Inside Contracting

I'm glad I'm finally getting to this mode of organization. This is the first production mode that Williamson (OEW) lists under "Capitalist modes" in The Economic Institutions of Capitalism. It also happens to have a rich history that may still be active. Inside contracting was the standard organization used by the New England armories throughout in the 18th and most of the 19th century. It carried on into sewing machine manufacture, reaper manufacture (McCormick), and possibly even bicycle manufacture, all of whom evolved from the armory manufacture. It was an integral part of The American System, as explained by Hounshell (
From the American System to Mass Production, 1800-1932: The Development of Manufacturing Technology in the United States).

• It is classified by OEW as an "capitalist mode" (as opposed to entrepreneurial or capitalist)
• It was extensively used in the early gunmaking industry, which in turn lies at the heart of mass production and modern manufacturing and quality control methods. David Hounshell writes, "the inside contract system had been used for many years throughout American manufacturing, particularly in New England. In some respects, inside contracting resembled the putting out system, but its particular characteristics were derived from the factory system. Although the Springfield Armory never adopted inside contracting [...], almost all the New England armsmakers employed it. When coupled with armory gauging systems and machine tool design, inside contracting became a distinguishing characteristic of the Yankee armory practice extensively employed in all types of metal fabrication in the second half of the nineteenth century." Pratt & Whitney were inside contractors at the Colt armory, and went on to become first machine tool makers and then engine makers.
  
• Because of the influence of the armory practice on the manufacture of sewing machines and reapers (among other things), inside contracting was used in other industries. Hounshell writes, "[Lebbeus B.] Miller [a man Singer hired to "'design and supervise the construction of special tools for the production of interchangeable parts' for Singer machines" but who eventually rose to become superintendent] helped introduce inside contracting, a system that characterized the New England armory approach to manufacture and would be used at Singer until the early 1880s."
  
• Volkswagen under Piech attempted to set up Inside Contracting with its Brazilian plant in Resende. At the time it was purported as revolutionary, but that would be true only in the sense of revolving, not revolting. When searching for more information on this, I frequently found it in conjunction with "Supplier Parks" and "modularization". I am not sure it is still in use, and have not completely vetted the literature enough that I am confident in placing a link here.
  
• There is a fine line between Vendor-managed supply used in JIT and Inside Contracting, as the use at Resende indicates. More on this below.
  
• OEW considered it to be a "continuous contracting" mode, and an intensive user of contracts at that.
  
• In terms of contractual hierarchy, OEW classifies it as very hierarchical
  
• In terms of decision-making hierarchy, as moderately hierarchical. There is a central contractor, but his authority is dissipated by the contracts.
  

Efficiencies:
a. Product flow
1. Transportation expense - Because everyone is under one roof, transportation is economized in this mode.
2. Buffer inventories - Because no contractor has any hold on any other, buffer inventories may arise.
3. Interface leakage - Because different contractors run different areas, leakage may occur and become a subject of dispute. Frequent disputes and their settlement is not economical.

b. Assignment attributes
4. Station assignments - This mode economizes on station assignments.
5. Leadership - This mode also economizes on leadership. Bad contractors are let go, and the Yankee mechanic did not gain a reputation for efficiency for nothing.
6. Contracting - Because the central contractor can serve as a consolidating agent for things such as maintenance contracts, this mode can achieve efficiencies in contracting.

c. Incentive attributes
7. Work intensity - Inside contracting was frequently preferred precisely because of the work intensity attributes.
8. Equipment utilization - The contractors used the central agent's equipment and was frequently abusive of it. OEW says that contractors were prone to stop spending time and money maintaining equipment toward the end of their contracting interval, postponing them until the new interval.
9. Local shock responsiveness - Inside contractors did not adapt to local shocks well. Although OEW does not explain this thoroughly, we might assume that they would take the opportunity of a shock to negotiate opportunistically.
10. Local innovation - Inside contractors were very adept at local innovations because they - having negotiated fixed price contracts - would reap all of the benefits.
11. System responsiveness - The inside contracting system would not adapt to system changes well.

Bottom line: Williamson finds Inside Contracting to be moderate-to-highly hierarchical, and moderately efficient. It succeeds in 6 of the 11 areas of efficiency, less than the Peer Group []'s 8.

Inside contracting seems very similar to the Just-In-Time model of vendor-managed inventory. That is apparently the idea behind the Resende plant. Interestingly, such ideas had been tried in the past by American automotive companies, ultimately leading to vertical integration.

Say you have a manufacturer of brakes. You do business with them but don't buy them partly because they achieve some economy of scale by selling to your competitors that you yourself could not achieve (because your competitors won't buy from you). Now you ask them to locate their plant under your roof or at least very near your plant. If your competitor is located much further away, the economy of scale may longer apply. If you are further having them tailor every aspect of their operation - design, timing, part numbering - with your own, you have further thwarted the economy of scale that led you to do business with them in the first place. Okay, but in the process you are achieving an economy derived from their special investments into your production schedule and component design. Any company could see that this would be the case before it happened, so surely they would seek a commitment from you. Now we're back into the start of OEW's analysis of those factors that lead to vertical integration. Why VW and its partners are going through with this is not quite clear to me.

[FOLLOW-UP] Aw, geez, I totally forgot to discuss a section of Economic Institutions in which OEW relates an article about Inside Contracting in the steel industry. The article, (Stone, K., "The origins of job structures in the steel industry," Review of Radical Political Economics, 6 (Summer): 61-97) explains how the steel industry used inside contracting through the late 19th century. The system was dominated by the Amalgamated Association of Iron, Steel, and Tin workers, who enforced a system that "suppressed innovation" by (among others)

• restricting output per worker
• fixing the proportion of scrap used in a furnace
• forbidding use of brick and fire clay by puddlers
• prohibiting skilled workers from teaching other workers
• requiring approval by the union's executive committee to fill vacancies and to make changes in the physical plant

After Frick and Carnegie challenged the union in the Homestead mill in 1892 (a violent incident, to be sure), the union declined and the steel industry took off. The lesson is that this particular union arrangement was not efficient (as opposed to others, see my review of OEW's chapter on unions). In part, this inefficiency looks like a tragedy of the anti-commons.

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