Completely Relationship-Specific Investments, Transaction Costs, and the Property Rights Theory

Schmitz, Patrick W. (2023): Completely Relationship-Specific Investments, Transaction Costs, and the Property Rights Theory. Published in: Economics Letters , Vol. 226, No. 111103 (2023)

Abstract

In the property rights approach to the theory of the firm, ownership matters if parties have to make partly relationship-specific investments, but ownership would be irrelevant if the investments were completely relationship-specific. We show that if negotiations after the investment stage require transaction costs to be paid, then ownership matters even when investments are completely relationship-specific. While in the standard model without transaction costs there are underinvestments compared to the first-best benchmark, in our setting a party may overinvest in order to induce the other party to incur the transaction costs that are necessary to enter the negotiation stage.

• Item Type: MPRA Paper
• Language: English
• Keywords: incomplete contracts; investment incentives; ownership rights; relationship specificity; transaction costs
• Subjects: D - Microeconomics > D2 - Production and Organizations > D23 - Organizational Behavior ; Transaction Costs ; Property Rights; D - Microeconomics > D8 - Information, Knowledge, and Uncertainty > D86 - Economics of Contract: Theory

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