Global production planning under exchange-rate uncertainty

Motivated by an aggregate production-planning problem in an actual global manufacturing network, we examine the impact of exchange-rate uncertainty on the choice of optimal production policies when the allocation decision can be deferred until the realization of exchange rates. This leads to the formulation of the problem as a two-stage recourse program whose optimal policy structure features two forms of flexibility denoted as operational hedging: (1) production hedging, where the firm deliberately produces less than the total demand; and (2) allocation hedging, where due to unfavorable exchange rates, some markets are not served despite having unused production. Our characterization of the optimal policy structure leads to an economic valuation of production and allocation hedging. We show that the prevalence of production hedging is moderated by the degree of correlation between exchange rates. A comprehensive examination under the following four generalized settings provides the depth, scope, and relevancy that our proposed operational hedges play to facilitate aggregate planning: (1) multiple periods, (2) demand uncertainty, (3) price setting or monopolistic pricing, and (4) price setting under demand uncertainty. We show that production and allocation hedging are robust for these generalizations and should be integrated into the overall aggregate planning strategy of a global manufacturing firm.