Working Paper: CEPR ID: DP3959
Authors: Andrew B. Bernard; Stephen Redding; Peter K. Schott
Abstract: This Paper develops a model of endogenous product selection by firms. The theory is motivated by new evidence we present on the importance of product switching by US manufacturers. Two-thirds of continuing firms change their product mix every five years, and product switches involve more than 40% of firm output and almost half of existing products. The theoretical model incorporates heterogeneous firms, heterogeneous products, and ongoing entry and exit. In equilibrium, firm productivity is correlated with product fixed costs, with the most productive firms choosing to make the products with the highest fixed costs. Changes in market structure result in systematic patterns of firm entry/exit and product switching.
Keywords: entry and exit; heterogeneous firms; product differentiation; sunk costs
JEL Codes: D21; L11; L60
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| Changes in market structure (D49) | Firm entry and exit rates (L26) |
| Changes in market structure (D49) | Product switching (L15) |
| Firm productivity (D21) | Product fixed costs (D24) |
| Increases in industry sunk costs (L16) | Survival of less productive firms (D21) |
| Survival of less productive firms (D21) | Product switching from low fixed cost products to high fixed cost products (L11) |