Demsetz, Coase, Postrel, and Williamson

5 November 2007 at 2:47 pm dhoopes 3 comments

| David Hoopes |

A recent post by Nicolai ponders Demsetz’s approach to transaction costs. My understanding (interpretation) of Demsetz’s “The Theory of the Firm Revisited” is quite different from Nicolai’s. Here’s how I remember that paper.

One of Demsetz’s complaints about transaction costs economics is that a number of very different events are bundled together under the term “transaction.” Williamson’s take on transaction costs focuses largely on comparative governance costs. How does making sure a supplier doesn’t cheat you compare to making sure your employees don’t cheat you? Coase’s version of transaction costs is very different. Coase tends to talk about a variety of other frictions that can occur independently of governance costs. These are what Demsetz calls management costs. Demsetz thinks (quite correctly) that referring to these two types of costs using the same term is confusing. In his Nobel speech Coase notes how his beliefs were more consistent with Demsetz’s than with those emphasizing governance.

Steve Postrel and I (in disucssing capabilities in SMJ 1999) separate cooperation costs from coordination costs. I think of this as fitting the Williamson versus Demsetz and Coase types of transaction costs (or management costs as Harold says). Costs dedicated to aligning incentives are different from costs of making sure everyone has the same plan. Steve and I go on to differentiate the costs of sharing specialized knowledge from the costs of coordinating. (Notice how I moved from Coase and Demsetz to myself?!).

Back to Harold. Demsetz believes that you needn’t have oppourtunism to have organizations. Postrel (2003) in an earlier version compared knowledge and governance as theories of the firm. Where Demsetz believes firms economize on managerial costs (or Coasian transaction costs) Postrel believes that without opportunism the firm is unnecessary.

I’m more with Harold (at least in my own mind I’m not sure Harold really wants me tagging along).

Entry filed under: Former Guest Bloggers, New Institutional Economics, Papers, People, Recommended Reading, Theory of the Firm.

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3 Comments Add your own

1. Joe Mahoney | 5 November 2007 at 11:55 pm

Postrel (2003) believes that without opportunism the firm is unnecessary.

I believe that is the position also of:

Williamson (1985) Institutions of Capitalism
Foss (1996) Organization Science
Mahoney (2001) Journal of Management
2. Steve Phelan | 6 November 2007 at 5:07 pm

That is also my reading of it.

Nicolai’s “what can’t be achieved with a group under a big roof” resonates with me on this topic.

Here is an attempt at an answer, following Selznick’s Leadership in Administration, which makes the distinction between organizations and institutions.

If identifying with a firm for non-pecuniary reasons (loyalty, clanship, tribalism) leads to lower cooperation costs then establishing a institution is more efficient than using the market.

The lower cooperation costs can come from reducing the level of self-interest to the “greater good” of the firm. Institutions can also lower coordination costs by establishing a common language but this could also occur under the big roof (or big tent as I like to call it).

Thoughts?
3. Doug Johnson | 29 April 2009 at 3:51 pm

I guess the question I would like to ask – one which I think more appropriate is – “In the absence of opportunism would all interesting questions regarding organization disappear?” I would respond, “No.”

In a theory of organization, we must separate questions regarding the existence of the firm as a distribution of property rights intended to solve certain problems of coordination and investment from the broader question regarding how should we divide up the work?

I believe that is the point that Demsetz is making (i.e. please note his example regarding how a group of painters should approach painting a house). The transaction cost approach tells us little if anything of interest on this point. If we extend our example to something more complex, such as how should we divide up the process of designing a car or computer chip, there would seem to me to be a series of questions related to understanding this problem which go beyond a concern with how decision/property rights are distributed. In particular, who should know what or how to do what, which is the cognitive analogy to how we divide up the task of painting the house. The problem of painting the house has little or nothing to do with understanding how decision or property rights should be distributed in order to create incentive co-alignment among the parties – not that such issues are irrelevant – its just doesn’t make sense to say that we’ve solved the problem when we boil everything down to opportunism. There’s a lot of unexplored territory to map that still remains.

The point which Phelan makes above is one track….but there are others.