The Limits of Firms: A Chronic Puzzle

Frank Knight made early reference to the limitations to firm size puzzle when, in 1921, he observed that the “diminishing returns to management is a subject often referred to in economic literature, but in regard to which there is a dearth of scientific discussion” (1965, p. 286, n. 1). And in 1933 he elaborated

The Limits of Firms: Integration of an Owner-Managed Supply Stage

The obvious answer to the puzzle of why firms do not comprehensively integrate is that selective intervention is not feasible. But why should that be? If the reasons were obvious, the puzzle of what is responsible for limitations on firm size would not persist. I attempt here to identify some of the main reasons

The Limits of Firms: Acquisition of a Supply Stage in Which Ownership and Management Are Separated

Suppose, arguendo, that vertical integration of the kind described above experiences the incentive disabilities that are ascribed to it. It is nevertheless noteworthy that the conditions described above are very special. In particular I have assumed that ownership and management are joined in the preacquisition supply stage. What if that condition does not obtain?

The Limits of Firms: The Costs of Bureaucracy

The costs of acquisition discussed in section 2 are mainly ones that will accrue to any separation of ownership from control, merger-related or otherwise. Although the costs of acquisition discussed in section 3 are not confounded in ownership and control respects, they are also more speculative in nature and are probably weaker in effect.

The Limits of Firms: Low-Powered Incentives in Markets

A symmetrical treatment of economic organization will examine not merely the strains that result when the high-powered incentives associated with markets are introduced into firms, but will also consider whether the low-powered incentives employed by firms can be introduced without strain into markets. The latter question is the matter of concern here. Assume, for

The Limits of Firms: Illustrative Examples

Evidence on the incentive limits of firms is not well developed. For one thing, firms are understandably chary of admitting administrative strains that may be interpreted as managerial failures. Additionally, the incentive limits of firms has eluded analytic scrutiny. There is simply no place, within the production function framework in which a profit maximization

The Limits of Firms: Concluding Remarks

Why can’t a large firm do everything that a collection of small firms can do and more? The basic argument of this chapter is this: Selective intervention, whereby integration realizes adaptive gains but experiences no losses, is not feasible. Instead, the transfer of a transaction out of the market into the firm is regularly

Credible Commitments: Private Ordering

As indicated earlier, the legal centralism tradition maintains that the courts are well suited for administering justice whenever contract disputes arise. If few cases are brought to the courts for disposition, that is only because contracts are carefully drawn and/or because the law of contract is fully nuanced and the relevant facts are easy

Credible Commitments: Credible Commitments

1. Commitments’versus Threats  Credible commitments and credible threats share this common attribute: Both appear mainly in conjunction with irreversible, specialized investments. But whereas credible commitments are undertaken in support of alliances and to promote exchange, credible threats appear in the context of conflict and rivalry.63 The former involve reciprocal acts designed to safeguard a

Credible Commitments: The Hostage Model

The simple hostage model serves to illuminate both unilateral and bilateral exchange, permits the concept of specific capital to be extended beyond earlier uses, and clarifies how costs should be described in assessing exchange. While it is primitive and suggestive, rather than refined and definitive, it serves as a paradigmatic wedge by which the

Credible Commitments: Engaging the Supplier

Suppliers are passive instruments in this model. They are indifferent among contracts, since their expected profits are the same (zero) whichever choice the buyer makes. What drives the argument is that buyers can secure better terms only by relieving producers of demand cancellation losses. Buyers cannot have their cake (product supplied by the efficient

Credible Commitments: Unilateral Trading Applications

The technologies and contractual options discussed above are displayed sche- matically in Figure 7-2. If pˆ < p1 < p‾, then the relevant nodes are A and C: e uyer will either ask the supplier to employ the general purpose techno ogy an will pay p, upon delivery of product for which orders are’con-

Credible Commitments: Schwinn

Although issues posed in Schwinn are not precisely the same as the franchise matters discussed above, they are nevertheless closely related. Inasmuch as this case displays pretransaction cost type reasoning, it is instructive to consider the government’s arguments against the franchise restrictions employed by Schwinn and then to consider an alternative construction. 1. The Objections 

Credible Commitments: Reciprocity

1. General Reciprocity transforms a unilateral supply relation where A sells X to B into a bilateral one, whereby A agrees to buy Y from B as a condition for making the sale of X and both parties understand that the transaction will be continued only if reciprocity is observed. The resulting contractual relation

Credible Commitments: The Hostage Model Extended

Assume that the two firms are engaged in tied bilateral trade and that both have made specific asset investments of k in support of each other. Assume further that each firm incurs redeployable costs of production of v2 and that pˆ is the price at which product is traded. In deciding whether to take

Credible Commitments: Petroleum Exchanges

“The task of linking concepts with observations demands a great deal of detailed knowledge of the realities of economic life” (Koopmans, 1957, p. 145). The phenomenon of petroleum exchanges has puzzled economists for a very long time. It routinely comes up in antitrust cases and investigations. The 1973 case brought by the United States

Credible Commitments: Concluding Remarks

These two chapters on credible commitments maintain and develop the viewpoint that private ordering is widely used to govern complex contractual relations. It thus takes issue with the legal centralism tradition. Rather than employ a legal rules approach to contract, the concept of contract as framework is emphasized instead. Disputes are not therefore routinely

The Organization of Work: The Radical Account of Hierarchy

The Radical account of hierarchy comes down to this: (1) All legitimate efficiency purposes of organization can be discerned by reference to the neoclassical theory of the firm; (2) neoclassical theory makes no provision for hierarchy; accordingly (3) the alternative hypothesis—namely, that hierarchy operates in the service of power—wins. Original contributions by Stephen Marglin

The Organization of Work: Transaction Cost Aspects

Recall that two branches of transaction cost economics are distinguished in the cognitive map of contract set out in Chapter 2: a governance branch, where the concern is with adaptive, sequential decision-making, and a measurement branch, where the problems are attributable to information impact- edness. To be sure, the two conditions are commonly joined

The Organization of Work: A Comparative Institutional Framework

1. Assumptions Marglin contends that the nonexperimental naturelof the social sciences con- tributes to the continuing neglect of internal organization. Were that not the case, alternative inodes of organization, including egalitarian work modes, would be designed and tested experimentally (Marglin, 1974, pp. 33-34). While I agree that experimental testing of that kind has great