The Determination Of Firm's Boundary

There are a lot of literature on the firm. From Smith's "Wealth of Nations", economists begun to study the firm, trying to answer the question why the firm can exist. Smith proposed the division of labor limited market size hypothesis, while the neo-classical economists abstract directly the firm into a production function, overlooking the internal organization of firm. After that Coase's transaction cost theory explained the reason why organizations perform better than the market. Until that the discussion about the existence of the firm ended.Since the firm is existing, it must have an optimal size, then where is the border? Coase argue that the size of the firm will achieve this equilibrium point, cost of organizing an extra transaction carried out in the open market equal to the same transaction costs in the firm, or equal to the cost of the transaction carried out by another entrepreneur. Coase's answer can solve the question of the border of the firm very well. But the concept of transaction costs is very abstract, let alone to quantify the business transaction costs, and this is the reason why people often cite Coase's theory but not use it.After the the buildings of transaction cost theory was built up, economists are trying to search the border of the firm. The representatives are Alchian and Demsetz's "team production theory", Williamson's "assets-specific hypothesis," and"contract theory"of Steven Chueng. They analyze companies from different angles, and put forward some innovative ideas, for example, Steven Chueng think that the firm's boundary does not exist. We follow Steven Chueng's idea to understand the firm in the contract perspective, but we believe that the firm's boundary exists. Steven Chueng think that the firm has no border because he did not classify the contract, so neglecting the relational contract, which is very important in the firm.By studying the literature, we agree with Coase and Steven Cheung's view that the transaction cost is the reason that the firm exists, the essence of firm is the contract. We put the contract into formal contract and relational contract, the firm border into the legal boundary and contractual boundary. In the paper we have adopted the contract to probe the border, namely establishing the firm's legal boundary model and firm's contractual boundary model. This paper argues that firm likes an egg, which is composed by egg yolk and egg white. Formal contract is the core, which constitutes the egg yolk, while relational contract cooperates with formal contract which forms the egg white. Due to its own volatility,egg white is changing. Formal contract's change results in the change of the firm boundary.In the firm's legal boundary model, we investigate contractual relationship between business owners and the employees. Ultimately we determine the factors that affect legal boundary by game analysis:the company's future earnings, the discount rate, relational contract bonus; In the firm's contractual boundary model, we examine the relationship between firms in the industrial chain. Finally we obtain the factors that affect the contract boundary:the temptation of betrayal, the discount rate, the advantages of relational contracts.