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Vertical Relations Under Credit Constraints

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  • Volker Nocke
  • John Thanassoulis

Abstract

We model the impact that credit constraints and market risk have on the vertical relationships between firms in the supply chain. Firms which might face credit constraints in future investments become endogenously risk averse when accumulating pledgable assets. In the short run, the optimal supply contract involves risk sharing, so inducing double marginalization. Credit constraints thus result in higher retail prices, and this is true whether the firm is debt or equity funded. Further, we offer a new theory of supplier finance arms as we show an intrinsic complementarity between supply and lending which reduces financing inefficiencies created by informational asymmetries. The model offers: a theory of countervailing power based on credit constraints; a transmission mechanism linking the cost of borrowing with retail prices; and a motive for outsourcing supply (or distribution) in the face of market risk.

Suggested Citation

  • Volker Nocke & John Thanassoulis, 2014. "Vertical Relations Under Credit Constraints," Journal of the European Economic Association, European Economic Association, vol. 12(2), pages 337-367, April.
    • Handle: RePEc:bla:jeurec:v:12:y:2014:i:2:p:337-367
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    File URL: http://hdl.handle.net/10.1111/jeea.12067
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    Cited by:

    1. Léautier, Thomas-Olivier & Rochet, Jean-Charles, 2014. "On the strategic value of risk management," International Journal of Industrial Organization, Elsevier, vol. 37(C), pages 153-169.
    2. Meghna Dutta & Niladri Sekhar Dhar, 2021. "Property Rights Documentation in Determining Credit Availability for Informal Firms: A Study of Indian Firms," Journal of Quantitative Economics, Springer;The Indian Econometric Society (TIES), vol. 19(1), pages 123-138, March.
    3. Nicolas Pasquier & Olivier Bonroy & Alexis Garapin, 2022. "Risk aversion and equilibrium selection in a vertical contracting setting: an experiment," Theory and Decision, Springer, vol. 93(4), pages 585-614, November.
    4. Motta, Massimo & Hansen, Stephen, 2012. "Vertical Exclusion with Endogenous Competiton Externalities," CEPR Discussion Papers 8982, C.E.P.R. Discussion Papers.
    5. John Thanassoulis, 2012. "The Case for Intervening in Bankers’ Pay," Journal of Finance, American Finance Association, vol. 67(3), pages 849-895, June.
    6. Fumagalli, Chiara & Motta, Massimo & Tarantino, Emanuele, 2022. "Shelving or developing? Optimal policy for mergers with potential competitors," CEPR Discussion Papers 15113, C.E.P.R. Discussion Papers.
    7. Mike Burkart & Tore Ellingsen, 2004. "In-Kind Finance: A Theory of Trade Credit," American Economic Review, American Economic Association, vol. 94(3), pages 569-590, June.
    8. Chiara Fumagalli & Massimo Motta & Emanuele Tarantino, 2020. "Shelving or developing? The acquisition of potential competitors under financial constraints," Economics Working Papers 1735, Department of Economics and Business, Universitat Pompeu Fabra.
    9. Debarati Ghosh & Meghna Dutta, 2023. "Credit Constraints and Increased Firm-Level Production Fragmentation: Evidence from India," Global Journal of Emerging Market Economies, Emerging Markets Forum, vol. 15(1), pages 93-108, January.
    10. Dan Bernhardt & Mahdi Rastad, 2016. "Collusion Under Risk Aversion and Fixed Costs," Journal of Industrial Economics, Wiley Blackwell, vol. 64(4), pages 808-834, December.
    11. Lømo, Teis Lunde, 2015. "Risk sharing mitigates opportunism in vertical contracting," Working Papers in Economics 10/15, University of Bergen, Department of Economics.

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    More about this item

    JEL classification:

    • G32 - Financial Economics - - Corporate Finance and Governance - - - Financing Policy; Financial Risk and Risk Management; Capital and Ownership Structure; Value of Firms; Goodwill
    • L14 - Industrial Organization - - Market Structure, Firm Strategy, and Market Performance - - - Transactional Relationships; Contracts and Reputation
    • L16 - Industrial Organization - - Market Structure, Firm Strategy, and Market Performance - - - Industrial Organization and Macroeconomics; Macroeconomic Industrial Structure

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