How does competition affect market outcomes when formal contracts are not enforceable and parties resort to relational contracts? Difficulties with measuring relational contracts and dealing with the endogeneity of competition have frustrated attempts to answer this question. We make progress by studying relational contracts between upstream farmers and downstream mills in Rwanda's coffee industry. First, we identify salient dimensions of their relational contracts and measure them through an original survey of mills and farmers. Second, we take advantage of an engineering model for the optimal placement of mills to construct an instrument that isolates geographically determined variation in competition. Conditional on the suitability for mills' placement in the catchment area, we find that mills surrounded by more suitable areas (i) face more competition from other mills, (ii) use fewer relational contracts with farmers, and (iii) exhibit worse performance. An additional competing mill also (iv) reduces the aggregate quantity of coffee supplied to mills by farmers and (v) makes farmers worse off. Competition hampers relational contracts directly by increasing farmers' temptation to default on the relational contract and indirectly by reducing mills' profits. © 2021 The Author(s) 2020. Published by Oxford University Press on behalf of the President and Fellows of Harvard College.
Rocco Macchiavello and Ameet Morjaria
5 January 2021
Quarterly Journal of Economics 136(2) , pp.1089-1143, 2021
DOI: 10.1093/qje/qjaa048
https://academic.oup.com/qje/article-abstract/136/2/1089/6054547
This work is published under POID and the CEP's Growth programme.