A Dynamic Stochastic Model of Entry and Exit to an Industry

By Hugo A. Hopenhayn
1989| Working Paper No. 1057

This paper develops and analyzes a dynamic stochastic model for a competitive industry which endogenously determines processes for entry and exit and for individual firms output and employment. The concept of stationary equilibrium is introduced, extending long run industry equilibrium theory to account for entry, exit and heterogeneity in the size and growth rate of firms. Conditions under which there will be entry and exit in the stationary equilibrium are given. Cross sectional properties—across size and age cohorts—are analyzed and compared to the data. In connection to this the implications of different stochastic orderings are considered. Implications for the equilibrium distributions of profits and the value of firms are analyzed. The effect of changes in the parameters describing the technological and market conditions of the industry on the equilibrium size distribution and turnover rates are also analyzed. Some results on the equilibrium dynamics of the adjustment of an industry to an exogenous increase in aggregate demand are presented.