Managing production capacity reserves for emergency supplies: A public-private option contract model with a loss-averse supplier

Abstract

The use of contracts to formalize public-private framework agreements (FAs) for emergency supplies reserves has attracted significant attention. Humanitarian decision-makers (HDMs) are increasingly focused on production capacity reserves besides physical emergency stockpiles. Yet, suppliers cooperating with the HDMs often exhibit diverse behavioral preferences, which may cause their decisions to deviate from perfect rational decision-making. To bridge this gap, this paper considers a loss-averse supplier and builds a model of production capacity reserves, wherein production capacity can be capable of being swiftly converted into tangible products to meet urgent demands. The authority's order quantity of emergency options is determined, as is the supplier's reserve amount of production capacity. A comparative analysis reveals that the loss-averse supplier may exhibit two reservation biases compared to a risk-neutral body, i.e., over- and under-stocking of production capacity. When the aspiration level of unit profit drops below zero, overstocking gradually transitions to understocking as the authority's regular inventory level of emergency supplies lowers. Moreover, we uncover the relationship between the unit cost of booking options and the price of emergency purchases such that the supplier's reserve amount of production capacity matches the authority's order decision. Meanwhile, two specific conditions under which the humanitarian supply chain could achieve coordination are presented. Finally, there exists an optimal reservation price that is agreed on by all humanitarian members and benefits them. Overall, exploring the effects of individual preferences on the stockpiling of emergency production capacity provides significant insights for effectively managing emergency production capacity reserves, maintaining the coordination of the humanitarian system, and screening qualified suppliers.