We investigate whether formal contracts can help in resolving the holdup problem by studying repeated transactions between a seller and a buyer. Contrary to previous findings, we demonstrate that a simple fixed-price contract based on product delivery is of value even when relation-specific investment is purely cooperative. Furthermore, we show that focusing our attention on fixed-price contracts as a form of formal contracts is without loss of generality. The key driving force is a possibility that the relation-specific investment decreases the surplus under no trade. This possibility, although very plausible, has been largely ignored in previous analyses of the holdup problem.
ASJC Scopus subject areas
- Economics, Econometrics and Finance(all)