The manner in which the economic stakeholders conduct their activities has increasingly distanced from the neoclassical conception, where the price system coordinates the markets. The new institutional economics (NIE) has for decades strived to demonstrate how the functioning of economics is influenced not only by economic and social institutions, but also by how the economic actors adapt to form governances or coordinate negotiations (Zylbersztajn 2005). In other words, formal and informal institutions strive to understand the processes in order to obtain efficiency in the business markets, including individual actions to coordi­nate business affairs in each market.

In the article “The nature of the firm,” Coase (1937), a researcher at NIE, pre­sents a firm as another area of resource allocation. Several works of Coase evi­dence the constant concern with the negotiations faced by a firm, pointing to specific interest on transaction costs (TCs) as a real barrier to market efficiency. Thus, if the company is a complex transaction unit, it is because the market and the overall business integration are not the only institutions that define economic efficiency, thus having to pay attention to the formal and informal agreements.

The ideas of Coase (1937) represented a step forward for economic studies, since until then the firm was known as a production function where inputs were transformed into end products. In the neoclassical view, the firm was an optimiz­ing entity, totally indifferent to its internal structure and its determining environ­ment, with the exception of prices.

According to the author, setting up the firm, represented by a set of agreements governing internal transactions, takes place because of the costs the actors to use in the price mechanism to organize production, given that this cost is related to discovering the relevance of the prices.

Thus, selecting the coordination mechanism to be used (firm or market) depends on the costs incurred, that is, the costs of discovering the prices prevailing in the mar­ket (information collection), the negotiation costs, setting up a contract, and the costs necessary to carry out inspections to ensure that the terms of the contract are met. The author designated these costs as TCs, thus explaining the existence of the firms.

The transaction concept is defined by Williamson (1993) as the transformation of an asset transferred across technologically separable interfaces. Zylbersztajn (1995) considers transactions as exchanges of property rights associated with goods or services.

“When people realize that what they want is more valuable than what they have (…)” (Barzel 1982, p. 27), transactions take place at any point of time and in any place.

However, as these transactions can take on a variety of forms, a completely sys­tematized framework is necessary to meet the objectives of such transactions. It is within this context that the institutions’ significance expands in order to enable coordinating the economic transactions, showing the limits of traditional analysis models and driving forward studies on transaction cost economics (TCE), the best known topic of NIE. Transactions, according to these approaches, will always be analyzed in a dual mode, which is the two agents under negotiation, the one that buys and the one that sells.

The theoretical framework of NIES deepens on the general concept of the firm, now as a set of agreements directing the internal transactions, rendering their anal­ysis more complex since it considers that the economic agents interact not only to reduce the production costs, as proclaimed by the orthodox economy, but also the costs related to the transactions.

According to Williamson (1975), TC can be defined as costs related to the mechanisms involved in the economic transaction, which are the negotiation costs, to obtain information, monitor performance along the chain, and ensure compli­ance with the agreements and also with recurring agreements. Thus, by includ­ing TC in the microeconomics analysis of the firm and of the markets, a series of costly procedures are considered before and after the negotiation, rendering a more complex nature to the business in terms of economic decisions. While the orthodox economic theory focuses on the process of determining the optimal allo­cation of resources by businessmen allegedly endowed with full rationality at deci­sion times, the objective of NIE is to identify the entrepreneurs’ best coordination method for their economic transactions in environments of uncertainty and, there­fore, the limiting forces for decision making (limited rationality). Thus, TCs are different from production costs as they depict how relationships are processed and not the technology used in a specific productive process. By breaking away from neoclassical economics, the individual preconized by NIE is not the same individ­ual as that of mainstream economy. “Homo economicus,” typified by a rational person with full information to maximize decision making for neoclassicism, is now defined by limited rationality and opportunism in an environment character­ized by uncertainty.

The concept of limited rationality was introduced as an important element of NIE by Williamson (1975) and preconized by Simon (1978). Richter (2001) and North (1990) refer to the individual’s cognitive limitations, who is not able to always be a maximizer despite wanting to be. Not much more can be added to this aspect since it is an unchallenged human condition. The mental shortcuts routinely used by economic agents for their market decisions are the first arguments for the problem of not achieving maximizing profits.

The theoretical framework of NIE discusses the role of institutions in two dif­ferent analytical levels: macroinstitutional and microinstitutional.

The part of NIE concerned with the relationship between institutions and eco­nomic development was the macroinstitutional type. From a macroanalytical point of view, the relationship of the institutional environment studied is composed of the economic, social, and political interactions and the individuals in a society. Thus, the importance of formal and informal rules and property rights is addressed by its contribution to the efficiency of the system.

As for the microanalytic type, focused on in this chapter, it addresses the under­standing of the rules governing specific transactions. Accordingly, TCE seeks to understand what factors drive up TCs and what mechanisms could be used to reduce them.

TCE enables to intensify the firm, now seen as a set of internal transactions governed by a set of contracts. This renders their analysis more complex, because the agents’ relationship is not only to reduce operating costs—as proclaimed by classical economics—but also to reduce TC—as suggested by NIE (Bonfim 2011).

TCE assumes that the question of economic organization is first of all a prob­lem of governance. Hence, it seeks to explain the different organizational forms that exist in the market and their contractual arrangements, highlighting the insti­tutional environment and its interaction with the organizations.

Williamson (1985), by proposing the firm as a governance structure of transac­tions, can determine if it will be a specific contract from a perfect market rela­tionship, if it will prefer a mixed form or if it will define the need for vertical integration, from the principles that minimize production costs (covered by neo­classical economics), added to the TC. For analytical purposes, the author pro­poses three basic governance forms, namely: [12]

Williamson (1991a, b) clarifies that hierarchy, market, and the hybrid form resulting from the combination of the former two are generic forms of economic organization. They are differentiated by their coordination and control mecha­nisms and their ability to respond to changes in the environment. Thus, the firm’s choice for governance structure—hierarchy, market, or intermediate form—will depend on the nature of the transactions. Williamson (1985) identifies three key attributes in transactions, determining the variation of TCs, namely frequency, uncertainty, and asset specificity.