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On the mechanics of firm growth

Author

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  • Erzo G. J. Luttmer
Abstract
Given a common technology for replicating blueprints, high-quality blueprints will be replicated more quickly than low-quality blueprints. If quality begets quality, and firms are identifed with collections of blueprints derived from the same initial blueprint, then, along a balanced growth path, Gibrat?s Law holds for every type of firm. A firm size distribution with the thick right tail observed in the data can then arise only when the number of blueprints in the economy grows over time, or else firms cannot grow at a positive rate on average. But when calibrated to match the observed firm entry rate and the right tail of the size distribution, this model implies that the median age among firms with more than 10,000 employees is about 750 years. The problem is Gibrat?s Law. If the relative quality of a firm?s blueprints depreciates as the firm ages, then the firm?s growth rate slows down over time. By allowing for rapid and noisy initial growth, this version of the model can explain high observed entry rates, a thick-tailed size distribution, and the relatively young age of large U.S. corporations.

Suggested Citation

  • Erzo G. J. Luttmer, 2008. "On the mechanics of firm growth," Working Papers 657, Federal Reserve Bank of Minneapolis.
    • Handle: RePEc:fip:fedmwp:657
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    References listed on IDEAS

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    More about this item

    Keywords

    Business conditions;

    JEL classification:

    • L1 - Industrial Organization - - Market Structure, Firm Strategy, and Market Performance
    • O3 - Economic Development, Innovation, Technological Change, and Growth - - Innovation; Research and Development; Technological Change; Intellectual Property Rights

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