Firm Turnover in Imperfectly Competitive Markets -super-1

Marcus Asplund · Volker Nocke

220 citations0/0 files storedRePEc: Research Papers in Economics

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Firm Innovation and Growth Merger and Competition Analysis Economic theories and models

Abstract

This paper is motivated by the empirical regularity that industries differ greatly in the level of firm turnover and that entry and exit rates are positively correlated across industries. Our objective is to investigate the effect of fixed costs and, in particular, market size on entry and exit rates and hence on the age distribution of firms.We analyse a stochastic dynamic model of a monopolistically competitive industry. Each firm's efficiency is assumed to follow a Markov process. We show existence and uniqueness of a stationary equilibrium with simultaneous entry and exit: efficient firms survive, while inefficient ones leave the market and are replaced by new entrants. We perform comparative dynamics with respect to the level of fixed costs: entry costs are negatively related and fixed production costs positively related to entry and exit rates. A central empirical prediction of the model is that the level of firm turnover is increasing in market size. In larger markets, competition is endogenously more intense than in smaller markets, and so price-cost margins are smaller. This price competition effect implies that the marginal surviving firm has to be more efficient than in smaller markets. Hence, in larger markets, the expected lifespan of firms is shorter, and the age distribution of firms is first-order stochastically dominated by that in smaller markets.In the empirical part, the prediction on market size and firm turnover is tested on an industry where firms compete in well-defined geographical markets of different sizes. Using data on hair salons in Sweden, we show that an increase in market size or fixed costs shifts the age distribution of firms towards younger firms, as predicted by the model. Copyright 2006, Wiley-Blackwell.

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References

2003The Impact of Trade on Intra-Industry Reallocations and Aggregate Industry Productivity 1982Selection and the Evolution of Industry 1989Handbook of Labor Economics 1992Entry, Exit, and firm Dynamics in Long Run Equilibrium 1996Entry, Exit, Growth, and Innovation over the Product Life Cycle 1995Markov-Perfect Industry Dynamics: A Framework for Empirical Work 1987The Relationship Between Firm Growth, Size, and Age: Estimates for 100 Manufacturing Industries 1988Patterns of Firm Entry and Exit in U.S. Manufacturing Industries

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