Weathering the Storm: Supply Chains and Climate Risk

Abstract

We characterize how firms structure supply chains under climate risk. Using new data on the universe of firm-to-firm transactions from an Indian state, we show that firms diversify sourcing locations, and that suppliers exposed to climate risk charge lower prices. We develop a general equilibrium spatial model of firm input sourcing under climate risk. Firms diversify identical inputs from suppliers across space, trading off the probability of climate disruptions against higher input costs. We quantify the model using data on 271 Indian regions. Wages are inversely correlated with sourcing risk, giving rise to a cost minimization-resilience tradeoff. Supply chain diversification unambiguously reduces real wage volatility, but ambiguously affects their levels, as diversification may come with high input costs. While diversification mitigates climate risk, it exacerbates the distributional consequences of climate change by reducing wages in regions prone to frequent shocks.

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