Bankruptcy costs, idiosyncratic risk, and long-run growth

Abstract This paper analyzes how idiosyncratic risk, measured by the variance of firm-level shocks, affects long-run growth when bankruptcy costs are present. These incurred creditors during procedure failing firms. In an endogenous model with where firms privately observe outcome increase in risk reduces growth. happens because, present, higher enlarges wedge between rental rate capital and its marginal product, thereby slowing down accumulation. growth-reducing effect is stronger higher. Empirical support for these propositions provided a regression that exploits cross-country variations dispersion firms’ real sales as proxy along recovery rates measure proxies inverse costs.