What is Organizational Economics? (and Should Any Sociologists Care?) B. Gibbons September 2, 2004 Bob Learns Something About Organizations (and Sociology) July, 1991 — Move next to Victor — Institutions Conference — PhD course w/ John Freeman — BEDR — David Strang‘s PhD course — ―Snow‖ Conference — Ed Lawler‘s PhD course — Steve Barley‘s ―ASQ Forum‖ — MDRPOI (!) June, 1997 Organizational Economics? Industrial Organization Labor Theory of Internal the Firm Organization Law and Corporate Economics Finance Governance Economics? Constitutional New Institutional Economics Economic History (eg, Buchanan) (e.g., North) Organizational Economics (e.g., Williamson) Within Economics, OE is … • An emerging field? — What does this mean? — How does this happen? • Part of an emerging approach? — Choice vs governance — Price vs. contract • A playground for under-employed theorists? What is Economic Sociology and Should Any Economists Care? B. Gibbons JEP, 2005 OE and Organizational Studies? Economic Industrial Organization Labor Positive Theory of Internal Social Political the Firm Organization Psychology Theory Law and Corporate Economics Finance Sociology H. Zuckerman ‗04 Your comments ―address the general issue of the diffusion of concepts, findings, methods, and orientations across disciplinary boundaries …‖ Bob ―would have especially liked the idea that all the traffic wasn‘t moving from economics to sociology. He would also have noted that the ideas you cite were developed decades ago, and that the convergence of modern organizational economics and ‗post- Weberian‘ organizational sociology happened inadvertently.‖ Outside Economics, OE is … • Economists‘ contribution to OS? — Gains from interaction? — How to facilitate? • Case study in sociology of science? — Development of OE within Econ? — Interaction between disciplines? • Narrow-minded imperialism (again)? Possible Outline I. Our Organizational Economy II. Internal Organization III. Theories of the Firm IV. Managing Governance V. Groping Towards A Field VI. Should Any Sociologists Care? I. Our Organizational Economy ―Sociologists have long argued that we live in an organizational society: ‗all important social processes either have their origin in formal organizations or are strongly mediated by them‘ (Perrow, 1986).‖ Gibbons-Waldman 99 ~ 1 of ~ 37 chapters Simon ‗91 Suppose that ―a mythical visitor from Mars … approaches the Earth from space, equipped with a telescope that reveals social structures… ―Our visitor … might be surprised to hear the structure called a market economy. ‗Wouldn‘t ‗organizational economy‘ be the more appropriate term?‘ it might ask.‖ (1991: 27-28) Foundational Questions for Organizational Economics What is an organization? What do organizations do? Does it matter (that some activities are ―governed‖ instead of ―priced‖)? What is an organization? ―Organizations are a means of achieving the benefits of collective action in situations where the price system fails.‖ (Arrow, 1974: 33) -- firms -- governments -- schools -- political parties -- churches -- social movements -- markets! What do organizations do? ―All of them … share the common characteristics of the need for collective action and the allocation of resources through nonmarket methods.‖ (Arrow, 1974: 26) -- allocate capital -- employ people -- interact with other organizations -- govern / manage (vs. price) Does it matter? • Resource allocation within firm vs. between? • Employment in large firms vs. spot market? • Interactions between organizations governed / managed vs. priced? • Mullainathan-Scharfstein AER 01 – ―Do Firm Boundaries Matter?‖ • Bidwell 04 – ―What Do Firms Do Differently?‖ • Zuckerman 04 – ―Do Firms and Markets Look Different?‖ II. Internal Organization • 200 years: firm = black box K, L F(K, L) Firm • Recently: looking inside – Microfoundations: F(K, L) – Omitted variable(s): F(K, L, M) Early Work • Weberian bureaucracy (1924) — ―precision, speed, expert control, continuity, discretion, and optimal returns on input‖ • Post-Weberian Orgz‘l Sociology (1950s) — ―rules are often violated, decisions are often unimplemented, … and evaluation and inspection systems are subverted‖ • Team Theory (Marschak & Radner, 1972) — rules for investigating, communicating, and deciding — Weber meets statistical decision theory Recent Convergence • Org. econ. models post-Weberian spirit — Inefficient, informal, and institutionalized organizational behaviors (vs. team theory) • ―Game Theory and Garbage Cans‖ — Get what you pay for — Lobbying and politics — Culture and relationships — Herd behavior and group think • Behavioral Theory of the Firm (CM 63) Inevitability of Convergence? • Coase (1937) – If markets were perfect, why would we need firms? • Heckman (1976) – If two actors make different choices, they may be solving different problems • ―Taking Coase Seriously‖ – Markets may look more effective, but firms may be handling tougher problems Firms are not immune to forces that wreck markets. Organizations Effect- 100% are a mess, but not a mystery. iveness observed markets observed firms Firm Market Transaction Difficulty Coase (1937) Meets Heckman (1976) • Some progress: explaining the mean – Microfoundations: F(K, L) • New avenue: noticing the variance – Leibenstein case studies, paired comparisons – Griliches etc enterprise productivity panel data – Rumelt etc enterprise profitability panel data • Next agenda: explaining the variance – Omitted variable(s): F(K, L, M) Summary of Internal Organization 1. ―Behavioral Theory of the Firm‖ – Orgzns. are a mess, but not a mystery – Recent models have post-Weberian spirit. 2. Microfoundations vs. omitted variables – Explaining the mean would be nice, but the variance may be as / more important. – What do managers do? III. Theories of the Firm • Rent-seeking – Klein-Crawford-Alchian 78, Williamson 71/79 – Monteverde-Teece 82, Masten 84, Joskow 85, … • Property rights – Grossman-Hart 86, Hart-Moore 90, Hart 95 • Incentive systems – Holmstrom-Milgrom 91/94, Holmstrom-Tirole 91, Holmstrom 99 • Adaptation – Simon 51, Williamson 75, Klein 96, Klein-Murphy 97 Birds Eye‘s Frozen Peas farm freeze store distrib. retail Farmer Birds Eye Farmer Birds Eye Other rights Seeds, planting, fertilizer, Profits harvesting Control (via Contract or Ownership) A Vertical Transaction Ownership of asset conveys U ownership of good U owns asset (non- ): U = indep. contractor A D owns asset ( ): U = employee D D Relational Contracts Within Firms •Firms are riddled with relational contracts: Barnard 38, Simon 47, Selznick 49, Gouldner 54, Blau 55 •Applications: Lawler 71, Eccles 85, Dalton 59, Bower 70 Relational Contracts Between Firms • So are business dealings: Macaulay 63, Macneil 78, Dore 83 • Applications: Powell 90, Podolny-Page 98, Gerlach 91, Gulati- Singh 98, Kogut 89, Dyer 96 C + (1/r)C > D + (1/r)P ? Basic repeated-game model of “trust” Theories of Relational Contracts • Theory, I: relational incentive contracts – Klein-Leffler ‗81, Telser ‗81, Bull ‗87 – MacLeod-Malcomson ‗89, Levin ‗03 • Theory, II: formal and informal co-exist and interact – BGM ‗94, ‗99, ‗01, ‗02, ‗04a, ‗04b – Garvey ‗95, Halonen ‗02, Bragelien ‗03, Rayo ‗03 Cg + (1/r)Cg > Dg + (1/r)Pg ? Dg Cg Pg Relational Contract in Gov. Structure g (Partial!) Summary of Theories of the Firm • Formal and informal co-exist & interact, … – ―Sociological babes in the woods …‖ – ―The formally instituted and the informal emerging patterns are inextricably intertwined‖ • … and so require joint optimization – Take the total derivative: optimize bricks, taking account of ivy – Choose governance structure to facilitate relationship – ―What the Folk Theorem Didn‘t Tell You‖ IV. Managing Governance • Pick a decent governance structure – Contracts – Control rights – Formal structures and processes • Improve it through relationships / informal structure / culture – Clarity – Credibility – Anticipate extremes – Anticipate change What the FT Hasn‘t Told Us 1. ―Management‖ in typical FT setting: a) Shared history, stationary environment b) Example: bonus B in Bull 87 c) Tasks: conceive, communicate, implement eqbm. 2. ―Leadership‖ in real settings: a) Ambiguous histories, unforeseen events b) Example: layoffs at HP (& ―genesis amnesia‖) c) Tasks: create, maintain, change eqbm. 3. Tough tasks (for managers & theorists): a) Building credibility / creating equilibrium b) Managing relationships / preserving equilibrium c) Credible change / switching equilibria V. Groping Towards a Field • Proxies for a field? • Pitfalls in field development? • Case study: economic geography Proxies for a Field? • Research: – Articles, conferences, journal, handbook • Education: – Routine course, text, general exam • Job Market: – Rookies, slots, groups Pitfalls in Field Development ― … a mass of descriptive material waiting for a theory, or a fire‖ (Coase 1984: 230) ― … the way in which reasonably clever businessmen and lawyers cope with problems scholars might consider intractable.‖ (Goldberg and Erickson, 1987: 369) Economic Geography (Krugman, 1995) ―The reason that economic geography failed to ‗make it‘ into mainstream economics was the inability of [its] creators to express their ideas in a way suitable for the modeling techniques available at the time.‖ (p. 6) ―Like it or not, the influence of ideas that have not been embalmed in models soon decays.‖ (p. 27) Von Thünen‘s model ―… was the one piece of a heterodox framework that could easily be handled with orthodox methods, and so it attracted research effort out of all proportion to its considerable merits.‖ (p. 54) These are ―… tales of frustration: sensible ideas that could not be effectively formalized, [and] formalizable ideas that seem to have missed the point.‖ (p. 59) VI. Should Sociologists Care? • Substantive overlaps – power & politics – complex organizations – markets & institutions • Case study – OE within Econ – Across disciplines Complex Organizations • Corporate Strategy – BMGI, Beatrice (homogeneous , conglomerate) – Jacobs Suchard, J&J (decentralization ?) – Disney, ABB (synergy group, matrix) • Extended Enterprises – Chrysler‘s suppliers (hand-in-glove) – Fuji-Xerox, Honda-Rover (JV, alliance) – XTV, Birds Eye (spin-offs, industry dynamics) non- incentives, initiative ―multi-domestic‖ = loose federation ―transnational‖ = networked ―global‖ = scale thru standardization coordination, control Structures for Corporate Strategy non- incentives, initiative spot market command firm coordination, control Relational Contracts in Extended Enterprises Figure 6 Ne tworks in Re combinant Capital Database of Pharmaceutical-Biote ch Alliance s Table 1 Operational Objectives and Governance Structures for Pharmaceutical-Biotech Strategic Alliances, 1973-2001 Governance Structure for Alliance Operational Objective Merger or Joint Structure License Investment Total of Alliance: Acquisition Venture not Specifed Development 16.2% 4.6% 0.1% 0.7% 7.7% 29.4% Research 13.3% 3.5% 0.1% 0.4% 7.3% 24.6% Manufacturing or Marketing 4.7% 1.8% 0.4% 0.3% 10.6% 17.9% Collaboration 7.3% 2.2% 0.0% 0.2% 6.9% 16.7% Supply 4.3% 1.3% 0.3% 0.1% 3.1% 9.2% Objective not specified 20.6% 4.9% 12.8% 2.1% 40.3% Total 66.5% 18.4% 13.8% 3.8% 35.7% Note: Data ext racted from R ecombinant Capital database of alliances in the pharma -biotech industry, based on approximately 12,500 publicly disclosed contracts and arrangements from 1973-2001. Totals sum to more than 100% because contracts frequently mention multiple objectives (e.g., research and developme nt) and often note multiple governance structures (e.g., investment and license agreeme nt).
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