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Vertical Integration and Distance to Frontier

Daron Acemoglu, Fabrizio Zilibotti and Philippe Aghion
Journal of the European Economic Association
Vol. 1, No. 2/3, Papers and Proceedings of the Seventeenth Annual Congress of the European Economic Association (Apr. - May, 2003), pp. 630-638
Published by: Wiley on behalf of European Economic Association
Stable URL: http://www.jstor.org/stable/40005212
Page Count: 9
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Vertical Integration and Distance to Frontier
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Abstract

We construct a model where the equilibrium organization of firms changes as an economy approaches the world technology frontier. In vertically integrated firms, owners (managers) have to spend time both on production and innovation activities, and this creates managerial overload, and discourages innovation. Outsourcing of some production activities mitigates the managerial overload, but creates a holdup problem, causing some of the rents of the owners to be dissipated to the supplier. Far from the technology frontier, imitation activities are more important, and vertical integration is preferred. Closer to the frontier, the value of innovation increases, encouraging outsourcing.

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