Huawei Boundaries
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History
The history of Transactional Cost of Economics (TCE) has its roots somewhere during the second worlds war, when Coase (1937) was trying to find some practical explanations related to the economic theory existing at that time. The differences between the perception of a firm or company and its correspondence in the real world have been assessed, making an empirical analysis of possible attributes that can influence their development in close relation to its internal factors and, and the market interactions as well. Following Coases study “The Nature of The Firm”, many other economic papers and theories have emerged in the next decades, leading to the development of different concepts like TCE, vertical boundaries of a company, interactions between company and market and optimal decision for the “make or buy” dilemma as it is mentioned also by (Lafontaine and Slade 2007).
Contributions of Coase and Williamson
The basics for TCE development have been defined by Coase (1937), making an argumentation in favor of lower possible cost of assessing some activities within a company rather than acquiring them from the market by a set of more costly transaction. Also, he has argued that preferential treatments a firm can get from external environments (like governments), combined with the possibility of reducing the market exchange transaction costs (by directing some resources through a defined organization) can be seen as the main reason for a firm to exist and grow.
The dilemma of efficiency versus variable size of a company was also mentioned in his studies with respect to the monopoly avoidance. Clarifying also the differences between initiative and management, he managed finally to find real a relation between theoretical definition of the firm and its practical representation through the equilibrium concept (static or moving one) according to the static or dynamic factors that can influence the internal costs versus the market price mechanisms.
On the other hand, Williamson, who built his work starting from Coases findings, was the first to define the term transaction cost economics aiming to find a solution for a decrease of exchange costs and avoid or diminish the risks of hold-up problems due to different opportunistic approaches in the market (Hardt 2009).
Williamson developed its theory from behavioral premises, having contract law and psychological attributes embedded and Simons concept of bounded rationality due to different cognitive limitations and the opportunism coming from the asymmetric information (Lafontaine and Slade 2007; Hardt 2009).
Williamsons contribution in the development of TCE is a very important one, recognized by Coase (1993b) himself when saying: “It is clear to me that Williamsons influence has been immense. In a real sense, transaction cost economics, through his writing and teaching, is his creation” (Hardt 2009, p.47).
Make vs. Buy and TC reduction
Williamsons (1981) approach to organizational level from the TCE perspective was following three separate layers: (1) first one – the structure of the enterprise as a whole, with inter-relation of its different operating subparts; (2) secondly, the separate operating units relation to possibility of developing activities within the company or within the market and (3) the structure of human resources organization and its governance.
From the transactions perspective (being them easy or more difficult) the TCE comes to provide possible solutions, considering different structures, operating subparts and organizations implication when different exchanges are needed over different identified interfaces.
Transaction exchanges can be more or less expensive also, as per the behavioral assumptions according to which the large and complex contracts can cover more or less of the aspects involved because of a lack of understanding due to limited peoples cognitive capacity. Incomplete contracts can lead to many interpretations between signing sides, increasing the degree of opportunism, being able to generate sunk costs and/or quasi-rent transfers between the parties from case to case.
The increase of a transaction exchanges can increase the costs because of generated holdup problems of incomplete contracts that might appear from other different reasons such as difficulties in performance measurement because due to their ambiguousness or measurement difficulties, because of asymmetric information and lack of sincerity between the parties or because of private information that is considered key assets and cannot be protected through incomplete contracts. All these can lead to opportunistic approaches that can decrease the level of trust, and even destroy a business relationship (Besanko et al 2010).
The above mentioned problems can determine a company to reduce the exchange transaction in the market and orientate itself towards a “make” approach.
On the other hand, when the company doesnt have possibility or enough know how to make its own particular products, components or services, or if the market transaction costs are lower than the ones corresponding to in-house producing, it will rely on outsourcing partners who can provide the needed goods at lower price levels. They can do that because they can possess a higher level of knowledge, they can benefit from their economies of scale and exploit their experience due to their diversified companies portfolio for whom they are producing. Avoidance of influence and agency costs is also a reason for a company to use a “buy” approach rather than a “make” one (Besanko et al 2010).
According to Williamson (1978b cited in Williamson 1981)], the dimensions of transaction exchanges are highly dependent of three dimensions: uncertainty, frequency of occurrence and asset specificity. The occurrence of any of them or their combination is tried to be somehow estimated at the human resource organization governing the enterprise.
The orientation towards a “make” or “buy” approach can be greatly influenced by the possibility of reducing the TC by any means.
By defining better body contracts, building mutual trust between the parties or assuring that sensitive information is protected through non disclosure agreements can enforce the possibility of having a “buy” type of decision rather than a “make” one through a better coordination of market price mechanism. Conversely, if the company is constantly increasing the knowhow, decreases its bureaucracy, institutes well defined processes and manages to