Innovation, Networks, and Vertical Integration

A central debate in industrial policy today is that between proponents of large vertically integrated firms on the one hand and those of networks of small specialized producers on the other. This paper argues that neither institutional structure is the panacea its supporters claim. The menu of institutional alternatives is in fact quite large, and both firms and networks — of which there are several kinds — can be successful, growth-promoting adaptations to the competitive environment. Industrial structures vary in their ability to coordinate information flows necessary for innovation and to overcome power relationships adverse to innovation. The relative desirability of the various structures, then, depends on the nature and scope of technological change in the industry and on the effects of various product life-cycle patterns. The principal policy conclusion of this analysis is that the government's role ought to be facilitating rather than narrow and prescriptive, allowing scope for firms to develop organizational forms that are best adapted to their particular environments.