Abstract
This study extends the property rights theory (PRT) model by introducing an ex post adaptation to changes in trade circumstances. We show that if uncertainty is sufficiently high, joint ownership can facilitate both ex ante investment and ex post adaptation.
Highlights
Property rights theory, which was pioneered by Grossman and Hart (1986), has focused on ex ante under-investment problems called hold-up problems
This study introduces ex post adaptation, which is one of TCE’s main topics, into the holdup model, which has been developed in the property rights theory (PRT) literature (e.g., Hart [1995])
Our result provides a formal explanation as to why some firms that are successful in existing technologies fail in the adoption of new technologies
Summary
Property rights theory (hereafter, PRT), which was pioneered by Grossman and Hart (1986), has focused on ex ante under-investment problems called hold-up problems. PRT asserts that this problem is reduced by allocating physical assets to those who make important investments This follows because asset ownership brings them a larger portion of the benefit from their investments by improving their default payoffs, which makes their incentives to invest higher. PRT misses the important issue on which the existing theory of firm boundaries (i.e., transaction cost economics [TCE]) mainly focuses: ex post problems such as haggling (i.e., costly bargaining over trade value) and maladaptation (i.e., failure in making efficient decisions ex post). S’s ownership improves his payoff in the renegotiation, which makes S’s incentive for both ex ante investment and ex post adaptation higher. Schmitz (2006) points out that introducing private information about a default payoff into the PRT framework leads to rentseeking costs and ex post inefficiencies due to bargaining under asymmetric information, which become severe when the party who has an investment owns an asset.
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