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On the strategic value of risk management

Thomas-Olivier Léautier and Jean Rochet

No 797, IDEI Working Papers from Institut d'Économie Industrielle (IDEI), Toulouse

Abstract: This article examines how firms facing volatile input prices and holding some degree of market power in their product market link their risk management and their production or pricing strategies. This issue is relevant in many industries ranging from manufacturing to energy retailing, where risk averse firms decide on their hedging strategies before their product market strategies. We find that hedging modifies the pricing and production strategies of firms. This strategic effect is channelled through the risk-adjusted expected cost, i.e., the expected marginal cost under the probability measure induced by shareholders' risk aversion. It has opposite effects depending on the nature of product market competition: hedging toughens quantity competition while it softens price competition. Finally, if firms can decide not to commit on their hedging position, this can never be an equilibriumoutcome: committing is always a best response to non committing. In the Hotelling model, committing is a dominant strategy for all firms.

Keywords: Risk Management; Price and Quantity Competition (search for similar items in EconPapers)
Date: 2013-09
New Economics Papers: this item is included in nep-com and nep-rmg
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Related works:
Journal Article: On the strategic value of risk management (2014) Downloads
Working Paper: On the Strategic Value of Risk Management (2013) Downloads
Working Paper: On the strategic value of risk management (2013) Downloads
Working Paper: On the strategic value of risk management (2012) Downloads
Working Paper: On the strategic value of risk management (2012) Downloads
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