Dynamics of entry and exit of firms in the presence of entry adjustment costs

Abstract

This paper presents a simple model of industry dynamics with entry adjustment costs. These costs imply a non-instantaneous adjustment path to the steady state, so that the model permits the short-run and long-run characterization of industry dynamics in a single framework. The type of the steady state (zero entry and exit or positive entry and exit with the co-existence of high-efficiency and low-efficiency firms) depends on the fixed cost of entry as well as entry adjustment costs. The short-run dynamics exhibits non-monotonicity if persistence in efficiency over time is not too high. The model is consistent with the empirical observations that the total number of firms and net entry follow non-monotonic paths and entry and exit are positively correlated over time.