Summary: Lecture 3

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• Division of labor requires organization.. which two organization mechanisms?

  Markets (= external)
  Organisation (= internal)

• ‘Transaction cost economics’

  1. Activities are internalised when the (transaction) cost of internalisation are lower than the costs of outsourcing.
  2. Activities are out-sourced when the (transaction) cost of out-sourcing are lower than the costs of internalising.

• opportunistic behavior (bounded reliability) occurs..

  where one party takes advantage of his superior knowledge, in order to further his/her interests, by failing to disclose such information to the other party. 

• Where do transaction costs come from?

  • Human factors (bounded reliability + bounded rationality)
  • Environmental factors ( complexity + small number of players)

• Level of additional transactions costs depend on three factors:

  1. asset specificity
  2. uncertainty/ complexity
  3. frequency

• The general principal-agent problem arises when:

   1. the principal pays the agent for performing certain acts that are useful to the principal and costly to the agent.
  
  And 2. where there are elements of the performance that are difficult (or costly) for the principle to observe.

• Agency costs increase in any contract with:

  (1) Information Asymmetry
  (2) Uncertainty
  (3) Risk

• How do we solve agency problem?

  (1) Fully Specify all contracts. Remove any and all risks, reduce uncertainty as far as possible, and eliminate all information asymmetries.
  
  (2) Monitor all agents of the firm. Trust no one, and ensure that everyone, always, is acting in the wider interests of the principal, and not in his own

• Foreign Distributor (FDs) is...

  A local distributor, in the form of an individual or firm, who provides knowledge about the market, local customs, and regulations, how knows about existing and potential customers. beachhead strategy: low risk, low investment.

• Strategic Alliances (SAs) 

  A Strategic Alliance is a formal relationship between two or more parties to pursue a set of agreed upon goals or to meet a critical business need while remaining independent organizations.