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On the strategic value of risk management

Listed author(s):
  • Léautier, Thomas-Olivier
  • Rochet, Jean-Charles

This article examines how firms facing volatile input prices and holding some degree of market power in their product market link their risk management and their production or pricing strategies. This issue is relevant in many industries ranging from manufacturing to energy retailing, where risk averse firms decide on their hedging strategies before their product market strategies. We find that hedging modifies the pricing and production strategies of firms. This strategic effect is channelled through the risk-adjusted expected cost, i.e., the expected marginal cost under the probability measure induced by shareholders' risk aversion. It has opposite effects depending on the nature of product market competition: hedging toughens quantity competition while it softens price competition. Finally, if firms can decide not to commit on their hedging position, this can never be an equilibriumoutcome: committing is always a best response to non committing. In the Hotelling model, committing is a dominant strategy for all firms.

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File URL: http://www.tse-fr.eu/sites/default/files/medias/doc/wp/io/wp_tse_433.pdf
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Paper provided by Toulouse School of Economics (TSE) in its series TSE Working Papers with number 13-433.

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Date of creation: 14 Sep 2013
Publication status: Published in International Journal of Industrial Organization, vol. 37, novembre 2014, p. 153-169.
Handle: RePEc:tse:wpaper:27644
Contact details of provider: Phone: (+33) 5 61 12 86 23
Web page: http://www.tse-fr.eu/

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