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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. Jeremy Greenwood & Boyan Jovanovic, 1998. "Accounting for Growth," NBER Working Papers 6647, National Bureau of Economic Research, Inc.
    • 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.
  2. Hopenhayn, Hugo A, 1992. "Entry, Exit, and Firm Dynamics in Long Run Equilibrium," Econometrica, Econometric Society, vol. 60(5), pages 1127-50, September.
  3. Erzo G.J. Luttmer, 2004. "On the Age and Size Distribution of Business Firms," 2004 Meeting Papers 686, Society for Economic Dynamics.
  4. Esteban Rossi-Hansberg & Mark L. J. Wright, 2006. "Urban structure and growth," Staff Report 381, Federal Reserve Bank of Minneapolis.
  5. Mark J. Melitz, 2002. "The Impact of Trade on Intra-Industry Reallocations and Aggregate Industry Productivity," NBER Working Papers 8881, National Bureau of Economic Research, Inc.
  6. Tor Jakob Klette & Samuel Kortum, 2004. "Innovating Firms and Aggregate Innovation," Journal of Political Economy, University of Chicago Press, vol. 112(5), pages 986-1018, October.
  7. Robert J. Gordon, 2000. "The Boskin Commission Report and its Aftermath," NBER Working Papers 7759, National Bureau of Economic Research, Inc.
  8. 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.
  9. Jovanovic, Boyan, 1982. "Selection and the Evolution of Industry," Econometrica, Econometric Society, vol. 50(3), pages 649-70, May.
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  12. Lucas, Robert Jr., 1988. "On the mechanics of economic development," Journal of Monetary Economics, Elsevier, vol. 22(1), pages 3-42, July.
  13. 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.
  14. Sergio Rebelo, 1999. "Long Run Policy Analysis and Long Run Growth," Levine's Working Paper Archive 2114, David K. Levine.
  15. Xavier Gabaix, 1999. "Zipf'S Law For Cities: An Explanation," The Quarterly Journal of Economics, MIT Press, vol. 114(3), pages 739-767, August.
  16. Gordon, Robert J., 1990. "The Measurement of Durable Goods Prices," National Bureau of Economic Research Books, University of Chicago Press, edition 1, number 9780226304557.
  17. Eaton, Jonathan & Eckstein, Zvi, 1997. "Cities and growth: Theory and evidence from France and Japan," Regional Science and Urban Economics, Elsevier, vol. 27(4-5), pages 443-474, August.
  18. Dunne, T. & Roberts, M.J. & Samuelson, L., 1988. "Pattenrs Of Firm Entry And Exit In U.S. Manufacturing Industries," Papers 1-88-2, Pennsylvania State - Department of Economics.
  19. Stephen L. Parente & Edward C. Prescott, 2002. "Barriers to Riches," MIT Press Books, The MIT Press, edition 1, volume 1, number 0262661306, June.
  20. Andrew Atkeson & Patrick J. Kehoe, 2002. "Measuring Organization Capital," NBER Working Papers 8722, National Bureau of Economic Research, Inc.
  21. Greenwood, J. & Hercowitz, Z. & Krusell, P., 1995. "Long-Run Implications of Investment-Specific Technological Change," UWO Department of Economics Working Papers 9510, University of Western Ontario, Department of Economics.
  22. Mark L.J. Wright & Esteban Rossi-Hansberg, 2004. "Firm Size Dynamics in the Aggregate Economy," 2004 Meeting Papers 878, Society for Economic Dynamics.
  23. Xavier Gabaix, 2004. "Power laws and the origins of aggregate fluctuations," Econometric Society 2004 North American Summer Meetings 484, Econometric Society.
  24. Ricardo Lagos, 2006. "A model of TFP," Staff Report 345, Federal Reserve Bank of Minneapolis.
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