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Strategic Spot Trading in Supply Chains

Author

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  • Haim Mendelson

    () (Graduate School of Business, Stanford University, 518 Memorial Way, Stanford, California 94305-5015)

  • Tunay I. Tunca

    () (Graduate School of Business, Stanford University, 518 Memorial Way, Stanford, California 94305-5015)

Abstract

In a variety of industries ranging from agriculture to electronics and oil, procurement takes place through a combination of bilateral fixed-price contracts and open market trading among supply chain participants, which allows them to improve supply chain performance by utilizing new demand and cost information. The strategic behavior of the participants in these markets interacts with the way fixed-price contracts are formulated and significantly affects supply chain efficiency. In this paper, we develop a strategic model that allows endogenous price formation in an industrial spot market where supply chain participants have private information. Utilizing the model, we analyze the equilibrium of a dynamic game between a single supplier and multiple manufacturers who first contract with the supplier at a fixed price and then trade on a spot market. We study how such trading affects supply chain performance and show that it does not eliminate fixed-price contracting even though the fixed price is determined under inferior information. We find that it reduces prices, increases the quantities produced, and improves supply chain profits and consumer surplus. However, depending on the information structure of the supply chain, spot trading may make either the supplier or the manufacturers worse off. Our results show how the informational regime affects the profitability of supply chain participants and the allocation of quantities between the procurement venues. We show that beyond a threshold level, the effect of increasing supply uncertainty, or decreasing either the demand uncertainty or the information asymmetry among the manufacturers, is to increase the percentage procured on the spot market as well as the overall quantity procured and sold, and to decrease prices. As the number of manufacturers increases, procurement shifts from fixed-price contracting to spot trading and in the limit, the supply chain is both fully coordinated and informationally efficient. We also show that in many cases, the supplier may gain strategic advantage by sharing some of her cost information with the manufacturers.

Suggested Citation

  • Haim Mendelson & Tunay I. Tunca, 2007. "Strategic Spot Trading in Supply Chains," Management Science, INFORMS, vol. 53(5), pages 742-759, May.
  • Handle: RePEc:inm:ormnsc:v:53:y:2007:i:5:p:742-759
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    File URL: http://dx.doi.org/10.1287/mnsc.1060.0649
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    References listed on IDEAS

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    Citations

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    Cited by:

    1. Chen, Jen-Yi & Dada, Maqbool & Hu, Qiaohai (Joice), 2017. "Flexible procurement contracts for competing retailers," European Journal of Operational Research, Elsevier, vol. 259(1), pages 130-142.
    2. Onur Boyabatlı & Paul R. Kleindorfer & Stephen R. Koontz, 2011. "Integrating Long-Term and Short-Term Contracting in Beef Supply Chains," Management Science, INFORMS, vol. 57(10), pages 1771-1787, October.
    3. Xu, Jinpeng & Feng, Gengzhong & Jiang, Wei & Wang, Shouyang, 2015. "Optimal procurement of long-term contracts in the presence of imperfect spot market," Omega, Elsevier, vol. 52(C), pages 42-52.
    4. Xing, Wei & Liu, Liming & Wang, Shouyang, 2014. "More than a second channel? Supply chain strategies in B2B spot markets," European Journal of Operational Research, Elsevier, vol. 239(3), pages 699-710.
    5. Lode Li & Hongtao Zhang, 2008. "Confidentiality and Information Sharing in Supply Chain Coordination," Management Science, INFORMS, vol. 54(8), pages 1467-1481, August.
    6. Zhao, Xuan & Xing, Wei & Liu, Liming & Wang, Shouyang, 2015. "Demand information and spot price information: Supply chains trading in spot markets," European Journal of Operational Research, Elsevier, vol. 246(3), pages 837-849.
    7. Gülpınar, N. & Oliveira, F.S., 2012. "Robust trading in spot and forward oligopolistic markets," International Journal of Production Economics, Elsevier, vol. 138(1), pages 35-45.
    8. Jiri Chod & David Pyke & Nils Rudi, 2010. "The Value of Flexibility in Make-to-Order Systems: The Effect of Demand Correlation," Operations Research, INFORMS, vol. 58(4-part-1), pages 834-848, August.
    9. Erica L. Plambeck & Terry A. Taylor, 2007. "Implications of Breach Remedy and Renegotiation Design for Innovation and Capacity," Management Science, INFORMS, vol. 53(12), pages 1859-1871, December.
    10. Amar Sapra & Peter L. Jackson, 2013. "On the Equilibrium Behavior of a Supply Chain Market for Capacity," Manufacturing & Service Operations Management, INFORMS, vol. 15(1), pages 132-147, April.
    11. Pamela Pen-Erh Pei & David Simchi-Levi & Tunay I. Tunca, 2011. "Sourcing Flexibility, Spot Trading, and Procurement Contract Structure," Operations Research, INFORMS, vol. 59(3), pages 578-601, June.
    12. Moonsoo Park & Yanhong Jin & Alan Love, 2011. "Dynamic and contemporaneous causality in a supply chain: an application of the US beef industry," Applied Economics, Taylor & Francis Journals, vol. 43(30), pages 4785-4801.
    13. repec:eee:eneeco:v:78:y:2019:i:c:p:598-614 is not listed on IDEAS
    14. Tunca, Tunay I., 2008. "Information precision and asymptotic efficiency of industrial markets," Journal of Mathematical Economics, Elsevier, vol. 44(9-10), pages 964-996, September.
    15. Hyoduk Shin & Tunay I. Tunca, 2010. "Do Firms Invest in Forecasting Efficiently? The Effect of Competition on Demand Forecast Investments and Supply Chain Coordination," Operations Research, INFORMS, vol. 58(6), pages 1592-1610, December.
    16. Tunay I. Tunca & Qiong Wu, 2009. "Multiple Sourcing and Procurement Process Selection with Bidding Events," Management Science, INFORMS, vol. 55(5), pages 763-780, May.
    17. repec:eee:energy:v:145:y:2018:i:c:p:152-170 is not listed on IDEAS

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