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Contribution Details

Type Working Paper
Scope Discipline-based scholarship
Title Firm heterogeneity, market power and macroeconomic fragility
Organization Unit
  • Alessandro Ferrari
  • Francisco Queirós
  • English
Institution Centre for Studies in Economics and Finance (CSEF), University of Naples
Series Name CSEF Working Papers
Number 627
ISSN 2240-9696
Number of Pages 20
Date 2021
Abstract Text We investigate how firm heterogeneity and market power affect macroeconomic fragility, defined as the probability of long-lasting recessions. We propose a theory in which the positive interaction between firm entry, competition and factor supply can give rise to multiple steady-states. We show that when firm heterogeneity is large, even small temporary shocks can trigger firm exit and make the economy spiral in a competition-driven poverty trap. Calibrating our model to incorporate the well-documented trends in increasing firm heterogeneity we find that, relative to 2007, an economy with the 1985 level of firm heterogeneity is 5 to 9 times less likely to experience a very persistent recession. We use our framework to study the 2008-09 recession and show that the model can rationalize the persistent deviation of output and most macroeconomic aggregates from trend, including the behavior of net entry, markups and the labor share. Post-crisis cross-industry data corroborates our proposed mechanism. Firm subsidies can be powerful in preventing quasi-permanent recessions and can lead to a 21% increase in welfare.
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Keywords Firm heterogeneity, competition, market power, poverty traps, great recession