Uncertainties And Governance Structure In Incentives Provision For Product Quality

Wendong Deng and George Hendrikse

ERIM Report Series Research in Management from Erasmus Research Institute of Management (ERIM), ERIM is the joint research institute of the Rotterdam School of Management, Erasmus University and the Erasmus School of Economics (ESE) at Erasmus University Rotterdam

Abstract: This paper compares the product quality provision of cooperatives and investor owned firms (IOFs) by highlighting the impacts of uncertainties in agricultural production and marketing, and farmers’ risk aversion. In a principal-agent model, we show that the linear contract can shift the risk of market uncertainty from farmers to processors, and pooling can share the risk of production uncertainty among cooperative members. Complete pooling places the cooperative at a disadvantage relative to the IOF in a quality-differentiated market due to the loss of free-riding dominating the gain of risk-sharing. Product quality of cooperatives decreases when the membership size increases. Cooperatives can overcome this disadvantage by partial pooling. Product quality of cooperatives will be equivalent to that of IOFs when an optimal income rights structure with partial pooling is adopted.

Keywords: cooperative; investor owned firm; pooling; quality (search for similar items in EconPapers)
Date: 2012-08-27
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