Connected for Better or Worse? The Role of Production Networks in Financial Crises

We study how production networks shape the severity of Sudden Stops. We build a small open economy model with collateral constraints and input–output linkages, derive a sufficient statistic that maps network structure onto the amplification of tradable shocks, and show that a planner optimally introduces sectoral wedges to reduce amplification. Using OECD input-output data and Sudden Stop episodes, we document systematic network differences between emerging and advanced economies and show they predict crisis severity. A calibrated three-sector DSGE model disciplined by these differences reveals that endowing an advanced economy with an emerging-market production network moves most of the way toward the observed emerging–advanced Sudden Stop gap.