Matt Leduc
IBD Salle 21
AMU - AMSE
5-9 boulevard Maurice Bourdet
13001 Marseille
Ugo Bolletta: ugo.bolletta2[at]unibo.it
Mathieu Faure: mathieu.faure[at]univ-amu.fr
Empirical studies of commercial relationships between firms reveal that (i) suppliers encounter situations in which they can gain in the short run by acting opportunistically---for example, delivering a lower quality than promised after being paid; and (ii) good conduct is sustained not exclusively by formal contracts but through informal relationships and the expectation of future business. In such relationships, the need to offer each supplier a large enough share of future business to deter cheating limits the number of supply relationships each buyer can sustain. The market thus becomes networked, with trade restricted to durable relationships. We propose and analyze a simple dynamic model to examine the structure of such overlapping relational contracts in equilibrium. Due to exogenous stochastic shocks, suppliers are not always able to make good on their promises even if they wish to, and so links are constantly dissolving and new ones are forming to take their place. This induces a Markov process on networks. We study how the stationary distribution over networks depends on the parameters---most importantly, the value of trade and the probability of shocks. When shocks hit a networked market, making it impossible for some suppliers to meet their commitments, a destruction of social capital occurs, and restoring it takes time due to search frictions. This creates a novel way for shocks to be persistent. It also suggests new connections between the theory of relational contracting, on the one hand, and the macroeconomic analysis of recessions, on the other.