A New Role for Money as Hostage Against Opportunism

24 Pages Posted: 15 Feb 2010

See all articles by David C. Croson

David C. Croson

Michigan State University - Department of Economics; Wharton Financial Institutions Center

Panayiota Konstantina Kiousis

Washington University in St. Louis - John M. Olin Business School

Chetan Dave

New York University

Date Written: February 15, 2010

Abstract

We propose a new role for money as a self-commitment device (in effect, a hostage against opportunism, after Williamson (1983)) in a bilateral exchange relationship such as a strategic alliance. Consider two firms who desire to exchange services over time. When a single unit of one service is worth more than a unit of the other, a trade imbalance inevitably arises before accounts are settled: at some point in the transaction cycle, one side has received more than it has given -- a shift in bargaining power caused not by an unforeseen circumstance but by the natural rhythm of the trade between the firms. If this imbalance is large enough, it is tempting for the firm with the temporary trade deficit, who has received benefit from her trading partner but not yet reciprocated, to exit the relationship before delivering her part of the bargain. Rational anticipation of this deliberate breach can, of course, lead to unraveling of the alliance, since neither side wishes to incur costs to provide benefits without receiving any in return. We show that a small amount of money (in our example, less than the value of the smallest tradeable item) can overcome this problem and thus support repeated, balanced trade and the alliance containing it. This money acts as a hostage against opportunistic exit from the alliance (in the spirit of the variety of both monetary and nonmonetary exchanges, cross-ownership, and reciprocal investments in relationship-specific capital examined by Williamson (1983), Perotti (1992), and Ahmadjian and Oxley (2006) respectively); such a minimal amount of money is necessary (and, in some cases, sufficient) to sustain the alliance and support trade.

Keywords: transactions costs, hostages, commitment, collateral, exchange

JEL Classification: D23, E41, F10, L14

Suggested Citation

Croson, David C. and Kiousis, Panayiota Konstantina and Dave, Chetan, A New Role for Money as Hostage Against Opportunism (February 15, 2010). Atlanta Competitive Advantage Conference 2010 Paper. Available at SSRN: https://ssrn.com/abstract=1553402 or http://dx.doi.org/10.2139/ssrn.1553402

David C. Croson (Contact Author)

Michigan State University - Department of Economics ( email )

East Lansing, MI 48824
United States
517-353-6938 (Phone)
517-432-1068 (Fax)

Wharton Financial Institutions Center ( email )

2306 Steinberg Hall-Dietrich Hall
3620 Locust Walk
Philadelphia, PA 19104
United States
214-768-4006 (Phone)
214-768-4099 (Fax)

Panayiota Konstantina Kiousis

Washington University in St. Louis - John M. Olin Business School ( email )

One Brookings Drive
Campus Box 1133
St. Louis, MO 63130-4899
United States

Chetan Dave

New York University ( email )

Department of Economics
19 W. 4th Street, 6FL
New York, NY 10012
United States

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