Markets and Organizations

Question 1

Adam Smith

Answer 1

• Market transactions are most efficient way to organize economy
• organizations reduce transaction costs

Question 2

Transaction cost economics (TCE)

Answer 2

• transactions can be organized through 3 structural alternatives (Markets, hierachies and hybrids)
• minimize transaction costs
• transactions are unit of analysis and transaction costs are associated with: monitoring, performance, qualified exchange partner search etc.
• Managers should match each transaction attribute to the structural alternative that minimizes transaction cost to maximize firm performance

Question 3

Williamson

Answer 3

• Managers are boundedly rational which restricts actors abilities to identify qualified partners establish prices and write contracts
• Human limitation involves two potential exchange hazards (Opportunism and Maladaption)

Question 4

Opportunism

Answer 4

• Economic actors will act self-servingly, take advantages of others when circumstances permit –> managers do not know which potential partner will act opportunistically, they incur transaction costs to identify best potential partner

Question 5

Maladaption

Answer 5

• arises because economic actors are trustworthy, circumstances sometimes change, adapt to new circumstances - transaction costs

Question 6

Market transactions

Answer 6

• short term between buyer and seller: pay for deliver/service,
• at arm’s length

Question 7

hierarchical transactions

Answer 7

transactions that takes place within one firm

Question 8

hybrid transactions

Answer 8

transactions between two or more firms, involves long-term, such as in an alliance or franchise etc.

Question 9

evaluating structural transaction alternatives

Answer 9

authority - type of controls and dispute resolution mechanism
and incentives - pertains to the degree to which incentives can influence behavior

Question 10

authority

Answer 10

• market contracts need to be cancelled
• benefit from protective legal clauses –> court system is arbiter of last resort when disruptive arise
• hierarchies are defined by firms –> monitoring, direct behavior, disputes within firms can be resolved by upper-level managers
• hybrid exchanges minimize potential conflicts, involve routines for mutual monitoring, third party mediation or arbitration procedure are prearranged

Question 11

incentives

Answer 11

• markets furnish high powered incentives (customers shift contract elsewhere if they’re unsatisfied)
• hierarchies offer low-powered incentives (small portion of employee compensation is tied directly to performance)
• hybrids make it more difficult for parties to walk away, which reduces incentive power

Question 12

when should organizations choose which alternative?

Answer 12

• markets are suited for low coordination/simple transaction
• if transactions become more complex or parties become exposed to potentially costly exchanges simple adaption based on price is no more efficient
• managers move toward hybrid exchanges and hierarchy, because they are willing to trade of incentive power and autonomous adaptation to enhance authority and coordinated adaptation

Question 13

Determining the choice between market and organization

Answer 13

• three main transaction attributes that rises complexity of transactions exchange hazards and drive managers toward hierarchy

Question 14

asset specificity

Answer 14

• level of unique investment supporting a transaction (highly specific assets (costly
  to redeploy without loss in value vs. nonspecific assets can be sold or otherwise redeployed without loss)

Question 15

uncertainty

Answer 15

• volume uncertainty (regarding future demand level)
• technological uncertainty (unknown future)
• behavioral uncertainty (managers are unable to evaluate the quality of activities)

Question 16

frecency

Answer 16

• extent to which transactions reoccur
• -> according to Williams each transaction attributes increases transaction costs and thus lead managers from markets –> hybrids –> hierarchy
• disputes may be expensive and cost consuming to resolve: volume and technological uncertainty raise transaction costs

Question 17

real options theory

Answer 17

• managers value flexible in the face of uncertainty, using hierarchy to safeguard firm from potential opportunism but increases level of difficult to reverse investments

Question 18

resource based theory

Answer 18

• firm building advantages by building up strategic assets, more value by integrating certain strategic assets into the hierarchy
• some resources are most valuable when tightly bounded within stetted hierarchical routines, social relationships and managerial processes