Assortative Outsourcing with Exit

Abstract

A general framework is presented that incorporates dynamics and heterogeneity among both upstream suppliers and downstream producers to mimic the exit strategy of Hirschman (1970) in building vertical relations. An assortative matching develops between producers and suppliers based on their level of efficiency, which leads to an increase in the aggregate industrial productivity but also makes the distribution of firms more dispersed. Further experiments suggest that the nature of outsourcing relations is impacted in certain ways by business cycles and technological advancements.