Firm Dynamics and Cities
by David Sraer and Cecile Gaubert
On average, firms are more productive in larger cities. The typical interpretation of this finding relies on a combination of a selection effect and agglomeration externalities. Empirically, these explanations have been tested in the context of static models (Combes et al. (2012)). This project will dig further into the question of the productivity advantage of large cities by considering the dynamics of firm productivity across cities. The selection effect documented in the literature can materialize both at firm entry (more productive entrepreneurs decide to start firms in larger cities) as well at firm exit (exiting firms have larger productivity in larger cities). Agglomeration externalities can affect the level of firm productivity, as is standard in the literature, but can also affect firm growth. This project builds on a very unique dataset, which consists of the exhaustive firm registry in France that records the location, industry and number of employee at creation of all firms registered in France between 1987 and 2007. The analysis will also rely on a model of firms entry, exit and dynamics a la Hopenhayn (1992), that includes agglomeration externalities, local labor markets as well as local competition for firms operating in the non-tradable sector. The model will highlight how agglomeration economies and firm selection shape the productivity distribution of firms operating in different cities, and in particular should help us derive an estimation strategy to recover the different parameters governing the model, such as the agglomeration externality parameter, the local demand parameters.
The hope is for this project to allow for a better understanding of agglomeration externalities, and in particular how they interact with firm dynamics. This is a novel aspect of this well-studied question. Beyond agglomeration externalities, decomposing more precisely where the productivity advantage of large cities is coming from is important from an urban policy perspective. The optimal design of public transfers to firms located in different cities may well depend on firm age, if cities affect firms differently at different point in their life-cycle. Addressing these questions is the purpose of this research project.