Entry Costs, Misallocation, and Cross-country Income and TFP Di¤erences1

We construct a variant of the neoclassical model with endogenous entry and operation decisions by …rms. The model is calibrated to match key features of the distribution of …rms, by age and by size, for the U.S. A higher entry cost leads to a higher degree of misallocation of productive factors across …rms, lower TFP, and lower output. In the data entry costs average 58 percent of per capita GDP and range from zero to 390 percent. A percentage point increase is associated with a 0:21 percent decline in TFP and a 0:53 percent decline in output. Our calibrated model accounts for 66 percent of the cross-country TFP/entry cost relation (40 percent of the output/entry costs relation). Both in the model and in the data, a higher entry cost is associated with lower business density and higher mean and variance of the employment distribution across …rms. JEL: L16, O11, O40, O43, O47.