Trust, Competition and Innovation: Theory and Evidence from German Car Manufacturers

Abstract

We develop a simple theoretical model of a long term buyer-supplier relationship with non-contractible buyer specific R&D investment, and derive predictions on the effects of trust and competition on suppliers’ investment and buyers’ procurement strategies. We address these issues empirically using unique survey data on individual buyer-supplier relationships in the German automotive industry. Consistent with the model’s predictions, higher levels of trust are associated with higher investment levels - but also with more competitive procurement: trust and rents from reduced supplier competition in the procurement process emerge as substitutes both in theory and in the data.

Keywords: trust, hold-up problem, competition, innovation, specific investment, procurement, relational contracts, management practices, suppliers, car manufacturers, German automotive industry

JEL Classification: D860, D220, L220, L620