Customer accumulation, returns to scale, and secular trends

This paper studies how rising returns to scale contributed to declining business dynamism and increasing markups and expenditures devoted to customer acquisition in the U.S. economy. It introduces a firm dynamics model with heterogeneous markups and customer accumulation based on directed search, in which larger firms gain a competitive edge from higher returns to scale. This makes markets less contestable for new firms and leads to the rise of superstar firms. The model quantitatively accounts for a substantial share of these trends, and the underlying micro-level mechanisms align with empirical evidence. • Superstar firms contribute to secular trends: declining business dynamism, increasing markups, and higher spending on customer acquisition. • Rising returns to scale amplify differences among firms, driving the growth of superstar firms. • Novel directed-search model quantitatively explains a substantial fraction of these secular changes via rising returns to scale. • The model also aligns with several micro-level phenomena associated with these secular trends.