Get access

Growth versus Margins: Destabilizing Consequences of Giving the Stock Market What It Wants

Authors

  • PHILIPPE AGHION,

  • JEREMY C. STEIN

    Search for more papers by this author
    • Aghion is from Harvard University and the National Bureau of Economic Research. Stein is from Harvard University and the National Bureau of Economic Research. We are grateful to the National Science Foundation for financial support, and to Richard Holden and Naomi Hausman for research assistance. Thanks also to an anonymous referee, Malcolm Baker, Patrick Bolton, Arvind Krishnamurthy, Tuomo Vuolteenaho, and seminar participants at the NBER, NYU, and Boston University for helpful comments.


ABSTRACT

We develop a model in which a firm can devote effort either to increasing sales growth, or to improving per-unit profit margins. If the firm's manager cares about the current stock price, she will favor the growth strategy when the market pays more attention to growth numbers. Conversely, it can be rational for the market to weight growth measures more heavily when it is known that the firm is following a growth strategy. This two-way feedback between firms' strategies and the market's pricing rule can lead to excess volatility in real variables, even absent any external shocks.

Ancillary