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Input Market Competition and the Make-or-Buy Decision

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  • Garvey, Gerald T
  • Pitchford, Rohan

Abstract

Recent theories of vertical integration based on incomplete contracts assume perfect competition on at least one side of the market. As a result, the make-or-buy choice has no redistributive effect and will reflect efficiency considerations only. The paper introduces imperfect competition into an otherwise standard model of a vertical relationship with noncontractable specific investments. We assume that there are a finite number of potential input suppliers with private information about their costs. We first show that a monopoly buyer of such inputs will often prefer to own the seller's assets even though it would be more efficient for the seller's assets not to be so owned. We then show that an increase in the number of potential partners on either side of the market reduces this inclination toward vertical integration. With perfect competition on either side of the market, the make-buy decision will reflect only efficiency considerations. Copyright 1995 by MIT Press.

Suggested Citation

  • Garvey, Gerald T & Pitchford, Rohan, 1995. "Input Market Competition and the Make-or-Buy Decision," Journal of Economics & Management Strategy, Wiley Blackwell, vol. 4(3), pages 491-508, Fall.
    • Handle: RePEc:bla:jemstr:v:4:y:1995:i:3:p:491-508
    DOI: 10.1111/j.1430-9134.1995.00491.x
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    References listed on IDEAS

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    1. Laffont, Jean-Jacques & Tirole, Jean, 1986. "Using Cost Observation to Regulate Firms," Journal of Political Economy, University of Chicago Press, vol. 94(3), pages 614-641, June.
    2. Grossman, Sanford J & Hart, Oliver D, 1986. "The Costs and Benefits of Ownership: A Theory of Vertical and Lateral Integration," Journal of Political Economy, University of Chicago Press, vol. 94(4), pages 691-719, August.
    3. Hart, Oliver D, 1988. "Incomplete Contracts and the Theory of the Firm," The Journal of Law, Economics, and Organization, Oxford University Press, vol. 4(1), pages 119-139, Spring.
    4. Biglaiser Gary & Mezzetti Claudio, 1993. "Principals Competing for an Agent in the Presence of Adverse Selection and Moral Hazard," Journal of Economic Theory, Elsevier, vol. 61(2), pages 302-330, December.
    5. Jensen, Michael C, 1986. "Agency Costs of Free Cash Flow, Corporate Finance, and Takeovers," American Economic Review, American Economic Association, vol. 76(2), pages 323-329, May.
    6. Jean-Jacques Laffont & Jean Tirole, 1993. "A Theory of Incentives in Procurement and Regulation," MIT Press Books, The MIT Press, edition 1, volume 1, number 0262121743, April.
    7. Caves, Richard E. & Bradburd, Ralph M., 1988. "The empirical determinants of vertical integration," Journal of Economic Behavior & Organization, Elsevier, vol. 9(3), pages 265-279, April.
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    Cited by:

    1. Lambertini, Luca, 2010. "Make vs buy in a monopoly with demand or cost uncertainty," Research in Economics, Elsevier, vol. 64(2), pages 101-109, June.
    2. Roberto Cellini & Luca Lambertini, 2007. "The Make-or-Buy Choice in a Mixed Oligopoly: A Theoretical Investigation," Rivista di Politica Economica, SIPI Spa, vol. 97(3), pages 113-132, May-June.

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