Optimal Capital Structure, Relation-Specific Investment, and Supplier Competition

A firm's leverage increases its bargaining power against its suppliers and reduces suppliers' relation-specific investment, and so does competition among suppliers. We explore the interaction between leverage and supplier competition, and find that firm leverage decreases with the degree of competition among suppliers. Specifically, leverage is decreasing in the elasticity of substitution between suppliers. Leverage also decreases with the number of suppliers when the elasticity of substitution is high, and increases with the number of suppliers when the elasticity is low. We also compare the leverage choice of the firm when the firm has no market power in its input market, and when the firm is integrated with all upstream suppliers. We find that the competitive firm and the integrated firm both have lower leverage. Moreover, the integrated firm makes more investment