Internal Markets for Supply Chain Capacity Allocation

31 Pages Posted: 20 Jun 2005

See all articles by David McAdams

David McAdams

Massachusetts Institute of Technology (MIT) - Economics, Finance, Accounting (EFA)

Thomas W. Malone

Massachusetts Institute of Technology (MIT) - Sloan School of Management

Date Written: June 2005

Abstract

This paper explores the possibility of solving supply chain capacity allocation problems using internal markets among employees of the same company. Unlike earlier forms of transfer pricing, IT now makes it easier for such markets to involve many employees, finegrained transactions, and frequently varying prices. The paper develops a formal model of such markets, proves their optimality in a baseline condition, and then analyzes various potential market problems and solutions. Interestingly, these proposed solutions are not possible in a conventional market because they rely on the firm's ability to pay market participants based on factors other than just the profitability of their market transactions. For example, internal monopolies can be ameliorated by paying internal monopolists on the basis of corporate, not individual, profits. Incentives for collusion among peers can be reduced by paying participants based on their profits relative to peers. Profit-reducing competition among different sales channels can be reduced by imposing an internal sales tax. And problems caused by fixed costs can be avoided by combining conditional internal markets with a pivot mechanism.

Keywords: supply chain capacity, internal markets

Suggested Citation

McAdams, David and Malone, Thomas W., Internal Markets for Supply Chain Capacity Allocation (June 2005). MIT Sloan Working Paper No. 4546-05, MIT Center for Coordination Science Working Paper No. 224. Available at SSRN: https://ssrn.com/abstract=746707 or http://dx.doi.org/10.2139/ssrn.746707

David McAdams (Contact Author)

Massachusetts Institute of Technology (MIT) - Economics, Finance, Accounting (EFA) ( email )

77 Massachusetts Avenue
Cambridge, MA 02139-4307
United States
617-253-1306 (Phone)

Thomas W. Malone

Massachusetts Institute of Technology (MIT) - Sloan School of Management ( email )

E53-333
Cambridge, MA 02142
United States
617-253-6843 (Phone)
617-253-6843 (Fax)

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