Pulp Friction: The Value of Quantity Contracts in Decentralized Markets

Abstract

Firms in decentralized markets often trade using quantity contracts, agreements that specify quantity prior to the point of sale. These contracts are valuable because they provide quantity assurance, as trading frictions could prevent a buyer and seller from matching in the spot market. However, quantity contracts prevent sellers from optimally allocating production across buyers after market conditions realize. Using proprietary invoice data, we estimate a model of quantity contracts in the pulp and paper industry. The average value of a quantity contract is 10% of profits, but would be 55% larger if sellers could optimally allocate production after market conditions realize.

Keywords: Decentralized markets, contracts, trading frictions

JEL Classification: L14, L22, D23, L73