Globalization reshaped supply chains and the boundaries of firms in favor of outsourcing. Now, even vertically integrated firms procure substantially from external suppliers. To study procurement and the structure of firms in this reshaped economy, we analyze a model in which integration grants a downstream customer the option to source internally. Integration is
advantageous because it allows the customer to avoid paying markups sometimes, but disadvantageous because it discourages investments in cost reduction by independent suppliers. The
investment-discouragement effect more likely outweighs the markup-avoidance effect if the upstream market is more competitive, as is so in a more global economy.
Loertscher, Simon, and Michael H. Riordan.
"Make and Buy: Outsourcing, Vertical Integration, and Cost Reduction."
American Economic Journal: Microeconomics,
Firm Behavior: Theory
Production; Cost; Capital; Capital, Total Factor, and Multifactor Productivity; Capacity
Intertemporal Firm Choice: Investment, Capacity, and Financing
Capital Budgeting; Fixed Investment and Inventory Studies; Capacity
Transactional Relationships; Contracts and Reputation; Networks
Firm Organization and Market Structure
Contracting Out; Joint Ventures; Technology Licensing