Economic Analysis of Corporate Co-Governance

Author: Economic Science Press
Publisher:
Publish Date: 2001-01-01
Features: This book mainly includes the following content: From unilateral governance to co-governance; Analyzing corporate co-governance structures from an economic perspective; Knowledge division, decision-making power allocation, and optimal corporate ownership arrangements; The neoclassical economic analysis tradition and shareholder supremacy logic; Joint production, income distribution, and corporate governance.
Excerpt: The new institutional economics explanation of external networkization The major development of new institutional economics in economic theory is closely related to its theoretical premises or assumptions. In new institutional economics, some important changes have been introduced into the orthodox theories of production and exchange, including methodological individualism, utility maximization, bounded rationality, and opportunism assumptions. The assumption of bounded rationality makes it impossible for individuals to completely resolve complex problems through contracts. To minimize the constraints of bounded rationality while protecting transactions from opportunistic risks, economic entities will seek non-market organizational arrangements, such as firms. However, non-market organizational arrangements should not be limited to corporate organizations alone. The complexity and diversity of resource allocation require different institutional arrangements. Between the two forms of resource allocation— firms and markets—there exist other organizational forms, i.e., other arrangements that can enhance the efficiency of transaction-specific resource utilization.
Transaction-specific resources, as inputs for firms, can be broadly divided into two categories: tangible transaction-specific resources and intangible transaction-specific resources. Williamson referred to the latter as proprietary knowledge. Intangible transaction-specific resources not only include human capital but also the specialized capabilities, organizational processes, information, and knowledge developed by individuals or organizations during operations, as well as informal relationships related to specific transactions. As Williamson (1985) analyzed, "unique technical experience and unique organizational experience can both enhance asset specificity, making employees competent for the company's work while causing sunk costs." In Hart's model, he only analyzed the impact of physical capital and human capital on corporate ownership arrangements, without involving other intangible transaction-specific resources. However, these transaction-specific resources are closely related to corporate property rights and thus affect corporate property rights arrangements.
Since intangible transaction-specific resources cannot be formalized in writing, their use cannot be formalized either. This makes it highly likely that such proprietary resources may be opportunistically misused. If a firm's profits are lost or reduced due to the improper use of these proprietary resources, protective institutional arrangements are needed to govern them. However, the degree to which intangible transaction-specific resources are closely related to corporate production is not entirely the same. Depending on the specific transaction characteristics of a firm, they may be of core significance to production or only of secondary significance. Specifically, inputs that cannot be separated from corporate production—i.e., without which the product cannot be produced—are called core inputs, while inputs that can be separated from corporate production—i.e., without which the product can still be completed—are called marginal inputs, which are located at the periphery of the company. Intangible transaction-specific resources can be applied to core positions, called core inputs, or to marginal positions, called marginal inputs. When it comes to designing appropriate institutional arrangements to prevent opportunistic behavior, this distinction is very important. Core intangible transaction-specific resources and marginal intangible transaction-specific resources require different types of institutional arrangements. Generally, firms should internalize core inputs, but internalization is not the only solution to preventing opportunism. If opportunistic misuse can be prevented in other ways, core inputs can also exist outside the firm, obtained through transactions between firms for production. For example, in Japanese automobile manufacturers, components are provided by subcontractors with independent ownership, although components are core inputs for production. This is due to cultural influences: Japan's emphasis on trust and strong personal relationships makes opportunistic behavior by business partners rare (Williamson, 1985).
In Hart's model, the solution for core inputs, this strictly complementary asset, is to fully internalize it through mergers, achieving the purpose of preventing opportunistic behavior only under conditions of joint ownership. However, Hart overlooked other ways to mitigate opportunistic behavior. Generally, owners of marginal factors should be externalized relative to core inputs. But it is difficult to determine whether certain transactions should be internalized into the firm or completely separated from it. For example, when there is clear transaction-specific quasi-rent, integration is the optimal form, but it cannot be applied to marginal proprietary resources. In such cases, hybrid organizational institutions—arrangements that combine market and bureaucratic organizational factors—provide an alternative that leverages the adaptability of bureaucratic management while fully utilizing the effective incentives of the market. Such institutional arrangements exist in the real economy, and their rationality can be demonstrated from the perspective of transaction cost analysis.
The orthodox analysis of firms and markets is based on transaction costs, or what are also called transaction expenses. Although there is still much controversy about theoretical analysis based on transaction costs, this analytical method has been widely accepted by most people. This theory holds that the emergence of corporate organization is due to the high transaction costs that markets incur in handling certain transactions, and that organizing such transactions through firms is more efficient. In other words, the amount of transaction costs is the only standard that determines whether a transaction is organized by the market or the firm. However, this does not fully align with reality.