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Firm Dynamics with Infrequent Adjustment and Learning

  • Eugenio Pinto

    (University of Maryland)

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    Recent empirical findings have emphasized post entry growth of survivors, as opposed to exit of inefficient and small firms, as the main source of growth over time in the average size of a cohort of entering firms. In this paper, as an explanation for the significant growth of survivors, we suggest the interaction of adjustment costs with learning by entering firms about their true efficiency. Initial uncertainty about true profitability makes entering firms prudent since they want to avoid incurring superfluous costs on jobs that prove to be excessive ex post. We propose a decomposition of the change in a cohort’s average size into a survivor component and a selection component. For the 1988 cohort of entrants in the Portuguese economy, we conclude that survivors have the highest contribution to changes in the cohort's average size. However, initial selection is stronger and the survivor’s component is much smaller in Services than in Manufacturing. A calibration of the model suggests that proportional costs and the fixed entry cost are key parameters in matching the evidence on firm dynamics. Firms in Manufacturing learn relatively less initially about their efficiency, and are subject to much larger adjustment costs than firms in Services

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    Paper provided by Society for Computational Economics in its series Computing in Economics and Finance 2006 with number 467.

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    Date of creation: 04 Jul 2006
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    Handle: RePEc:sce:scecfa:467
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    16. Jovanovic, Boyan & Stolyarov, Dmitriy, 1997. "Optimal Adoption of Complementary Technologies," Working Papers 97-27, C.V. Starr Center for Applied Economics, New York University.
    17. Jovanovic, Boyan, 1982. "Selection and the Evolution of Industry," Econometrica, Econometric Society, vol. 50(3), pages 649-70, May.
    18. Russell W. Cooper & John C. Haltiwanger, 2006. "On the Nature of Capital Adjustment Costs," Review of Economic Studies, Oxford University Press, vol. 73(3), pages 611-633.
    19. Hopenhayn, Hugo & Rogerson, Richard, 1993. "Job Turnover and Policy Evaluation: A General Equilibrium Analysis," Journal of Political Economy, University of Chicago Press, vol. 101(5), pages 915-38, October.
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    21. Bee Yan Aw & Xiaomin Chen & Mark J. Roberts, 1997. "Firm-level Evidence on Productivity Differentials, Turnover, and Exports in Taiwanese Manufacturing," NBER Working Papers 6235, National Bureau of Economic Research, Inc.
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