Asset Price Bubbles and the Distribution of Firms

This paper studies the macroeconomic effects of asset bubbles from the perspective of firms. I introduce bubbles into a model with firm heterogeneity and firm entry and exit: in a bubbly equilibrium, the price of a firm contains a fundamental component, which represents the net present value of profits, and a bubble component. I show that bubbles act as subsidies to new firms and have the following implications: i) bubbles lower the average productivity and profitability of new firms; ii) bubbles increase the number of firms, wages, and aggregate output; iii) along transition dynamics, bubbles subsidize new firms rather than incumbents, aggravating misallocation and therefore depressing aggregate productivity. The model can be used to discriminate the alternative explanations of business cycles, like shocks to productivity, and shocks to financial frictions. Firm-level evidence suggests that the Spanish economic expansion before the global financial crisis can be well interpreted as a consequence of a bubble boom, and the recession as an outcome of a bubble crash.