Evidence on the Importance of Market Competition in Distress Propagation

Winston Dou, Shane Johnson and Wei Wu

No 33463, NBER Working Papers from National Bureau of Economic Research, Inc

Abstract: Using local natural disasters as a quasi-experimental setting, we show that heightened distress risk in shocked firms drives both these firms and their unshocked competitors to cut profit margins by about 0.8 percentage points. These reductions stem from predatory pricing, inventory liquidation, and weakened tacit collusion in product markets. Distress propagates horizontally as unshocked competitors rationally respond almost 1-for-1 with profit-margin cuts, significantly increasing their distress risk. Spillovers are more pronounced in tradable industries or those with higher barriers to leadership, larger inventories, greater price flexibility, or tighter financial constraints, revealing a novel channel for distress propagation across the economy.

JEL-codes: G32 G33 L11 (search for similar items in EconPapers)
Date: 2025-02
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