Relational Contracts and the Theory of the Firm: A Renegotiation-Proof Approach

Abstract

I analyze the effect of long-term relations on the property rights theory of the firm when agents are allowed to renegotiate relational contracts. Renegotiation proof relational contracts exists when agents's actions affect the structure of the game. In this setting, repeated relations change some of the predictions of the property rights theory of the firm. Single ownership dominates joint ownership when the discount factor is very high or very low, however there exists a mid-region where other ownership structures including joint ownership become optimal. Joint ownership has a higher chance of being optimal in industries where agents' actions affect the structure of the game, i.e. where reputation and network effects are important. Keywords: theory of the firm, relational contracts, joint ventures, optimal ownership structure.