Uncertainty and Specific Investment with Weak Contract Enforcement
AbstractThe relationship between price uncertainty and specific investment is examined in a dynamic model that integrates the theories of real options and investment holdup. Because of weak contract enforcement, bilateral firms cannot use a contract to govern their bilateral investment and exchange relationship. These firms instead rely on an implicit self-enforcing agreement, and they reduce the investment distortion by negotiating an ex ante transfer (i.e., the investment expense of one firm is partially paid for by the other firm). In the absence of uncertainty, the ex ante transfer ensures that investment hold-up is fully eliminated. Our main result is that uncertainty introduces an inefficiency into the ex ante transfer bargaining game, which in turn causes an inefficiently long delay in investment. This linkage between higher uncertainty and longer inefficient investment delay has particular relevance for developing and transition economies where high uncertainty and weak contract enforcement is common.
Download InfoIf you experience problems downloading a file, check if you have the proper application to view it first. In case of further problems read the IDEAS help page. Note that these files are not on the IDEAS site. Please be patient as the files may be large.
Bibliographic InfoPaper provided by American Agricultural Economics Association (New Name 2008: Agricultural and Applied Economics Association) in its series 2006 Annual meeting, July 23-26, Long Beach, CA with number 21044.
Date of creation: 2006
Date of revision:
Contact details of provider:
Postal: 555 East Wells Street, Suite 1100, Milwaukee, Wisconsin 53202
Phone: (414) 918-3190
Fax: (414) 276-3349
Web page: http://www.aaea.org
More information through EDIRC
Risk and Uncertainty;
Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.:
- Ron Sanchez, 2003. "Integrating transaction costs theory and real options theory," Managerial and Decision Economics, John Wiley & Sons, Ltd., vol. 24(4), pages 267-282.
- Oliver Hart & Sanford Grossman, 1985.
"The Costs and Benefits of Ownership: A Theory of Vertical and Lateral Integration,"
372, Massachusetts Institute of Technology (MIT), Department of Economics.
- Grossman, Sanford J & Hart, Oliver D, 1986. "The Costs and Benefits of Ownership: A Theory of Vertical and Lateral Integration," Journal of Political Economy, University of Chicago Press, vol. 94(4), pages 691-719, August.
- Grossman, Sanford J. & Hart, Oliver D., 1986. "The Costs and Benefits of Ownership: A Theory of Vertical and Lateral Integration," Scholarly Articles 3450060, Harvard University Department of Economics.
- Grossman, Sanford J & Hart, Oliver, 1985. "The Cost and Benefits of Ownership: A Theory of Vertical and Lateral Integration," CEPR Discussion Papers 70, C.E.P.R. Discussion Papers.
- Svensson, Jakob, 1998. "Investment, property rights and political instability: Theory and evidence," European Economic Review, Elsevier, vol. 42(7), pages 1317-1341, July.
- Le Khuong Ninh & Niels Hermes & Ger Lanjouw, 2004. "Investment, uncertainty and irreversibility," The Economics of Transition, The European Bank for Reconstruction and Development, vol. 12(2), pages 307-332, 06.
- Donald B. Hausch & Yeon-Koo Che, 1999.
"Cooperative Investments and the Value of Contracting,"
American Economic Review,
American Economic Association, vol. 89(1), pages 125-147, March.
- Enrico Pennings & Carlo Altomonte, 2006.
"The Hazard Rate of Foreign Direct Investment: A Structural Estimation of a Real-option Model,"
Oxford Bulletin of Economics and Statistics,
Department of Economics, University of Oxford, vol. 68(5), pages 569-593, October.
- Carlo Altomonte & Enrico Pennings, 2004. "The Hazard Rate of Foreign Direct Investment: A Structural Estimation of a Real Option Model," Working Papers 259, IGIER (Innocenzo Gasparini Institute for Economic Research), Bocconi University.
- Hardman Moore, John & Hart, Oliver, 1985.
"Incomplete Contracts and Renegotiation,"
CEPR Discussion Papers
60, C.E.P.R. Discussion Papers.
- David De Meza & Ben Lockwood, 1998. "Does Asset Ownership Always Motivate Managers? Outside Options And The Property Rights Theory Of The Firm," The Quarterly Journal of Economics, MIT Press, vol. 113(2), pages 361-386, May.
- Tirole, Jean, 1986.
"Procurement and Renegotiation,"
Journal of Political Economy,
University of Chicago Press, vol. 94(2), pages 235-59, April.
- Klein, Benjamin & Crawford, Robert G & Alchian, Armen A, 1978. "Vertical Integration, Appropriable Rents, and the Competitive Contracting Process," Journal of Law and Economics, University of Chicago Press, vol. 21(2), pages 297-326, October.
- Coricelli, Fabrizio & Ianchovichina, Elena, 2004. "Managing Volatility in Transition Economies: The Experience of the Central and Eastern European Countries," CEPR Discussion Papers 4413, C.E.P.R. Discussion Papers.
- Ariel Rubinstein, 2010.
"Perfect Equilibrium in a Bargaining Model,"
Levine's Working Paper Archive
661465000000000387, David K. Levine.
- Schnitzer, Monika, 1998.
"Expropriation and Control Rights: A Dynamic Model of Foreign Direct Investment,"
CEPR Discussion Papers
1891, C.E.P.R. Discussion Papers.
- Schnitzer, Monika, 1999. "Expropriation and control rights: A dynamic model of foreign direct investment," International Journal of Industrial Organization, Elsevier, vol. 17(8), pages 1113-1137, November.
- Smirnov, Vladimir & Wait, Andrew, 2004.
"Timing of investments, holdup and total welfare,"
International Journal of Industrial Organization,
Elsevier, vol. 22(3), pages 413-425, March.
- Yeon-Koo Che & Jozsef Sakovics, 2004.
"A Dynamic Theory of Holdup,"
ESE Discussion Papers
74, Edinburgh School of Economics, University of Edinburgh.
- Simon Johnson & John McMillan & Christopher Woodruff, 2002.
"Property Rights and Finance,"
NBER Working Papers
8852, National Bureau of Economic Research, Inc.
- Dries, Liesbeth & Swinnen, Johan F. M., 2004. "Foreign Direct Investment, Vertical Integration, and Local Suppliers: Evidence from the Polish Dairy Sector," World Development, Elsevier, vol. 32(9), pages 1525-1544, September.
- Pitchford, Rohan & Snyder, Christopher M., 2004. "A solution to the hold-up problem involving gradual investment," Journal of Economic Theory, Elsevier, vol. 114(1), pages 88-103, January.
- McDonald, Robert & Siegel, Daniel, 1986. "The Value of Waiting to Invest," The Quarterly Journal of Economics, MIT Press, vol. 101(4), pages 707-27, November.
- Williamson, Oliver E, 1983. "Credible Commitments: Using Hostages to Support Exchange," American Economic Review, American Economic Association, vol. 73(4), pages 519-40, September.
- Koss, P. A. & Eaton, B. Curtis, 1997. "Co-specific investments, hold-up and self-enforcing contracts," Journal of Economic Behavior & Organization, Elsevier, vol. 32(3), pages 457-470, March.
For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: (AgEcon Search).
If references are entirely missing, you can add them using this form.