Notes

Outline

Composite quasirent.

Asset specificity. The “fundamental transformation.” Incentives change once the contract is signed. One party may have an incentive to “hold up” the other. Transfer some of the quasirents of cooperation.

Asset specificity. One party owns a generic asset. High value outside of the transaction (next best use). The other party owns a highly specific asset. Low value outside the transaction. Next best use is as a boat anchor. Assume also that parties cannot recontract until “next season.”

Asset specificity. Cooperation nets $50,000. Agree to split 50/50. Once the contract is signed, the party with the generic asset threatens to pull out of the contract. Demands $49,000 of the quasirents of cooperation. “Post contractual opportunism.”

Asset specificity. Foreseeing such “contractual hazards,” parties will be reluctant to cooperate. Or will choose less specialized but therefore less efficient technology. Vertical integration solves the hold-up problem. The two parties jointly own both assets. Incentives now properly aligned.

Asset specificity. Choice between markets and internal organization. Markets promote high-powered incentives. Markets can aggregate demands and realize economies of scale. But internal organization can sometimes solve problems of opportunism.

Asset specificity.

Asset specificity.

Asset specificity.

Asset specificity.

Asset specificity.

Asset specificity.

Asset specificity.

The hostage model.

The hostage model.

The hostage model.

The hostage model.

The hostage model.

Fisher Body. Fisher Body pioneers closed car body. GM acquires 60 percent of Fisher Body in 1919 and initiates long-term contract. In 1926, GM fully integrates with Fisher. Why?

Fisher Body. Closed bodies required more firm-specific investment than open bodies. Contract worked well until 1925, when GM demand increased. Fisher brothers increased short-term profit by not making new investment. Integration (plus side payments) solved contractual hold-up problem.

Fisher Body. GM was trying to ensure access to specialized human capital. Provisions giving the Fishers power and incentive to hold up ended in 1924. Did the Fisher brothers hold up GM after the merger?