Abstract: In this paper, we study firm dynamics and the allocation of capital in the private business sector. Two restrictions are imposed on transfers of business capital: (i) indivisibility—all assets in a business are sold as a unit; and (ii) bilateral trades— the terms of trade are settled in pairwise meetings. While the equilibrium features dispersion in marginal products as well as transaction prices per unit of capital traded, we show that the allocation is efficient. Dispersion in per-unit prices arises because of time-to-build concerns for productive owners and variation in market thickness across the size distribution of firms. Firms grow over the life in two ways: through internal investment and through purchases of other firms. Capital is gradually traded upwards over the life of a business, from owners with a low marginal product of capital to owners with a high marginal product of capital. The model is used to estimate the impact of capital gains taxation and the degree of transferability of private business wealth.
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