One of the most pronounced differences between British and Japanese customer—supplier relationships is the norm concerning the projected length of trading. Chapter 6 discussed how sectors requiring greater asset specificity — electronic assembly more than PCB manufacturing — tended to have longer-term trading norms than those with less transaction-specific investments. However, such inter-sectoral differences do not wipe out the British—Japanese gap. Within the PCB sector, for instance, some suppliers in Britain preferred long-term trading but faced fickle, uncommitted customers. In Japan, the most ACR supplier now specialising in small-batch production felt obligated to take on low margin orders from a long-standing customer. From the Japanese customer company's viewpoint, slight price fluctuations do not normally constitute a sufficient reason for breaking off a trading relationship; as we saw in the case of JJ Electric, a strong norm works towards giving out as smooth and continuous a level of order as possible to its core suppliers and subcontractors. What national institutions enable customer companies to make such commitment for long-term continuous trading? Both the bank-oriented financial system and the lifetime employment system in Japan appear to reinforce long-term trading in product markets (see Figure 1.1).

This chapter focuses on the financial system in Britain and Japan as a possible reason behind the difference between the British norm of short-term trading and the Japanese norm of long-term trading in customer—supplier relationships.

The next supporting national institution to be examined is the employment and industrial relations systems of Britain and Japan. It is argued in this chapter that (i) there is a close parallel between customer—supplier relations and employment relations in each country (a point noted by Dore (1983, p. 472) and Aoki (1988)); (ii) the similarities are due to logical links underlying parallel historical developments in the employment and subcontracting systems; and, more specifically, (iii) the functional flexibility and stability of the workforce at both supplier and customer companies in Japan have enabled the development of ‘competence trust’ and ‘goodwill trust’ which are indispensable in OCR-type customer—supplier relations.

Analogy between employment relations and supplier relations

At the risk of oversimplification, this section presents a stylised characterisation of the parallel between ‘organisation-oriented’ employment relations and OCR-type customer—supplier relations in Japan. In doing so, the contemporary Japanese situation is contrasted implicitly with a combination of ‘market-oriented’ employment relations and ACR-type customer—supplier relations which are the norm in Britain.

Community and association

The Japanese enterprise is ideally a community whose members, both workers and managers, work towards a shared goal to make it prosper. Factors promoting a sense of community include the stability of the membership due to the practice of lifetime employment and internal promotion, the company assuming the responsibility for providing welfare for its employees, and the enterprise union which reinforces the idea that workers' primary affiliation is with the firm rather than with their occupational group.

The time has come to look more directly at the underlying national institutions and social norms which predispose firms to enter into ACR-type or OCR-type trading relations. We begin, in this chapter, by examining the national legal framework. Our evidence in chapters 4 and 5 showed a considerable degree of similarity between British and Japanese practices with respect to contractualism, and the rationale behind those practices. Some supplier companies emphasised the importance of responding flexibly to customers' requirements for short leadtimes which may result in producing (and even delivering) before written contracts are received. A case-by-case resolution in the event of quality defects or late delivery was also said to be necessary because apportioning clear-cut responsibility on either side may not always be feasible.

There were, however, some major differences between British and Japanese practices. In Britain, the norm of short-term trading meant that a written agreement with a duration of up to five years was required to enforce long-term commitment. No such long-term written agreements were found in Japan; more common was a basic contract lasting twelve months, with automatic annual renewal if neither side notified to terminate the contract. In Britain, suppliers tended to have their own terms and conditions of sale, which might create a ‘battle of forms’ with their customers' terms. In Japan, no such terms and conditions of sale were found in the industries examined empirically.

The possibility was raised in the last chapter that intermediate forms of coordination are often associated with superior performance, by combining the best of both worlds, of markets in giving flexibility and of hierarchies in giving maximum control. This chapter has two broad tasks to achieve. The first is to clarify what is meant by good or bad performance, in order to enable us to make an empirical link between ACR—OCR trading patterns on the one hand and corporate performance or industrial competitiveness on the other. The concept of performance to be discussed evolves around a particular notion of the firm as an organisation with a varying degree of capability in enhancing X-efficiency. Transaction costs are incurred in part to invest in such capability.

The second task in the chapter is to examine the concept of trust which is considered central to our understanding of how coordinating mechanisms differ under ACR and OCR. A typology of trust is developed, by making a distinction among three types of trust, namely ‘contractual trust’, ‘competence trust’ and ‘goodwill trust’. Mutual trust between trading partners is seen to entail both efficient outcomes (due to freer information disclosure and commitment) and inefficient outcomes (due to greater non-pecuniary switching costs).

Summary

‘What accounts for the competitiveness of the Japanese manufacturing industry?’ has been an underlying question throughout this study, and is one which continues to receive much attention internationally. The contribution this book makes towards answering that question is through the examination of customer—supplier relationships in Britain and Japan. The present study, though limited in its scope and coverage, makes clear that buyer—supplier relationships have a strong effect on the industrial outcomes of prices, quantities and quality. And there seem to be good grounds for thinking that what has been called obligational contractual relation (OCR) can contribute to achieving superior performance. Prior to addressing the performance issue, the preceding chapters have also focused on (i) delineating types of buyer—supplier relations and identifying their empirical variations, and (ii) examining the factors — economic, institutional, moral and cultural — which affect the choice between different types of trading relations.

As a tool of analysis, a theoretical framework was developed to capture the range of possible buyer—supplier relations, the two extremes of which were called the Arm's-length Contractual Relation (ACR) and the Obligational Contractual Relation (OCR). The characterisation of the ACR—OCR spectrum were in terms of eleven empirically verifiable features. Thus, OCR, as compared to ACR, was characterised by a greater transactional dependence on trading partners, a longer projected length of trading, a greater willingness to accept or offer orders before prices were negotiated and fixed, less contractualism, a greater degree of uncosted sharing of technological know-how and risks associated with business fluctuations.

We will now turn to the thirty-six suppliers (see Table 3.2) and their views on links with their customer companies. This chapter analyses the nature of these relationships by examining each of the eleven features of ACR—OCR patterns identified in chapter 1 (see Table 1.1). An overall assessment of how the ACR—OCR features fit together will be given at the end.

Transactional dependence

We start with an examination of the most tangible data, namely the number of customers each supplier trades with, and the related issue of transactional dependence. It was stated in chapter 1 that a heavy transactional dependence on a few customers is a reflection of the company's willingness to be locked into a relationship, which is a feature of OCR. By contrast, a broad customer base with minimum dependence on any one customer is a characteristic of ACR.

As Table 5.1 shows, the degree of transactional dependence is higher and the number of customers less on average in Japan than in Britain. This is consistent with interviewees' responses on the optimal situation: in Britain, 15 per cent in the PCB industry and 25 per cent in electronic assembly were often cited as the maximum allowable threshold dependence, while in Japan, having three major customers with each taking up a third of the business (‘the three pillar principle’) was offered as the ideal by many.

What makes one company's relationship with another company more ACR (or more OCR) than another's? What explains the variations in the mode of customer—supplier relationships as discovered empirically and described in the previous chapters? This and the following four chapters provide a systematic analysis of factors underlying companies' choice of trading relationships along the ACR-OCR spectrum.

The present chapter concentrates on those factors which have traditionally preoccupied economists. In theory, the assessment of these factors must be carried out on a ceteris paribus basis, assuming that the surrounding national institutions, people's value preferences and social norms are the same for all. In reality, other things are not equal, while various factors may be subject to multiple and two-way links (see Figure 1.1). This chapter deals in the main with the direct effects of economic and technological factors on the ACR—OCR patterns, while being sensitive to two-way causation. The first section concentrates on technology. In particular, we will examine how inter-industry differences in various types of ‘asset specificity’ and product-development cycles affect the nature of customer—supplier relationships. We will then turn to the importance of market conditions, in particular market structures, the nature of competition, and the pace of economic growth which shape companies' expectations about the future of existing trading relationships. Five propositions are put forward in the course of the chapter.

This chapter gives an overview of the customer-supplier and subcontracting relationships from the perspective of three customer companies, namely JJ Electric in Japan, GB Electronics in Britain, and Toshiba Consumer Products (UK) Limited (TCP). All three companies have survived in a changing market and technological environment by adapting strategies in various areas including supplier relations. Some attempts are made to trace changes over time, but the description remains largely a snap-shot at a point in time, circa late 1980s. Is JJ Electric characterised by more long-term obligational (OCR) supplier relations than GB Electronics? Is TCP's practice closer to that of JJ Electric or GB Electronics? Is JJ Electric becoming more arm's length (ACR) in its dealings with suppliers in order to cope with uncertain demand and currency fluctuations? At the same time, is GB Electronics becoming more OCR in order to survive in global competition? Answers to these questions will unravel in the course of this chapter.

JJ Electric

Background

JJ Electric is a company of considerable size, but by no means the largest in the electrical and electronics industry in Japan. The company employs around 38,000 regular workers and had a total sales turnover of just over 2000 billion yen (approximately £9 billion at £1 = ¥230) in the 1986/7 financial year.

A decade ago, Arthur Okun, in his book Prices and Quantities, drew a distinction between auction and customer product markets. He focused on the latter, the ‘vast nonauction area’ (Okun, 1981, p. 134), which in his view prevailed in industrial economies outside of trading in financial assets and commodities. In customer markets, business firms set prices and wages to reflect long-term considerations to reduce costs, as well as short-term changes in markets. The long-term ‘invisible handshake’ (in Okun's words) between customers and suppliers, and between employers and employees, creates price rigidities which Okun identified as a cause of stagflation.

This book is also about the vast nonauction area in industrial economies. But its topic, buyer—supplier relations, is more narrowly microeconomic than Okun's, and its methodology very different in its reliance on a case-study-based socio-economic inquiry. This book identifies variations within customer markets in the way firms interact with each other, some by ‘invisible handshake’ and others by ‘visible handshaking’ (Aoki, 1984). Such variations have consequences not only for the way in which prices are determined, but also for other performance parameters, perhaps the most important of which today is quality.

Since Okun wrote, global competition in manufacturing has become more about coping with volatile market demands and rapid technological change.

This chapter sets out the conceptual framework to be employed throughout this book. Central to the framework are the two patterns, Arm's-length Contractual Relation (ACR) and Obligational Contractual Relation (OCR), which represent the ends of a multi-dimensional spectrum of possible trading relationships. First, the basic features of ACR and OCR are described. Second, major assumptions underlying the ACR—OCR patterns are made explicit. Third, socio-economic factors which may account for ACR—OCR variations are identified. Fourth, implications of ACR—OCR patterns for performance are examined. Lastly, the chapter discusses how the ACR—OCR framework relates to Williamson's transaction cost theory.

Defining ACR and OCR

The Arm's-length Contractual Relation (ACR) involves a specific, discrete economic transaction. An explicit contract spells out before trading commences each party's tasks and duties in every conceivable eventuality, as far as human capacity for anticipation allows. If unforeseen contingencies arise, they are settled by resort to some universalistic legal or normative rules. All dealings are thus conducted at arm's length, to avoid undue familiarity, with neither party controlled by the other. Consequently, seeking an alternative trading partner (‘exit’ in Hirschman's (1970) terms) is an easily available option when a contract comes to an end.

The Obligational Contractual Relation (OCR) also involves an economic contract covering the production and trading of goods and services.