SPINOFFS AND THE MARKET FOR IDEAS

Authors

  • Satyajit Chatterjee,

    1. Federal Reserve Bank of Philadelphia, U.S.A.; Princeton University, U.S.A.
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  • Esteban Rossi-Hansberg

    1. Federal Reserve Bank of Philadelphia, U.S.A.; Princeton University, U.S.A.
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    • We thank Hal Cole, Ken Hendricks, Hugo Hopenhayn, Boyan Jovanovic, Chris Phelan, Victor Rios-Rull, and participants at several seminars and conferences for useful comments. Rossi-Hansberg thanks the Sloan Foundation for financial support. The views expressed in this article are those of the authors and do not necessarily reflect the views of the Federal Reserve System or the Federal Reserve Bank of Philadelphia. This article is available free of charge at http://www.philadelphiafed.org/research-and-data/publications/working-papers/. Please address correspondence to: Satyajit Chatterjee, Research Department, Federal Reserve Bank of Philadelphia, Ten Independence Mall, Philadelphia, PA 19106-1574. Phone: 215 574 3861. Fax: 215 574 4303. E-mail: chatterjee.satyajit@gmail.com.


  • Manuscript received October 2009; revised September 2010.

Abstract

We present a theory of entry through spinoffs where workers generate ideas and possess private information concerning their quality. Because quality is privately observed, adverse selection implies that the market can only offer a price that reflects the average quality of ideas sold. Only workers with good ideas decide to spin off, whereas workers with mediocre ideas sell them. Existing firms pay a price for ideas sold in the market that implies zero expected profits. Hence, firms’ project selection is independent of firm size, which can lead to scale-independent growth. This mechanism results in invariant firm-size distributions that resemble the data.

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