The Downstream Channel of Financial Constraints and the Amplification of Aggregate Downturns

Abstract

We identify a novel channel through which financial constraints propagate in the production chain. Exploiting recent developments on production network data of US-listed firms, we show that firms experience greater valuation losses during industry downturns when their suppliers are financially constrained. Our baseline downstream amplification effect corresponds to roughly 60% of the horizontal amplification documented in the literature. We find stronger impacts of downturns when: (i) suppliers are more constrained; (ii) firms depend more on specific inputs; and (iii) suppliers are more concentrated. The effects are attenuated or muted at high levels of downstream firms' accounts payable and upstream firms' accounts receivable, suggesting trade credit as a mechanism through which the downstream channel operates. Our findings uncover two network implications of financing constraints: a more severe contagion of negative shocks through supplier-customer links and an amplification of downstream industries' aggregate valuation losses.