Specificity Revisited: The Role of Cross-Investments

Matthew Ellman (matthew.ellman@iae.csic.es)

No 150, Working Papers from Barcelona School of Economics

Abstract: Previous analysis has shown that traders may opt for specific technologies with no joint productivity advantage as a way to commit themselves to trading jointly, but only when long-term contracting is infeasible. This paper proves that specificity can also be optimal (by relaxing the budget-balance constraint) in settings with long-term contracting. Traders will opt for specificity when one trader makes a cross-investment and either (1) this cross-investment has a direct externality on the other trader, (2) both parties invest, or (3) private information is present. The specificity (e.g. from non-salvageable investments, specific assets and technologies, narrow business strategies, and exclusivity restrictions) is equally effective regardless of which trader's alternative trade payoff is reduced. Specificity supports long-term contracts in a broad range of settings – both with and without renegotiation. The theory also offers a novel perspective on franchising and vertical integration.

JEL-codes: D23 K40 (search for similar items in EconPapers)
Date: 2015-09
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Related works:
Journal Article: Specificity Revisited: The Role of Cross-Investments (2006)
Working Paper: Specificity revisited: The role of cross-investments (2005)
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