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Risk sharing mitigates opportunism in vertical contracting

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Abstract

I study one manufacturer that contracts secretly with two risk averse retailers that face uncertain demand. The need for risk sharing limits the manufacturer’s scope for opportunistic deviations. If retail competition is fierce, the manufacturer’s profit increases with the levels of risk aversion and uncertainty, i.e., there is no trade-off between risk sharing and industry efficiency. The results are consistent with stylized facts from empirical and experimental research on vertical relations, including the negative correlation between vertical integration and uncertainty.

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  • Lømo, Teis Lunde, 2015. "Risk sharing mitigates opportunism in vertical contracting," Working Papers in Economics 10/15, University of Bergen, Department of Economics.
    • Handle: RePEc:hhs:bergec:2015_010
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    More about this item

    Keywords

    Vertically related markets; contracting externalities; imperfect information; risk sharing;
    All these keywords.

    JEL classification:

    • D81 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Criteria for Decision-Making under Risk and Uncertainty
    • L14 - Industrial Organization - - Market Structure, Firm Strategy, and Market Performance - - - Transactional Relationships; Contracts and Reputation
    • L42 - Industrial Organization - - Antitrust Issues and Policies - - - Vertical Restraints; Resale Price Maintenance; Quantity Discounts
    • L60 - Industrial Organization - - Industry Studies: Manufacturing - - - General
    • L81 - Industrial Organization - - Industry Studies: Services - - - Retail and Wholesale Trade; e-Commerce

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