Does the supply network shape the firm size distribution? The Japanese case

The paper presents an investigation on how the upward transmission of demand shocks in the Japanese supply network influences the growth rates of firms and, consequently, shapes their size distribution. Through an empirical analysis, analytical decomposition of the growth rates’ volatility, and numerical simulations, we obtain several original results. We find that the Japanese supply network has a bow-tie structure in which firms located in the upstream layers display a larger volatility in their growth rates. As a result, the Gibrat’s law breaks down for upstream firms whereas downstream firms are more likely to be located in the power law tail of the size distribution. This pattern is determined by the amplification of demand shocks hitting downstream firms, and the magnitude of this amplification depends on the network structure and on the relative market power of downstream firms. Finally, we observe that in an almost perfectly hierarchical network, the power-law tail in firm size distribution disappears. The paper shows that aggregate demand shocks can affect the economy directly through the reduction in output for downstream firms and indirectly by shaping the firm size distribution.