Mixture of Large and Small Firms in General Equilibrium

Abstract

Purpose - This paper develops a tractable model of general equilibrium featuring a (1) mixture of large and small firms in a sector, (2) managerial activities of large firms, and (3) leadership of large firms over small firms in product and labor markets. This paper aims to incorporate strategic firm behavior into a general equilibrium.
 Design/Methodology/Approach - This paper launches a game-theoretic approach for a mixture of large and small firms within an industry. Within the framework, small firms form a coalition to stand against large firms. Thus, it models that large firms and the coalition of small firms interact strategically. Unlike small firms, large firms hire managers to supervise production workers and improve production efficiency.
 Findings - With manager skills, the leadership of large firms is enhanced. That is, the market share of large firms expands, while that of small firms shrinks. With the shrinkage, firm selection occurs within the coalition of small firms. Thus, small firms of low-ability entrepreneurs exit the sector, and the resources are reallocated toward higher skills and higher-ability entrepreneurs. Large firms affect the pattern of labor demand by creating higher-paying jobs for skills.
 Research Implications - As large firms have stronger market leadership, aggregate income increases and wage inequality widens. This paper can contribute to the literature of oligopolistic competition and general equilibrium.