Question

How is the ‘hold up’ problem related to the ‘make or buy’ decision and the growth of firms? If the ‘hold up’ problem is serious, why do ‘supply chains’ continue to grow? What institutional factors do you think affect the ‘hold up’ problem?        

Answer 1

The hold-up problem is actually a bargaining power situation that may arise from a verbal or a non-standardized contracts. Hence, it can have adverse impact especially on small businesses. Example- if raw material/ fabric is not available, then a local retailer/ cloth shop can’t manufacture finished clothes for it’s local customers. Result will be customer loss and revenue loss. So then, that retailer will have to chose an alternative fabric supplier or to outsource it’s activity to another custom tailor or small manufacturer, and so that he only sells.

In many cases, the seller/ vendor of fabric, may demand higher prices to the retailer. It can hurt the bottom line of retailer or if he charges more to customers, then customers may make a call to leave or not ready to pay high.

Supply chains continue to grow because they get segmented further. Hence overall it becomes sometimes more complex. Like in above example, Fabric seller can set it’s agents to distribute to other retail manufacturers and shops, the Fabric buyer/ Retailer might chose other agents to negotiate for better material or more sources of material at one time, with different prices. So each will have their own supply chains, plus the agent’s too. Hence, individual supply chains will grow here.

Institutional factors in hold up problem:

• weak property rights protection
• information asymmetry between small or big institutions
• unexpected agency behaviour
• un-anticipated opportunistic behaviour from either supplier/ buyer side
• insufficient market disciplinary forces
• difference in emerging economies
• more strict or less strict local regulation of market trades