Entry and Exit, Multiproduct Firms, and Allocative Distortions

Most studies quantifying the gains from reversing allocative distortions are static in nature. We propose a model of firm dynamics featuring entry, exit, and multiproduct firms to understand the contribution of these dynamic factors in shaping the welfare and long-run productivity gains from removing distortions. We find that while the entry and exit of firms and their product-portfolio choices exert countervailing forces over long-run total factor productivity (TFP), they reinforce each other in shaping the welfare gains from reversing misallocation. Welfare gains, which account for transition dynamics, become more than twice as high as the long-run changes in TFP.