Responsible Capacity Development

Abstract

Long-term relationships are generally believed to incentivize investments better than short-term relationships. We show that while this is true for quality investments, it is not always true for responsibility investments. In particular, when a reliable and an unreliable supplier compete for the business of a responsible buyer, the buyer achieves higher responsibility by offering a short-term commitment to the unreliable supplier. The result is reversed and follows standard intuition only if the buyer cannot control purchase prices. Optimal contracts are derived in closed form and are linked to prevailing corporate strategies.