arXiv2025
We develop a general equilibrium model in which, at each instant, a short-run competitive equilibrium arises. Heterogeneity in factor allocation generates differential profit rates across sectors, prompting firms to move between them under myopic profit-seeking behaviour, subject to quadratic reallocation costs. The aggregate dynamics of the economy can be formalised as a gradient flow in a Wasserstein space, starting from a partial differential equation that describes the reallocation of firms across sectors. Two key emergent properties arise: (i) decentralised and uncoordinated decisions can be reinterpreted as the solution to a sequence of global optimisation problems, involving a function of aggregate consumption, which increases monotonically along the dynamic path; (ii) the long-run competitive equilibrium is efficient, as the distribution of firms maximises aggregate consumption and profit rates are equalised across sectors. We extend the baseline model to incorporate non-symmetric preferences, intrasectoral externalities, a fixed cost of reallocation, and labour immobility. These extensions reveal conditions under which the efficiency and uniqueness of the long-run equilibrium may fail, but also highlight the surprising result that the decentralised equilibrium can remain efficient even in the presence of externalities. Finally, using a large sample of EU firms from the period 2018-2023, we empirically document convergence in sectoral profit rates, but not in labour productivity, pointing to a certain degree of labour immobility. We also find evidence suggesting the absence of significant fixed costs of reallocation at the sectoral level, the presence of positive but limited intrasectoral externalities, and a moderate degree of substitutability among goods.