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Vertical Boundaries

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Chapter 10: Vertical boundaries

Chapter 10: Vertical boundaries
Aim of the chapter
To understand the factors that influence the ways in which transactions on a vertical chain (value chain) should be/are located on the market–organisation continuum.

Learning objectives
On completion of this chapter and the essential reading, you should have a good understanding of the following terms and concepts: • transaction cost economics • strategic calculation.

Essential reading
Buchanan, D. and A. Huczynski Organizational behaviour: an introductory text. (London: Prentice Hall, 2008) Chapter 18. Douma, S. and H. Schreuder Economic approaches to organisations. (London: Prentice Hall, 2008).

Further reading
Besanko, D., D. Dranove and M. Shanley Economics of strategy. (New York: Wiley, 1996). Coase, R.H. ‘The problem of social cost’, Journal of Law and Economics 3 1960, pp.1–44. Grossman, S. and O. Hart ‘The costs and benefits of ownership: a theory of vertical and lateral integration’, Journal of Political Economy 94(4) 1986, pp.691–719. Williamson, O.E. ‘The economics of organization: the transaction cost approach’, American Journal of Sociology 87(3) 1981, pp.548–77.

10.1 Introduction
As noted in Chapter 1, we may regard the basic unit in organisational analysis as an exchange or transaction generated in the division of labour. The division of labour (exogenous/endogenous – Chapter 3) creates value or vertical chains; for example as shown in Figure 10.1(a) running from crude oil extraction to the retailing of petroleum products. We now operate at the level of organisations or firms (recognising that at a greater level of disaggregation the points in the chain are also based on chains of the division of labour) and pose the question as to where their boundaries should be located on the value chain. In fact the picture is usually more complex than the one depicted in Figure 10.1(a). Activities usually depend on inputs at all points down the vertical...