Taxis and Limos

7 May 2007 at 9:29 am Peter G. Klein Leave a comment

| Peter Klein |

Murray Rothbard told a story about his first encounter with the terms taxis and cosmos, used by Hayek to distinguish “planned” from “spontaneous” orders. Upon seeing a lecture announcement Rothbard’s wife Joey exclaimed, “Look, Hayek’s giving a lecture on taxis!” As life-long New Yorkers they naturally assumed Hayek meant the yellow ones with lights on the roof.

Even Rawley, a PhD Candidate in strategy at Berkeley, is doing interesting work on taxis (the yellow ones). I recently read his paper “Diversification and Adaptation: How Organization Drives Taxi Firm Performance,” which exploits a change in taxicab regulation to perform a natural experiment on the effects of related diversification on firm performance. Until the mid-1990s US taxi firms were prohibited from entering the market for limousines (the airport kind, not the stretch kind). As those restrictions were relaxed, taxi firms began to diversify into the limo market. Rawley uses Census data to show that diversifying taxi firms were less efficient and less likely to adopt computerized dispatching systems than non-diversifiers, which he interprets as a story of costly organizational adaptation.

The methodological innovation is the use of an exogenous change in the set of feasible organizational arrangements to control for the endogeneity of the diversification decision. (Marc Saidenberg and I exploit a similar source of exogenous variation in our study of geographic diversification by banks, namely the decisions of US states to allow commercial banks to branch directly across state lines, which occurred at different times in different states.)

Interestingly, Rawley also shows that diversifiers became less vertically integrated. Because the demand for limos is highly variable, operators must occasionally substitute cabs for limos, and limo customers expect a higher level of quality than taxi customers. To increase the average quality of the cabs in its fleet the diversifying firms increase their reliance on contracts with owner-operators, rather than company-owned cabs, figuring that independent contractors have a greater incentive to maintain the quality of their vehicles.

I like the paper, though I think the empirical results are consistent with other explanations besides organizational inertia driven by contractual rigidity, such as an equilibrium model of complementarity or an RBV explanation in which strategy is constrained not by contracts but by informal routines or capabilities. Still, an excellent paper that is worth a careful read.