Entry Decision, the Option to Delay Entry, and Business Cycles
Updated version!
Abstract: I show that firms' ability to postpone entry has important implications for our understanding of the observed business cycle behavior of start-ups. I use a model that closely replicates the main features of the US firm dynamics to explore and quantify the mechanism. I find that the option to wait endogenously generates a countercyclical opportunity cost of entry: During recessions, a higher risk of failure increases the value of waiting, hence the cost of entry. The mechanism increases the elasticity of entrants to aggregate shocks five times. It is responsible for three-fourths of the observed persistent differences in the recessionary and expansionary cohorts' productivity, survival, and employment. Without the channel, existing models require either large shocks that generate excessive aggregate fluctuations or exogenous mechanisms to reconcile the observed dynamics of entrants. Overlooking this channel may also result in misleading predictions about entrants' responses to different shocks or policies.
Presented at: Boston University, the Wharton Business School, EEA-ESEM 2022, SED 2021, ES World Congress 2020, EEA 2019, EESWM 2019, I-85 Macroeconomics Conference 2019, Midwest Macro at Vanderbilt University 2019, EGSC at Washington University in St. Louis 2019, GCER Alumni Conference 2019, the Federal Reserve Bank of St. Louis, University of Virginia, Auburn University, 6th Lindau Meeting on Economic Sciences 2018
Sovereign Risk and Economic Activity: The Role of Firm Entry and Exit ~ R&R at JPE Macro
(with Gaston Chaumont and Givi Melkadze)
Abstract: This paper quantifies the role of firm entry and exit in shaping the output costs of a sovereign debt crisis. Using annual industry-level data from European countries, we document that increased sovereign default risk is associated with a decline in firm entry and an increase in firm exits. We find strong evidence in favor of the sovereign--bank credit supply channel in explaining the observed negative relationship between sovereign risk and firm entry, while this channel plays a minor role in the sovereign risk-exit relationship. Next, we develop a heterogeneous firm dynamics model with endogenous entry and exit, sovereign default risk, and financial frictions that successfully replicates firms' life-cycle characteristics in Portugal. We find that the increased sovereign risk accounts for 60% of the observed fall in firm entry and most of the exit dynamics during the Portuguese debt crisis. The extensive margin, in turn, plays a major role in accounting for the persistent effects of the sovereign crisis contributing to about 80% of the long-run drop in output.
Presented at: University of Rochester, the Wharton Business School, York University, Kent Macro Workshop 2023, the Federal Reserve Bank of Atlanta, SEA 2021, MEA 2022, Midwest Macro 2022, NASMES 2022, SED 2022, EEA/ESEM 2022, Lisbon Macro Workshop 2022, LACEA/LAMES 2022, and AEA/ASSA 2023, Auburn University
Does Marginal Product Dispersion Imply Productivity Losses? The Case of Maintenance Flexibility and Endogenous Capital User Costs
(with Eugene Tan and Poorya Kabir)
New paper!
Abstract: We present a neoclassical investment model with capital adjustment costs, endogenous user costs, and heterogeneous capital maintenance flexibility. Our model predicts that if maintenance flexibility is the underlying driver of variations in the marginal product of capital (MRPK), then higher dispersion in MRPK is associated with higher aggregate total factor productivity, contrary to conventional models without endogenous user costs. We verify our key model mechanism using unique firm-level micro-data from India where we observe multiple direct measures of capital user cost.
Presented at: University of Toronto