The Conduct of Economics: The Example of Fisher Body and General Motors
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The Conduct of Economics: The Example
of Fisher Body and General Motors
RONALD COASE
The University of Chicago Law School
The University of Chicago
Chicago, IL 60637
1. The Question
The events leading to the acquisition of Fisher Body by General Motors
(GM) were said by Benjamin Klein, in a paper published in 1998, to be
“[p]erhaps the most extensively discussed example in the economic lit-
erature of a hold-up due to the presence of specific investments” (Klein,
1998, p. 241). Joel Trachtman, discussing opportunistic behavior in 1997,
refers to the “classic example of Fisher Body and General Motors”
(Trachtman, 1997, p. 521). More recently, in 2003, Douglas Baird noted
that the merger of Fisher Body and GM had become “the paradigmatic
example of vertical integration” (Baird, 2003, p. 24). Writing in 2004,
Hideshi Itoh and Hodaka Morita refer to “the famous General Motors-
Fisher Body example” (Itoh and Morita, 2004, p. 2). And there are many
other references of a like nature. Certainly, as Oliver Williamson has
correctly said, this example has been “widely used” (Williamson, 2002,
p. 182). The problem with this widely used example is that the events, so
minutely described, never happened. In this paper, I will consider what
it is about the conduct of economics that led so many able economists
to choose error rather than truth.
2. The Tale
The first reference I have found to opportunism in the relations of
Fisher Body and GM is contained in a paper by Benjamin Klein, Robert
Crawford, and Armen Alchian, “Vertical Integration, Appropriable
Rents and the Competitive Contracting Process” (Klein et al., 1978).
This paper, as the authors say, is largely devoted to discussing “the
possibility of post contractual opportunistic behavior” (p. 297). They
tell us that GM became unhappy with the price they paid for bodies,
I am greatly indebted to Dr. Ning Wang without whose able research assistance this paper
could never have been written.
C 2006, The Author(s)
Journal Compilation C 2006 Blackwell Publishing
Journal of Economics & Management Strategy, Volume 15, Number 2, Summer 2006, 255–278256 Journal of Economics & Management Strategy
calculated in accordance with the provisions of the 1919 10-year contract
with Fisher Body in which “price was set on a cost plus 17.6% basis
(where cost was defined exclusive of interest on invested capital)” (p.
309). This assertion, even if true, has nothing to do with “post contractual
opportunistic behavior.” However, they then say that “Fisher refused to
locate their body plants adjacent to GM assembly plants, a move GM
claimed was necessary for production efficiency (but which required a
very specific and hence possibly appropriable investment on the part
of Fisher)” (p. 309–310). What they apparently had in mind was that,
after Fisher Body had constructed the body plants, GM could reduce the
price they paid for bodies to a level that would cover the costs of running
the plants but would not compensate Fisher Body for their investment
in plant and equipment that had no value except for making bodies
for GM. Given this possibility, Fisher Body would be reluctant to locate
their plants adjacent to GM assembly plants and would locate them
elsewhere in order to be available to make bodies for other automobile
manufacturers. Klein et al. (1978) concluded that “[by] 1924, General
Motors had found the Fisher contractual relationship intolerable and
began negotiations for purchase of the remaining stock in Fisher Body,
culminating in a final merger agreement in 1926” (p. 310).
Although the paper by Klein et al. (1978) was much cited (226
times) in the 10 years after publication, the example of Fisher Body and
GM attracted little attention. It was referred to on only five occasions in
this period. Three articles refer to but do not discuss it (Crocker, 1983; An-
derson, 1985; Joskow, 1985). Only in one paper was there any real interest
in this example and this only briefly. This is what was said: “the more
specialized a firm’s investments, the more it entraps itself . . . fostering
opportunistic behavior among the customers. For example, in the 1920s,
Fisher Body—then an independent firm—invested large amounts in
presses used to stamp parts for General Motors. Once it had committed
itself to such specialized equipment, GM was able to opportunistically
renegotiate a better contract” (Pennings et al., 1984, p. 308). This paper
correctly states the argument of Klein et al. (1978) that a supplier to GM
that installed specialized equipment for this purpose, laid itself open to
subsequent opportunistic actions by GM but it also states, incorrectly,
that GM did act opportunistically. The argument of Klein et al. (1978)
was that Fisher Body was able to avoid this outcome, at least in part, by
not locating their plants close to GM’ assembly plants.
There was, however, one paper that included an extensive discus-
sion of the Fisher Body–GM example, but this was by Benjamin Klein,
one of the authors, along with Crawford and Alchian, of the original
paper on postcontractual opportunistic behavior. In a paper on the
subject of why wages are rigid, Klein (1984), to illustrate his argument,The Conduct of Economics 257
uses the example of Fisher Body and GM. “Since Fisher Body had to
make a highly specific investment in stamping machines and dies . . . a
long term (10-year) fixed formula price contract was negotiated with
the price set equal to cost plus 17.6% ” (pp. 334–335). But, he continues,
“even if the price is effectively fixed, a buyer may be able to hold
up a seller who has made a buyer-specific investment by threatening,
unless some price adjustment or side payment is made, to vary quantity
demanded, including the threat of complete termination. To prevent
this, the . . . contract included an exclusive dealing clause, whereby GM
agreed to buy over the period of the contract all their closed bodies
from Fisher. This arrangement significantly reduced the possibility of
GM acting opportunistically after Fisher made the specific investment
in production capacity” (p. 335). However, in “the GM–Fisher case,
omissions in the contract were glaring and caused problems almost
immediately. First, although the price was set on a cost-plus basis,
cost was defined exclusive of interest on invested capital. Given the
absence of a capital cost pass through, Fisher shifted toward a low-
capital-intensity form of production with resulting higher prices to GM.
In addition, because transportation costs were reimbursable as part of
the price formula, Fisher refused to locate their body plants adjacent to
GM’s assembly plant, . . . In an attempt to prevent such problems, the
contract included provisions that the price charged could not be greater
than Fisher charged other automobile manufacturers for similar bodies.
However, this . . . clause proved to be ineffective, apparently because of
the difficulty of defining what is ‘similar’” (id). It is also said in a footnote
that there were “provisions for compulsory arbitration in any dispute
regarding price” but “these provisions also proved ineffective” (id).
What is unexpected is that this account differs in an important
respect from what was said by Klein in the paper written jointly with
Crawford and Alchian (Klein et al., 1978) published seven years earlier.
In that paper, Fisher Body located its plants away from GM’ assembly
plants because it was reluctant to locate them where it would be subject
to possible opportunistic behavior on the part of GM. In this account,
GM’ incentive to act in this way was reduced because GM agreed to
buy all its bodies from Fisher during the 10-year period of the contract.
However, “omissions in the contract were glaring, and caused problems
almost immediately” (Klein, 1984, p. 335). They allowed Fisher Body to
act opportunistically by locating its plants away from the GM’ assembly
plants, which raised its costs and therefore its profits under the cost
plus 17.6% pricing formula. Klein also says, which is not mentioned
in the jointly written paper, that Fisher Body acted opportunistically
by using a labor-intensive method of production, which raised its costs
and, through the operation of the pricing formula, its profits (id). Klein258 Journal of Economics & Management Strategy
concludes that these contractual problems in the relations of Fisher Body
and GM “led in 1926 to their merger” (id, p. 336).
A puzzling feature of this tale is that during the whole period in
which Fisher Body was said to be taking these actions harmful to GM, it
owned 60% of the stock of Fisher Body. It is true that up to 1924, this stock
was placed in a voting trust, details of which I have discussed elsewhere
(Coase, 2000). But the trust ceased to exist in 1924. Klein et al. (1978), after
noting the purchase in 1919 by GM of 60% of the stock of Fisher Body,
state: “However, as demonstrated by future events, the Fisher brothers
clearly seem to have maintained complete control of their company in
spite of this purchase” (Klein et al., 1978, p. 308). But the Fisher brothers
retained control of their company because, of course, they did not take
these actions harmful to GM.
This paper by Klein on “Rigid Wages” was cited six times up to
1988, but in none of these papers in which it was cited was there any
mention of the example of Fisher Body and GM.
3. The Yale Conference
In the 10 years following the publication of the paper by Klein et al. (1978)
on postcontractual opportunistic behavior, as we have seen, the example
of Fisher Body and GM excited little interest. What ultimately led to its
widespread use seems to have been the result of some remarks I made
at a conference held at Yale in 1987 to celebrate the fiftieth anniversary
of the publication of my paper, “The Nature of the Firm” (Coase, 1937).
At this conference, I explained that the ideas in that paper had been
conceived during a visit to the United States in 1931–1932.1 I had studied
at the London School of Economics (LSE) for a Bachelor of Commerce
degree. As I had passed the examinations for the first year of university
work while still at school (high school as it would be called in the United
States), after completing the course work for the degree at LSE, I had
a year to spare until I could graduate. I then had a piece of luck. I was
awarded a Cassel Travelling Scholarship by the University of London
for the year 1931–1932. I decided to spend it in the United States studying
the problem of vertical and lateral integration in industry.
Although I visited some universities, I spent most of my time
visiting businesses and industrial plants. What is relevant for this
paper is that, while there, I developed essentially the same argument
for vertical integration as did Klein et al. (1978) some 46 years later,
although without their sophistication. This is understandable because
I had not studied economics at LSE and had picked up what I knew
1. The account that follows is largely based on Coase (1991).The Conduct of Economics 259
about economics from discussions with a fellow commerce degree
student, Ronald Fowler, with students who were economics specialists
and through attendance at a seminar with Arnold Plant, who was
a Professor of Commerce. However, having developed the argument
that asset specificity would expose a firm to the risk of opportunistic
behavior and therefore lead to vertical integration to avoid it, I finally
concluded that it was not an important factor influencing the structure of
industry.
Fortunately, Ronald Fowler preserved some letters that I sent to
him in 1932. In them I discussed my thoughts as I wrestled with the
problems that I was investigating. As Fowler had some difficulty in
understanding my argument about asset specificity leading to oppor-
tunistic behavior, I set out my argument in different words at different
times. Here is what I said in a letter dated March 24, 1932: “The case
I am considering is this. Suppose the production of a particular prod-
uct requires a large capital equipment which is, however, specialized
insofar that it can only be used for the particular product concerned
or can only be readapted at great cost. Then the firm producing such a
product for one customer finds itself faced with one great risk—that the
customer may transfer his demand elsewhere or that he may exercise his
monopoly power to force down the price—the machinery has no supply
price. Now this risk must mean that the rate of interest paid on this
capital is that much higher. Now, if the consuming firm decides to make
this product this risk is absent and it may well be that the difference in
capital costs may well offset the relative inefficiency in actual operating”
(Coase, 1991, p. 43). However, I ultimately came to reject the existence
of this risk as an important reason for vertical integration as a result
of discussions I had with businessmen. They were unimpressed by my
argument. They pointed out that if equipment was required solely for
one particular customer, the cost would normally be reimbursed by that
customer. They told me of other contractual devices that could be used
to handle the problem, although unfortunately I do not mention in my
correspondence with Fowler what they were. At any rate, opportunism
in connection with asset specificity did not normally pose any problem
and certainly not one that would call for vertical integration. It is not
therefore surprising that this argument is not mentioned in my paper,
“The Nature of the Firm.”
When I came to write my lectures for the Yale conference, I
did not dispute what Klein et al. (1978) said about the example of
Fisher Body and GM but I treated it as an exception to what normally
happened. Their tale was made more plausible for me because I seemed
to remember that an executive at GM in 1932 had told me that they
had merged with Fisher Body to make sure that their body plants were260 Journal of Economics & Management Strategy
placed adjacent to GM’ assembly plants. Nonetheless I accepted what
the businessmen had told me was the normal practice, and therefore
concluded that what Klein et al. (1978) had said had happened in the
example of Fisher Body and GM, although no doubt correct, had no
general lesson.
This view was strengthened by a visit I paid to the A.O. Smith plant
in Milwaukee while I was in Chicago. There I saw steel strip converted
into automobile frames, mainly for GM, by a completely automated
process. Much of the machinery was specific for the GM frames.2 But
the relations of A. O. Smith and GM were harmonious and there was no
talk of any merger of GM and A. O. Smith (Coase, 1991, p. 71–72).
After my return from the United States, I continued to think about
the determinants of the structure of production. In some notes of mine,
(probably written in Dundee in 1934), can be found a strand of thought
which would again strengthen my belief about the unimportance of
opportunism as affecting the organization of industry. In a discussion
of fraud, I said that a firm committing fraud would have to take into
account the future loss of custom that would result. Opportunism is
analogous to fraud (and may indeed involve fraud). I concluded that
the incentive for opportunistic behavior is usually checked by the need
to take account of the effect on future business. In the case of A. O.
Smith and GM, it is obvious that neither firm would want to jeopardize
their relationship by such behavior—and they did not. That Fisher Body
engaged in such behavior was not typical.
In my Yale lectures I also mentioned an investigation of long-
term supply contracts that I made in 1945. What surprised me then
was finding how incomplete the contracts were. What was obvious was
that the relations between what were clearly independent firms were
governed, in part, by informal relations outside the formal contract.
No one commented on this passage and I mention it now because the
information that I received was very reliable and what it disclosed seems
to me extremely important. Such incompleteness, as was found in these
contracts, would not commonly exist unless opportunism was rare. I did
not explain what the circumstances were that led to this investigation. I
will now.
In 1945, I was employed in the Central Statistical Office, part of
the Offices of the (British) War Cabinet. In 1945, the Economic Section
of the War Cabinet Office was considering how to implement the White
Paper on Employment Policy of 1944. James Meade, in the Economic
2. For a detailed discussion of the A. O. Smith plant, see “Making Automobile Frames
Automatically,” Iron Trade Review, August 23, 1928, a paper that appeared four years
before my visit. For comments and additional details, see Chase (1930), published two
years before my visit.The Conduct of Economics 261
Section, thought that the information in long-term supply contracts
might be of assistance in estimating the future demand for labor. A
sample of such contracts was obtained. As you can imagine, an office
headed by Winston Churchill in 1945 had no difficulty in securing the
full cooperation of firms. I was given the job of looking at the contracts
to see if they would be helpful for Meade’s purpose. I soon found that
their incompleteness meant that they would not be helpful. I so reported
and went back to my regular job of handling statistics of guns, tanks,
ammunition and such like. At the time, I realized the puzzle that this
incompleteness presented for the theory of the firm but I am sure that its
relevance for an assessment of the importance of opportunistic behavior
never occurred to me. However, when I came to prepare my Yale lectures
I remembered this episode and it made me more confident in my view
that opportunism was not a major factor determining how industry was
organized.
When the proceedings of the conference were published, first in a
journal (in 1988)3 and later as a book (in 1991),4 I was surprised to find
that a paper by Klein (1991) had been added that had not been presented
at the conference and which was devoted to disputing what I had said
about opportunism, his argument illustrated by the example of Fisher
Body and GM. No example other than that of Fisher Body and GM is
referred to or discussed and this example is used continuously. Of the
13 pages that make up Klein’s paper, 12 contain a discussion of various
aspects of the relations of Fisher Body and GM. The only page without
a reference to these relations is the one giving the conclusion of the
paper.
Klein (1991) did not discuss what I had said. He dismissed it:
“. . .Coase’s rejection of the opportunism analysis is based upon too
simplified a view of the market contracting process and too narrow
a view of the transaction costs associated with that process. A more
complete analysis of how vertical integration solved the opportunistic
behavior problem in the Fisher Body–GM case provides insight into
the nature of the transaction costs that are associated with the market
contracting process and how vertical integration reduces these costs.
The primary transaction costs saved by vertical integration are not the
‘ink costs’ associated with the number of contracts written and executed
but, rather, are the costs associated with contractually induced hold-ups.
The analysis indicates that hold-up potentials are created not solely from
the existence of firm-specific investments, but also from the existence
of the rigidly set long-term contract terms that are used in the presence
3. Journal of Law, Economics, and Organization (1988).
4. Oliver Williamson and Sidney Winter (eds.), The Nature of the Firm: Origins, Evolution
and Development (1991).262 Journal of Economics & Management Strategy
of specific investments” (Klein, 1991, p. 213–214). Later, Klein says
that although “Fisher could have taken advantage of many imperfectly
specified terms of the contractual arrangement, such as delivery time
or quality characteristics, Fisher effectively held up GM by adopting a
relatively inefficient, highly labor-intensive technology and by refusing
to locate the body-producing plants adjacent to GM assembly plant”
(p. 215–216).
I did not see Klein’s paper until it was published and had therefore
no opportunity to correct its errors or to comment on its approach.
Klein (1991) says, for example, that “Coase in 1937 and again now has
incorrectly identified the costs of using the market mechanism with the
narrow transaction costs of discovering prices and executing contracts”
(p. 221). I have never so confined the scope of transaction costs. For
example, in my letter to Fowler of March 24, 1932, (reproduced in the
lectures on which Klein was commenting), I discussed the example of a
supplier who had invested in equipment which exposed him to the risk
of subsequent opportunistic action (although I did not use the phrase).
I argued that if such a risk existed, it would lead to an increased cost
of capital to compensate for its existence. Whether this is the best way
of looking at this problem I do not know. But, at any rate, it was not
ignored.
But the important difference between Klein and me was due to
a difference in our perception of the facts. Klein (1991) thought that
the “primary transaction costs saved by vertical integration . . . are the
costs associated with contractually induced hold-ups” (p. 213–214).
Klein instanced Fisher Body’s action in locating its plants away from
GM assembly plants and using a more costly labor-intensive method of
production. I relied on my discussions with businessmen, the harmo-
nious relations of A. O. Smith and GM, and an investigation of long-
term supply contracts in 1945. Klein countered my example of A. O.
Smith and GM by saying that there “appears to be significantly greater
economies of scale in producing automobile frames than producing
automobile bodies” (id, p. 224). Klein does not say on what information
he bases this conclusion or why it is relevant. All I could say was that
I had seen a plant which, if Klein et al. (1978) were right, would have
made opportunistic behavior a likely outcome but there had been none.
And there the matter rested. What followed next is not at all what I
expected.
4. The Classic Example Emerges
My remarks about the limited significance of the Fisher Body–GM case
were almost totally ignored in the years immediately following the YaleThe Conduct of Economics 263
conference. Up to the year 2000, some 22 papers repeated part or all of the
account in the original paper by Klein et al. (1978).5 Many books repeat
the original story. Perhaps the most influential of these accounts was that
in Williamson’s The Economic Institutions of Capitalism: Firms, Markets, and
Relations Contracting (1985). In that book, published two years before the
Yale Conference, under the heading, “A case study,” Williamson (1985,
p. 114–115) repeats, without reservation, the account in the paper by
Klein et al. (1978). Among textbooks that use the Fisher Body—GM
tale were those by Tirole (1988, p. 33), Carlton and Perloff (1990, p. 15–
16), Milgrom and Roberts (1992, p. 37), Ricketts (1987, p. 221–222), and
Salanié (2000, p. 181).
Probably the most important paper was that by Klein (1998)
on “The Holdup Problem” in the New Palgrave Dictionary of Law and
Economics, a source that would be consulted by students for decades
to come. The example of Fisher Body and GM is the center piece of
that paper and we are told once again that Fisher Body held up GM
by locating its plants, in this paper, “far away” from GM assembly
plants and by using an inefficient method of production. It was toward
the end of the 1990s, because of its widespread use, that the example
came to be called “the classic example” (Edlin and Reichelstein, 1996,
p. 478; Davis, 1998, p. 263; Holmstrom and Roberts, 1998, p. 74), the
“canonical example” (Rajan and Zingales, 1998, p. 419), and the “famous
example” (Che and Hausch, 1996, p. 126; Zingales, 2000, p. 1637). Its
truth seemed to be firmly established. As Ramon Casadesus-Masanell
and Daniel Spulber, writing in 2000, said, the Fisher Body example “has
become an essential ingredient in courses on contract theory, industrial
organization, the economics of organization, and management strategy”
(Casadesus-Masanell and Spulber, 2000, p. 72).
5. The Classic Example Examined
Armen Alchian was an economist whose work I greatly admired.
Benjamin Klein I had known as a very capable student. Robert Crawford
I did not know. It never occurred to me that these economists would
misstate the facts. Therefore, as I explained earlier, I accepted as correct
what they said about the example of Fisher Body and GM. But when
I came to give my Yale lectures, I treated it as an exceptional case.
However, as we have seen in the previous section, what I had treated
as an exceptional case came to be regarded as an important example
of what would commonly happen. What I had said in my Yale lectures
was disregarded. It was accepted that asset specificity would commonly
5. Detailed citation information about the 22 papers is available on request.264 Journal of Economics & Management Strategy
lead to opportunistic behavior, and, to avoid it, to vertical integration.
The “classic example” was the case of Fisher Body and GM.
Over the years, the general acceptance of this “classic example”
as correct made me increasingly uneasy and I decided in 1996, with
the aid of Richard Brooks, to find out exactly what had happened.
It soon became apparent that the generally accepted account gave a
“completely false picture” (Coase, 2000, p. 21). At the meeting in 1997
of the International Society for the New Institutional Economics, I
announced that I was making such an investigation. This led to my
learning that Robert Freeland of Stanford University had made a similar
investigation and had concluded that the “standard account” was
“grossly inaccurate and misleading” (Freeland, 2000, p. 34). Freeland’s
view had added weight because he had made a detailed historical
study of the administration of GM and was therefore extremely well
informed (Freeland, 2001). I submitted a paper to the Journal of Law and
Economics, as also did Freeland. When the papers reached the proof
stage, we learned that Ramon Casadesus-Masanell and Daniel Spulber
of Northwestern University had also written a paper in which they
showed that the account of the relations between Fisher Body and
GM that constituted the classic example of asset specificity leading
to opportunistic actions was “largely inaccurate” (Casadesus-Masanell
and Spulber, 2000, p. 68). It was an extraordinary coincidence that
these three independently written papers, appearing in the same issue
of the Journal of Law and Economics, all reached the same conclusion:
the opportunistic actions supposedly carried out by Fisher Body never
happened.
The main purpose of the original paper by Klein et al. (1978) was to
explore “one particular cost of using the market system—the possibility
of postcontractual opportunistic behavior” (p. 297). When they came to
interpret the terms of the 1919 contract between Fisher Body and GM as
they understood it, their explanation is confined to the problem of han-
dling possible opportunistic behavior by one or the other. After pointing
out that “General Motors agreed to buy substantially all its closed bodies
from Fisher,” they say, “this exclusive dealing arrangement significantly
reduced the possibility of General Motors acting opportunistically by
demanding a lower price for the bodies after Fisher made the specific
investment in production capacity” (p. 309). However, “large opportu-
nities were created by this exclusive dealing clause for Fisher to take
advantage of General Motors, namely to demand a monopoly price
for the bodies. Therefore, the contract attempted to fix the price which
Fisher could charge for the bodies” (p. 309). They later tell us that “these
complex contractual pricing provisions did not work out in practice”
(p. 309). However, it is unnecessary to discuss whether what they sayThe Conduct of Economics 265
is true. I know of no evidence that the possibility of opportunistic
behavior ever entered the minds of those negotiating the contract.
What seems to have influenced Durant, the president of GM (the main
negotiator), has been described by Chandler and Salsbury (1971): “The
postwar expansion plans convinced Durant and the Finance Committee
[of GM] of the absolute necessity of having an assured control over
GM’ largest and most critical supplier. They simply could not afford
to have the Fishers fail to renew their [1917] contract on acceptable
terms. Any doubts . . . were quickly resolved when [it was] learned that
automobile manufacturers in Cleveland . . . had opened negotiations to
form a partnership with the Fishers in which they (the Fishers) would
control” (p. 465). The account by Freeland (2000) and that by Casadesus-
Masanell and Spulber (2000) concur that, for GM, the main purpose of
the contract was to obtain an assured supply of bodies and to secure
the services of the Fisher brothers. The preoccupation of Klein et al.
(1978) with opportunism led to a failure on their part to discover the
real reasons why the contract took the form it did.
The opportunistic actions of Fisher Body were said to be to hold
up GM by locating their body plants “away” from the assembly plants
of GM as Klein et al. (1978) claimed, and by using an inefficient labor-
intensive method of production as Klein (1984) claimed. I decided to
investigate whether Fisher Body took these actions. Richard Brooks
found that all the body plants built in the period 1921–1925 were located
near the GM assembly plants (Coase, 2000, p. 27–28). Furthermore, in
a memorandum recording a discussion with GM executives in 1922,
it was Fred Fisher (the senior of the Fisher brothers) who suggested
that the body plants be built on Chevrolet property (Coase, 2000,
p. 29).
Regarding the use by Fisher Body of “an inefficient, highly labor-
intensive production process” (Klein, 1991, p. 215), given that Fred
Fisher had been made a director of GM in 1921 and in 1922, a member
of the executive committee, while in 1924, Charles and Lawrence Fisher
were added both to the board of directors and the executive committee
of GM, it is inconceivable that Fisher Body acted in this way. Information
that came to light after these three papers were published strengthens
this conclusion. Benjamin Klein was able to obtain from GM a copy of the
1919 contract they made with Fisher Body that previously had not been
available. Freeland had been unable to obtain a copy of the contract.
Richard Brooks, acting as my research assistant, was not able to find the
contract in the GM’ archives and Spulber was similarly unsuccessful.
However, the terms of the contract are now available and they make it
clear that the account by Klein et al. (1978) and in subsequent papers by
Klein (1984, 1991, 1998) is extremely inaccurate.266 Journal of Economics & Management Strategy
For example, the statement about Fisher Body using inefficient
methods of production was without question untrue. The contract stated
that Fisher Body “will use the most modern, efficient and economical
methods, machinery and devices consistent with good workmanship
. . . .”6 Given the positions occupied by the most senior of the Fisher
brothers in the GM organization, there can be no question that this
provision of the contract was observed, quite apart from the fact that
it was in the interest of Fisher Body to use the most efficient methods
because this would reduce the cost of supplying its customers other than
GM. Had Fisher Body in fact used an inefficient method of production,
GM’ engineering staff would have detected it and their law department
would have taken steps to enforce the terms of the contract. But, of
course, Fisher Body never acted in this way.
The close relationship that existed between the Fisher brothers who
ran Fisher Body and the management of GM also makes nonsense of
the claim by Klein et al. (1978) that by 1924 GM found their contractual
relations with Fisher Body “intolerable” (p. 310). Further evidence that
the relations were not “intolerable” was the appointment in 1925 of
Lawrence Fisher to be head of Cadillac, one of the most important
divisions of GM (Chandler and Salsbury, 1971, p. 577). Fred Fisher,
in fact, became the best friend of William Knudsen, the head of the
Chevrolet division (Beasley, 1947, p. 141). The high opinion held by GM
of the contribution of the Fishers is made clear by the fact that when
Sloan retired in 1956, the choice of his successor as president of GM,
as Lammot du Pont saw it, was between Lawrence Fisher and William
Knudsen (who was in fact chosen) (Freeland, 2001, p. 78).
The availability of the contract shows how inaccurate the de-
scription by Klein et al. (1978) was of the contractual relationship in
other respects. They state that the “price was set on a cost plus 17.6%
basis (where cost was defined exclusive of interest on invested capital)”
(p. 309). This led Klein (1984, p. 335) to argue that “given the absence
of a capital cost pass through, Fisher shifted to a low-capital-intensity
form of production with resulting higher prices to General Motors.”
However, we now know that the contract states that cost includes
“interest on borrowed money, prorated according to the ratio of gross
sales to General Motors to the entire gross sales of the Fisher Company.”7
The clause in the contract about the methods of production would have
ruled out the employment of a low-capital-intensity form of production
and the fact that cost included interest on borrowed money would have
eliminated the motive for doing so.
6. The General Motors–Fisher Body 1919 Contract, Article III.
7. The General Motors–Fisher Body 1919 Contract, Article VI A(e).The Conduct of Economics 267
Klein at al. (1978) also speak of Fisher Body having to make “a
specific investment in production capacity” (p. 309) and Klein (1991) of
Fisher Body having “to make an investment highly specific to General
Motors in the stamping machines and dies” (p. 214). This resulted in
Fisher Body being exposed to possible opportunistic behavior by GM.
As a consequence, Fisher Body was reluctant to locate its body plants
close to the GM assembly plants (Klein et al., 1978, p. 309–310). However,
a clause in the 1919 contract stated that “a die and special tools shall be
manufactured for GM at cost plus 17.6% of such cost.” The contract
makes clear that Fisher Body would be repaid by GM for its specific
investments and therefore had no need to take any actions to avoid
opportunistic actions by GM. How this ignorance of the terms of the
1919 contract can be reconciled with the footnote found in Klein et al.
(1978, p. 308) and in all papers by Klein (1984, 1991, 1998, 2000) on
the subject up to 2000, which states that the “manufacturing agreement
[called contractual agreement in 2000] between General Motors and
Fisher Body can be found in the minutes of the Board of Directors of
Fisher Body Corporation for November 7, 1919,” which statement is
correct, I leave unsolved.
Freeland (2000), in his paper, confirms, with a wealth of detail,
that Fisher Body did not hold up GM. But he contributed more to our
understanding than this. Richard Brooks had shown that the Fisher Body
plants in the period 1921–1925 had not been located away from the GM
assembly plants but close to them. This bothered me because I seemed
to remember that an executive in GM had told me in 1932 that GM
had merged with Fisher Body to make sure that the body plants were
located near the GM assembly plants. My puzzle disappeared when I
read in Freeland’s paper that there had been a serious dispute in 1925
about the location of a body plant. To handle growing Buick sales, GM
wanted a new body plant to be built in Flint, Michigan, while Fisher
Body wanted to expand production in its Detroit plant. After the merger
in 1926, the Flint plant was built and the Detroit plant closed down. It
was undoubtedly this episode that had occurred a few years before that
the executive had in mind when he spoke to me in 1932 and said that the
merger was necessary to make sure that the body plants were located
near the assembly plants (Coase, 1991, p. 71).
Freeland’s (2000) paper also contributed in another way. He in-
vestigated what happened after the merger in 1926. One episode he de-
scribed is of great interest (p. 57–60). As a result of GM acquiring Fisher
Body, the Fisher brothers became extremely wealthy. Using their GM
stock as collateral to speculate on the stock market, they became even
wealthier. Then the Great Depression came and they found themselves
with debt that they could pay off only by selling their GM stock. In 1931,268 Journal of Economics & Management Strategy
GM and Opel (a foreign subsidiary) came to their aid and bought their
GM stock. When the stock market recovered, the Fisher brothers sought
to regain some of their previous wealth. They asked to be given an option
to purchase GM stock. Negotiations followed that the Fisher brothers
found unsatisfactory. In March 1934, they “announced an ultimatum
that they were going to leave in a body forthwith if something was
not done” (id, p. 58). Their action was regarded by officials at GM and
Dupont (the main stockholder of GM) as “almost a hold-up” (id). After
difficult negotiations, a compromise was reached and the Fisher brothers
continued with GM. This episode warns us against assuming that
hold-ups cannot occur within the administrative structure of the firm.
On the other hand, the extraordinary circumstances of life in the Great
Depression (of which I learned a great deal on my travels in the United
States in 1931–1932) means that how people behaved then may have no
general lesson.
The paper by Ramon Casadesus-Masanell and Daniel Spulber
(2000) examines in great detail the relations of Fisher Body and GM
and comes to essentially the same conclusions as had the other two
papers. They point out that “the contractual arrangements and work-
ing relationship prior to the 1926 merger exhibit trust rather than
opportunism” (p. 67). They state that the merger was “directed at
improving coordination of production and inventories, assuring GM
of adequate supplies of auto bodies, and providing GM with access to
the executive talents of the Fisher brothers” (id). “The executive talents
of the Fisher brothers” were particularly important in implementing
Sloan’s organizational reforms in the 1920s. “Sloan required managers
capable of coordinating complex operations, making decisions in a
decentralized organization, and using common resources effectively”
(id, p. 100). As “the Fishers had worked closely with GM, they were
perhaps the best-qualified candidates for the posts Sloan had to fill.
In addition, the Fishers brought crucial operational and manufacturing
experience” (id). Casadesus-Masanell and Spulber also undertook an
investigation of the location of the Fisher Body plants and came to the
same conclusion as had Richard Brooks: contrary to the statement of
Klein et al. (1978), Fisher Body plants had been located close to the GM’
plants prior to the merger in 1926. They give many other details about
the relations of the managements of Fisher Body and GM, something
that Klein et al. (1978) had thought it unnecessary to investigate, and
which, had they done so, would have led them to a very different
conclusion.
What is clear is that all parts of the tale that make up the “classic
example” of asset specificity leading to opportunistic behavior are
wrong. The terms of the original contract were not crafted to deal
with the possibility of opportunistic behavior. The terms, as statedThe Conduct of Economics 269
by Klein et al. (1978) were inaccurate. The opportunistic actions that
were supposed to have been taken by Fisher Body, the locating of
the body plants away from the GM assembly plants and the use by
Fisher Body of inefficient methods of production, never happened. The
relations between Fisher Body and GM never became “intolerable.”
The conclusion is inescapable. The “classic example” was a product
of the imagination.
6. The Response Examined
Accompanying the three critical papers in the same issue of the Journal of
Law and Economics was a reply by Klein (2000), “Fisher–General Motors
and the Nature of the Firm.” In this paper, Klein presents a completely
different version of the facts from that found in the original paper by
Klein et al. (1978) and in Klein’s (1984, 1991, 1998) subsequent papers,
including that in the New Palgrave Dictionary of Law and Economics,
published only two years before. What was true in 1998 became false in
2000.
In the original paper by Klein et al. (1978), we were told that Fisher
Body held up GM by refusing to locate their plants close to the GM plants
and that “by 1924, General Motors had found the Fisher contractual
relationship intolerable. . .” (p. 310). In a later paper, Klein (1984) tells us
that “omissions in the [1919] contract were glaring and caused problems
almost immediately” (p. 335). He adds that Fisher Body held up GM not
only by locating its plants inappropriately but also by using an inefficient
“low capital intensity form of production” (id). This tale about what
happened in the period up to 1924 (or some version of it) was repeated
in innumerable papers and books. It became “the classic example” of
asset specificity leading to opportunistic behavior.
In 2000, Klein tells a completely different story. He says that the
“evidence unambiguously demonstrates that while the contract that
governed the relationship between Fisher Body and GM initially worked
well, the contract broke down in 1925 . . .” (Klein, 2000, p. 106). Later
in his reply, Klein restates this account: “. . . it is crucial to distinguish
between the early period of operation, from 1919 to 1924, when the
contract functioned well, and the period 1925–26, when the contract
was used by Fisher to hold up GM” (p. 110). In his introductory remarks
to this paper, Klein says that “the facts of the Fisher–GM case are
shown to be fully consistent with the hold-up description provided in
Klein, Crawford, and Alchian” (p. 106), although, as we have seen, the
statement of the facts has completely changed. Whereas we were told
previously that GM found the contractual relations with Fisher Body
“intolerable” by 1924, we are now told that up to 1924 “the contract
functioned well.”270 Journal of Economics & Management Strategy
It is not easy to know what to say about a situation like this. Facts
are not like clay on a potter’s wheel, that can be molded to produce
the desired result. They constitute the immutable material that we have
to accept. What is clear in Klein’s new version of the facts is that the
“classic example” of asset specificity leading to opportunistic behavior
has completely disappeared. All that remains of the original tale is the
assertion that Fisher Body held up GM. It reminds one of the Cheshire
Cat in Lewis Carroll’s Alice in Wonderland, whose body vanished, leaving
only its grin behind.
Freeland (2000), as explained earlier, had disclosed, what Klein
had never mentioned and I had not known, that in 1925 there had
been a serious dispute between Fisher Body and GM concerning the
location of a body plant. GM wanted a new body plant to be built in
Flint, Michigan, while Fisher Body wanted to expand production in
their Detroit plant.8 It was a proposal that would have increased the
profits of GM and decreased the profits of Fisher Body. What GM was
proposing was to change an arrangement that had been in operation for
six years (or eight years, if Chandler and Salsbury’s (1971) reference to
a previous 1917 contract is correct). It was a proposal that Fisher Body
would obviously resist, if legally possible, unless it was compensated
in some way, particularly as it had large stockholders who, unlike the
Fisher brothers, were not concerned with the fortunes of GM and whose
interests Fisher Body was under a legal obligation to protect. Klein’s
view that Fisher Body’s response to the GM’ proposal constituted a
holdup seems to me a very strange use of the term. Are the coach
passengers who resist the highwayman holding up the highwayman?
Klein attempted to bolster his case by pointing to the many
errors that he claimed I had made. Consider the following quotation:
“One cannot examine the record without concluding that from GM’s
perspective the contract with Fisher Body was not working during 1925–
26 and that this motivated vertical integration. Coase brushes over this
testimonial evidence by describing the situation in 1925 as one where
GM was ‘dissatisfied with the 1919 agreement’. In fact, GM was much
more than merely ‘dissatisfied’. . . . Moreover, Coase does not explain
why GM was ‘dissatisfied with the 1919 agreement’. He only vaguely
notes that Fisher ‘paid less attention to the needs of General Motors
than General Motors would have liked.’ Coase tells us neither in what
ways Fisher did not consider the needs of GM nor exactly how the
contractual arrangement failed in these respects” (Klein, 2000, p. 115).
8. Klein (2000, p. 137) states that it is “inexplicable” that Casadesus-Masanell and
Spulber do not mention this 1925 episode. But as Klein had never mentioned this episode
in all his writings and as Casadesus-Masanell and Spulber had not seen Freeland’s paper,
from which I had learned about it, it is not inexplicable at all.The Conduct of Economics 271
This is a complete misrepresentation of what I wrote. The paragraph
before the one from which Klein quotes starts, “In November 1920”
(Coase, 2000, p. 24). The paragraph after it starts “In 1921” (id). It is
obvious that in the paragraph from which Klein quotes I was not writing
about the situation in 1925 but the situation in the early 1920s. Klein
complains about my vagueness concerning the character of General
Motors’ dissatisfaction with the situation. I thought I indicated what this
was when I said in the next paragraph that Fred Fisher was appointed to
the executive committee of General Motors in 1922 and when I quoted
Chandler and Salsbury’s (1971) statement that this was done to “get
him further involved in making the broad decisions about production,
products design, output and pricing of General Motors’ products that
inevitably affected the work of his own organization” (p. 576).
Klein (2000) says that “Coase also dismisses the Flint plant episode
as merely a disagreement over financing” (p. 117). This is untrue. While I
say that there may have been other reasons for Fisher Body’s reluctance
to transfer the production of Buick from their Detroit plant to a new
plant in Flint, I thought the main reason was that it would have made
it more costly to supply their other customers. I also noted that the
interests of the minority stockholders had to be considered (Coase, 2000,
p. 25). I made no mention of financing. The remark of mine that Klein
cites had nothing to do with the 1925 dispute. Klein had given Sloan’s
testimony in the Dupont antitrust case as his authority for his claim
that Fisher Body located its plants “away” from GM’ assembly plants.
I pointed out that Sloan only spoke about Fisher Body’s reluctance to
finance the construction of the plants (id, p. 28). Klein (2000) also says in
a footnote that “Freeland thanks Coase for pointing out to him that
Sloan’s testimony is ‘subtly ambiguous about whether the cost-plus
provisions were in effect after 1924’” (p. 120). This is false. It is difficult
to understand how Klein came to make this mistake. What Freeland
(2000) did was to thank me for pointing out the reference to the cost-plus
contract in the Notice to Stockholders of the Fisher Body Corporation of
1926 (p. 48). This had nothing to do with Sloan’s testimony. Quite apart
from the fact that I do not refer to Sloan’s testimony, Klein’s remark has
the effect of giving an incorrect impression of my position. I believe that
the cost-plus contract was in effect in 1924 and, in my view, the 1926
Notice to Stockholders confirms this.
Did Fisher Body hold up GM? My answer is that they did not. The
original claim in the paper by Klein et al. (1978) stands discredited. The
1925 dispute that Klein substitutes was, in my view, a normal business
dispute that was settled amicably in a matter of months. It is true that
the resolution of this dispute became part of the negotiations for the
acquisition by GM of the 40% of the shares of Fisher Body that it did not272 Journal of Economics & Management Strategy
already own. But GM wanted to acquire these shares long before 1925,
as is made clear by Pierre du Pont’s letter to Fred Fisher in July, 1924: “I
hope that you and your brothers will feel that Fisher Body and General
Motors are really one and . . . that you will take chances on associating
yourselves permanently with the development. I see no trouble from
awaiting the development of a contract between the two companies in
order to determine relative value of shares . . . .”9 Had the 1925 dispute
never happened, I have no doubt that the acquisition would have taken
place, although this dispute may well have affected the timing.
The three critical papers showed that the generally accepted tale
of Fisher Body holding up GM was untrue. The response of Klein to
this finding was to abandon this original tale and substitute another, in
which Fisher Body in 1925 wanted to expand production in its Detroit
plant rather than build a new plant in Flint, Michigan, and, to preserve
the theory by treating the dispute as a hold-up. I thought it to be an
ordinary business dispute, the reluctance of Fisher Body to build the
plant reasonable, indeed, legally obligatory, and the description of Fisher
Body’s action as a hold-up forced. It certainly will never become the
“classic example” of a hold-up.
7. The Extraordinary Year 2000
I called the appearance in the same issue of the Journal of Law and
Economics of three independently written papers, all disputing the
accuracy of the generally accepted account of the Fisher Body’s actions,
“an extraordinary coincidence.”10 But the coincidence was even more
extraordinary. In the same year, 2000, in two other journals, were also
published two independently written papers with the same conclusion.
The first of these papers, by Yoshiro Miwa and J. Mark Ramseyer
(2000) appeared in the Michigan Law Review. It investigated the role of
relationship-specific investments (RSI) in influencing the organizational
structure of production, illustrated by a study they made of the Japanese
automobile industry. They point out that RSI theory tells us that “if pro-
duction technology is standard and contracting straightforward,” firms
“will solve any problems by contracts” (p. 2667). As this is exactly what
happened in the Japanese automobile industry, they conclude, modestly,
that “perhaps RIS theory explains a narrower band of phenomena than
we had thought” (p. 2667).
9. Letter from Pierre du Pont to Fred Fisher (July 28, 1924) (Longwood Manuscripts,
Group 10, Series A, Papers of Pierre S. du Pont, Hagley Museum & Library, Greenville,
Del.)
10. This paper, p. 264.The Conduct of Economics 273
Miwa and Ramseyer (2000, p. 2638) note the major influence of
Klein et al. (1978) and Williamson in the formation of RSI theory, and
this leads them to examine the example of Fisher Body and GM. They
describe what happened according to Klein et al. (1978): After 1919, “car
makers started to make standardized coaches out of steel. Fashioning
these steel coaches required dies. In turn, these dies cost large sums,
and could be used only for specific models. Now, the assembler and
coachmaker faced little prospect of investing in an asset that paid off only
within the relationship. As such, the asset generated appropriable quasi-
rents: if the coachmaker bought the die, the assembler could threaten
to end the relationship in order to shift terms of the deal in its favor.
Rather than risk this opportunism, reason Klein et al., assemblers and
coachmakers integrate vertically” (p. 2639–2640).
Miwa and Ramseyer (2000) point out that there are problems with
this account: “If relation-specific dies were the problem, GM could
have mitigated it contractually by owning the dies—a tactic modern
car companies routinely use” (p. 2642). In fact, as I learned in 1932, this
was the usual practice in all industries (Coase, 2000, p. 18). And as we
now know, GM did own the dies. Furthermore, Miwa and Ramseyer
(2000) note that GM owned 60% of the stock of Fisher Body and could
have prevented Fisher Body from taking these harmful actions. They
also note that “GM seems to have done perfectly well with independent
suppliers for other specialized products” (p. 2642) and here they instance
my account of A.O. Smith relations with GM (p. 2643). The account of
Klein et al. (1978) was not credible.
The second of these papers published in 2000 that also rejected
the generally accepted tale about Fisher Body and GM was written by
Helper, MacDuffie, and Sabel (2000). They demonstrate its weakness by
showing its inconsistency with what was happening generally in the
American automobile industry.
They start with “the observation that firms are increasingly engag-
ing in collaboration with their suppliers, even as they are reducing the
extent to which they are vertically integrated with them” (Helper et al.,
2000, p. 443). They note that this is “incompatible with the standard
theory of the firm, which argues that integration is necessary to avoid
the potential for holdups created when noncontractible investments are
made” (id). By “standard theory,” they mean the theory enunciated by
Klein et al. (1978), which had come to dominate the economics literature.
As Helper et al. (2000, p. 452) say: “The takeover by General Motors of
the Fisher Body Corporation in 1926 has become the canonical example
of the logic of the standard argument.”
This tale, they point out, does not accord with what was happening
in the American automobile industry or the part that Fisher Body played274 Journal of Economics & Management Strategy
in it. The actions supposedly carried out by Fisher Body occurred at
a time when “the major automobile manufacturers . . . were building
collaborative relations with suppliers . . . Fisher Body was a pioneer
and master of such relations” (p. 448). They instance the collaboration
between Fisher Body and Hudson during World War I to produce “the
first cost-effective closed automobile body” (p. 457). Later, in “1923
Fisher Body collaborated with the Chrysler design team to produce
the curved fenders and bumpers that would eventually come to be
associated with the idea of streamlining” (id). They also note that Fisher
Body even collaborated with a competitor, Briggs Body (p. 457–458).
What made the Fisher brothers so valuable to GM, apart from
their design and engineering expertise, was that “they helped GM adopt
inside the corporation the collaborative style that Chrysler was using
with outside suppliers . . . The Fishers contributed greatly to the multidi-
visional corporate structure and system of coordinating committees that
Alfred Sloan so masterfully developed to manage GM . . . This analysis
stands the standard account on its head. Instead of seeing the ‘takeover’
as a response to the threat of opportunism, it presents the amalgamation
as an effort to construct a variant, suited to the conditions of GM, of a
collaborative supplier system” (id, p. 459). They conclude: “This is a
very different account from the opportunism story: instead of buying
Fisher Body because they did not trust the Fisher Brothers, GM bought
Fisher Body because they trusted the Fisher Brothers so much that they
wanted them intimately involved in managing all of GM’s assets” (id).
With these observations, the destruction of the “classical example” is
complete.
8. The Explanation
What has to be explained is why so many able economists in discussing
the relations of Fisher Body and GM propagated or treated as true, in
papers, books, and in class, statements about them that were inherently
implausible and demonstrably false? An easy answer would be to treat
it as another case of scientific fraud, similar to the many cases discussed
in Judson’s (2004) book, The Great Betrayal: Fraud in Science. In these,
data were invented or manipulated to support a particular theory. One
reviewer, Alan Price (2005), did not find Judson’s account surprising:
“The conclusion is obvious: a few scientists are likely no better and
no worse than the few members of the general population who are
crooks and charlatans” (p. 198). But Price’s comment does not answer
the question posed at the beginning of this section. In the cases discussed
by Judson, the scientists committing the frauds knew what they were
doing. They knew that the data they presented as true were, in fact,You can also read
