Finance Seminar Carola Schenone

The paper examines how “zombie firms” — financially distressed firms kept alive through subsidized credit — affect competition in product markets. Using detailed data from the U.S. airline industry, the study shows that healthy airlines respond aggressively when competing with zombie rivals: they cut fares, improve on-time performance, and adjust operations to defend market share. 

Yet these competitive responses ultimately fail. Healthy airlines are more likely to lose market share and exit routes over time, while surviving zombie carriers later gain share and raise prices once competition weakens. The findings point to a double distortion: zombie credit changes both how firms compete today and which firms survive tomorrow.

Takeaway: Competition alone may not eliminate inefficient firms when credit markets keep them alive. Subsidized financing can distort market selection, harming healthier competitors and reducing long-run efficiency.