Risk-Aversion Happens: Why Risk-Neutral Manufacturers Ought to Hedge Commodity Material Purchases
Speaker
Abstract
| We study a linear two-stage supply chain made up of a profit-maximizing supplier (component manufacturer) selling to a profit-maximizing manufacturer (intermediate or final good assembler). Both firms rely on credit, require commodity inputs and face some operational and financial frictions. Although both firms are risk-neutral, we find that they both have an economic incentive to hedge their commodity material purchases after agreeing on a wholesale contract (ex post). If hedging increases assembler's price elasticity of demand then both firms do even better by hedging before agreeing on a wholesale contract (ex ante). A dominating wholesale contract involves hedging ex ante and centralizing commodity material purchases for the entire supply chain at the downstream. The empirical implication of this finding is that the downstream firm, the assembler, has an economic incentive to hedge and coordinate raw material procurement in the entire supply chain. |
| Contact information: |
| Dr. N. Mishra |
