Production Networks and War

TL;DR

This paper investigates how war impacts a country's production network, revealing significant direct and indirect effects on trade, network structure, and firm performance using detailed Ukrainian data from the 2014 crisis.

Contribution

It uncovers novel indirect propagation effects of conflict on trade, quantifies structural changes in production networks, and models the endogenous network adjustments post-conflict.

Findings

Trade declines propagate beyond conflict zones, affecting outside partners.

Network centrality increases boost firm revenues during conflict.

Network adjustments recover 80% of lost revenue for median firms.

Abstract

How do severe shocks such as war alter the economy? We study how a country's production network is affected by a devastating but localized conflict. Using unique transaction-level data on Ukrainian railway shipments around the start of the 2014 Russia-Ukraine crisis, we uncover several novel indirect effects of conflict on firms. First, we document substantial propagation effects on interfirm trade--trade declines even between partners outside the conflict areas if one of them had traded with those areas before the conflict events. The magnitude of such second-degree effect of conflict is one-fifth of the first-degree effect. Ignoring this propagation would lead to an underestimate of the total impact of conflict on trade by about 67\%. Second, war induces sudden changes in the production-network structure that influence firm performance. Specifically, we find that firms that exogenously became more central--after the conflict practically cut off certain regions from the rest of Ukraine--received a relative boost to their revenues. Finally, in a production-network model, we separately estimate the effects of the exogenous firm removal and the subsequent endogenous network adjustment on firm revenue distribution. For a median firm, network adjustment compensates for 80\% of the network destruction a year after the conflict onset.