When output is the result of a team effort, it is hard to put the necessary tasks out to the market.
That is because it is tricky to measure the contribution of each member to the finished work and to then allocate their rewards accordingly.
So the firm is needed to act as both co-ordinator and monitor of a team.
If a team of workers requires a firm as monitor, might that also be true for teams of suppliers?
In some cases, firms are indeed vertically integrated, meaning that suppliers of inputs and producers of final goods are under the same ownership.
But in other cases, suppliers and their customers are separate entities.
When is one set-up right and not the other?
A paper published in 1986 by Sanford Grossman and Mr Hart sharpened the thinking on this.
They distinguished between two types of rights over a firm's assets (its plant, machinery, brands, client lists and so on) : specific rights, which can be contracted out, and residual rights, which come with ownership.
Where it becomes costly for a company to specify all that it wants from a supplier, it might make sense to acquire it in order to claim the residual rights (and the profits) from ownership.
But, as Messrs Grossman and Hart noted, something is also lost through the merger.
The supplier's incentive to innovate and to control costs vanishes, because he no longer owns the residual rights.
To illustrate this kind of relationship, they used the example of an insurance firm that pays a commission to an agent for selling policies.
To encourage the agent to find high-quality clients, which are more likely to renew a policy, the firm defers some portion of the agent's pay and ties it to the rate of policy renewals.
The agent is thus induced to work hard to find good clients.
But there is a drawback.
The insurance firm now has an incentive of its own to shirk.
While the agent is busting a gut to find the right sort of customers, the firm can take advantage by, say, cutting its spending on advertising its policies, raising their price or lowering their quality.
There is no set-up in which the incentives of firm and agent can be perfectly aligned.