What drives firm growth? The role of demand and TFP shocks
We disentangle the contribution of unobserved heterogeneity in idiosyncratic demand and productivity to firm growth. We use a model of monopolistic competition with Cobb-Douglas production and a dataset of Italian manufacturing firms containing unique information on firm-level prices to reach three main results. First, demand is at least as important for firm growth as productivity. Second, firms' responses to shocks are lower than those predicted by our frictionless model, suggesting the existence of adjustment frictions. Finally, the deviation is more substantial for TFP shocks. We provide direct evidence that sluggish price adjustment influences responses to shocks, magnifying the effect of market appeal and dampening that of TFP. Moreover, organizational rigidity within the firm also contributes to reducing the response to TFP shocks, while it has no effects on that to demand shocks. These findings emphasize the importance of considering both dimensions of unobserved heterogeneity. They also imply that it is more difficult to fully adjust to TFP shocks.
|Date of creation:||2012|
|Date of revision:|
|Contact details of provider:|| Postal: Society for Economic Dynamics Marina Azzimonti Department of Economics Stonybrook University 10 Nicolls Road Stonybrook NY 11790 USA|
Web page: http://www.EconomicDynamics.org/
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