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A Dynamic Theory of Holdup

The holdup problem arises when parties negotiate to divide the surplus generated by their ex ante noncontractable investments. We study this problem in a model which, unlike the stylized static model, allows the parties to continue to invest until they agree on the terms of trade. These possible investment dynamics overturn the conventional wisdom dramatically. First, the holdup problem need not entail underinvestment-type inefficiencies when the parties are sufficiently patient. Second, inefficiencies can arise unambiguously, but the reason for their occurrence differs from the one recognized by the static model. This latter finding sheds new light on the design of contracts and organizations.

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File URL: http://www.econ.ed.ac.uk/papers/id74_esedps.pdf
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Paper provided by Edinburgh School of Economics, University of Edinburgh in its series ESE Discussion Papers with number 74.

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Length: 32
Date of creation: 20 Nov 2001
Date of revision:
Handle: RePEc:edn:esedps:74
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