Efficient Bubbles?

Episodes of booming firm creation often coincide with intense speculation on financial markets. Disagreement among investors transforms the economics of optimal firm creation. We characterize the interaction between speculation and classic entry externalities from growth theory through a general entry tax formula for a non-paternalistic planner. The business-stealing effect is mitigated when investors believe they can identify the best firms. Speculation thus increases firm entry but reduces the optimal tax, potentially resulting in under-entry. The appropriability effect also vanishes, leaving only general equilibrium effects on input prices, aggregate demand, or knowledge. As a result, speculation reverses the role of many industry characteristics for efficiency. For instance, as the labor share increases, the optimal tax decreases under agreement but increases under disagreement. Further, economies with identical aggregate properties but a different market structure have the same efficiency with agreement, but call for different policies once financial market speculation is taken into account