2.7.6. Trust in Inter-Firm Relationships

Trust is expressed as a firm owner’s level of confidence when exposed to the risk of potential harm from another firm. For example, trust is the level of confidence an exporter has that its suppliers will make on-time deliveries. The exporter risks being harmed if its suppliers are unreliable, because then the exporter will be unable to deliver on advance contracts with its own buyers and the exporter may lose sales (and clients).

Value chains in environments of pervasive mistrust are often characterized by truncated marketing systems, lacking forward linkages to value-adding facilities and backwards linkages to input suppliers. This eliminates opportunities for embedded services and financing, as well as channels for demand-driven market information. In such situations, information is often not shared, restricting learning and reducing transparency—further fueling mistrust. In the absence of learning about market demand, innovations and technologies, there are little or no incentives or opportunities for upgrading. Upgrading is further discounted by the short time horizons for investment returns that often predominate in environments of pervasive mistrust. Without upgrading, there is limited potential for increased benefits, and industry competitiveness is compromised.

Impact of Pervasive Mistrust image

When trust is low, firms may only be comfortable with making very small ("riskable") agreements that expose them to low levels of risk. As a commercial counterpart proves reliable in meeting agreements and refraining from opportunistic behavior, a firm may become willing to be exposed to progressively greater risks. This is illustrated in the example of microlending, in which lenders build knowledge about a borrower’s creditworthiness by initially loaning small sums and then increasing the size of the loans as the borrower repays on time.

Trust in inter-firm relationships is related to the frequency of transactions and the length of time the commercial relationship has been in place. More frequent transactions allow firms to demonstrate their reliability and good faith more quickly, thus potentially building trust sooner. Firm owners who meet frequently for transactions also have more opportunities to share information. As the commercial relationship becomes increasingly long term, firm owners build confidence in each other and expectations grow that the relationship will continue. Expectations of a continuing commercial relationship act to curb opportunism and promote risk-taking and investment.

Trust is more difficult when some firms have information that others do not. In practice, asymmetric information about general market conditions, benefits, opportunities and risks is the rule rather than the exception. For example, information on prices in end markets may not be available to firms at lower functional levels of a value chain. An illustration from horizontal relationships is when the rank-and-file members of a producer association do not have access to information about the association’s accounts and know little about the organization’s financial dealings. Such information asymmetries can hinder the establishment of trust as individuals with less information may suspect that they are being unfairly exploited by those with more information.

Information transparency, on the other hand, facilitates trust by reducing uncertainty and allowing firms to negotiate with each other on the basis of similar information. Even though trust is the oil that allows commercial machinery to turn, blind trust is a risky proposition in commercial relationships. A more prudent approach is to “trust but verify.” In the best case scenario, information transparency evolves into the active exchange of information and learning. This enhances opportunities for upgrading as vertical and horizontal linkages become conduits for the transfer of knowledge, skills and technology.