The Transaction Cost Advantage of Guanxi Based Business Practices

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  • Topic: Transaction cost, Cost, Economics
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The Transaction Cost Advantage of Guanxi-Based Business Practices Stephen S. Standifird R. Scott Marshall
The purpose of this paper is to provide a theoretical explanation of the perpetuation of China’s guanxi-based business practices. As a complement to the social embeddedness- and resource-based explanations, we seek to demonstrate the perseverance and relevance of guanxi in terms of the transaction cost advantages it offers. Specifically, we argue that guanxi-based business practices offer certain transaction cost advantages over existing structural alternatives identified in transaction cost theory. Where the guanxi network is well developed, the transaction cost advantages of guanxi-based exchange are sufficient to warrant the integration of guanxi- and market-based exchange mechanisms.

n the third quarter of 1996, China surpassed Japan as the country with the largest U.S. trade imbalance. On July 1, 1997, China regained control over Hong Kong and in the process gained control over the world’s eighth largest stock exchange (Barnathan, 1996) and the world’s most profitable exchange over the last 20 years (T. Rowe Price, 1996). China’s increased assertion in the world market demands more attention Stephen S. Standifird, College of Business and Economics, Western Washington University, Bellingham, WA 98225-9077, USA. Tel: 360650-7440; Fax: 360-650-4844; E-mail: stephen. standifird@wwu.edu R. Scott Marshall, Lundquist College of Business, University of Oregon, Eugene, OR 97403-1208, USA. Tel: 541-346-1343; Fax: 541-346-3341 E-mail: rsm@darkwing.uoregon.edu

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be given to the unique aspects of conducting business in China. One specific aspect that has received attention recently is the practice of guanxi. In short, guanxi involves cultivating personal relationships through the exchange of favors and gifts for the purpose of obtaining goods and services, developing networks of mutual dependence, and creating a sense of obligation and indebtedness (Yang, 1994). The purpose of this paper is to provide a theoretical explanation of the perpetuation of guanxi-based business practices. Specifically, our primary thesis is that guanxi-based business practices offer certain transaction cost advantages over existing structural alternatives identified in transaction cost theory. Subordinate to this arguGuanxi-Based Business Practices

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ment is the position that the significance of guanxi will not diminish, as some researchers have suggested (Nee, 1992; Xin & Pearce, 1994; Luo & Chen, 1996) even with the transformation to a more market-based economy. The enduring strength of guanxi lies in the conducting of moderately asset specific activities such as long-term supplier relations for industrial machinery. These types of exchanges will continue to be performed via the guanxi network whereas less asset specific functions, such as equipment leasing, will be performed through market-based exchange. Granovetter (1985) posits that institutional structures such as guanxi maintain continuity due to their deep embeddedness in particular cultures. Supportive to this argument, Solinger (1989) revealed how transactions, in the Chinese providence Wuhan, were founded on longstanding economic relationships between individuals within the organizations studied. Further, Tsang (1998) asserts that guanxi can provide individuals and firms with an imperfectly imitable resource that provides a distinct competitive advantage over others in modern day China. As a complement to, rather than an argument against, the social embeddedness- and resource-based explanations, we seek to demonstrate the perseverance and relevance of guanxi in terms of the transaction cost advantages it offers. We begin with a detailed discussion of what guanxi is and more specifically what guanxi is not. We then outline the current theoretical explication of transaction cost economics. Next, we present transaction cost economics as an argument favoring the continuation of guanxi-based...
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