Transaction cost

In economics and related disciplines, a transaction cost is a cost incurred in making an economic exchange. For example, most people, when buying or selling a stock, must pay a commission to their broker; that commission is a transaction cost of doing the stock deal. Or consider buying a banana from a store; to purchase the banana, your costs will be not only the price of the banana itself, but also the energy and effort it requires to travel from your house to the store and back, and the time waiting in line, and the effort of the paying itself; the costs above and beyond the cost of the banana are the transaction costs. When rationally evaluating a potential transaction, it is important not to neglect transaction costs that might prove significant.

Related Topics:
Economics - Cost

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A number of kinds of transaction cost have come to be known by particular names.

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• Search and information costs are costs such as those incurred in determining that the required good is available on the market, who has the lowest price, etc.
• Bargaining costs are the costs required to come to an acceptable agreement with the other party to the transaction, drawing up an appropriate contract, etc..
• Policing and enforcement costs are the costs of making sure the other party sticks to the terms of the contract, and taking appropriate action (often through the legal system) if this turns out not to be the case.

The term "transaction cost", frequently thought to have been coined by Ronald Coase, who used it to develop a theoretical framework for predicting when certain economic tasks would be performed by firms, and when they would be performed on the market, is actually absent from his early work up to the 1970s. The term can instead be traced back to the monetary economics literature of the 1950s, and does not appear to have been consciously 'coined' by any particular individual.

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Arguably, transaction cost reasoning became most widely known through Oliver E. Williamson's 'Transaction Cost Economics'. Today, transaction cost economics is used to explain a number of different behaviors. Often this involves considering as "transactions" not only the obvious cases of buying and selling, but also day-to-day emotional interactions, informal gift exchanges, etc.

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Transaction costs have been broadly defined by Steven Cheung as any costs that would either not occur or would be infinite in a "Robinson Crusoe economy" -- in other words, any costs that are due to human relationships (or their absence) rather than physical or technological costs of production. Economists then ask which kinds of relationships (firms, markets, franchises, etc.) minimize the transaction costs of producing and distributing a particular good or service. Often these relationships are categorized by the kind of contract involved. This approach sometimes goes under the rubric of New Institutional Economics.

Related Topics:
Steven Cheung - Robinson Crusoe - Contract - New Institutional Economics

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