The creation of new businesses declines in recessions. In this paper, I study the effects of pro-cyclical business formation on aggregate employment in a general equilibrium firm dynamics model. The key features of the model are that the elasticity of demand faced by firms falls with their market share and that adjustment costs slow the reallocation of employment between firms. In response to a decline in entry, incumbent firms’ market shares increase, their elasticity of demand falls, and they increase their markups and reduce employment. To quantify the model, I study the relationship be-tween variable input use and revenue in panel data on large firms. Viewed through the lens of my model, my estimates imply that for large firms, the within-firm elasticity of the markup to relative sales is 25%. I use the calibrated model to study shocks to entry, finding that a fall in entry can lead to a significant contraction in employment. A shock to entry that replicates the decline in the number of businesses during the Great Recession generates a prolonged 2.5 percent fall in employment in the model. Finally, I show that the increasing correlation between market shares and markups over the last 30 years implies that the effect of entry on the business cycle has become stronger over time.
The COVID-19 pandemic induced a significant increase in both the amount of time that households spend at home and the share of expenditures allocated to at-home consumption. These changes coincided with a period of rapidly rising house prices. We interpret these facts as the result of stay-at-home shocks that increase demand for goods consumed at home as well as the homes that those goods are consumed in. We first test the hypothesis empirically using US cross-county panel data and instrumental variables regressions. We find that counties where households spent more time at home experienced faster increases in house prices. We then study various pandemic shocks using a heterogeneous agent model with general equilibrium in housing markets. Stay-at-home shocks explain around half of the increase in model house prices in 2020, with lower mortgage interest rates explaining around one third, and unemployment shocks and fiscal stimulus accounting for the remainder. We find that young households and first-time home buyers account for much of the increase in underlying housing demand during the pandemic, but they are largely crowded out of the housing market by the equilibrium rise in house prices.
In this paper, I study monetary non–neutrality in a frictional product market. The model incorporates the idea that goods are in general not monopolistically supplied; rather, consumers can purchase the same good from many outlets. I find that incorporating this feature into a menu cost model increases the degree of monetary non–neutrality. The reason is that competition between stores makes their prices complementary, so that firms face strong penalties for setting prices far away from their competitors. It makes pass–through of cost shocks heterogeneous and decreases the strength of the selection effect. I also use the model to study cyclical changes in monetary non–neutrality. I find that the data are consistent with a decline in the competitiveness of markets in recessions, which makes monetary policy less effective at stimulating output.
“Monopoly Power and Monetary Non-Neutrality” (with Simon Gilchrist and Adam Guren)