Concentrated Risk: Misallocation and Granular Business Cycles

Tomer Ifergane

No 2438, Discussion Papers from Centre for Macroeconomics (CFM)

Abstract: This paper uncovers a novel interaction between production efficiency and economic stability. Using a tractable heterogeneous firms model, I prove the existence of an efficiency-stability trade-off in granular economies. Specifically, reducing misallocation increases business cycle volatility. This trade-off originates because firms choose their optimal size without internalizing their effect on aggregate consumption risk. Utilizing approximations and results on order statistics, I propose a tractable method to quantify this effect and show that commonly studied misallocation counterfactuals involve a sizeable increase in business cycle volatility. I discuss how different assumptions on the nature of misallocation and factor mobility influence this result.

Keywords: Business cycles; misallocation; granularity; stabilization policies; size-dependent policies (search for similar items in EconPapers)
JEL-codes: D24 E32 O47 (search for similar items in EconPapers)
Pages: 39 pages
Date: 2024-09
New Economics Papers: this item is included in nep-rmg
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