December.

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