We investigate the economic role of mergers by performing a comparative study of mergers and internal corporate investment at the industry and firm levels. We find strong evidence that merger activity clusters through time by industry, whereas internal investment does not. Mergers play both an “expansionary” and “contractionary” role in industry restructuring. During the 1970s and 1980s, excess capacity drove industry consolidation through mergers, while peak capacity utilization triggered industry expansion through non-merger investments. In the 1990s, this phenomenon is reversed, as industries with strong growth prospects, high profitability, and near capacity experience the most intense merger activity.

This paper examines the trading behavior of professional investors around 2,130 mergers announced between 1994 and 2000. We find considerable support for the existence of price pressure around mergers caused by uninformed shifts in excess demand, but that these effects are short‐lived, consistent with the notion that short‐run demand curves for stocks are not perfectly elastic. We estimate that nearly half of the negative announcement period stock price reaction for acquirers in stock‐financed mergers reflects downward price pressure caused by merger arbitrage short selling, suggesting that previous estimates of merger wealth effects are biased downward.