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Ensuring Sales: A Theory of Inter-firm Credit

Author

Listed:
  • Arup Daripa
  • Jeffrey Nilsen

Abstract

We propose a simple theory to account for the prevalence of interfirm credit at an interest rate of zero. A downstream firm trades off inventory holding costs against lost sales. Lost final sales impose a negative externality on the upstream firm. The solution requires a subsidy limited by the value of inputs. Allowing the downstream firm to pay with a delay is precisely such a solution. A reverse externality accounts for the use of prepayment. We clarify how input prices vary with such policies, and when trade credit/prepayment is more efficient than pure input price adjustments. (JEL D21, D62, D92, G31, L25)

Suggested Citation

  • Arup Daripa & Jeffrey Nilsen, 2011. "Ensuring Sales: A Theory of Inter-firm Credit," American Economic Journal: Microeconomics, American Economic Association, vol. 3(1), pages 245-279, February.
    • Handle: RePEc:aea:aejmic:v:3:y:2011:i:1:p:245-79
    Note: DOI: 10.1257/mic.3.1.245
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    References listed on IDEAS

    as
    1. 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.
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    6. Chee K. Ng & Janet Kiholm Smith & Richard L. Smith, 1999. "Evidence on the Determinants of Credit Terms Used in Interfirm Trade," Journal of Finance, American Finance Association, vol. 54(3), pages 1109-1129, June.
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    Full references (including those not matched with items on IDEAS)

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    More about this item

    JEL classification:

    • D21 - Microeconomics - - Production and Organizations - - - Firm Behavior: Theory
    • D62 - Microeconomics - - Welfare Economics - - - Externalities
    • D92 - Microeconomics - - Micro-Based Behavioral Economics - - - Intertemporal Firm Choice, Investment, Capacity, and Financing
    • G31 - Financial Economics - - Corporate Finance and Governance - - - Capital Budgeting; Fixed Investment and Inventory Studies
    • L25 - Industrial Organization - - Firm Objectives, Organization, and Behavior - - - Firm Performance

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