Financial Constraints and Propagation of Shocks in Production Networks

We examine the propagation of a small unexpected supply shock through a production network and the role financial constraints play in its transmission. Using data on almost all Turkish supplier-customer links, we exploit the heterogeneous impact of an unexpected import-tax increase for identification. We find that this relatively minor shock had a nontrivial economic impact on exposed firms and propagated downstream through affected suppliers. Importantly, we show that low-liquidity firms amplified its transmission.