Informal Institutions in Contracting under Conditions of Fundamental Changes (Evidence from the Large-diameter Pipe Industry)

Abstract

The article aims to shed a light on the role processes of negotiations for the development of industry, especially in the context of fundamental changes caused by external factors that require adapting contracts. The study considers the example of Russian production of large diameter pipes (LDP). This achieved significant success in 2015-2016, but currently this sector is experiencing a decline in demand, crises in negotiations, and a transition to non-cooperative behavior. The development of the industry has required decisions based mainly not on complete formal legal contracts, but on informal agreements, including active negotiations between market participants. Negotiations have been provided by a specialized agent, an “intermediary” (facilitator) in the LDP market. The facilitator had competence in specialized negotiations, as his interests partially coincided with those of consumers and manufacturers. However, due to the negative demand shock, the facilitator left the market, and as a result, a crisis of negotiations between main market participants arose, which led to a transition to new market participants who do not have formal certification of expertise. New institutional economic theory, negotiation theory, and game theory do not address in detail the role of negotiations between companies. In this paper, we consider game-theoretic models that reproduce the decisions of market participants and an equilibrium they form, which takes into account the role of negotiations and their features. The analysis shows possibilities and limitations of informal institutions in the negotiation process, contributing to the distribution conflict solution and a way out of non-cooperative interaction of market participants. It leads to a market equilibrium with a product of high quality. This work develops a new institutional economic theory through a synthesis with theory of negotiations and application of these concepts to An analysis of Russian companies’ interaction practices. Further development of this synthesis may reveal the underestimated role of informal institutions in practical decision-making.