Vertical Integration and Institutional Constraints on Firm Behavior: The Case of the Garment Industry in Egypt

University Of Maryland, College Park, College Park MD

Investigators

Abstract

High transaction cost- the cost associated with the completion of an economic transaction-are detrimental to economic efficiency. Vertical integration combines two or more stages of a production process under one firm, and mitigates transaction costs. Yet data for both MENA (Middle East and North Africa) and Egypt specifically suggest a predominance of small firms operating in industries. This project focuses on the determinants of vertical integration in the Egyptian garment industry, its link to economic efficiency and competitiveness, and on special features of the Egyptian institutional environment that lead to this lack of integration. The research framework, based on the body of theory from institutional economics and industrial organization, will be adapted to the Egyptian setting by taking into account locally-specific features of the institutional environment, such as credit constraints locking firms into small firm size, and the differential tax burden of small and large firms. A survey will be carried out of about 200 firms in the garment industry. Firms will be asked questions about the technology and organizational structure of the industry, contractual arrangements, institutional constraints and institutional substitutes. In addition to the model, case studies based on detailed interviews are to be used. They are meant to provide valuable insights into the institutional and policy environment in Egypt that econometric techniques do not capture. The research has a broader impact in terms of both theory and policy relevance. On the academic front, there are few empirical studies of vertical integration in developing countries. From the policy side, understanding why different institutional governance structures emerge is important for a wide variety of public policy decisions such as privatization and industry restructuring policies; network industry restructuring and deregulation policies; export market penetration/competitiveness policies; ensuring a level playing field with foreign owned firms or joint ventures. In terms of institutional design, it has been widely shown that institutional reforms and innovations have been most effective when they meet market-supporting institutional needs in ways that are compatible with country specific conditions.