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Thursday, March 30, 2006

Outsourcing and Contract

Aab_12 One of the most interesting trends in recent years is "outsourcing" -- the practice of replacing activities governed within the firm with contractual relationships.   In Hierarchies, Relational Contracts and New Forms of Outsourcing, Ulrike Muehlberger of the International Centre for Economic Research at the Vienna University of Economics and Business Administration, uses a study of the Austrian insurance industry to look at the evolving relationships.  It's not, she finds, all that simple.  Here's the abstract:

We observe that economic restructuring is significantly changing organizational governance. On the one hand, we witness an increase in mergers & acquisitions, which substitutes markets for hierarchies and, on the other hand, we see an increase in outsourcing and subcontracting activities, appearing to replace hierarchies by markets. However, there is evidence that an increasing part of outsourcing activities mix hierarchies with market forms of governance. The key argument of this paper is that firms have established governance structures based on markets, hierarchies and self-enforcing relational contracts so that they are able to keep a substantial amount of control despite of sourcing out labour. Furthermore, we argue that such hierarchical forms of outsourcing produce dependency. Using empirical evidence of the Austrian insurance industry, it is demonstrated that dependency is created, firstly, by the contractual restriction of alternative uses of resources, secondly, by support measures that bind the upstream party closely to the downstream party, thirdly, by relationship-specific investments made by the upstream party, and fourthly, by authority elements.

[Frank Snyder]

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