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Insourcing Vs Outsourcing in Vertical Structure

Author

Listed:
  • Dongsoo Shin

    (Santa Clara University)

  • Roland Strausz

    (HU Berlin)

Abstract

We study an agency model with vertical hierarchy---the principal, the prime-agent and the sub-agent. The principal faces a project that needs both agents' services. Due to costly communication, the principal receives a report only from the prime-agent, who receives a report from the sub-agent. The principal can directly incentivize each agent by setting individual transfers (insourcing), or sets only one overall transfer to an independent organization in which the prime-agent hires the sub-agent (outsourcing). We show that insourcing is always optimal when the principal can perfectly process the prime-agent's report. When the principal's information process is limited, however, outsourcing can be the prevailing mode of operation. In addition, insourcing under limited information process is prone to collusion between the agents, whereas no possibility of collusion arises with outsourcing.

Suggested Citation

  • Dongsoo Shin & Roland Strausz, 2024. "Insourcing Vs Outsourcing in Vertical Structure," Rationality and Competition Discussion Paper Series 495, CRC TRR 190 Rationality and Competition.
    • Handle: RePEc:rco:dpaper:495
    as

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    References listed on IDEAS

    as
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    More about this item

    Keywords

    information process; sourcing policy; vertical structure;
    All these keywords.

    JEL classification:

    • D86 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Economics of Contract Law
    • L23 - Industrial Organization - - Firm Objectives, Organization, and Behavior - - - Organization of Production
    • L25 - Industrial Organization - - Firm Objectives, Organization, and Behavior - - - Firm Performance

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