The Size Variance Relationship of Business Firm Growth Rates

Abstract

The relationship between the size and the variance of firm growth rates is known to follow an approximate power-law behavior $\sigma (S)\sim S^{-\beta (S)}$ where $S$ is the firm size and $\beta (S)\approx 0.2$ is an exponent weakly dependent on $S$. Here we show how a model of proportional growth which treats firms as classes composed of various number of units of variable size, can explain this size-variance dependence. In general, the model predicts that $\beta (S)$ must exhibit a crossover from $\beta (0)=0$ to $\beta (\infty )=1/2$. For a realistic set of parameters, $\beta (S)$ is approximately constant and can vary in the range from 0.14 to 0.2 depending on the average number of units in the firm. We test the model with a unique industry specific database in which firm sales are given in terms of the sum of the sales of all their products. We find that the model is consistent with the empirically observed size-variance relationship.

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