Organizations and Markets

Taxi Drivers in Nam

16 February 2007 at 7:35 am Nicolai Foss 2 comments

| Nicolai Foss |

It is always lovely to witness our theories come alive. So, here is an illustration of the agency problem for the benefit of our non-American readers (the example will be lost on Americans for reasons that will become clear :-)). A favorite examplification of agency problems are taxis (not Hayekian ones — real ones), because of the complex ownership arrangements of these assets.

When I visited Vietnam in January with my family, the way we got around in the cities was mainly using the private and extremely inexpensive taxis (there is virtually no public transportation in this supposedly commie country). Most other transport options (certainly bikes, “cyclos”, motorbikes, even walking) increase the death risk rather dramatically in the horrendous Vietnamese traffic.

I noticed that taxi drivers badly torture and stress the cabs. Specifically, they will consistently not choose the gear that is appropriate for the speed with which they are driving, but always choose a too high one. I witnessed one driver going 30 km per hour in the 5th gear position! The engine was very obviously extremely unhappy with this, but the driver didn’t care at all.

The allocation of ownership and property rights to the vehicles may explain this behavior: Drivers usually do not own the vehicle they drive, but rent it from the owner on a short-term basis. However, they do pay variable costs, notably gasoline. Given that it is costly to measure the wear and tear of the engine — which is effectively placed in what the leading property rights theorist today, Yoram Barzel, calls the “public domain” — drivers maximize their utility by capturing property rights from vehicle owners through the gasoline-saving practice of not matching gears and speed. Perhaps owners should get rid of those stick shifts and adopt automatic ones?

BTW, taxis continue to interest researchers. Here is the abstract of a recent paper by Evan Rawley, “Diversification and Adaptation: How Organization Drives Taxi Performance” (the link to the paper on Evan’s page doesn’t seem to work, but he may send you the paper if you request it):

This paper proposes that ex ante investments in specialized organizational capital constrain firms’ future diversification strategies. When firms are constrained in this way, diversification destroys organizational capital by altering firms’ routines, formal contract structures and strategies. I test this proposition using rich, novel microdata on taxicab firms from the Economic Census before and after a diversification wave into the limousine industry. The tests exploit exogenous local characteristics of taxi markets to identify the impact of diversification on both firm organization and performance. I find that diversifying firms are less likely to adopt computerized dispatching systems for their taxicabs, and make significant changes in their formal contract structures governing asset ownership, sublimating taxi-only coordination benefits to improve coordination across taxicabs and limousines. Consistent with the theory, these changes are associated with falling taxicab productivity. I find that organizational change itself accounts for an 18% decline in taxicab productivity, eroding the productivity advantage incumbents have over start-ups. Interestingly, the productivity penalty is declining in the degree to which firms realign their asset ownership contracts, suggesting adaptability moderates the organizational costs of diversification. The results show that diversification is costly in the sense that it destroys organizational capital and erodes the competitive advantages of incumbents relative to start-ups.

Entry filed under: - Foss -, Institutions, New Institutional Economics.