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Production Networks and Stock Returns: The Role of Vertical Creative Destruction

Author

Listed:
  • Michael Gofman
  • Gill Segal
  • Youchang Wu
  • Stijn Van Nieuwerburgh

Abstract

We examine empirically and theoretically the relation between firms’ risk and distance to consumers in a production network. We document two novel facts: firms farther away from consumers have higher risk premiums and higher exposure to aggregate productivity. We quantitatively explain these findings using a general equilibrium model featuring a multilayer production process. The economic force is “vertical creative destruction,” that is, positive productivity shocks to suppliers devalue customers’ assets-in-place, thereby lowering the cyclicality of downstream firms’ values. We show that vertical creative destruction varies with competition and firm characteristics and generates sizable cross-sectional differences in risk premiums.

Suggested Citation

  • Michael Gofman & Gill Segal & Youchang Wu & Stijn Van Nieuwerburgh, 2020. "Production Networks and Stock Returns: The Role of Vertical Creative Destruction," The Review of Financial Studies, Society for Financial Studies, vol. 33(12), pages 5856-5905.
    • Handle: RePEc:oup:rfinst:v:33:y:2020:i:12:p:5856-5905.
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    File URL: http://hdl.handle.net/10.1093/rfs/hhaa034
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    More about this item

    JEL classification:

    • G12 - Financial Economics - - General Financial Markets - - - Asset Pricing; Trading Volume; Bond Interest Rates
    • L14 - Industrial Organization - - Market Structure, Firm Strategy, and Market Performance - - - Transactional Relationships; Contracts and Reputation
    • L23 - Industrial Organization - - Firm Objectives, Organization, and Behavior - - - Organization of Production
    • O33 - Economic Development, Innovation, Technological Change, and Growth - - Innovation; Research and Development; Technological Change; Intellectual Property Rights - - - Technological Change: Choices and Consequences; Diffusion Processes

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