Navigating Supply Shocks: Sector Resilience and Production Prices Through Stochastic Input–Output Modeling

Abstract

This study develops a novel multivariate stochastic framework for assessing systemic risks, such as climate and nature‐related shocks, within production or financial networks. By embedding a linear stochastic fluid network, interpretable as a generalized vector Ornstein–Uhlenbeck process, into the production network of interdependent industries, the model captures how physical shocks (e.g., extreme climate events or geopolitical disruptions) propagate through input–output (IO) linkages and affect sectoral price dynamics. The framework extends traditional IO models with advanced stochastic and dynamic features, enabling a quantification of both direct and indirect transmission channels of supply‐cost shocks to production prices. Contributing to the literature on stochastic IO and Markovian networks, the model introduces the concept of divisible shocks, allowing for finer‐grained simulation of adaptation responses and resilience across sectors. Empirical calibration leverages real‐world economic data, including IO tables and historical industrial price indices. Sensitivity analyses are conducted using distributional risk measures, offering new tools for climate stress testing and medium to long‐term risk assessment. Our findings support the optimal design of supply risk management strategies, including policy interventions and decentralized adaptation incentives for systemic stability under environmental stress.