I wrote earlier about Doug Allen’s The Institutional Revolution (Cambridge University Press, 2011). Here’s a new EH.Net review by Mark Koyama.

Institutions in Allen’s view minimize transaction costs, where transaction costs include the costs associated with opportunistic behavior. Transaction costs precluded “first-best” institutions from developing in the pre-industrial world. Instead, apparently inefficient institutions such as tax farming, the sale of offices, and the aristocratic dominance of politics persisted for centuries. Allen argues that these apparently inefficient institutions were, in fact, efficient given the existing configuration of transaction costs. This insight, which builds on the ideas of Yoram Barzel, provides a powerful hypothesis for studying institutional change. Allen places particular emphasis on the importance of measurement. In the high variance pre-modern world, measurement was costly or impossible and consequently bureaucrats, soldiers, sailors, and policemen could not be paid on the basis of observable inputs. Alternative institutions had to emerge to deter opportunism and reward effort. These institutions were often elaborate, and sometimes strange; they involved making the bureaucrats, soldiers, or tax collectors residual claimants of some sort. The story of how these institutions disappeared and were replaced by modern institutions is The Institutional Revolution.

The institutional revolution Allen proposes is linked to the industrial revolution because technological change drove institutional change by reducing measurement costs. Standardization reduced variance. This reduction in variance lessened the possibilities for opportunistic behavior and enabled institutions based around the idea of rewarding individuals for their marginal contribution to emerge.

The second review article in the latest issue of AMR by Venkataraman, Sarasvathy, Dew, and Forster (VSDF) is more ambitious than the first by Shane, discussed in Part 1. In fact one might describe the ambition motivating the article as grandiose. VSDF “seek to recast entrepreneurship as a science of the artificial” an entirely new way of looking at entrepreneurship in the interest of uncovering (what I take to be universal) principles that can serve as the basis of a new empirical and policy-useful science of entrepreneurship. [I see this article as a companion piece to the article by Sarasvathy and Venkataraman (SV) in ET&P January, 2011, in which this grandiose vision is even more apparent.]

The science of the artificial(supposedly a distinct category of science from natural or social science) is derived from the work of Herbert Simon (1996).

As a theory develops it splits into two streams: (1) “basic” research that continues to refine the causal explanations and (2) “applied” research that seeks to alter the variables of explanation. At that point the phenomenon of interest has become an artifact. …

A science of the artificial is interested in phenomena that can be designed [and controlled]. … Design lies is the choice of the boundary values; control lies in the means to change them. (24).

So a useful theory is itself an artifact something that can be used to understand and (importantly) control aspects of the (social) world. And, I suppose, the new science of entrepreneurship will eventually develop such artifacts. [At the end of the article they talk about “recasting opportunities as artifacts” – so I am not sure how this is all connected.]

My lack of expertise regarding the work of Herbert Simon (something which I am now more encouraged to remedy) prevents me from pronouncing with confidence on this part of the article. Suffice it to say that the meaning and contribution of this new “science of the artificial” is far from clear to me. I am left with a feeling that if it is indeed such an important and path-breaking meta-scientific turn, the authors should be able to explain it better. It should be more accessible and transparent. I am left highly skeptical, but I urge readers of this post to read the article and perhaps enlighten me and others.

VSDF claim new ground in three areas 1) understanding opportunities as made as well as found, 2) moving beyond new combinations to transformations 3) developing a new nexus around actions and interactions. In each of these I find their arguments in part unclear or unpersuasive or both, and where I see something of value I don’t see it as new.

They are strongest on the first category – seeing opportunities as made as well as found. They have a nice analysis of the proverbial $100 bill on the sidewalk waiting to be found. Is this an opportunity found (discovered) or made (created) or both? As they point out, in order for this to be an opportunity at all the bill has to exist, someone has to find it (objective conditions), the finder has to know it is $100 bill (subjective interpretation) and other people have to acknowledge its value and be willing to accept it (intersubjective considerations). For an opportunity to exist, certain actions and preconditions must be fulfilled – “actions and interactions that constitute the atomic units of ‘making’ a market opportunity” (26). They proceed to point out that this applies to all opportunities regardless of their degree of objectivity or “creativeness.” Indeed, I believe this is true, and I like the phrase “made or found” – but I don’t think their resolution is new. Isn’t this is line with the sort of thing that Peter Klein and others (among whom I would like to count myself) have been saying for some time? In a fundamental sense “made or found” is irrelevant. What matters is that entrepreneurs take actions that add value above and beyond what was expected or seen before.

This relates to the second category – moving beyond new combinations to transformations. Here they seem to be arguing (I say ‘seem’ because there is a fog of verbiage obscuring the bottom line argument) that successful entrepreneurship involves something transcendental. It is more than simply the reorganization of existing resources. Well, yeah! What about all the recent discussion of ‘emergence’ and similar ideas. Moreover, I think they go wrong in their treatment of the concept of “new combinations.” They see this idea as coming from the natural sciences, like chemistry. But I take it to come from Schumpeter, and later, and more clearly, from Lachmann, where it means something entirely different from the notion of physical transformation. VSDF may be falsely attributing a materialist fallacy to the notion of “new combination”.

At the heart of all this is the importance of an understanding of all resources as types of economic capital. [In the final  section of the article VSDF talk about artifacts “embodying knowledge” and come close to a capital-theoretic approach without quite getting there or mentioning capital]. What makes something capital is not its physical nature per se, but, rather, the value of the function it can perform. The conservation laws of physics ensure that matter-energy cannot be created or destroyed. The whole point of capital theory, as pointed out clearly by Böhm-Bawerk, is that while the entrepreneur can never create anything in the physical sense, he can add value to what exists. In fact he talks about the transformation of resources into more useful forms and combinations. Physical transformations may or may not be involved. An interesting issue is whether capital accumulation necessarily involves technological change, something about which Böhm-Bawerk was ambiguous and about which Hayek and Lachmann wrote a lot. This theme is evident in the huge recent literature on the relationship between production and design and related themes like modularity. VSDF talk about design as an element of entrepreneurial action without addressing the large volume of work on this – for example Baldwin and Clark’s Design Rules.

VSDF see the distinction between combination and transformation as adding empirical traction to the study of entrepreneurial events, and they give some examples of each. They characterize transformative actions as ones that entail the freedom to choose one’s ends and well as one’s course of action. I don’t know – is this new? Is this helpful? It leaves me a bit exasperated because I just don’t see it.

The third category – developing a new nexus around actions and interactions.  They talk about some interesting case studies and make some astute observations. What this adds up to, again, I am not sure. But I will leave that for now.

In revisiting the ontology and epistemology of “opportunity,” VSDF draw on the interesting work of the philosopher Donald Davidson. Every action involves the objective, the subjective and inter-subjective. A new tripod? By inter-subjective (no reference to Shutz) they mean not merely the total of all shared meanings and understandings that permit us to act, but, apparently, something more particular about the action itself, more idiosyncratic I guess. But, again, this is not new nor particularly well handled. So much has been written about the role of institutions in human action. How is this different and how does the difference matter. Ten years after Promise more promise?

As I said initially I think what this is all about is the question of entrepreneurship as an empirical science in the sense of the discovery of universal elements that can be useful for policy or entrepreneurial action itself – a very old theme. Austrian economists, in discussing the business cycle,  for example,  have had to face the perennial question of “what makes an entrepreneur?” – how are some individuals better able to perceive opportunities for value-creation? I don’t see how this question can be answered. It goes to the heart of the working of the market process – a complex-adaptive system that defies description in mechanical terms. Yet, in the end, it is that which VSDF (and probably many others) are seeking. See for example, Table 1 of SV in which they compare their  new entrepreneurial science with natural science, suggesting that the former has still to develop an understanding of the key elements of entrepreneurship so that they can be taught and learnt by anyone! I guess on this we will just have to agree to disagree, at least until time proves one of us wrong.

Nature News (via Bronwyn Hall):

One in five academics in a variety of social science and business fields say they have been asked to pad their papers with superfluous references in order to get published. The figures, from a survey published today in Science, also suggest that journal editors strategically target junior faculty, who in turn were more willing to acquiesce.

I think reference bloat is a problem, particularly in management journals (not so much in economics journals). Too many papers include tedious lists of references supporting even trivial or obvious points. It’s a bit like blog entries that ritually link every technical term or proper noun to its corresponding wikipedia entry. “Firms seek to position themselves and acquire resources to achieve competitive advantage (Porter, 1980; Wernerfelt, 1984; Barney, 1986).” Unless the reference is non-obvious, narrowly linked to a specific argument, etc., why include it? Readers can do their Google Scholar searches if needed.

In management this strikes me as a cultural issue, not necessarily the result of editors or reviewers wanting to build up their own citation counts. But I’d be curious to hear about reader’s experiences, either as authors or (confession time!) editors or reviewers.

Over at The Conglomerate, Gordon Smith asks:

Law professors teach and write about topics like public choice, agency capture, rent seeking, etc., but I don’t often hear law professors talking systematically about the use of law for strategic purposes. . . . In simplest terms, the study of law and strategy views the world from the perspective of a business and asks: how can we use law to gain a competitive advantage? This question ought to be of interest to lawyers, but does any law school teach a class on law and strategy?

The context is Richard Shell’s book Make the Rules or Your Rivals Will, which sounds interesting and important. Perhaps the O&M readership can help? The emerging field of non-market strategy (1, 2), led by people like David Baron, Vit Henisz, and the de Figueiredo brothers, studies how firms use not only law but also the regulatory system, bureaucracies, and other non-market features to achieve competitive advantage. The older economics literatures on public choice and rent-seeking of course deal with these issues as well, but typically from “society’s” point of view, rather than the firm’s. As for teaching, I see from a little Googling that John de Figueiredo is teaching law and strategy at Duke, and I suspect other members of the non-market strategy crowd housed at law schools do so as well. Suggestions for Gordon?

Via Scott Masten, an important call for papers:

The Walter A. Haas School of Business at the University of California, with support from the Alfred P. Sloan Foundation, is issuing a call for original research papers to be presented at the Conference on the Law & Economics of Organization: New Challenges and Directions.  The conference will be held at the Haas School of Business in Berkeley, CA, on Friday, Nov. 30, and Saturday, Dec. 1, 2012. The purpose of the conference is to take stock of recent advances in the analysis of economic organization and institutions inspired by the work of 2009 Nobel Laureate Oliver Williamson and to examine its implications for contemporary problems of organization and regulation. Empirical research and research informed by detailed industry and institutional knowledge is especially welcome.  Conference papers will be published in a special issue of the Journal of Law, Economics, & Organization. Submissions are due March 31, 2012.  See the Call for Papers for details.

Rob King’s 2011 AAEA Presidential Address, “The Science of Design,” takes its cue from Herbert Simon.

[M]uch of what we do as economists is akin to what Simon calls natural science. We develop theories about how the economy works, and we conduct empirical studies that test these theories or estimate the parameters of key economic relationships that explain how general results derived from our theories manifest themselves in a particular context.We strive for results that explain what is or that predict what will be. . . .

Economists also design economic artifacts (e.g., markets, contracts, organizational structures, public policies) that reshape economic systems in order to better meet human needs. This work, which I will call economic design, is complementary with but differs fundamentally from economic analysis. While economic analysis is motivated by a question or a puzzle and focuses on explaining what is and predicting what will be, economic design is motivated by a problem or opportunity and focuses on what can be and ought to be or on what will yield a satisfactory outcome. . . .

While we are comfortable in recognizing “good science” in economic analysis, I believe we have devoted less attention to developing a shared understanding of “good science” in economic design.

It is certainly true that economists are increasingly involved in economic design (a trend that accelerated around WWII) though I am less sure this is a good idea. A lot of economic design — specifying “optimal” contracts, for example — might be considered the domain of entrepreneurs, not social scientists. But applied policy work is certainly of this character, so the essay may be read as a call for applied economists to pay closer attention to issues like decomposability, modularity, search, creativity, etc.  (See Dick’s work for rich discussions of these issues.)

Kudos to Rob for a thoughtful and intelligent piece. A friend calls it “perhaps the most interesting President’s Address from AAEA in the last 20 years.”

J. Vernon Henderson and Yong Suk Lee have released a fascinating study of the make-or-buy decision in the provision of disaster relief. “We distinguish four organizational structures by implementation method. . . . (1) donor-implementers who are NGO donors who do their own implementation in villages, (2) international implementers who represent different donors who choose not to do their own implementation, (3) domestic implementers hired by donors which have chosen neither to do their own implementation nor to hire an international implementer, and (4) a country level governmental organization . . . used primarily by domestic and foreign governments.” Henderson and Lee find that donor-implementers offer the highest-quality aid, and the government agency the lowest, with the contract implementers in-between. The framework is agency theory, not transaction cost economics, but there may be a role for asset specificity as well, particularly in cases where a longer-term commitment is required. In any case, this is an interesting and important application of organizational economics to an unconventional setting.

I should also mention that Bill Easterly gave the distinguished guest lecture this year on “Does Development Economics Cause Economic Development?” I thought it was excellent — both entertaining and informative — especially for non-specialists. I hope he publishes it.

Just one instance — a story about controlled random experiments in a development context (perhaps some of you have heard this). An interesting study showed that teacher absenteeism declined when teacher attendance was monitored and rewarded (imagine that). But when the same idea was applied to health-care workers, health-care workers in the treatment group (the monitored group) declined! Apparently, as a result of being monitored, health-care workers started asking for excused absences and found out that their supervisors actually did not care one way or another. As a result excused absences increased dramatically. This illustrates the power of unintended consequences and the importance of local knowledge, and how a seemingly unobtrusive experiment actually ended up providing locals with valuable knowledge that made things worse.

The Call for Papers for the 2012 ISNIE conference, 14-16 June 2012 at the University of Southern California, is now posted. Proposals are due 30 January 2012, so start working on those abstracts!

I have been involved with ISNIE for many years and currently serve as the organization’s treasurer. The conferences are terrific, with a variety of papers, panels, and keynotes spanning the broad range of institutional and organizational social science research.

Trivia: I first met the good Professor Foss at the inaugural ISNIE conference in 1997 in St. Louis So if it weren’t for ISNIE, this blog might not exist. . . .

The Financial Times has named Abhijit Banerjee and Esther Duflo’s Poor Economics: A Radical Rethinking of the Way to Fight Global Poverty the best business book of 2011. Here’s the book’s webpage. Here are previous O&M posts on the Banerjee-Duflo approach, which is obviously gaining momentum.