From Incentives to Control to Adaptation: Exploring Interactions between Formal and Relational Governance

Abstract

In 1991 we began to model interactions between formal and relational incentive contracts. We were motivated by a case study on compensation, and we saw this work as a contribution to agency theory. By the time the paper was published (QJE, 1994), we had begun to view the research agenda more broadly-with connections to organizational culture (Kreps, 1990), the theory of firms' boundaries (Coase, 1937), and more. Eventually, we built from this initial work, analyzing delegation within organizations as necessarily informal (JLEO, 1999), and moving beyond relational agency (where a principal motivates an agent through various promises, not limited to compensation) to structuring relationships (where parties choose their formal governance structure to facilitate their relational contract). The latter led to our relational analysis of when classic buyer-supplier interactions should be governed under integration and when under non-integration (QJE, 2002) and to our working paper (last revised in 2011) on how formal contracts between firms might facilitate "relational adaptation" as events unfold. In this essay we sketch theoretical, empirical, and methodological lessons we learned during this twenty-year journey.

Keywords: Adaptation, control, incentives, Relational Contracts