Trust: The Social Virtues and the Creation of Prosperity

The 2008 crash has left all the established economic doctrines - equilibrium models, real business cycles, disequilibria models - in disarray. Part of the problem is due to Smith’s "veil of ignorance": individuals unknowingly pursue society’s interest and, as a result, have no clue as to the macroeconomic effects of their actions: witness the Keynes and Leontief multipliers, the concept of value added, fiat money, Engel’s law and technical progress, to name but a few of the macrofoundations of microeconomics. A good viewpoint to take bearings anew lies in comparing the post-Great Depression institutions with those emerging from Thatcher and Reagan’s economic policies: deregulation, exogenous vs. endoge- nous money, shadow banking vs. Volcker’s Rule. Very simply, the banks, whose lending determined deposits after Roosevelt, and were a public service became private enterprises whose deposits determine lending. These underlay the great moderation preceding 2006, and the subsequent crash.

The Economic Institutions of Capitalism

The well-known Easterlin paradox points out that average happiness has remained constant over time despite sharp rises in GNP per head. At the same time, a micro literature has typically found positive correlations between individual income and individual measures of subjective well-being. This paper suggests that these two findings are consistent with the presence of relative income terms in the utility function. Income may be evaluated relative to others (social comparison) or to oneself in the past (habituation). We review the evidence on relative income from the subjective well-being literature. We also discuss the relation (or not) between happiness and utility, and discuss some nonhappiness research (behavioral, experimental, neurological) related to income comparisons. We last consider how relative income in the utility function can affect economic models of behavior in the domains of consumption, investment, economic growth, savings, taxation, labor supply, wages, and migration.

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Relative income, happiness, and utility : an explanation for the Easterlin paradox and other puzzles

Models that depict innovation as a smooth, well-behaved linear process badly misspecify the nature and direction of the causal factors at work. Innovation is complex, uncertain, somewhat disorderly, and subject to changes of many sorts. Innovation is also difficult to measure and demands close coordination of adequate technical knowledge and excellent market judgment in order to satisfy economic, technological, and other types of constraints—all simultaneously. The process of innovation must be viewed as a series of changes in a complete system not only of hardware, but also of market environment, production facilities and knowledge, and the social contexts of the innovation organization.

An Overview of Innovation

(1975). The Limits of Organization. Journal of Economic Issues: Vol. 9, No. 3, pp. 543-544.

The Limits of Organization

Why the U.S. innovation ecosystem is slowing down

This paper studies hierarchical organizations where concerns for fast execution are important and employees must be coordinated to avoid wasteful duplications of effort. Simple conditions are provided for the time spent on coordinating subordinates to be increasing and the span of control to be decreasing as one goes up the hierarchy, with equalities holding if delay is all that matters. When returns to specialization are substantial, the span of control also tends to widen and the hierarchy to flatten as urgency increases. The model suggests that concerns for fast execution may be key in explaining recent trends toward decentralization and delayering in firms.

https://papers.ssrn.com/sol3/Delivery.cfm/SSRN_ID1476544_code459643.pdf?abstractid=1476544&mirid=5

Coordination and Delay in Hierarchies

This paper examines how asymmetries between partners in the ability to appropriate the returns from collaboration affect governance choices and investment patterns. We consider multiple pairs of upstream and downstream firms, where firms must collaborate to improve product components. We show that when there are significant initial asymmetries in appropriability, components are easily redeployable and market size is sufficiently large for asymmetries to be exploited, then there exists a Pareto-inferior equilibrium where unstructured collaboration between independent firms breaks down. As a result, some pairs may be better off formalizing their relationship or integrating. All organizational forms (unstructured and structured partnerships, and integration) can co-exist in equilibrium, despite all pairs being identical ex ante and facing the same environment. The relationship is symbiotic: more hierarchical modes of governance exert a positive externality over less hierarchical modes, which allows the latter to be sustained.

The Asymmetric Fundamental Transformation

This paper studies the optimal allocation of coordination responsibilities in organizations where duplication of effort is a serious concern. The planner`s objective is to minimize a weighted average of the wage bill and the cost of delay. The paper provides conditions under which, in balanced hierarches, communication effort is increasing and the span of control is decreasing as one travels up the hierarchy, with equalities holding if wages are negligible relative to the weight attached to the cost of delay. The analysis suggests that concerns for fast decision-making may be key in explaining the recent trend towards empowerment in firms. Several variants of the basic model are studied, including one focusing on communicative skills and another in which, as urgency increases, the optimal span of control increases and the hierarchy flattens. Evidence supporting these results is discussed.

Optimal Coordination in Hierarchies

This study examines how multi-unit firms manage uncertainty across heterogeneous units through the internal redeployment of trusted managers—those whom the owners trust to act in the firm’s best interests—to units where agency costs are high. Using a novel data set of over 30,000 internal managerial redeployments in multi-unit firms in 15 European countries, we find that diversified and partly owned units are more likely to be allocated trusted managers, especially in regions where institutions are weak. We also find that firms are more likely to send trusted managers in response to exogenous shocks that increase uncertainty, especially where institutions are weak. We discuss the implications of our findings on how a corporate strategy lens can enrich the strategic human capital allocation literature. 

Andrea Patacconi

Papers

Why the U.S. innovation ecosystem is slowing down

Coordination and Delay in Hierarchies

The Asymmetric Fundamental Transformation

Optimal Coordination in Hierarchies

Managing Multi-Unit Firms in Uncertain Environments: The Role of Trusted Managers