9.

Transaction Cost Theory

Friday, March 16, 2012 11:40 AM

Extra Credit Essay 1. Use empirical evidence to show that a theory is true 2. Under new technological environments, how have the applications of the theory changed/how is the theory applied? 3. Single spaced 2 pages, due last day of class

Transaction costs in an exchange Commission paid to brokers when buying/selling a stock Pre-exchange and post-exchange transaction costs Ex ante costs Search and information costs, bargaining and decision costs Transaction Ex post costs Executing, policing and enforcement costs Pre-exchange costs Search, information costs, negotiations Post-exchange Policing and enforcement costs US GDP share of transaction costs Over time, transactions costs increase over time as a percentage of total GDP Contracts become much more complicates, especially when dealing with new technologies Neo-classical economics (NCE) vs. Transaction cost economics (TCE) Both share the efficiency principle NCE: emphasizes the efficiency of production and minimizes production costs TCE: focuses on the efficiency of transaction, minimizes transaction costs NCE assumes zero transaction costs TCE Assumptions about behavior Bounded rationality Actors are rational, so they try to maximize their utility Opportunistic behavior Whenever possible, an economic actor will try to maximize their gains Market vs. hierarchy In order to reduce uncertainty, some companies purchase and absorb smaller companies. Transaction and Governance Three Dimensions of the transaction Frequency The higher the frequency of transaction, the more likely to set up an integrated governance structure Uncertainty The higher the uncertainty, the less complete the contract, the less attractive using the market solutions
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the market solutions Specificity The higher the specificity of the good, the less attractive of using the market solution
Ex: warranty provided by corporations is an important institutional arrangement to reduce transaction costs How Entrepreneurs can make money out of reducing transaction costs Mou, one of China's richest men in the 1990s In transitional societies, institutions tend to be short-lived, leading to high transaction costs for normal businesses, but they create remarkable opportunities for smart businesspeople Crowdsourcing An open call to an undefined group of people or community (crowd). It gathers those who are most fit to perform specific tasks with the most relevant and fresh ideas iStockphoto Used micropayment model World's busiest image market - every 2.5 seconds, an image is downloaded One of the first social networking websites that paid contributors for the sales of their work Artists are paid instantly every time. 40% royalties and 50% on extended license agreements How are costs reduced? IT tools reduce the coordination cost (transaction cost caused by bounded rationality) IT tools enable online searching In the crowdsourcing model "from community to commerce", trust that already exists in the online communities reduces opportunism and keeps participants motivated Small group of volunteers "word of mouth" and viral marketing through other social networking websites Contributors drive traffic as they are incentivized to drive others to this website Key success factors of iStockphoto 1. Start free or affordable a. Micropayment model: buy with credits i. They return part of what you pay back to you for future purchases with credit 2. Foster a loyal and active community 3. Availability of technology: emergence of low-cost digital cameras 4. A three-step quality assurance system

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