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Asset Specificity, Long-Term Contracts, and the Good Faith Requirement

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  • Donald Vandegrift

    (College of New Jersey)

Abstract

This paper analyzes the effect of court intervention on the choice between contracts and vertical integration when a specialized investment is required for least-cost production. It shows that: 1) differences in subjective probability estimates of the future bargaining power may cause the parties to contract when they should integrate and vice versa; 2) court intervention in the form of the good faith requirement improves efficiency by reducing the degree to which a shift in bargaining power allows a contractor to take a larger share of the gains to the contract and by compensating for differences in expected bargaining power; and 3) as the average difference between the buyer's and seller's estimates of future bargaining power increase, the net benefits of the good faith requirement rise.

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File URL: http://college.holycross.edu/RePEc/eej/Archive/Volume24/V24N4P475_493.pdf
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Bibliographic Info

Article provided by Eastern Economic Association in its journal Eastern Economic Journal.

Volume (Year): 24 (1998)
Issue (Month): 4 (Fall)
Pages: 475-493

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Handle: RePEc:eej:eeconj:v:24:y:1998:i:4:p:475-493

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Postal: c/o Dr. Alexandre Olbrecht, The Anisfield School of Business 205, Ramapo College, 505 Ramapo Valley Road, Ramapo, New Jersey 07430, USA
Phone: (201) 684-7346
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Web page: http://www.ramapo.edu/eea/journal.html
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Keywords: Contracts; Vertical Integration;

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