E2026009                                                           2026-05-19

Haoxuan Su  Anxu Wang  Yang Yao

Abstract
We examine how financial shocks propagate through production networks via trade credit— a major but understudied transmission channel. We exploit China’s 2021 "Three Red Lines" policy, which imposed leverage constraints on real estate developers, as a quasi-natural experiment. Combining firm-level financial data with input-output network structure, we document significant and persistent spillover effects: firms more exposed to real estate through trade credit channels experienced declines in cash holdings, sales, and assets that persist for over three years. Evidence from both sides of the trade credit relationship—increased payment delays by constrained real estate firms and rising receivables at their suppliers—identifies trade credit as the operative transmission channel. To formalize this mechanism, we develop a tractable production network model in which trade credit terms are endogenously determined by firms’ financing decisions. The calibrated model generates a GDP trough of −4.7% with output losses persisting over four years, driven primarily by upstream propagation through trade credit. The model matches 95% of the empirically implied loss, versus only 56% when trade credit is held fixed. The framework is portable to other settings where sector-specific financial regulation interacts with production networks.

Keywords: Trade credit, production networks, financial shocks, real estate, China

JEL Codes: E32, E44, G28, L14

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