Multi-product firms and increasing marginal costs

Recent literature has addressed how product creation amplifies economic fluctuations via the love of variety. Yet, the empirical evidence on variety effects is sparse. The current paper demonstrates that decreasing returns in the variety-level production technology, which leads to increasing marginal costs, can similarly amplify business cycles. An expansion of the firm's product scope reduces marginal costs and gives an incentive to produce multiple products even if the variety effects are entirely absent. The efficiency gains from adjusting product scopes makes the economy more susceptible to sunspot equilibria. The model is estimated via Bayesian methods and data favours mild decreasing returns with animal spirits explaining a significant fraction of U.S. business cycles.