CFCM Seminar: Daniel Xu (Duke University)

O-Ring Production Networks (with Banu Demir, Ana Cecilia Fieler and Kelly Kaili Yang)

Abstract:   We study a production network where quality choices are interconnected across firms. High-quality firms are skill intensive and disproportionately source inputs from and sell output to other high-quality firms. Consistent with the theory, we document strong assortative matching of skills in the network of Turkish manufacturing firms. In the data, a firm-specific trade shock from a rich country increases the firm's skill intensity and shifts the firm toward skill-intensive domestic partners. We develop a quantitative model with heterogeneous firms, endogenous quality choices, and network formation. Parameter estimates indicate strong complementarity of quality in production. A common export demand shock of 5% would induce broad quality upgrading among both exporters and domestic firms, raising average wage by 1:2%. The foreign demand for higher quality is magnifi in general equilibrium because the larger presence of high-quality firms in the production network makes it more profitable for other firms to upgrade.