Competing for Relationships: Markets and Informal Institutions in Sierra Leone

Tuesday, 29 November, 2016
A body of literature suggests that relationships affect contractual and market outcomes, but how does market structure affect the economics of relationships? This paper by Ghani and Reed (2016) provides microeconometric evidence that upstream market structure affects the value of downstream relationships between retailers and buyers. In their setting, a monopoly ice manufacturer sells through independent retailers to fishermen buyers in Sierra Leone. They demonstrate that a shock that increases upstream competition among manufacturers improves the contractual terms ordered by retailers to buyers. Under the monopolistic manufacturer, they document that late deliveries are common due to outside demand shocks. To help mitigate this uncertainty, retailers prioritize loyal customers when faced with shortages, and buyers respond by rarely switching retailers. When manufacturers compete, prices fall, quantities increase and services improve with fewer late deliveries. Entry upstream also disrupts collusion among retailers by increasing the value of competing for buyer relationships. Competing retailers expand trade credit provision as a new basis for loyalty, and stable buyer relationships reemerge after a period of intense switching. The findings suggest that market structure shapes informal contractual institutions, and that competition can increase the value of relationships.