Working Paper: CEPR ID: DP2558
Authors: Rudolf Kerschbamer; Nina Maderner; Yanni Tournas
Abstract: This paper adopts the incomplete contracting perspective to study a firm?s continuous choice between producing an essential input in-house (full integration), contracting part of the production out (tapered integration), and contracting all of the production out (non-integration), when (i) an idiosyncratic capacity investment is required to produce the essential input and (ii) under non-integration, outside opportunities are better. We show that the firm?s boundary choice depends crucially on its commitment power. If the firm can pre-commit to a particular provision mode, tapered integration will be chosen more frequently. Also, with commitment power the firm will never subcontract only a small portion of its input needs.In-house capacity is in general smaller and outside capacity larger if the firm can pre-commit. Total capacity is never larger in the commitment than the non-commitment case.
Keywords: boundary choice; incomplete contracts; relation-specific investment; transaction costs
JEL Codes: C23; L14; L22; L23
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| commitment power (D70) | firm's boundary choice (L21) |
| precommitment to provision mode (D70) | tapered integration choice (F15) |
| lack of commitment (J22) | reliance on outside suppliers (L14) |
| commitment (D70) | total capacity decisions (D25) |