Large Firm Dynamics and the Business Cycle

• BSE Working Paper: 110303 | September 15
• Keywords: large firm dynamics , firm size distribution , random growth , aggregate fluctuations
• JEL codes: E32, L11
• large firm dynamics
• firm size distribution
• random growth
• aggregate fluctuations

Do large firm dynamics drive the business cycle? We answer this question by developing a quantitative theory of aggregate fluctuations caused by firm-level disturbances alone. We show that a standard heterogeneous firm dynamics setup already contains in it a theory of the business cycle, without appealing to aggregate shocks. We offer a complete analytical characterization of the law of motion of the aggregate state in this class of models – the firm size distribution – and show that the resulting closed form solutions for aggregate output and productivity dynamics display: (i) persistence, (ii) volatility and (iii) time-varying second moments. We explore the key role of moments of the firm size distribution – and, in particular, the role of large firm dynamics – in shaping aggregate fluctuations, theoretically, quantitatively and in the data.