Vertical Integration in a World Without Reputational Intermediaries or Social Capital: The Example of Coal Mining in Turn-Of-The-Century Japan

Formal judicial procedures and informal community sanctions function as substitutes, and so too do vertical integration and contracts. Sometimes, firms enforce contracts through the courts -- but not all parties have the assets that would make them susceptible to judicial enforcement. Sometimes, firms enforce them through informal mechanisms -- but not all parties live within worlds bound together by dense networks of social ties or reputational intermediaries. When firms find both formal and informal mechanisms too limited, sometimes they integrate vertically instead. Integration can substitute, in other words, for cross-firm contracting where the possibilities of judicial and reputational enforcement are weak. I illustrate this dynamic with an example from the turn-of-the (last) century Japanese coal industry. Given that entrepreneurs lacked actual mining experience, they hired seasoned miners to supervise their teams of miners. Given that they lacked the experience necessary to supervise these supervisors, they placed the supervisors in independent firms and generated the information they needed by sponsoring tournaments among them. The structure did not work. Even the senior supervising miners had little property amenable to judicial enforcement, and worked in mountain communities notoriously devoid of the tight social networks typical of cohesive agricultural communities. Facing multiple disasters caused by out-of-control miners, the mining firms brought their monitoring in-house.