# The Costs and Benefits of Ownership (Grossman & Hart 1986) ## 🎯 핡심 μ£Όμž₯ **Integration = ownership of residual control rights.** When contracts are incomplete, the party who owns the asset has the right to decide all matters not specified in the contract. This affects ex-ante incentives to invest. ## πŸ’‘ Null Breaking **They Said**: Williamson's TCE explains integration through verbal logic and transaction costs. **GH Said**: We need a **formal model**. Ownership matters not because it changes day-to-day operations (contracts can specify that) but because it changes **fallback positions** when unforeseen contingencies arise. **Surprise**: Integration is about **ex-ante incentives**, not ex-post coordination. Ownership shapes relationship-specific investments before anything goes wrong. ## πŸ”‘ Keep / Retire ### Keep βœ… - **Residual control rights**: Non-contractible decisions go to asset owner - **Hold-up problem**: Fear of expropriation reduces ex-ante investment - **Incomplete contracts framework**: Formal modeling of Coasean insights - **Property rights logic**: Ownership as governance mechanism ### Retire ❌ - **Integration as binary**: BGM (2002) show integration serves relational contracts - **Only material assets matter**: Rajan-Zingales (1998) critiqueβ€”what about human capital? - **No role for formal contracts**: Later work shows formal-relational interaction ## 🧱 논증 블둝 ### Block 1: Setup Two parties need to collaborate. Contracts are incomplete (can't specify all contingencies). Parties make relationship-specific investments. ### Block 2: The Hold-up Problem If you don't own the asset, I might expropriate your investment returns β†’ you underinvest ex-ante. ### Block 3: Ownership as Solution (Partial) Give ownership to the party whose investment is more important β†’ that party invests more. ### Block 4: Trade-offs But now the OTHER party underinvests! **Optimal ownership** balances these effects. ### Block 5: Integration Decision Integrate (one party owns both assets) when joint ownership costs exceed benefits of specialized ownership. ## πŸ”— Connections ### Builds On - **Coase (1937)**: Incomplete contracts as foundation - **Williamson (1975)**: Hold-up and asset specificity - **Klein-Crawford-Alchian (1978)**: Vertical integration to avoid hold-up ### Built Upon By - **Hart-Moore (1990)**: Extended to multiple assets, debt contracts - **Baker-Gibbons-Murphy (2002)**: Integration decision serves relational contracts (formal + informal) - **Gibbons (2025)**: Integration is ONE form of visible-hand coordination ### Critiqued By - **Rajan-Zingales (1998)**: What about human capital? Can't "own" people - **Holmstrom (1999)**: Downplays incentive intensity vs. authority - **Whinston (2003)**: When does integration change incentives? ## πŸ“ Model Structure ### Timeline: G-A-S-D ``` t=0: Governance (G) └─ Decide ownership structure t=1: Actions (A) └─ Parties invest (non-contractible) t=2: State (S) └─ Contingency realized t=3: Decisions (D) └─ Owner decides use; parties bargain; payoffs realized ``` ### Key Innovation **Ownership matters through THREAT POINTS in bargaining**, not through actual control in equilibrium. ### Core Trade-off ``` More control for Party A β†’ A invests more βœ“ β†’ B invests less βœ— Integration optimal when: Value of A's extra investment > Loss from B's reduced investment ``` ## πŸŽ“ Teaching Notes ### The "Aha!" Moment Most students think integration improves ex-post coordination. GH insight: **ex-ante** incentives matter more! ### Example: Apple + Supplier If Apple owns supplier's factory: - **Ex post**: Doesn't matter (they'll negotiate efficiently anyway) - **Ex ante**: Supplier won't invest in specialized equipment (fear of hold-up) - **Solution**: Sometimes better for supplier to own factory ### Three Meanings of "Integration" 1. **Legal**: Common ownership 2. **Operational**: Vertical coordination (Lafontaine-Syverson: often zero!) 3. **GH**: Residual control rights ## πŸ”¬ Research Implications ### Predictions 1. Integration when one party's investment >> other's 2. Vertical integration in asset-intensive industries 3. Non-integration when both parties need strong incentives ### Empirical Challenges - Hard to measure "residual control rights" - Hard to observe ex-ante investments - Hold-up problem is **avoided** in equilibrium (so not directly observable) ### Extensions - **Hart-Moore (1990)**: Debt as allocation of residual control - **Aghion-Tirole (1997)**: Formal vs. real authority - **BGM (2002)**: Integration + relational contracts ## πŸ“Š Impact ### Academic - **15,000+ citations** - **Nobel Prize 2016** (Hart, Holmstrom) - Created "Property Rights Theory" branch of organizational economics ### Practical - Influenced M&A decisions: "Do we need control or just relationship?" - Venture capital contracts: Who controls pivots? - Open source: Why give away control? ## πŸ“ Personal Notes ### Why This Paper Matters First **formal model** of boundary of the firm. Proved you could mathematically analyze Coase's insights. ### Limitations Gibbons Notes 1. **Only material assets**: What about human capital, knowledge, relationships? 2. **No relational contracts**: BGM show integration serves informal agreements 3. **Binary choice**: Real world has many hybrid forms 4. **No coalition view**: Treats firms as unitary actors ### Connection to Gibbons (2025) GH provided the **property rights pillar** of modern organizational economics. But Gibbons argues we now need: - Less focus on "should we integrate?" - More focus on "how do visible hands build equilibria?" Integration matters, but it's **one choice among many** for visible-hand coordination. ## 🎯 One-Sentence Summary **Ownership of assets matters because it determines who controls unspecified decisions, which shapes ex-ante investment incentives in incomplete contracts.** --- *"Integration changes threat points, not equilibrium outcomes."* β€” Grossman & Hart (1986) *"GH gave us the property rights foundation; now we need the equilibrium-building superstructure."* β€” Gibbons (2025)