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170 CHAPTER 5 • PuRCHAsing And suPPly sTRATEgy
pay full attention to the possibility of opportunistic supplier behaviour. Insights from
transaction cost economics (see below) are extremely valuable here.

Transaction cost economics (TCE)
This hugely influential theory, most closely associated with the work of economists
Oliver Williamson and, before him, Ronald Coase, attempts to explain the particu-
lar structure of firms or, more specifically, why managers choose to undertake certain
transactions within the firm as opposed to letting them take place in supply markets.
Addressing as it does the fundamental ‘do and/or buy’ question, it has become a core
theory for understanding purchasing and supply behaviour. TCE assumes that most
people can’t remember everything and often can’t figure out what to do with the infor-
mation they do have (i.e. they exhibit bounded rationality), and exchange partners
aren’t always completely honest about their intentions (i.e. they may act opportunis-
tically); as a result, transaction costs emerge. For example, in any real buying activity,
lack of information about alternative suppliers often leads firms to pay too high a price
for something they purchase. The most pragmatic contribution of the theory comes
from the dimensions that are used to characterise the nature of different transactions:

● Frequency. Why would a firm choose to bring ‘in-house’ the provision of a good or
service that is very rarely used? For example, most firms don’t have their own legal
department because this is a highly specialised and infrequently used resource.
● Asset specificity. In general terms, when transactions involve highly specific assets,
such as dedicated production facilities, transaction costs are likely to be higher in a
market exchange.
● Uncertainty. The greater the duration of a transaction (e.g. contract period) the more
difficult it is to envisage all potential eventualities that might occur during the course
of the transaction. For example, if entering into a long-term arrangement with a
supplier – how do you know if it will still be in business?
Finally, although TCE is very useful it does have limitations. For example, it is often
very difficult to measure transaction costs in practice. Equally, although TCE assumes
bounded rationality, it doesn’t consider other factors such as power, reputation and
trust, which affect supply-related decision making. The interaction of these two dimen-
sions suggests a range of generic outsourcing options (see Figure 5.8).

Example outsourcing and the ‘gig economy’ 7
Once, the only profession that saw their work as a series of ‘gigs’ were stand-up comics and
musicians. No longer. Now it is common for many professional people from Web developers
to consultants to offer their expertise in an ‘on-demand’ talent marketplace. Partly, this trend
established itself because of the downturn in many economies after the financial crisis of 2009.
This affected even professional service firms like lawyers and designers. Staff numbers were
cut, professionals laid off, and recruitment slashed or postponed. It also led to a certain grim
humour. ‘What do you say to a recent law-school graduate?’ Answer – ‘A skinny double-shot
latte to go, please.’ But businesses, including professional services, recover as economies recover.
Possibly more significant is that such firms are taking far more advantage of outsourcing to
protect themselves against fluctuations in demand (as well as cut costs generally).

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