We present a new dynamic model of corporate investment in imperfectly-competitive product markets, extending the neoclassical (Q) theory of investment to a multi-firm, multi-product, fully structural model. The model provides an explicit formula to quantify corporate investment and characterize investment spillovers for the entire network of firms in any economy. The model therefore provides a tool for future for researchers and policymakers alike, to understand relevant issues such as the way in which a specific merger affects all interconnected firms in the same network and consumer welfare, or how changes in aggregate discount rates affect markups and product market concentration both over time and in the cross section of firms.
In the paper, we take our model to the data for the universe of U.S. publicly traded companies and obtain five novel insights: 1) product market competition is a key force driving aggregate investment and capital allocation; 2) the persistence of firm's capital stocks increased over the past 25 years (i.e. capital has became ""stickier""); 3) monopoly rents account for a large, rising share of firms' value; 4) positive shocks to firms' cost of capital increase markups and concentration; 5) mergers consummated since 1995 have led to a modest decline in aggregate capital formation. These findings contribute to the existing economics and finance literature analyzing the secular decline in product market competition in the US, and the impact of product markets on firms' valuations
Maria Cecilia Bustamante (UMD) and Bruno Pellegrino (Columbia)