Firms In Markets Under Uncertainty

We analyze a rational-expectations model of price formation in an intermediategood market under uncertainty. There is a continuum of dyads, each consisting of an upstream party and a downstream party. Both parties can make speci…c investments at private cost. As in property-rights models, di¤erent governance structures induce di¤erent investments. As in rational-expectations models, some parties may invest in acquiring (common-value) information, which is then incorporated into the market-clearing price by the parties’trading behaviors. The informativeness of the price mechanism a¤ects the returns to speci…c investments and hence the optimal governance structure for individual dyads; meanwhile, the governance-structure choices by individual dyads a¤ect the informativeness of the price mechanism. In equilibrium, …rms and the market coexist and shape each other. In particular, the informativeness of the price mechanism can induce ex ante homogenous dyads to choose heterogeneous governance structures. (JEL D20, D23) Gibbons: Massachusetts Institute of Technology and NBER, [email protected]. Holden: University of Chicago and NBER, [email protected]. Powell: Massachusetts Institute of Technology, [email protected]. We thank Daron Acemoglu, Philippe Aghion, Mathias Dewatripont, Glenn Ellison, Oliver Hart, Bengt Holmstrom, Birger Wernerfelt, Oliver Williamson, and seminar participants at Chicago, Harvard, MIT, Northwestern, Queen’s, Toronto and USC for helpful comments, and MIT Sloan’s Program on Innovation in Markets and Organizations for …nancial support. Powell thanks the NSF for …nancial support.