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The Costs and Benefits of Ownership: A Theory of Vertical and Lateral Integration

Sanford J. Grossman and Oliver D. Hart
Journal of Political Economy
Vol. 94, No. 4 (Aug., 1986), pp. 691-719
Stable URL: http://www.jstor.org/stable/1833199
Page Count: 29
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The Costs and Benefits of Ownership: A Theory of Vertical and Lateral Integration
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Abstract

Our theory of costly contracts emphasizes the contractual rights can by of two types: specific rights and residual rights. When it is costly to list all specific rights over assets in the contract, it may be optimal to let one party purchase all residual rights. Ownership is the purchase of these residual rights. When residual rights are purchased by one party, they are lost by a second party, and this inevitably creates distortions. Firm 1 purchases firm 2 when firm 1's control increases the productivity of its management more than the loss of control decreases the productivity of firm 2's management.

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