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Shoumitro Chatterjee (JHU): No Country for Dying Firms: Evidence from India.

Abstract:  This paper examines the impact of exit barriers on firm growth and development in India. Despite being one of the largest and fastest-growing economies, India’s manufacturing sector, particularly low-skill manufacturing, remains underdeveloped. We argue that Indian institutions create frictions that hinder factor adjustment and firm exit, trapping resources in unproductive firms and contributing to this underperformance. Our findings show that firms in India face significant adjustment costs and exit frictions, especially in states with higher misallocation and labor-intensive sectors. We develop and estimate a dynamic heterogeneous firm model incorporating entry, exit, and input adjustment costs. Our estimates suggest that reducing exit frictions to achieve firm exit rates at 70% of those in the US could increase aggregate value added and productivity by about 13% and 3%, respectively. The impact on employment, however, depends on the availability of capital and can potentially be negative if capital is fixed