This paper investigates the effect of idiosyncratic (firm-level) policy distortions on aggregate outcomes. Exploiting harmonized firm-level data for a number of countries, we show that there is substantial and systematic cross-country variation in the within-industry covariance between size and productivity. We develop a model in which heterogeneous firms face adjustment frictions (overhead labor and quasi-fixed capital) and distortions. The model can be readily calibrated so that variations in the distribution of distortions allow matching the observed cross-country moments. We show that the differences in the distortions that account for the size-productivity covariance imply substantial differences in aggregate performance.
Bartelsman, E.; Haltiwanger, J.; Scarpetta, S. Cross-Country Differences in Productivity: The Role of Allocation and Selection. American Economic Review (2013) 103 (1) 305-334. [DOI: 10.1257/aer.103.1.305]