Entry, Investment and Exit in Response to an Industry Shock: Effect of Firm Limited Foresight and Myopic Discounting

Abstract

The question of whether firms may successfully adapt top a change in technology has led to divergent perspectives. I consider this issue in the context of a model of firms in an industry facing a shift from a legacy to a new technology. I allow for firm heterogeneity through entry and gradual accumulation of resources corresponding to the technologies. I show this is sufficient to lead some incumbents not to adapt and others to adapt, with consequent effects on entry. Further, I find incumbent firms adapt their strategy at different points in time and entry varies over time due to spikes and periods with limited entry, as firm strategy is partly determined by inter-temporal considerations. Indeed, I highlight how the degree of myopic discounting of the future affects firms flexibility to respond to the shock by changing the extent of firm specialization in the legacy resource, and foresight of the forthcoming shock affects the spread over time of firm response, particularly for large incumbents. Overall, the results suggest the value of considering not just the long-run change due to a shock to an industry but also the transition over time, which is importantly shaped by firm myopia and foresight.

Keywords: Firm and Industry Dynamics, Foresight, Myopia, Resources, Entry, Exit