A second observation is that the model is able to generate TFP dynamics matching the data: a large fall at the beginning, followed by a slower but steady recovery. The TFP in 2009 was 4.2 % below the level of the fourth quarter of 2007, and the model generates a decline of 4.4 % . However, relative to the data, the model seems to converge to the steady state more quickly.

The reduction in output comes from two forces: the aforementioned decline in the aggregate productivity of the economy, and a small decrease in the stock of capital. The downward movement in TFP is the result of a sudden increase in the misallocation of resources in the economy, which is reected in the increase in the dispersion of the marginal product of capital across rms in the right panel of gure (12).<sup>50</sup> With the credit shock, the fraction of rms that are nancially constrained rises, inducing a reduction in the demand for capital and labor. The fall in the demand for these factors of production translates into a decrease in the interest rate (gure (12)) and the wage of the economy. In response to this general equilibrium eect, large unconstrained rms expand and choose to produce at the new optimal scale, particularly the "public" rms in the model. By demanding more capital, large rms reduce their marginal product of that input, while those that have to downsize will increase their misallocation due to worsening credit conditions. Combining these eects, the disperison in the marginal product of capital increases.

For investment, the model generates a decline of almost 6 % at its lowest point. This prediction is slightly counterfactual, since the the decline in the data is close to 5% . To understand the U- shape pattern of investment, it is useful to look at the evolution of the interest rate in the economy at gure (12). With the credit crunch, the return on asset accumulation for the agents decreases, inducing a reduction in the supply of capital and a decrease in the investment rate of the economy that bottoms out in 2010. When the credit conditions start to go back to normal levels around 2010, the incentive to accumulate assets reappears and the investment rate turns around to return to steady state values. Overall, the model seems to be capturing extremely well the behavior of this agreggate, as well as TFP and output.

What is the role of the capital tax benet and lobbying in this adjustment? The fact that we have capital tax benets and a lobbying decision makes the reallocation of capital even stronger. In section (6.2.2) I show quantitatively that the dispersion in the marginal product of capital, hence the misallocation, is larger in a model with lobbying. Here, I discuss the implications of the credit crunch on aggregate lobbying, which is driven by the public rms in the model. This dynamic is inuenced by three forces. Firms that were lobbying the government prior to the shock and that are still nancially unconstrained increase lobbying expenditure due to the drop in the interest rate. Notice that these rms are public rms. Since lobbying and capital are complementary for unconstrained rms, the increase in the capital stock for these rms induces an increase in lobbying that generates

> 50The increase in dispersion in the model is consistent with evidence provided by Bloom et. al (2009) and Chen and Song (2013). The rst one shows that various measures of rm level dispersion increase during the last crisis. Chen and Song (2013) show that the dispersion in the marginal product of capital went up during the last U.S. recession using data from Compustat. Using plant level data, Kehrig (2015) nds that the dispersion in revenue productivity (TFPR) is greater in recessions. Given that TFPR is a weighted average of the marginal product of capital and marginal product of labor, this is also consistent with an increase in MPK.

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