An economic analysis of supply chain liability

Abstract

Legislators and regulators around the globe are increasingly seeking to hold multinational companies accountable for human rights and environmental abuses in their supply chains, even when the harm is primarily caused by a subsidiary or business partner. This paper examines such supply chain liability from an economic perspective. It argues that it can be justified when suppliers cannot be expected to respond sufficiently to due diligence incentives, e.g. due to wealth restrictions, information asymmetries or enforcement deficits. However, this requires that the entity to which liability is extended does not suffer from the same problems and that it is able to control the behavior of the entity that is primarily responsible for causing the harm. This is often the case with subsidiaries, but more difficult with independent business partners. Thus, this paper suggests that liability for harm by subsidiaries should be strict, while liability for independent business partners should be based on negligence, i.e. the breach of a duty of supervision or control. However, policymakers should be cautious not to incentivize an inefficient multiplication of due diligence measures without significant benefits in terms of harm prevention. In principle, liability should be extended to other entities only where it can be reasonably assumed that the primarily responsible entity is not responding appropriately to due diligence incentives. In addition, liability should be designed in such a way that it does not invite circumvention, or at least makes it as difficult as possible. Finally, policymakers should seek to ensure that supply chain liability does not have undesirable effects on the global division of labor, which could result in inefficiencies.