Endogenous altruism in buyer-seller relations and its implications for vertical integration

This paper considers a standard buyer-seller relation where the seller can take non-contractible actions that raise the value of the good to the buyer. This relationship can either take place inside a firm so that the buyer can give orders to the seller or across firm boundaries. Both the buyer and the seller can, if they wish, become altruistic towards one another. Becoming altruistic is costly and leads individuals to care about the other individual's payoffs ex post. Still, its observability can lead it to arise endogenously in buyer-seller transactions. Under plausible conditions, altruism from seller to buyer arises more easily for outside contractors than for employees. The result is that endogenous altruism can be a force that leads to disintegration. Altruism from buyers to their supplying contractor can also arise. As suggested by the empirical literature, it increases the frequency of purchases.