Transaction costs, trust, and the structuring of markets

This article examines the institutional arrangements that develop when the risks of opportunism and other contributors to transaction costs are high but transactions are nevertheless necessary for economic efficiency. Williamson’s famous distinction between markets and hierarchies is inadequate because under certain circumstances markets may be hierarchies that are deliberately managed to reduce levels of transaction costs and undertake strategic objectives to improve their competitiveness with other hierarchies, including other markets. As transaction costs are production costs for these markets, careful management increases the efficiency of the markets. As a result, some important markets are also hierarchies that are structured in ways that are analogous to firms precisely in order to reduce their costs of operation, including the transaction costs that arise from using them.