'Hold-Up' in Negotiations Involving Specific Investments: An Experimental Investigation
20 Pages Posted: 20 Jan 2007
Date Written: January 2007
Opportunistic behavior in contractual relations that require specific investments, commonly referred to as 'hold-up', has been employed in the literature as an argument to explain the existence of vertically integrated firms. However, many authors posit that this behavior can be avoided through reputation concerns or cooperative social norms. If hold-up can indeed be avoided through such implicit contracts, then the literature must find new, alternative mechanisms that could explain the occurrence of vertical integration in conditions involving specific investments. To examine this issue through a behavioral lens, we carried out an experiment in which pairs of buyers and sellers meet in two rounds of negotiations involving specific investments. The roles ascribed to the participants and the existence of asymmetric information involving their reservation values in the negotiation created hold-up hazards. Our experimental results indicate that the propensity to act opportunistically exists, but it is not so strong and frequent to make specific investments economically unattractive ex post. Thus, aligned with previous experimental studies, our results call for further refinements in received theories of the firm. Contrary to the implicit contract argument, our research also shows that hold-up was more frequent and intense with acquaintances than in the case of pairs who did not know each other prior to the experiment.
Keywords: hold-up, transaction cost economics, negotiation, specific investments
JEL Classification: C92, D23, L22
Suggested Citation: Suggested Citation