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Starting Small in an Unfamiliar Environment

  • James E. Rauch

    (UCLA, San Diego & NBER)

  • Joel Watson

    (Dept. Economics, UCLA, San Diego)

Motivated by a characteristic way in which firms in developed countries make their decisions regarding cooperation with potential partners from less developed countries, we design a simple model of a DC firm's search for an LDC partner/supplier and the subsequent relationship between the two parties. Matched firms can "start small" with a trial order or pilot project of variable size in order to gain information about the ability of the LDC firm to successfully carry out a large project. We derive results relating whether and how the parties start small to the characteristics of the large project and to the matching environment. Among other results, we show how risk and search cost are associated with the propensity to start small and we establish a connection between starting small and the expected longevity of successful partnerships. We also address methods of contract enforcement and demonstrate the relationship between starting small and monitoring.

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File URL: http://cowles.yale.edu/sites/default/files/files/pub/d12/d1218.pdf
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Paper provided by Cowles Foundation for Research in Economics, Yale University in its series Cowles Foundation Discussion Papers with number 1218.

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Length: 35 pages
Date of creation: May 1999
Date of revision:
Handle: RePEc:cwl:cwldpp:1218
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Order Information: Postal: Cowles Foundation, Yale University, Box 208281, New Haven, CT 06520-8281 USA

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  1. Sofronis K. Clerides & Saul Lach & James R. Tybout, 1998. "Is Learning by Exporting Important? Micro-Dynamic Evidence from Colombia, Mexico, and Morocco," The Quarterly Journal of Economics, Oxford University Press, vol. 113(3), pages 903-947.
  2. James E. Rauch & Joel Watson, 1999. "Starting Small in an Unfamiliar Environment," Cowles Foundation Discussion Papers 1218, Cowles Foundation for Research in Economics, Yale University.
  3. Parikshit Ghosh & Debraj Ray, 1996. "Cooperation in Community Interaction Without Information Flows," Review of Economic Studies, Oxford University Press, vol. 63(3), pages 491-519.
  4. Patrick Bolton & Christopher Harris, 1999. "Strategic Experimentation," Econometrica, Econometric Society, vol. 67(2), pages 349-374, March.
  5. Saikat Datta, 1996. "Building Trust," STICERD - Theoretical Economics Paper Series /1996/305, Suntory and Toyota International Centres for Economics and Related Disciplines, LSE.
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  7. Watson, Joel, 2002. "Starting Small and Commitment," Games and Economic Behavior, Elsevier, vol. 38(1), pages 176-199, January.
  8. H. Schmitz & P. Knorringa, 2000. "Learning from Global Buyers," Journal of Development Studies, Taylor & Francis Journals, vol. 37(2), pages 177-205.
  9. Shimer, R. & Smith, L., 1997. "Assortative Matching and Search," Working papers 97-2a, Massachusetts Institute of Technology (MIT), Department of Economics.
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  11. Pack, Howard & Page, John Jr., 1994. "Accumulation, exports, and growth in the high-performing Asian economies," Carnegie-Rochester Conference Series on Public Policy, Elsevier, vol. 40(1), pages 199-235, June.
  12. Egan, Mary Lou & Mody, Ashoka, 1992. "Buyer-seller links in export development," World Development, Elsevier, vol. 20(3), pages 321-334, March.
  13. Giuseppe Moscarini & Lones Smith, 1998. "Wald Revisited: The Optimal Level of Experimentation," Working papers 98-4, Massachusetts Institute of Technology (MIT), Department of Economics.
  14. Jovanovic, Boyan, 1979. "Job Matching and the Theory of Turnover," Journal of Political Economy, University of Chicago Press, vol. 87(5), pages 972-90, October.
  15. den Haan, Wouter J. & Ramey, Garey & Watson, Joel, 1999. "Contract-Theoretic Approaches to Wages and Displacement," University of California at San Diego, Economics Working Paper Series qt8h0480sk, Department of Economics, UC San Diego.
  16. Godfrey Keller & Sven Rady, 1998. "Optimal Experimentation in a Changing Environment," Game Theory and Information 9801001, EconWPA.
  17. Ramey Garey & Watson Joel, 2001. "Bilateral Trade and Opportunism in a Matching Market," The B.E. Journal of Theoretical Economics, De Gruyter, vol. 1(1), pages 1-35, November.
  18. Wolfgang HÄRDLE & J. MARRON & L. YANG, 1996. "Discussion," SFB 373 Discussion Papers 1996,65, Humboldt University of Berlin, Interdisciplinary Research Project 373: Quantification and Simulation of Economic Processes.
  19. H. Lorne Carmichael & W. Bentley MacLeod, 1997. "Gift Giving and the Evolution of Cooperation," Boston College Working Papers in Economics 338., Boston College Department of Economics.
  20. Nadvi, Khalid, 1999. "Collective Efficiency and Collective Failure: The Response of the Sialkot Surgical Instrument Cluster to Global Quality Pressures," World Development, Elsevier, vol. 27(9), pages 1605-1626, September.
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  22. Watson, Joel, 1999. "Starting Small and Renegotiation," Journal of Economic Theory, Elsevier, vol. 85(1), pages 52-90, March.
  23. Ignatius J. Horstmann & James R. Markusen, 1995. "Exploring New Markets: Direct Investment, Contractual Relations and the Multinational Enterprise," NBER Working Papers 5029, National Bureau of Economic Research, Inc.
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  25. Greif, Avner, 1993. "Contract Enforceability and Economic Institutions in Early Trade: the Maghribi Traders' Coalition," American Economic Review, American Economic Association, vol. 83(3), pages 525-48, June.
  26. Kranton, Rachel E, 1996. "The Formation of Cooperative Relationships," Journal of Law, Economics and Organization, Oxford University Press, vol. 12(1), pages 214-33, April.
  27. Aw, Bee Yan & Chung, Sukkyun & Roberts, Mark J, 2000. "Productivity and Turnover in the Export Market: Micro-level Evidence from the Republic of Korea and Taiwan (China)," World Bank Economic Review, World Bank Group, vol. 14(1), pages 65-90, January.
  28. Michihiro Kandori, 1992. "Social Norms and Community Enforcement," Review of Economic Studies, Oxford University Press, vol. 59(1), pages 63-80.
  29. Abhijit V. Banerjee & Esther Duflo, 2000. "Reputation Effects and the Limits of Contracting: A Study of the Indian Software Industry," The Quarterly Journal of Economics, Oxford University Press, vol. 115(3), pages 989-1017.
  30. Tewari, Meenu, 1999. "Successful Adjustment in Indian Industry: the Case of Ludhiana's Woolen Knitwear Cluster," World Development, Elsevier, vol. 27(9), pages 1651-1671, September.
  31. Avinash K. Dixit & Robert S. Pindyck, 1994. "Investment under Uncertainty," Economics Books, Princeton University Press, edition 1, volume 1, number 5474.
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