Real Price Rigidity and Investment Irreversibility in Customer Markets: Evidence From Credit Supply Shocks (Job Market Paper)
This paper argues that investment irreversibility leads to greater real price rigidity by strengthening the customer-market incentive. In a simple model, predictable demand from a customer base insures firms against future losses after bad demand shocks due to irreversible capital. Thus, firms with more irreversible capital forgo profits today by selling more output to invest in a larger customer base. But when financial constraints tighten and make current profits more valuable, these firms reduce customer investment more sharply, which puts more upward pressure on prices and markups. This behavior makes markups more countercyclical and thus causes greater real price rigidity. I find evidence consistent with this prediction using producer price microdata and the bankruptcy of Lehman Brothers as a natural experiment in the credit supplied to firms. After credit contractions, firms in low-irreversibility industries cut prices while firms in high-irreversibility industries do not. Consistent with differences in customer-market incentives, markups also rise temporarily in high-irreversibility industries relative to low-irreversibility industries. A back-of-the-envelope exercise implies that credit contractions lower aggregate prices by almost 40% less than if prices in all industries responded like prices in the least irreversible industry.
Belief Disagreement in Production Networks
This paper studies the macroeconomic impact of belief disagreement between firms in different sectors of a production network when firms choose labor quantities before sectoral TFP disturbances are realized. Belief disagreement can reduce aggregate output by causing firms and their suppliers to both cut labor demand. This result works through supply-chain spillovers between firms and their suppliers. A hypothetical vignette experiment run on U.S. small businesses provides empirical evidence that disagreement between firms and their suppliers can affect firms’ own price and input decisions.