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Simple Markov-Perfect Industry Dynamics

  • Nan Yang

    (Tilburg University)

  • Jeffrey Campbell

    (Federal Reserve Bank of Chicago)

  • Jaap Abbring

    (Tilburg University)

This paper develops a tractable model for the computational and empirical analysis of infinite-horizon oligopoly dynamics. It features aggregate demand uncertainty, sunk entry costs, stochastic idiosyncratic technological progress, and irreversible exit. We develop an algorithm for computing a symmetric Markov-perfect equilibrium quickly by finding the fixed points to a finite sequence of low-dimensional contraction mappings. If at most two heterogenous firms serve the industry, the resuilt is the unique "natural" equilibrium in which a high protability firm never exits leaving behind a low protability competitor. With more than two firms, the algorithm always finds a natural equilibrium. We present a simple rule for checking ex post whether the calculated equilibrium is unique, and we illustrate the model's application by assessing the robustness of Fershtman and Pakes' (2000) finding that collusive pricing can increase consumer surplus by stimulating product development. The hundreds of equilibrium calculations this requires take only a few minutes on an off-the-shelf laptop computer. We also present a feasible algorithm for the model's estimation using the generalized method of moments.

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Paper provided by Society for Economic Dynamics in its series 2012 Meeting Papers with number 506.

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Date of creation: 2012
Date of revision:
Handle: RePEc:red:sed012:506
Contact details of provider: Postal: Society for Economic Dynamics Marina Azzimonti Department of Economics Stonybrook University 10 Nicolls Road Stonybrook NY 11790 USA
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