The economic literature has provided robust evidence indicating that firm entry represents a key driver of productivity growth at the industry level. This importance is due to the role of firm entry in the process of reallocation within industries, where more efficient producers displace less efficient ones. In particular, the contribution of firm entry to this selection process takes place along two main channels. First, new products and technologies that allow firms to achieve a leading market position are introduced by entrants. Second, firm entry represents a threat to existing incumbents, affecting their market strategies in general and their innovation incentives in particular.
This project analyzes the relationship between firm entry and incumbent firms’ performance, taking into account the role of information and communication technologies (ICT). Recent empirical literature has shown how the impact of firm entry on incumbent firms’ productivity and innovative incentives crucially depends on the level of technological development at the industry level (Aghion et al., 2009). In particular, firms in industries closer to the technological frontier tend to innovate more when threatened by firm entry, as opposed to firms further apart from the technological frontier. This result arises because in technologically advanced industries, firms have the means (i.e. the technology) and a considerable positive probability of successfully competing against potential entrants.
Given the role of ICT as a determinant of firm heterogeneity which, in turn, defines a firm’s distance to the technological frontier, the main objective of this project is to analyze and quantify the impact of ICT induced firm heterogeneity on the relationship between firm entry and incumbent firms’ labor productivity and innovative incentives. Moreover, the analysis accounts for the role of actual entry, as well as the threat of entry for a representative sample of German firms. Due to the importance of firm entry as a mechanism to enhance competition, as well as its documented positive impact on technologically advanced industries, the analysis of firm entry is of particular economic policy relevance from a European perspective.