The Firm As An Inspector. A Transaction Cost Explanation of Private Ordering
With increasing fragmentation of worldwide production chains and the corresponding contracting relations between companies, the “firm as an inspector” has become a frequent phenomenon. Buyer firms deploy supervising activities over their suppliers’ products and production processes in order to ensure their compliance with regulatory standards. Why would a firm engage in such activities and which organizational forms does it choose for this purpose? In this article we will analyze the conditions under which firms play the role of an inspector vis-à-vis their sub-contractor firms to guarantee compliance with quality and environmental regulations. We develop a theoretical argument based on transaction cost economics and provide an empirical assessment.