Sources of Trust

A large quantity of studies focused on where is trust from. When deciding to trust, some people rely on reputation, previous experiences, personal relationship, and economic value and so on.

For example, the personality approaches emphasized on how individual personality causes the different attitudes in willingness to trust. The institutional approach insisted that the institutional arrangement is the force to make people reliable (Gambetta 1988). The network approach argued that social ties and network structure are the important roles during the process of producing trust (Granovetter 1985; Uzzi 1996).

Therefore, a number of trust building processes (sources of trust) were identified;

however, according to the previous literature, Zucker (1986) characterized that “trust production” or “the trust building process” is build up from process-based, characteristic-based and institutional-characteristic-based trusts.

In our research, drawing from Zucker’s (1986) literature as well as other researches, we define the sources of trust in inter-firm relationship are most likely to be produced through the following 4 types:

 Economic-based (hostage-based) of trust 

 Process-based of trust 

 Characteristic-based of trust 

 Institutional-based of trust

In the following section, we explore each of these perspectives in detail.

Economic-based (hostage-based) of trust

Economic-based of trust could basically linked with the concept of “the hostage relationship” as Williamson (1983) discusses “The Hostage Model” from a transactional cost economics view, which describing the potential use of assets or investment made by a certain partner or firm as a method of creating a form of hostage situation between business relationships. This assumes that exchange partners are part of the same social network. In addition, Williamson (1993) refers to this as "calculative trust."

Many examples focus largely on business-to-business relationships and the use of assets as a means of creating a hostage like bond between partner A and partner B. For example, Wathne and Heide (2000) discuss the “use of hostages in the form of specific theory assets” in inter-firm relationships. Similarly, Kim (2000) discusses forms of hostage relationship situations in distributor to supplier relationships; Gemser and Wijnberg (2001) discuss “mutual hostage arrangements” as an insurance mechanism in the avoidance of opportunistic behavior.

On the other hand, in view of the types of alliances and transactions, we shall not neglect the literate discussing on switching costs that have largely focused on barriers to relationship dissolution, which may result in the hostage relationship situation via

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mechanism of investment. A common theme in the literature regarding hostage relationships and switching costs seems to focus on the growth of dependence of the buyer on supplier as the relationship continues and further investment or personal costs are established within the relationship.

For example, Colgate and Lang (2001) describe switching costs as “the costs of changing services in terms of time, monetary and psychological costs”. Similarly Jones et al. (2002) provide a detailed investigation of categories of switching costs that act as barriers to relationship dissolution and suggest that switching costs’ construct is multidimensional and may be defined as following:

 pre-switching search and evaluation costs

 cost of lost performance

 uncertainty costs

  post-switching behavioral and cognitive costs

 sunk costs (energy, time and effort)

 setup costs

Therefore, the literatures on hostage relationships and switching costs are very similar in that they both rely on the dependence of either trading party and both involve a personal or monetary investment to form the bond of the hostage situation. For example, stock ownership in particular, aligns trading parties’ incentives and may get them to behave in a more trustworthy fashion (Pisano, 1989; Dyer and Ouchi, 1993). Stock ownership may produce trustworthy behavior that, over time, results in higher levels of trust.

In many instances, the stock tie acts as a symbol of the relationship, thereby encouraging individuals to develop a trust orientation towards the partner organization

(Gerlach, 1987). Shared equity or partial ownership may create conditions for informal trust to develop by aligning the both parties’ incentives.

Therefore, the trading parties may behave in a trustworthy manner (refuse to be opportunistic) due to “credible commitments” that they have made with others trading partner (Klein, 1980; Williamson, 1983). Subsequently, it is the result of relationship constraint that preventing one’s propensity to switch to an alternative opportunity or opportunistic behavior.

Process-based trust

Process-based trust refers to the type of trust that is dependent on past transactions/interaction (repeated purchases) and reputation (expected future exchanges) (Parkhe, 1998b). Through repeat purchases and interactive communication (whether formal or informal channel of communication) with the others, both parties expecting a long-term relationship and stronger relationships with trading parties and create a comparative advantage over the competitors (Parkhe, 1998b).

Unlike characteristic-based trust, process-based trust builds on reputation, thus, one of the key aforementioned factors in building this type of trust is satisfaction with previous interactions experience (Parkhe, 1998b). This process-based trust involves an extensive knowledge of prior personal history and demands extensive interpersonal interactions over lengthy periods of time (Zucker, 1986). Trust is expected to emerge under conditions of continuous repeated transactions (Gulati, 1995) due to the trading parties’

routines that are predictable and consistent and which do not switch (perhaps opportunistically) business to competitors (Butler, 1991; Heidi and Miner, 1992).

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In the same fashion, according to Parkhe (1998a), it is vital to employ the principle of repeated reinforcement of positive experiences to develop the trust, being trustworthy and being known to be trustworthy. Therefore, process-based trust is expensive in the relationship exchange because it requires overtime-dynamic interaction and transaction experiences.

Thus, the process-based perspective recognizes that inter-firm trust may be built upon impersonal processes and routines that create a stable context for exchange.

Individuals may come and go at the two organizations but the trust orientation will not be affected because trust is not based on individual relationships.

On the other hand, in the case without any previous interaction history, trust still could be developing in such a relationship based upon the reputation of transacting partners within the same industry (Parkhe, 1998a). Reputation is a form of social guarantee that can guarantee contract performance without prior acquaintance. The stronger the reputation, the more secure we feel to trust on the partners. Therefore, to create process-based trust, it is important to convince the trusting party of one owns trustworthiness, because when one party trusts another, the trusted party often feels bound by the trust placed in them to give in return the trust (Blau, 1964).

In summary, it should be noted that process-based trust is also highly valuable where repeat transaction are often involved. This type of trust advances a short-run oriented transaction relationship into a long-run oriented exchange relationship between the customer and the vendor, buyer and supplier, etc. Prior positive buying experience with a party will stimulate further cooperation, enhance commitment, and encourage a long-term interaction between the customer and the vendor.

Characteristic-based of trust

According to the sociological perspective, trust emerges through social interactions between exchange partners (Granovetter, 1985; Powell, 1990; Uzzi, 1997).

Therefore, the characteristic-based of trust focuses on individual commonalties that may be relatively general (gender, ethnicity, nationality, religion) or specific (kinship and clan membership).

The social similarity based upon individual commonalties creates a sense of community, and thus a feeling of shared-binding as well as shared ethical and moral habits.

In this mechanism, similarity of cultural values is the driving force in creating trust (Gefen, 1997; Zucker 1986). This shared binding and the internalized reciprocal moral obligations, give members of the social-group a sense that they can trust each other and subsequently reduces the need for explicit rules and regulations and creates an inherited ethical habit (Gefen, 1997).

Accordingly to Granovetter (1985), "social relations, rather than institutional arrangements or generalized morality, are mainly responsible for the production of trust in economic life". For example, most individuals are less likely to take advantage of those with whom they have had long and stable past interactions such as family members, friends, former classmates, and former activities club member and so on. It is because prior relationship between both parties creates trust and familiarity and thus, reduces the opportunistic behavior as well as facilitating the conflict resolution (Parkhe, 1998a).

On top of that, these parties can impose social sanctions on the offending individual. Various types of social sanctions could be applied to control opportunism such

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as withdrawal of love, respect, prestige, or the worst is banishment from the social community (Light, 1972; Smith, 1983; Ellickson, 1991). Thus, individuals that take unfair advantage of a trading partner or the opportunistic behavior may face the sanctions imposed by other members of the social network.

In addition, through long-term interaction, a "social memory" is created and trading parties can achieve "serial equity" (equity/reciprocity over a longer period) rather than requiring immediate or "spot equity" (Ouchi, 1984). Thus, we would expect higher levels of trust to emerge in exchange relationships where the trading parties have a long history of interacting.

Granovetter (1985) further urged that, "the embeddedness argument stresses the role of concrete personal relations and structures (or 'networks') of such relations in generating trust and discouraging malfeasance." The greater the extent of these relationships or network, the greater the implied similarity of background expectations, and, hence, the more trust toward the trading partners. As a result, trusted relationship develops among firms (Zucker, 1986), groups within a firm (Ouchi, 1979), and strategically allied companies as well (Fukuyama, 1995).

In summary, the social perspective (Granovetter, 1985; Dore, 1983; Powell, 1990;

Uzzi, 1997) suggests that trust will emerge due to social interactions between trading partners. As the duration and intensity of interactions between transactors increases, we would expect bonds of attraction to develop and social sanctions to be more efficacious.

Institutional-based of trust

Institution-based trust is distinct from economic-based, characteristic and process-based trust in which it generalizes beyond both a given transaction and specific sets of exchange partners (Karpinski, 2000). Institution-based trust is the most likely to reduce trading parties’ concerns about personal and transactional information so that could engage in long-term exchanges with their trading partners.

Given the uncertainty of transactions and no previous interaction or the both trading parties may come from different social and cultural backgrounds, encouragement of the creation of formal mechanisms increased, such as the following examples, to assure inter-organizational or inter-firm exchange relationships and facilitating the transactions by reducing the risk of opportunism as well as increasing the reputation (Zucker, 1986):

1. association and obligation structure that derives from membership of business and professional associations (Zucker, 1986; Parkhe, 1998a)

2. intermediary mechanisms such as government regulations, contractual agreement, legal stipulation in the agreement (Zucker, 1986; Parkhe, 1998a) 3. third party’s recommendation, standard bodies such as ISO (International

Organization for Standardization) and other certifications (Zucker, 1986;

Parkhe, 1998a)

Therefore, the abovementioned actions will reduce the attractiveness of cheating and thus, increase the cooperative behaviors. The notion of institutional trust (Zucker,1986), discusses how specific institution-based structures help engender inter-firm trust and indirectly influence transaction success as well as urging institutional trust is the most

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important mode of trust creation in business environments or in market where experience is not readily available.

Escrows guarantee the financial side of the transaction by making sure that the third party releases funds only when both parties agree that the terms of the deal have been met. Certification deals with licenses and accreditation, which testify to the ability and expected behavior of the trusted party. These trust mechanisms may provide the much needed ‘‘trust infrastructure’’ because it has a formal marketable structure such as institutions and third party guarantors that actually sell certificates pledging integrity, ability, and intentions. Such certifications are deliberately used to build trust in the bearer’s ability through external guarantors such as universities and state regulators or other related institution. It can help to evaluate the trading parties, confirm their identity, and perform long run and committed transactions.

Furthermore, the importance of institutional trust is illustrated by the enforcement on the effect of conforming a contractual relationship through legal system or trade association (Bachmann, 2002, 2002). The trust building process is greatly dependent on the enforcement of that particular authority in protecting one contractual relationship and inflicts penalties for the cheating or violative behaviors.

For example, the trades associations regulate against unfair pricing, determine the standard quality of products, remove ambiguity form inter-firm relationships and so on (Burchell and Wilkinson, 1997). By anticipating some of the foreseeable contingencies and by stipulating reasonable punishments for each of the contingency will definitely help to increase the confident of each party as well as the expected cooperative behavior (Parkhe, 1998b).

Therefore, trust could be developed and be found in the abovementioned immovable collateral and other formal guarantees, without prior acquaintance or experiences. Collateral-based enforcement is particularly important for large transactions.

2.3 The consequences of trust

Although contracts are an important part of any inter-firm relationship, it is generally accepted that informal understanding based on trust, may prove even more powerful than contracts in assuring a successful relationship. Hence, this section focuses on the role of formal controls (contract) as the consequences from the trust and to understand what flexibility means and why does it need to exist in a contractual relationship.

According to the CEO of the International Association of Contract and Commercial Management (IACCM), Tim Cummins, he said: “Getting a contract signed achieves very little. It is the beginning of the journey, not the end.” It is because incomplete contracts predominate in business. Therefore, increased flexibility in volatile market conditions is necessary to increases the competitiveness of the business in economic upturns and downturns.

Relationships between formal contracts and trust are developed based on the empirical observations from the case study conducted and prior literature. One of the most notable studies is the research of Burchell and Wilkinson (1997), the role of trust in contractual relationships or trading environment between firms in Britain, Germany and Italy is investigated with a survey of over 60 firms.

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Drawing from the result of the abovementioned study, the action of trust or so called the consequences of trust in business context could be divided into three dimensions as following:-

1. Contract adherence

2. Flexibility beyond contract

3. Flexibility outside contract or relationship outside contract

First, the action or results associated with the contract adherence is referring to strictly honoring the terms of contracts, such as paying or delivering the afore-agreed terms on time, maintaining high product quality at all the times, honoring the terms of contracts, preserving confidentiality and so on. Adhering to what have been agreed is considered as the most basic trust that the partners should provide in the inter-firm relationship (Burchell and Wilkinson, 1997).  It is because not all people are saints all of the time; as the relationship unfolds there will be opportunities for one party to take advantage of the other’s vulnerability, to engage in strategic behavior, or to follow his own interests at the expense of the other party.

Second, the action or results associated with flexibility beyond contract are highly related to flexibility in business activity such as being ready to exchange business information, being ready to renegotiate the terms of contract at any time, honoring informal understanding. This is to serve the purpose fill in the interstices of contracts and to provide informal understanding going beyond the contact (Burchell and Wilkinson, 1997). 

Flexibility arises when contractual performance is made contingent upon external conditions affecting one of the parties. The idea is that a party who cannot deliver or client

who cannot pay is allowed to renegotiate the contract and default from his or her original obligations. Flexibility is thus a form of insurance, of risk sharing.

  Fafchamps (1996) has argued that, unless contracts are flexible  and later renegotiate the terms of those contracts are allowed, economic exchange cannot take place as the parties can never to completely assure they could adhere to their contractual term or obligations due to the external condition preventing them from doing so. Therefore, it is worth to note that contractual term or obligations must be sufficiently flexible so that parties are not afraid to engage into a contractual relationship, however, not too flexible to encourage opportunistic behavior.

Third, the action or results associated with flexibility outside contract are more reflected in a social way such as being ready to help during emergency, being willing to negotiate or being considerate as well as high level of forgiveness during the hard time and to overlook faults (Burchell and Wilkinson, 1997). Therefore, the flexibility outside contract is more similar to the fashion of relational exchange (Dyer and Singh, 1998). It is because they value long-term relationships over contracts. For many business exchanges, emphasis on relational exchange has brought about greater communication, coordination, and planning between partners (Spekman and Johnston, 1986).

The relational exchange and long-term relationships are considered as to be one of the most important resources for developing competitive advantages (Dyer and Singh, 1998). As illustrated by Macaulay (1963), buyer-seller relations are often governed without the use of contracts; however, based on the informal agreements and flexible adjustments when new contingencies develop.

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Chapter 3 National Economic of Malaysia

3.1 Georgraphy

Map of West Malaysia (Peninsular Malaysia) and East Malaysia (Malaysian Borneo).

Malaysia is a founding member of the Association of Southeast Asian Nations (ASEAN) and participates in many international organizations such as the United Nations.

Basically, Malaysia is a federation in Southeast Asia that consists of thirteen states (11 in peninsular Malaysia and 2 in Malaysian Borneo) and thus, the country is separated into two regions — Peninsular Malaysia and Malaysian Borneo by the South China Sea. The Strait of Malacca, lying between Indonesia and Peninsular Malaysia, is arguably the most important shipping lane in the world.

Malaysia is the 43rd most populated country and the 66th largest country by total land area in the world, with a population of about 27 million. It is multi-ethnic with Malay, Chinese, Indian and other Eurasian groups, with the Malays at 50.4% making up the majority and 23.7% of the population are Malaysian of Chinese descent, while Malaysian

of Indian descent comprise 7.1% of the population. Thus, basically, Malays form the majority of the population of Malaysia followed by sizable Chinese and Indian communities.

3.2 The economic within the country: Inter-ethnicity

After the 13 May race riots of 1969, Malaysia has since maintained a delicate ethno-political balance, with a system of government that has attempted to combine overall economic development with political and economic policies that promote equitable participation of all races. The controversial New Economic Policy—intended to increase proportionately the share of the economic pie of the native/indigenous people (the majority Malays) as compared to other ethnic groups (includes Chinese and Indian)—was launched by the 2^nd Prime Minister of Malaysia- Tunku Abdul Razak.

Malaysia, a middle-income country but been acknowledged as the richest and best managed Islamic democracy in the World³, has transformed itself since the 1970s from a producer of raw materials into an emerging multi-sector economy, to one that is among the strongest, most diversified, and fastest-growing in Southeast Asia.

Since Dr Mahathir became prime minister in 1981, he introduced a

“discriminatory” quota system in education and jobs for Malay/native group, but ensured it did not disturb the underlying economy (Ramona, 2002). In view of the Malaysian

“discriminatory” quota system in education and jobs for Malay/native group, but ensured it did not disturb the underlying economy (Ramona, 2002). In view of the Malaysian