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Acquiring information before signing a long-term contract

Authors Zhu, Tim Tian
Issue Date 1997-07-07
Summary This paper studies how the possibility to acquire information before signing a long-term contract in a typical hold-up problem can affect the terms of the contract and the efficiency in relationship-specific investments. We consider a situation in which, after being offered a long-term contract, the seller can incur a cost to acquire information about the future state of nature. Conditions are identified under which, when contracts have to be simple, the ability of the seller to acquire information may lead to the use of inefficient spot contracts and result in under-investment. In contrast to several recent papers, the result restores hold-ups as a serious problem in inter-firm relationships. It also gives an explanation for why we see a shortage of beneficial long-term contracts in the real world.
Language English
Format Working paper
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