Firm Dynamics and the Macroeconomy: the Role of Borrowing

Macroeconomics and industrial organisation are thought to be very distinct fields in economics. Yet, when many new firms are set up and old firms close down, this has important consequences for the aggregate economy. In fact, firm entry and exit can be thought of as a form of investment along the extensive margin, which alters the productive capacity of an economy, and thus its potential to grow. Also along the business cycle, firm and product turnover play an important role. This has been acknowledged only recently; many workhorse business cycle models continue to assume a fixed number of producers. Three areas in which entry and exit matter in particular, are:

1. job creation and destruction (through the entry and exit of firms),
2. product diversity and consumption utility (through the entry and exit of products),
3. price setting and markups (through changes in competition). The applicant has done a significant amount of work in these areas, which has resulted in some top publications.

The idea of this proposal is to consider, realistically, entrants as borrowers in a frictional financial market. It is an empirical fact that most startups rely on bank loans. The project has four parts. First, establishing empirical evidence on the financing of entry costs; second, developing a state-of-the-art model of firm entry and borrowing; third, bringing the model to the data using cutting-edge techniques; fourth, analysing the implications for monetary policy.