The Fisher Body-General Motors Relationship Revisited
Vertical Integration as Organizational
Ownership: The Fisher Body-General Motors
Relationship Revisited
BENJAMIN KLEIN
University qfCalijbrnia, Los Angeles
I have always considered my work with Armen Alchian and Robert Crawford
(1978) on vertical integration to represent an extension of Coase 's classic article on "The Nature of the Firm." By focusing on the "hold-up" potential that is created when firm-specific investments are made by transactors, or what we called the appropriation of quasi-rents, I believed we had elucidated one aspect of the Coasian concept of transaction costs associated with market exchange. We hypothesized that an increase infirm-specificinvestments, by increasing the market transaction costs associated with a hold-up, increased the likelihood of vertical integration. This relationship between firm-specific investments, market transaction costs, and vertical integration was illustrated by examining the contractual difficulties that existed when General Motors purchased automobile bodies from Fisher Body and the corresponding benefits that were created when the parties vertically integrated.
It is clear from Coase 's lectures that he considers our analysis not to represent an extension of his earlier work, but rather to be an alternative, incorrect explanation for vertical integration (1988: lecture 3). Coase recognizes that an increase in the quasi-rents yielded byfirm-specificinvestments creates a hold-up potential. However, he argues that there is no reason to believe that this situation is more likely to lead to vertical integration than to a long-term contract. Although long-term contracts are imperfect, opporI am grateful to Harold Demsetz, Kevin James, Timothy Opkr, and Oliver Williamson for useful comments.
Journal of Law, Economics, and Organization vol. 4, no. 1 Spring 1988
O 1988 by Yale University. All rights reserved. ISSN 8756-€222
199
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Ownership: The Fisher Body-General Motors
Relationship Revisited
BENJAMIN KLEIN
University qfCalijbrnia, Los Angeles
I have always considered my work with Armen Alchian and Robert Crawford
(1978) on vertical integration to represent an extension of Coase 's classic article on "The Nature of the Firm." By focusing on the "hold-up" potential that is created when firm-specific investments are made by transactors, or what we called the appropriation of quasi-rents, I believed we had elucidated one aspect of the Coasian concept of transaction costs associated with market exchange. We hypothesized that an increase infirm-specificinvestments, by increasing the market transaction costs associated with a hold-up, increased the likelihood of vertical integration. This relationship between firm-specific investments, market transaction costs, and vertical integration was illustrated by examining the contractual difficulties that existed when General Motors purchased automobile bodies from Fisher Body and the corresponding benefits that were created when the parties vertically integrated.
It is clear from Coase 's lectures that he considers our analysis not to represent an extension of his earlier work, but rather to be an alternative, incorrect explanation for vertical integration (1988: lecture 3). Coase recognizes that an increase in the quasi-rents yielded byfirm-specificinvestments creates a hold-up potential. However, he argues that there is no reason to believe that this situation is more likely to lead to vertical integration than to a long-term contract. Although long-term contracts are imperfect, opporI am grateful to Harold Demsetz, Kevin James, Timothy Opkr, and Oliver Williamson for useful comments.
Journal of Law, Economics, and Organization vol. 4, no. 1 Spring 1988
O 1988 by Yale University. All rights reserved. ISSN 8756-€222
199
2 0 0 / JOURNAL OF LAW, ECONOMICS, AND ORGANIZATION IV:1,
References: Alchian, Annen A. 1959. "Costs and Outputs." In M. Abramovitz, ed., The Allocation of Economic Resources. Stanford: Stanford University Press. , and Harold Demsetz. 1972. "Production, Information Costs, and Economic Organization," 62 American Economic Review 777. Arrow, Kenneth J. 1962. "The Economic Implications of Learning by Doing," 29 Review of Economic Studies 155. Coase, Ronald H. 1937. "The Nature of the Firm," 4 Economica n.s. 386. Grossman, Sanford, and Oliver Hart. 1986. "The Costs and Benefits of Ownership: A Theory of Vertical and Lateral Organization," 94 Journal of Political Economy Joskow, Paul L. 1988. "Asset Specificity and the Structure of Vertical Relationships: Empirical Evidence," 4 Journal of Law, Economics, and Organization. Kenney, Roy, and Benjamin Klein. 1985. "The Law and Economics of Contractual Flexibility," UCLA Department of Economics working paper no Klein, Benjamin. 1983. "Contracting Costs and Residual Claims: The Separation of Ownership and Control," 26 Journal of Law and Economics 367. , Robert Crawford, and Annen Alchian. 1978. "Vertical Integration, Appropriable Rents and the Competitive Contracting Process," 21 Journal of Law and Economics 297. 12. See, for example, Alchian and Demsetz, and Klein (1983). Nelson, Richard R., and Sidney G. Winter. 1982. An Evolutionary Theory of Economic Change. Cambridge: Harvard University Press. Prescott, Edward C , and Michael Visscher. 1980. "Organizational Capital," 88 Journal of Political Economy 466. Rosen, Sherwin. 1972. "Learning by Experience as Joint Production," 86 Quarterly Journal of Economics 366. Stigler, George. 1951. "The Division of Labor Is Limited by the Extent of the Market," 59 Journal of Political Economy 185. Williamson, Oliver E. 1979. 'Transaction Cost Economics: The Governance of Contractual Relations," 22 Journal of Law and Economics 233.