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Supplier Relations and the Market Context: A Theory of Handshakes

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  • McLaren, John

Abstract

This paper provides an economic theory of the degree of formality in industrial procurement. The argument is based on a tension between two procurement goals: imposing cost discipline on the supplier, and creating the conditions for cooperative innovation. In this model, a contract can solve the cost discipline problem, but only by discouraging cooperation; a less formal arrangement provides cooperation but poor discipline. The attractiveness of contracts is smaller, the less vertically integrated the industry, because a thick market for inputs provides its own discipline incentives even without a contract. Thus, in highly integrated industries, contracts are used, while in less integrated industries business is done on handshakes. This theory of the role of market context roughly fits some stylized facts and international comparisons, and may be a useful complement to some sociological approaches.

Suggested Citation

  • McLaren, John, 1996. "Supplier Relations and the Market Context: A Theory of Handshakes," Center Discussion Papers 28407, Yale University, Economic Growth Center.
    • Handle: RePEc:ags:yaleeg:28407
    DOI: 10.22004/ag.econ.28407
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    JEL classification:

    • C71 - Mathematical and Quantitative Methods - - Game Theory and Bargaining Theory - - - Cooperative Games
    • C72 - Mathematical and Quantitative Methods - - Game Theory and Bargaining Theory - - - Noncooperative Games
    • O57 - Economic Development, Innovation, Technological Change, and Growth - - Economywide Country Studies - - - Comparative Studies of Countries

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