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Firm Growth Dynamics: The importance of large jumps

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Research/Policy Papers
Author NameARATA Yoshiyuki (University of Tokyo)
Creation Date/
NO.
June 2014 14-E-033
Research ProjectIssues Faced by Japan's Economy and Economic Policy Part III: Heterogeneity among economic agents
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Abstract

How a firm grows is one of the important themes in industrial organization literature. Recent empirical studies have demonstrated that the distribution of firms' growth rates is not Gaussian as predicted by the celebrated Gibrat's law (Gibrat, 1931), but rather is quite well fitted by the Laplace distribution. These findings challenge the existing theoretical models and also our understanding of the mechanism of firm growth. To explain the empirical distributions, we consider the firm growth dynamics in the framework of the Lévy process and infinitely divisible distributions. Our analysis shows that the growth of a firm does not result from the accumulation of small shocks as the existing models assume. Instead, it is characterized by a handful of large shocks to the firm, i.e., jumps. The result has important implications for our understanding of the nature of innovations.

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