Of Guanxi and Taipans: market power and the East Asian model as a competition policy

Abstract

This paper proposes a nexus-of-contract explanation for the emergence of a taipan (powerful tycoon). The background is a weak third party enforcement environment where entrepreneurs to operate and survive must acquire enforcement capacity. The take-off model used here is in Fabella (2005), where contracts involve a cash advance in period one from a principal P to an agent A who delivers effort or repayment in period two. This is called cash-in-advance contracts. The idea is that a taipan is a primarily market exchange-oriented entrepreneur who in a weak third party enforcement (TPE) environment is forced to vertically integrate into second party enforcement (SPE) to survive. While TPE is public, SPE is private and excludable. Thus, the taipan is, on the one hand, Schumpeterian in that he brings otherwise infeasible markets into existence through his command over an SPE, and on the other a potential predator that this command may be trained against potential competitors. In particular, pursuit of an SPE may lead to the capture of state decision-making apparatus, which may retard institutional change. Whether the taipan stays Schumpeterian (growth enhancing) or becomes a predator (growth-retarding) is an important question. The effect of openness on the evolution of taipans is discussed. In Section II, we model the contract environment characterized by weak TPE and results in a \'missing market\'. The guanxi approach (also known as relational contracting), is then developed as a contract theoretic response. In III, we cover the birth of a taipan as an entrepreneur who captures state enforcement and rulemaking apparatus in order to internalize property rights protection