Here's an essay I wrote. It's mostly sketching out the general case without going into case studies. I realize people like to bring things down to reality but it didn't feel right for this essay.
Arthur has an oil well. Caleb has the skill to refine the oil. Without the oil the skill is useless. Without the skill to refine the oil the oil is useless. How do they share the profits that come from selling the refined oil? How do they negotiate the split of the profits?
One might imagine that Arthur could choose from many oil engineers and select the one that will give him the best deal, and Caleb could find the oil well owner that will give him the best deal, and supply and demand would meet in the middle through ordinary market forces. In practice this isn’t always how things go. Sometimes one side doesn’t have any other potential partners. Sometimes, for one reason or another, neither side does. If there’s only one seller and one buyer, that’s known as a bilateral monopoly. In the case of the oil well it’s less a matter of buyers and sellers and more about two business partners who can’t profit without the other.
In such cases, negotiation turns into a game of chicken. If Arthur offers Caleb a split that Caleb thinks is unfair, Caleb can refuse it, in which case the oil stays in the ground and neither side gets paid. Likewise for an unappealing deal that Caleb offers to Arthur. If one side wants 95% of the profit, the other side could reject the deal, even if it means no profit for either of them. That’s not irrational, it’s just the only way to exercise leverage in such a situation.
So far so obvious. But here’s the thing that I want to call attention to: in a simplified model, the deal that will go through is one where the wealthier business partner gets a larger cut of the profits. In a market with only one buyer and one seller, the side with the highest willingness to cancel the deal has the most leverage, and the richer side (theoretically) needs the money less. Horribly ugly, but also utterly reasonable. In many cases we may wish it were otherwise, but if the poorer business partner cancels the deal too often out of indignation and pride that’s not so great either.
It might seem like the situation I described with only one buyer and one seller is unlikely to occur, but consider the situation in Venezuela under Hugo Chavez: Chavez couldn’t fire all the domestic oil engineers and replace them without greatly hampering oil production and disrupting the workings of the entire country, and the oil engineers couldn’t go work somewhere else without uprooting their lives and going to an entirely different country. Venezuela didn’t have a monopoly on oil, and the oil engineers didn’t have a monopsony on oil engineering, but the costs for switching partners were high enough that somewhat similar effects were in play, I think.
Mood board:
The national pride of poorer countries as a recurring factor in geopolitics
Oil negotiations between Iran and Britain in the 1950s
Hugo Chavez firing all the oil engineers in Venezuela
Hollywood Strikes
The likelihood that both sides will think that what they bring to the table in the deal is the key ingredient in the process and therefore more valuable.
Additional thought:
What would it look like if the richer side needed the money more? Could that ever happen? Maybe there could be situations where the richer party has “farther to fall” than the poorer party. For instance, if the richer side of the equation has a lot of valuable businesses that need capital injections in order to stay afloat, and the poorer side of the equation can just continue with a meager but stable lifestyle.
https://absenceofweather.substack.com/p/fair-and-unfair-in-bilateral-monopolies
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Notes -
And the extreme case (and also the most common one) is a publicly-traded company where management will keep their jobs under Chapter 11, the Board are mostly retired executives of other companies, and the shareholders are diversified. Apart from the tangible assets at stake (such as a car factory being idled during a strike), the people on the opposite side of the table to the union have nothing invested.
Private equity has a reputation for being even more ruthless than publicly-traded companies, possibly because the owners are maximally disinvested through financial leverage.
Where do you have the information from that this is the most common case? Afaik, the stats are pretty clear that the majority of companies aren't publicly traded, even in the US it's only something like 10%. If I go by my - admittedly very biased - german sample, founder=owner=CEO is quite common for smaller companies, and afaik the stats here are even worse in percentage terms.
I meant most common case in terms of most workers, not most firms. (Publicly traded companies tend to be large). This study says that US listed companies employ 23% of total non-farm payrolls, down from 31% in 1984 when the time series they were using started. US employment by foreign listed companies adds another few points to this.
These numbers are lower than I thought, so I need to retract "most".
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