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Firm Heterogeneity, Market Power and Macroeconomic Fragility

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  • Alessandro Ferrari
  • Francisco Queir'os
Abstract
We study how firm heterogeneity and market power affect macroeconomic fragility, defined as the probability of long slumps. 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 firms are highly heterogeneous in terms of productivities, even small temporary shocks can trigger firm exit and make the economy spiral in a competition-driven poverty trap. We calibrate our model to incorporate the well-documented trends on rising firm heterogeneity in the US economy, and show that they significantly increase the likelihood and length of slow recoveries. 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. We conclude by showing that firm subsidies can be powerful in preventing long slumps and can lead to welfare gains between 10% and 50%.

Suggested Citation

  • Alessandro Ferrari & Francisco Queir'os, 2022. "Firm Heterogeneity, Market Power and Macroeconomic Fragility," Papers 2205.03908, arXiv.org, revised May 2024.
    • Handle: RePEc:arx:papers:2205.03908
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    References listed on IDEAS

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    1. Firm Heterogeneity, Market Power and Macroeconomic Fragility
      by Christian Zimmermann in NEP-DGE blog on 2021-11-17 15:38:11

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    Cited by:

    1. Queirós, Francisco, 2024. "Asset bubbles and product market competition," Theoretical Economics, Econometric Society, vol. 19(1), January.

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    More about this item

    JEL classification:

    • E22 - Macroeconomics and Monetary Economics - - Consumption, Saving, Production, Employment, and Investment - - - Investment; Capital; Intangible Capital; Capacity
    • E24 - Macroeconomics and Monetary Economics - - Consumption, Saving, Production, Employment, and Investment - - - Employment; Unemployment; Wages; Intergenerational Income Distribution; Aggregate Human Capital; Aggregate Labor Productivity
    • E25 - Macroeconomics and Monetary Economics - - Consumption, Saving, Production, Employment, and Investment - - - Aggregate Factor Income Distribution
    • E32 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles - - - Business Fluctuations; Cycles
    • L16 - Industrial Organization - - Market Structure, Firm Strategy, and Market Performance - - - Industrial Organization and Macroeconomics; Macroeconomic Industrial Structure

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