Firm Entry under Financial Frictions

How does a general‐equilibrium model behave when incorporating competitive firm entry that requires external finance? After conducting a steady‐state analysis, we reach three main results. First, the financial constraint has contractionary effects on both equity investment and the labor supply as they are inversely related to the marginal finance cost. Second, the dynamics of firm creation and destruction amplify the impact of changes in either productivity or banking efficiency due to procyclical firm entry. Third, a higher elasticity of substitution (that implies a lower mark‐up) cuts the number of firms and makes aggregate output fall.