Resilient-to-Fragile Transition and Excess Volatility in Supply Chain Networks

TL;DR

This paper models supply chain networks showing how inventory levels influence systemic stability, revealing a critical threshold where the economy shifts from resilience to fragility, causing large output fluctuations from small shocks.

Contribution

It introduces a stylized model linking inventory buffers to systemic stability, identifying a critical point and characterizing the transition from resilience to fragility.

Findings

Existence of a critical inventory level for stability.

Sharp increase in output volatility near the critical point.

System exhibits a continuous phase transition from stable to fragile.

Abstract

We study the disequilibrium dynamics of a stylised model of production networks in which firms use perishable and non-substitutable intermediate inputs, so that adverse idiosyncratic productivity shocks can trigger downstream shortages and output losses. To protect against such disruptions, firms hold precautionary inventories that act as buffer stocks. We show that, for a given dispersion of firm-level productivity shocks, there exists a critical level of inventories above which the economy remains in a stable stochastic steady state. Below this critical level, the system becomes fragile, i.e., it becomes prone to system-wide crises. As this resilience-fragility boundary is approached from above, aggregate output volatility rises sharply and diverges, even though shocks are purely idiosyncratic. Because inventories are costly, competitive pressures induce firms to economize on buffers. Although we do not explicitly model such costs, we argue that the resulting behaviour of individual firms drives the system close to criticality, generating persistent excess macroeconomic volatility -- in other words, ``small shocks, large cycles'' -- in line with other settings where efficiency and resilience are in tension with each other. In the language of phase transitions, the resilient-to-fragile transition is continuous (supercritical): the economy exhibits a well-defined stochastic equilibrium with finite volatility on one side of the boundary, while beyond it the probability of a collapse in finite time tends to one. We characterize this transition primarily through numerical simulations and derive an analytical description in a high-perishability, high-connectivity limit.