Specificity Revisited: The Role of Cross-Investments
AbstractPrevious analysis has shown that traders may opt for specific technologies with no joint productivity advantage as a way to commit themselves to trading jointly, but only when long-term contracting is infeasible. This paper proves that specificity can also be optimal (since it relaxes the budget balance constraint) in settings with long-term contracting. Traders will opt for specificity when one trader makes a cross-investment and either (1) this cross-investment has a direct externality on the other trader, (2) both parties invest or (3) private information is present. The specificity (e.g. from non-salvageable investments, specific assets and technologies, narrow business strategies, and exclusivity restrictions) is equally effective regardless of which trader's alternative trade payoff is reduced. Specificity supports long-term contracts in a broad range of settings - both with and without renegotiation. The theory also offers a novel perspective on franchising and vertical integration. Copyright 2006, Oxford University Press.
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Bibliographic InfoArticle provided by Oxford University Press in its journal The Journal of Law, Economics, and Organization.
Volume (Year): 22 (2006)
Issue (Month): 1 (April)
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Other versions of this item:
- Matthew Ellman, 2004. "Specificity revisited: The role of cross-investments," Economics Working Papers 799, Department of Economics and Business, Universitat Pompeu Fabra, revised Jan 2005.
- Matthew Ellman, 2004. "Specificity Revisited: The Role of Cross-Investments," Working Papers 150, Barcelona Graduate School of Economics.
- D23 - Microeconomics - - Production and Organizations - - - Organizational Behavior; Transaction Costs; Property Rights
- K40 - Law and Economics - - Legal Procedure, the Legal System, and Illegal Behavior - - - General
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