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The size distribution of firms in an economy with fixed and entry costs

  • Erzo G.J. Luttmer

This paper describes an analytically tractable model of balanced growth that allows for extensive heterogeneity in the technologies used by firms. Firms enter with fixed characteristics that determine their initial technologies and the levels of fixed costs required to stay in business. Each firm produces a different good, and firms are subject to productivity and demand shocks that are independent across firms and over time. Firms exit when revenues are too low relative to fixed costs. Conditional on fixed firm characteristics, the stationary distribution of firm size satisfies a power law for all sizes above the size at which new firms enter. The tail of the size distribution decays very slowly if the growth rate of the initial productivity of potential entrants is not too far above the growth rate of productivity inside incumbent firms. In one interpretation, this difference in growth rates can be related to learning-by-doing inside firms and spillovers of the information generated as a result. As documented in a companion paper, heterogeneity in fixed firm characteristics together with idiosyncratic firm productivity growth can generate entry, exit, and growth rates, conditional on age and size, in line with what is observed in the data.

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Paper provided by Federal Reserve Bank of Minneapolis in its series Working Papers with number 633.

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Date of creation: 2004
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Handle: RePEc:fip:fedmwp:633
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  1. Marc J. Melitz, 2003. "The Impact of Trade on Intra-Industry Reallocations and Aggregate Industry Productivity," Econometrica, Econometric Society, vol. 71(6), pages 1695-1725, November.
  2. Jakob Klette & Samuel Kortum, 2002. "Innovating firms and aggregate innovation," Staff Report 300, Federal Reserve Bank of Minneapolis.
  3. Sergio Rebelo, 1999. "Long Run Policy Analysis and Long Run Growth," Levine's Working Paper Archive 2114, David K. Levine.
  4. Esteban Rossi-Hansberg & Mark L.J. Wright, 2005. "Urban Structure and Growth," NBER Working Papers 11262, National Bureau of Economic Research, Inc.
  5. Jovanovic, Boyan, 1982. "Selection and the Evolution of Industry," Econometrica, Econometric Society, vol. 50(3), pages 649-70, May.
  6. Xavier Gabaix, 1999. "Zipf'S Law For Cities: An Explanation," The Quarterly Journal of Economics, MIT Press, vol. 114(3), pages 739-767, August.
  7. Xavier Gabaix, 2004. "Power laws and the origins of aggregate fluctuations," Econometric Society 2004 North American Summer Meetings 484, Econometric Society.
  8. Ricardo Lagos, 2006. "A model of TFP," Staff Report 345, Federal Reserve Bank of Minneapolis.
  9. Greenwood, J. & Hercowitz, Z. & Krusell, P., 1996. "Long-Run Implications of Investment-Specific Technological Change," RCER Working Papers 420, University of Rochester - Center for Economic Research (RCER).
  10. Timothy Dunne & Mark J. Roberts & Larry Samuelson, 1988. "Patterns of Firm Entry and Exit in U.S. Manufacturing Industries," RAND Journal of Economics, The RAND Corporation, vol. 19(4), pages 495-515, Winter.
  11. Paul M Romer, 1999. "Endogenous Technological Change," Levine's Working Paper Archive 2135, David K. Levine.
  12. Erzo G.J. Luttmer, 2004. "On the Age and Size Distribution of Business Firms," 2004 Meeting Papers 686, Society for Economic Dynamics.
  13. Mark L.J. Wright & Esteban Rossi-Hansberg, 2004. "Firm Size Dynamics in the Aggregate Economy," 2004 Meeting Papers 878, Society for Economic Dynamics.
  14. Jeremy Greenwood & Boyan Jovanovic, 2000. "Accounting for Growth," RCER Working Papers 475, University of Rochester - Center for Economic Research (RCER).
    • Jeremy Greenwood & Boyan Jovanovic, 2001. "Accounting for Growth," NBER Chapters, in: New Developments in Productivity Analysis, pages 179-224 National Bureau of Economic Research, Inc.
  15. Dixit, Avinash K & Stiglitz, Joseph E, 1977. "Monopolistic Competition and Optimum Product Diversity," American Economic Review, American Economic Association, vol. 67(3), pages 297-308, June.
  16. repec:ucp:bknber:9780226304557 is not listed on IDEAS
  17. Jonathan Eaton & Zvi Eckstein, 1994. "Cities and Growth: Theory and Evidence from france and Japan," Boston University - Institute for Economic Development 36, Boston University, Institute for Economic Development.
  18. Lucas, Robert Jr., 1988. "On the mechanics of economic development," Journal of Monetary Economics, Elsevier, vol. 22(1), pages 3-42, July.
  19. Peter J. Klenow, 2003. "Measuring consumption growth: the impact of new and better products," Quarterly Review, Federal Reserve Bank of Minneapolis, issue Win, pages 10-23.
  20. Stephen L. Parente & Edward C. Prescott, 2002. "Barriers to Riches," MIT Press Books, The MIT Press, edition 1, volume 1, number 0262661306, June.
  21. Hopenhayn, Hugo A, 1992. "Entry, Exit, and Firm Dynamics in Long Run Equilibrium," Econometrica, Econometric Society, vol. 60(5), pages 1127-50, September.
  22. Robert J. Gordon, 2000. "The Boskin Commission Report and its Aftermath," NBER Working Papers 7759, National Bureau of Economic Research, Inc.
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  24. Andrew Atkeson & Patrick J. Kehoe, 2002. "Measuring Organization Capital," NBER Working Papers 8722, National Bureau of Economic Research, Inc.
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