Supply Network Formation and Fragility
56 Pages Posted: 23 Feb 2020 Last revised: 13 Apr 2020
Date Written: April 9, 2020
We model the production of complex goods in a large supply network. Firms source several essential inputs through relationships with other firms. Due to the risk of such supply relationships being idiosyncratically disrupted, firms multisource inputs and invest to make relationships with suppliers stronger. In equilibrium, aggregate production is robust to idiosyncratic disruptions. However, depending on parameters, the supply network may be robust or arbitrarily sensitive to small aggregate shocks that affect the functioning of relationships. We give conditions under which the equilibrium network is driven to a fragile configuration, where arbitrarily small aggregate shocks cause discontinuous losses. We use the model to provide a unified account of a number of stylized facts about complex economies.
Keywords: network formation, fragility, reliability, robustness
JEL Classification: D85
Suggested Citation: Suggested Citation