Transaction costs: A study of its effects on growing economies

Abstract

The idea of transaction costs was first developed by Ronald Coase in 1932 as part of a lecture given to students at the School of Economics and Commerce in Dundee, Scotland, then turned into a paper titled, "The Nature of the Firm."i Transaction cost refers to the cost of providing for some good or service through the market rather than having it provided from within the firm.ii Coase describes in his article "The Problem of Social Cost" the transaction costs he is concerned with: “In order to carry out a market transaction it is necessary to discover who it is that one wishes to deal with, to conduct negotiations leading up to a bargain, to draw up the contract, to undertake the inspection needed to make sure that the terms of the contract are being observed, and so on.” At its core is this notion: When a company tries to determine whether to outsource or to produce goods or services on its own, market prices aren't the sole factor. Those costs frequently determine whether a company uses internal or external resources for products or services. This is the essence of the make-vs.-buy decision. Coase contends that without taking into account transaction costs it is impossible to understand properly the working of the economic system and have a sound basis for establishing economic policy.