Journal Article

Firm Turnover in Imperfectly Competitive Markets

Marcus Asplund and Volker Nocke

in The Review of Economic Studies

Published on behalf of Review of Economic Studies Ltd

Volume 73, issue 2, pages 295-327
Published in print April 2006 | ISSN: 0034-6527
Published online April 2006 | e-ISSN: 1467-937X | DOI:
Firm Turnover in Imperfectly Competitive Markets

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  • Market Structure, Firm Strategy, and Market Performance


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This paper is motivated by the empirical regularity that industries differ greatly in the level of firm turnover and that entry and exit rates are positively correlated across industries. Our objective is to investigate the effect of fixed costs and, in particular, market size on entry and exit rates and hence on the age distribution of firms.

We analyse a stochastic dynamic model of a monopolistically competitive industry. Each firm's efficiency is assumed to follow a Markov process. We show existence and uniqueness of a stationary equilibrium with simultaneous entry and exit: efficient firms survive, while inefficient ones leave the market and are replaced by new entrants. We perform comparative dynamics with respect to the level of fixed costs: entry costs are negatively related and fixed production costs positively related to entry and exit rates. A central empirical prediction of the model is that the level of firm turnover is increasing in market size. In larger markets, competition is endogenously more intense than in smaller markets, and so price-cost margins are smaller. This price competition effect implies that the marginal surviving firm has to be more efficient than in smaller markets. Hence, in larger markets, the expected lifespan of firms is shorter, and the age distribution of firms is first-order stochastically dominated by that in smaller markets.

In the empirical part, the prediction on market size and firm turnover is tested on an industry where firms compete in well-defined geographical markets of different sizes. Using data on hair salons in Sweden, we show that an increase in market size or fixed costs shifts the age distribution of firms towards younger firms, as predicted by the model.

Keywords: L11; L13

Journal Article.  17949 words.  Illustrated.

Subjects: Market Structure, Firm Strategy, and Market Performance

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