Real firms, transaction costs and firm development: a suggested formalisation

The motivation of this discussion is threefold: to integrate transaction costs (TCs) into a standard model of the firm; to examine the interaction between organisational factors (i.e. TCs) and standard demand-cost factors; and to analyse key propositions of transaction cost economics with the general model. Two sets of results are derived. First, when analysis is based on significant interaction between organisational effort and production costs two possible organisational solutions can exist. First we have a “normal” relationship that the existence of small firms is subject to a threshold effect for transaction complexity. Secondly large firms can develop because of interactions between organisation effort and marketing and production costs. A second key result concerns strategies to shift from small to large solutions that can be based on either “small steps” or “developmental leap”. The viability of these alternatives is shown to depend on transaction complexity that affects the transition costs involved. In short these findings collectively indicate that analysis of the interaction between organisational and technical aspects of the firm using a formal method does indeed add value in terms of our understanding.