Staff Reports
Firm-to-Firm Relationships and the Pass-Through of Shocks: Theory and Evidence
Number 896
August 2019

JEL classification: E30, E32, F14, L14

Authors: Sebastian Heise

Economists have long suspected that firm-to-firm relationships might lower the responsiveness of prices to shocks due to the use of fixed-price contracts. Using transaction-level U.S. import data, I show that the pass-through of exchange rate shocks in fact rises as a relationship grows older. Based on novel stylized facts about a relationship’s life cycle, I develop a model of relationship dynamics in which a buyer-seller pair accumulates relationship capital to lower production costs under limited commitment. The structurally estimated model generates countercyclical markups and countercyclical pass-through of shocks through variation in the economy’s rate of relationship creation, which falls in recessions.

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AUTHOR DISCLOSURE STATEMENT(S)
Sebastian Heise
The author declares that he has no relevant or material financial interests that relate to the research described in this paper. The paper has been supported by a dissertation improvement grant by the National Science Foundation under Grant Number 1427027. The empirical work has been completed under Special Sworn Status with the U.S. Census Bureau. Prior to circulation, this paper was reviewed in accordance with the Federal Reserve Bank of New York review policy, available at https://www.newyorkfed.org/research/staff_reports/index.html.