What is the Transaction Cost Economics Theory ?

The primary rationale of outsourcing is cost reduction (Takac, 1994; Lacity and Willcocks, 1998). The theory focuses on the inter-firm exchanges of costs (economic trade), particularly the direct and indirect expenses of negotiation, monitoring and enforcing implicit and explicit contracts between firms (e.g. production and coordination) (Ang, 1998; Williamson, 1991; Williamson, 1985; Charri & Leclere, 2012).

The theory posits that those IT outsourcing that incur high transactions is retained within the firm while lower are more likely to be outsourced (Williamson, 1991).

However, the costs depends on the project attributes such as costs advantages, asset specificity, the complexity of the transactions, threat of opportunistic behavior and bound rationality (Tiwana, Wang & Keil, 2007, p.) are the factors that would influence managerial decision about outsourcing.

In order to manage these trascations, Willamson (1985) recommend three governance forms viz., the market adapted, the hybrid and hierarchy. The market provides the necessary guarantee, if transactions are non-specific while hybrids are eligible for mixed transactions and demands neo-classical contract.

Finally, the hierarchy adapted to idiosyncratic and recurring transactions. Willamson and other recent studies recommend hybrid as any asset specificity is the essential attribute (Williamson, 1996; Soussi, 2002)age theory.