Working Paper: CEPR ID: DP3610
Authors: Guido Friebel; Mariassunta Giannetti
Abstract: In the nineties, average firm size decreased, organizations decentralized, and workers preferences shifted from large to small firms. Our model identifies the economic forces behind this trend. Small firms with little capital risk are subject to risk shifting. They realize more of their workers? risky ideas, helping small firms to poach creative workers from better-capitalized firms. This advantage increases if a) workers receive easier credit access, and b) technological progress raises the payoff from new ideas, provided that it remains very difficult to distinguish good ideas from bad ideas. As small firms take excessive risk, average enterprise profitability decreases, while bankruptcy increases. Moreover, large firms react through inefficient organizational changes.
Keywords: financial development; markets; organizations; sorting; spin-offs
JEL Codes: G30; L20
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| small firms (L25) | risk-shifting (H22) |
| risk-shifting (H22) | attract creative workers (J69) |
| attract creative workers (J69) | decrease in average profitability (L11) |
| attract creative workers (J69) | increase in bankruptcy rates (K35) |
| small firms (L25) | decrease in average profitability (L11) |
| small firms (L25) | increase in bankruptcy rates (K35) |