Entry decision, the option to delay entry, and business cycles

Abstract

This paper demonstrates that the option to delay entry plays an important role in shaping the business cycle behavior of new firms. Using a model calibrated to U.S. firm dynamics, I show that the timing option endogenously generates a countercyclical opportunity cost of entry: during recessions, elevated risk of failure increases the value of waiting, which raises the effective cost of entry. I provide empirical evidence consistent with firms strategically delaying entry in response to changing aggregate conditions. Quantitatively, this channel significantly amplifies firm selection at entry and nearly doubles the cyclical volatility of new firm creation. Overall, variation in the number and composition of entrants accounts for 18 % of aggregate employment fluctuations—a contribution more than halved in a model without the option to delay. Ignoring this channel may also lead to misleading predictions about how new firm entry responds to policy interventions.