Combining Lab Experiments and Industry Data in Transaction Cost Analysis: The Case of Competition as a Safeguard

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Extant empirical work in transaction cost analysis relies almost exclusively on cross-sectional sunvey data on firm behavior to test predictions about vertical integration, long-run contracts, alliances, and the like. Such designs shed useful light on the causal mechanisms supposedly responsible for the effects, but do not develop the details. Many of these designs also offer scarce insight into the profit implications inherent in the theory. Cognizant of these gaps, we combine a laboratory experiment and cross-sectional industry practice data to offer the first empirical evidence of invited competition as a safeguard for buyers' specific investments. Specifically, our lab data offer direct evidence of the suppression of opportunism. As the theory predicts, competition from a licensee holds.down price hikes that exploit locked-in buyers in follow-on time periods. The lab data also show that competing with a licensee becomes more attractive to the original monopolist as potential buyers need to make larger supplier-specific expenditures. The reverse is true when the focal product provides buyers with larger economic value. Interestingly, these effects show some systematic deviation from the subgame perfect predictions of the game-theoretic models. Our industry data show that firms behave according to the prediction that products requiring greater levels of supplier-specific investments are more likely to be licensed. We close with a discussion of the economics of safeguards and the methodological implications of the studies.