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Seoul Journal of Economics
[ Article ]
Seoul Journal of Economics - Vol. 23, No. 4, pp.533-567
ISSN: 1225-0279 (Print)
Print publication date 30 Nov 2010
Received 05 May 2010 Revised 17 Sep 2010 Accepted 24 Sep 2010

Vertical Integration for Quality Signaling

Meeryung La ; Jee-Hyeong Park
Ph.D. Candidate, Department of Economics, Seoul National University, Seoul 151-746, Korea, Tel: +82-2-880-6360 minerva2@snu.ac.kr
Corresponding Author, Associate Professor, Department of Economics, Seoul National University, Seoul 151-746, Korea, Tel: +82-2-880-6329, Fax: +82-2-886-4231 j-hpark@snu.ac.kr

JEL Classification: F23, L14

Abstract

In the presence of consumers’ incomplete information of firms’ ability to produce quality components, we analyze firms’ incentive to commit to a long-term relationship as a way to convince consumers about forming a high-type pair. In contrast to the result of no brand leverage obtained by Choi and Jeon (2007), our analysis demonstrates that a “brand-named” firm can restore its leverage by committing to a long-term relationship. To overcome the time inconsistency problem in a long-term contract, firms may utilize vertical integration with relation-specific investment. This signaling motivation for vertical integration is different from the explanations that currently exist.

Keywords:

Foreign direct investment, Long-term contract, Signaling game, Vertical integration

Acknowledgments

We are very thankful to the editor and two anonymous referees for helpful comments. The corresponding author gratefully acknowledges financial support from the Center for Corporate Competitiveness of Seoul National University Institute of Economic Research with the grant provided by the Seoul National University Foundation. La gratefully acknowledges financial support from the Brain Korea 21 program of Seoul National University.

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