CAPITAL MISALLOCATION AND AGGREGATE FACTOR PRODUCTIVITY

We propose a sectoral–shift theory of aggregate factor productivity for a class of multisector economies with AK technologies and a constant production possibilities frontier. Loans are partly secured by collateral and partly based on reputation. We find that both the growth rate and total factor productivity (TFP) respond to random and persistent endogenous fluctuations in the sectoral distribution of physical capital, which, in turn, responds to reversible exogenous shifts in relative sector productivities. Endogenous debt limits on secured and unsecured loans slow down capital reallocation, preventing the equalization of risk-adjusted equity yields across sectors. Economywide factor productivity and the aggregate growth rate are both negatively correlated with the dispersion of sectoral rates of return, sectoral TFP, and sectoral growth rates. We also find highly volatile limit cycles in economies with small amounts of collateral.