Working Paper

Are Supply Networks Efficiently Resilient?

Abstract: We show that supply networks are inefficiently, and insufficiently, resilient. Upstream firms can expand their production capacity to hedge againstsupply and demand shocks. But the social benefits of such investments arenot internalized due to market power and market incompleteness. Upstreamfirms under-invest in capacity and resilience, passing-on the costs to downstreamfirms, and drive trade excessively towards the spot markets. There isa wedge between the market solution and a constrained optimal benchmark,which persists even without rare and large shocks. Policies designed to incentivize capacity investment, reduce reliance on spot markets, and enhancecompetition ameliorate the externality.

Keywords: Resilience; Capacity; Monopolistic competition; Supply network; Production;

JEL Classification: D21; D24; D25; D43; D85; E23; L13;

https://doi.org/10.17016/FEDS.2024.031

Bibliographic Information

Provider: Board of Governors of the Federal Reserve System (U.S.)

Part of Series: Finance and Economics Discussion Series

Publication Date: 2024-05-28

Number: 2024-031