Capital-Reallocation Frictions and Trade Shocks

What are the short-term effects of an import-competition shock on capital reallocation and aggregate productivity? To address this question, we develop a quantitative model with heterogeneous firms and capital-reallocation frictions. We discipline the model with micro data on investment dynamics of Peruvian manufacturing firms and trade flows between China and Peru. Because of large frictions in firm downsizing and exit, an import-competition shock induces a temporary aggregate-productivity loss and larger dispersion in marginal products, due to investment inaction and exit of some productive firms. Empirical evidence on the effects of trade shocks on capital reallocation supports the model mechanism. (JEL E22, E23, F14, L60, O14, O16, O19)