Archive for December, 2008

High-Powered Incentives

| David Gerard |

As I pack my bags for the American Economic Association meetings this weekend in San Francisco, I am reminded of a recent New Yorker article on the impacts of medical marijuana legalization. This is probably a rather mundane topic for you left-coasters, but here in Pennsylvania where we can’t even buy beer in grocery stores, it is a pretty exotic concept.

The article highlights a number of ways in which legalization foments organizational change, and also gives some anecdotal evidence on sharecropping terms, suggesting different terms for indoor and outdoor operations.

The easiest way to make this kind of small indoor scene work is to live in someone else’s house and nurture the plants in exchange for a third or half the profits, and that is how the Kid would be spending her time for the next two months.

On the outdoor side, however, this description of the “Humboldt Slide” suggests that landlords appear more willing to change the contracting terms:

“You start at this really great percentage, and you’re buddy-buddy and everything’s great,” Emily said. As the harvest approaches, growers inevitably begin to run out of money and get greedy, and the sharecroppers lose whatever leverage they had earlier in the growing cycle, when their daily attention was necessary for the young plants to survive. Emily’s wage the previous year was initially set at a third of the value of the plants that she harvested. Later, her boss “slid” her percentage to a sixth, meaning that she owned only a dozen of the eighty plants that she grew that season.

The explanation is that the laborers have no legal recourse, so the landlord is free to rewrite contracts as he pleases, but then wouldn’t we expect a slide in the case of the indoor operations as well?

I welcome suggestions for more systematic treatments for effects of the California legalization. One effect that I don’t expect is for it to have much of an impact on the average sobriety level at this weekend’s conference.

31 December 2008 at 2:42 pm 2 comments

Krugman’s Got the Disease

| Peter Klein |

Paul Krugman suffers increasingly from what might be called Stiglitz’s Disease, the inability to read (or cite) anyone but oneself. Some years ago Krugman wrote a rather silly and superficial piece on the Austrian theory of the business cycle, which he called the “hangover theory” of recessions. Krugman’s essay provoked strong reactions from Roger Garrison, John Cochran, David Gordon, and Bob Murphy, all of whom have considerable expertise regarding this particular theory. Naturally, Krugman didn’t read any of these responses because they weren’t written by, well, Paul Krugman. So, a couple of days ago, Krugman again trots out his “hangover” metahpor, oblivious to the fact that his original essay got the Austrian theory completely wrong. Ah, the joys of being a full-time dilettante!

31 December 2008 at 1:23 am 4 comments

A Hostage Situation in Pittsburgh?

| David Gerard |

upmc4I would like to thank Peter for inviting me to guest blog, as I have been a fan of Organizations & Markets for some time. I spent the better part of the past year developing courses that emphasized organizations, entrepreneurship, and innovation. O&M has been an invaluable resource, whether to “borrow” slides from Richard Langlois,  or to get ideas for classroom topics.

I am writing from the “Steel City” of Pittsburgh, though the steel industry has largely fled the region. For evidence of that we need to look no further than our skyline (which we can now see because there is less smog), where the University of Pittsburgh Medical Center’s UPMC logo is now emblazoned atop the US Steel Tower. Health care accounts for about 15% of the region’s workforce.

Aside from being a case-study in post-industrialization, UPMC is also an interesting point of departure for exploration of some fundamental organizational questions.  One that leaps to mind: Are non-profits where the real money is? Last year, UPMC generated $6 billion in revenue and cleared more than $600 million in “non-profit.”

A more traditional organizations question is the question of organization boundaries, and the tortured negotiations between UPMC and Highmark illustrate concepts such as transaction costs (hint for the exam: if it takes 3+ years to strike a deal, transaction costs may be high), vertical integration versus arm’s-length contracting, market power, bilateral dependency, credible commitment, and the hostage model. Indeed, the linchpin of the deal was Highmark kicking in for the construction of the new Children’s Hospital:

Highmark and UPMC have had a good working relationship since 2002, when the two companies signed a landmark 10-year deal. UPMC won a contract with its best customer, and hundreds of millions in loans and grants from Highmark so UPMC could build a new Children’s Hospital in Lawrenceville. Highmark, meanwhile, was guaranteed access to the wide UPMC network for a decade.

Having students explain why Highmark built a hospital rather than simply writing a check turned out to be a pretty good exam question.

The Pittsburgh Post Gazette ran a nice five-part series on the growth of UPMC growth and its phenomenal role in medical innovation. Despite the is long-term agreement, UPMC and Highmark are at odds over a proposed merger between Highmark and Independence Blue Cross. The federal authorities granted antitrust clearance, but Pennsylvania regulators won’t rule on the matter until next month. The state’s hesitation to give the green light gave Senator Specter and federal regulators time to reexamine the matter, and this might be a case to follow to see how the new Administration exercises its antitrust authority.

29 December 2008 at 10:26 pm 1 comment

Introducing Guest Blogger David Gerard

| Peter Klein |

I’m pleased to introduce David Gerard as our newest guest blogger. David is Executive Director of the Center for the Study and Improvement of Regulation (CSIR) at Carnegie-Mellon University. He works on the development, implementation and enforcement of regulations and the effect of regulatory institutions on economic behavior, the environment, and public safety. David teaches the core course in managerial economics and a course on innovation in the master’s program in Engineering and Technology Innovation Management.  He also teaches several courses in the Department of Social and Decision Sciences including entrepreneurship, regulation, and technological change (with David Hounshell). I’ve known David since his student days at the University of Illinois, where he received a PhD in economics in 1997. Welcome, David!

29 December 2008 at 10:03 pm Leave a comment

What First-Year Economic Theory Courses Are Like

| Peter Klein |

Bob Higgs sends this clip, adding: “Those of you who were unable to obtain admission to the Ph.D. program at MIT or UC Berkeley may go here for a quick look at what you missed.” He’s right, it was a lot like that.

29 December 2008 at 3:53 pm 2 comments

It Was Only a Matter of Time . . .

| Peter Klein |

 . . . before someone blamed the financial crisis on agency theory. Sure enough, Raymond Fisman and Rakesh Khurana trace the source of the current mess not to expansionary monetary policy, or lax underwriting standards, or implicit (now explicit) government guarantees against market discipline, or the Basel Committee, or a host of other policy and institutional failures, but to business schools, and the critics’ favorite bête noire, the concept of shareholder wealth maximization. 

[B]usiness schools [promote] a particular brand of free-market ideology — squarely focused on shareholder maximization theories — that forms the staple fare of MBA and executive education courses today. . . .

In the world views that underlie modern business education, the market always “gets prices right” and “managers” are merely agents for shareholders. An individual’s worth can be reduced to one’s worth in the market.

If I get $100 million in compensation, the thinking goes, it is because ‘I deserve it.’ There is no discussion of the role of circumstance, luck or market failure. It is the type of thinking that has resulted in literally hundreds of billions of dollars being transferred away from organizational resources and into the personal bank accounts of CEOs, and is now bringing capitalism to its knees.

So, teaching future managers how the price system works, how managerial behavior effects shareholder wealth, how marginal productivity affects wages, and the like is equivalent to encouraging managers to lie, cheat, and steal! I suppose it would be better to teach that water runs uphill, that central planning is more efficient than free markets, and that men are angels. Perhaps we should cover socially responsible statistics and accounting too.

Sumantra Ghoshal famously blamed transaction cost economics and agency theory for much of the world’s ills, including the Enron affair. At least Ghoshal offered some arguments. Fisman and Khurana can’t be bothered. (HT: Ben Asa Rast.)

29 December 2008 at 12:59 am 12 comments

My New Office Poster

| Peter Klein |


Cool, very cool. With these guys staring down at me I am sure to increase my productivity. That’s Mises, Rothbard, Hayek, Böhm-Bawerk, Menger, and Hazlitt, in case you can’t make out the captions (or, embarrassingly, don’t recognize the mug shots.) Sadly it doesn’t include Nicolai Foss, but you can’t have everything. Thank you, Santa! You can get yours here.

26 December 2008 at 3:51 pm Leave a comment

More New Blogs of Interest

| Peter Klein |

26 December 2008 at 2:47 pm 2 comments

Christmas Links

images1| Peter Klein |

Rotman’s Roger Martin explains the challenges faced by Santa in the Knowledge Economy:

While he may have an indisputable track record of effectiveness, Santa is clearly an industrial-age leader. He is going to need to change his leadership style dramatically to prosper in the knowledge economy. His focus on the physical characteristics of his workers — e.g. Rudolph’s red nose — is “old world.” He just has to learn how to value and reward the brains and accumulated knowledge of his elves and reindeers for his enterprise to prosper in the new economy.

The problem with satire, however, is that some people don’t quite get the joke. Consider, for example, this book on leadership, the contents of which can be summarized thusly:

1. Build a wonderful workshop!

  • Make the MISSION the MAIN THING
  • Focus on your PEOPLE as well as your purpose
  • Let VALUES be your guide

2. Choose your reindeer wisely!

  • Hire TOUGH so you can manage EASY
  • PROMOTE the right ones….for the right reasons
  • Go for the DIVERSITY advantage

3. Make a list and check it twice!

  • PLAN your work
  • WORK your plan
  • Make the MOST of what you have

4. Listen to the Elves!

  • OPEN your ears to participation
  • PAY ATTENTION to how you’re perceived
  • Walk awhile in THEIR shoes (more…)

24 December 2008 at 10:08 am 2 comments

Pomo Alert: New Management Journal Special Issues

| Peter Klein |

We haven’t raised the pomo periscope for a while, but two recent management journal special issues call for its return. The June 2008 issue of the Scandinavian Journal of Management contains a symposium on “Recreating/Recontextualising Entrepreneurship,” which includes such articles as “Accidental Ventures — A Materialist Reading of Opportunity and Entrepreneurial Potential” and “Transduction and Entrepreneurship: A Biophilosophical Image of the Entrepreneur.” Then there’s the new issue of ephemera, with the theme “University, Failed” and articles like “Institutionalizing Critique: A Problem of Critical Management Studies,” “Epistemic Convenience,” “I Wanted to Be an Academic, Not a ‘Creative’: Notes on Universities and the New Capitalism, and “We Are All Workers: A Class Analysis of University Labour Strikes.” Hoo-boy.

23 December 2008 at 9:30 am 1 comment

Guilds and Innovation

| Peter Klein |

Most economic and management historians see the guild system as partly responsible for the stagnation of the medieval European economy. A new book, Guilds, Innovation and the European Economy, 1400-1800 (S. R. Epstein and Maarten Prak, eds., Cambridge, 2008) offers a revisionist view, challenging the stereotype of guilds as “moribund rent-seekers whose habitual reaction to technical innovation was resistance and rejection.” The reality is more complex, says reviewer Christine MacLeod:

What emerges from this exceptionally coherent volume is not only the complexity of this institution, whose history spans more than half a millennium and a myriad of particular trades and local circumstances, but also the persistent tensions to which it was subjected, both internally from individualistic and capitalist challenges to its collective ethos and externally from the exigencies of nation states. Moreover, it adds another spur to the demanding search for innovation in the workshop and on the construction site, rather than in the too easily accessed and counted records of the patent office.

22 December 2008 at 12:47 pm Leave a comment

The Failure of the Journalists, Part II

| Peter Klein |

Another aspect of journalists’ remarkably credulous and fatuous attitude towards policymakers is their view that rhetoric, not substance, is what matters. Hence the constant references to the Bush Administration’s “dedication to free-market principles,” its “aversion to regulation,” its “belief in letting markets work by themselves.” This is of course sheer balderdash and piffle, virtually the reverse of the truth. Bush and Paulson and Greenspan and their clique are “free marketeers” in the same way (to borrow from A. J. Jacobs) that Olive Garden is an Italian restaurant. They adopt the language, and some of the form, of market advocacy without any of the content. The Bush Administration was already, before the “financial crisis,” the most economically interventionist since LBJ; it now ranks with Hoover and FDR as the most aggressively anti-market in US history. Greenspan and Bernanke expanded the money supply like none before; Bush and Cheney borrowed and spent trillions to finance overseas adventures; the Federal Register added pages at a record-setting pace; now the banking and automobile industries have become GSEs. Lassiez-faire, indeed! (BTW can anyone name a specific act of “deregulation” that contributed to the financial crisis? Gramm-Leach-Bliley? No way. And GLB was under Clinton, as was the infamous WGFM. What specific regulations, e.g. on hedge funds or mortgage-backed securities or executive compensation, did the Bush Administration oppose?)

And yet, there was Juan Williams on yesterday’s Diane Rehm show explaining, matter-of-factly, how Bush and Paulson had allowed their “free-market ideology” and “resistance to regulation” to “commitment to the idea that the market works itself” to lead the nation into ruin. Williams may be a good news reporter, but he  has the political-economy understanding of a fifth-grader. Does it ever occur to these “watchdogs” to investigate what government officials actually do, rather than simply repeat what they say?

20 December 2008 at 9:21 am 8 comments

Indigenous Entrepreneurship in Rural China

| Peter Klein |

A very interesting article in the McKinsey Quarterly by MIT’s Yasheng Huang: “Private Ownership: The Real Source of China’s Economic Miracle.” The key to China’s recent economic is not state-led capitalism (call it “Bush-Bernanke-Paulson capitalism”) but private property and financial-market liberalization, leading to a burst of indigenous rural entrepreneurship. Writes Huang:

Big cities like Beijing, Shanghai, and Shenzhen are routinely extolled in the Western press as vibrant growth centers. China’s rural areas, if mentioned at all, typically figure as impoverished backwaters. But a close analysis of the economic data reveals that these breathless descriptions of China’s modern city skylines have it exactly backward: in fact, the economy was most dynamic in rural China, while heavy-handed government intervention has stifled entrepreneurialism and ownership in the urban centers.

Particularly interesting is Huang’s account of why so many Western economists fail to understand this. (more…)

19 December 2008 at 3:27 pm Leave a comment

Good to Great: Neither Good nor Great

| Peter Klein |

I’m not a fan of “guru” books like In Search of Excellence, Built to Last, and Good to Great, for reasons well documented by Phil Rosenzweig in his excellent Halo Effect. These books suffer from ad hoc generalization, sampling on the dependent variable, and a host of related methodological and expository flaws. If Rosenszweig’s critique is startling, then two articles from the November 2008 Academy of Management Perspectives on Jim Collins’s Good to Great — perhaps the leading guru book of our time — are devastating. Here is Bruce Resnick and Timothy Smunt:

With sales of more than 4.5 million copies, Good to Great by Jim Collins provides an inspiring message about how a few major companies became great. His simple but powerful framework for creating a strategy any organization can use to go from goodness to greatness is certainly compelling. However, was Collins truly able to identify 11 great companies? Or was the list of great companies he generated merely the result of applying an arbitrary screening filter to the list of Fortune 500 companies? To test the durability of his greatness filter, we conducted a financial analysis on each of the 11 companies over subsequent periods. We found that only one of the 11 companies continues to exhibit superior stock market performance according to Collins’ measure, and that none do so when measured according to a metric based on modern portfolio theory. We conclude that Collins did not find 11 great companies as defined by the set of parameters he claimed are associated with greatness, or, at least, that greatness is not sustainable. (more…)

19 December 2008 at 1:01 am 18 comments

EJPE Now Available

| Peter Klein |

The Erasmus Journal for Philosophy and Economics has put out its first issue, which you can read online here. Highlights include several articles and reviews about methodology, an interview with Uskali Mäki, and a review of Donald MacKenzie’s An Engine, Not a Camera, much beloved in certain circles. (Via Dan D’Amico.)

18 December 2008 at 10:10 am Leave a comment

Mainstream Journalism, RIP

| Peter Klein |

Last week’s WSJ carried an op-ed from SEC Chair Christopher Cox, “We Need a Bailout Exit Strategy.” The op-ed was nothing special (mostly defending the SEC, of course, though there was a nice Hayekian line about “decentralized decision-making, in which millions of independent economic actors make judgments using their own money, [resulting] in the wisest allocation of scarce resources across our complex society”). What caught my eye was the headline, which suggests a connection between the bailout and the Iraq war, a connection I’ve been meaning to write about.

Remember how journalists felt deceived by the Bush Administration about the war? President Bush said that Saddam Hussein was a “grave and growing threat,” and the media repeated this line. Colin Powell showed pictures of the mobile weapons trailers and the New York Times reprinted them with enthusiasm. When the Administration’s claims proved false, the mea culpas began. Judith Miller resigned in disgrace. Never again, the media cried, will we be used as house propaganda organs. And yet, once the financial crisis began, the exact pattern was repeated. Bernanke and Paulson say there’s a “credit freeze,” that the financial sector is on the verge of collapse, that they alone know what to do — so that’s what the newspapers print. No time to investigate, to interview anyone outside the government, to hold these claims up to any critical scrutiny. If high officials say credit markets are frozen, that only “bold action” from the Treasury, the Fed, and Congress can prevent total meltdown, then that’s the way it is. Virtually every news report on the crisis followed the official script. It’s as if the financial reporters from the Times, the WSJ, the Washington Post, CNN, etc. were embedded with the Treasury. News reports have been little more than government press conferences. Shame, journalists, shame!

Why Oh Why, as Brad DeLong would say, can’t we have a press corps that investigates, rather than simply repeating what the government asserts?

17 December 2008 at 4:43 pm 6 comments

Bygrave on the State of Entrepreneurship Research

| Peter Klein |

William Bygrave surveys the field and concludes that it’s “dominated by quantitative research driven almost exclusively by statistical analysis with SPSS and that qualitative research is seldom published in the leading entrepreneurship journals. He regrets that it is almost impossible to get purely empirical paper published in the leading journal. He pleads with journal editors and their review boards to become less narrow minded and much more pluralistic.”

Bygrave’s assessment is valuable but I think limited by its focus on the “traditional” entrepreneurship  journals (e.g., JBV, ETP, SBE). Newer journals such as the SEJ and, more important, the entrepreneurship research that increasingly appears in the top mainstream strategy, organization, and economics journals tends to have a different, and more varied, character.

17 December 2008 at 11:35 am 3 comments

Ability and Specialization Among Economic Researchers

| Peter Klein |

Forgive the navel-gazing, but some of you may enjoy Todd Kendall’s paper in the December 2008 issue of MDE, “Ability and Specialization Among Economic Researchers,” which looks at the relationship between a researcher’s human capital and the scope of his activities. The sample consists of academic economists at top-50 US universities. Kendall shows that economists from more prestigious PhD programs tend to publish in more general journals, controlling for quality, and to list more JEL subject codes per paper. The quality control is important because the most prestigious journals (as in most fields) are also the most general. But the sample includes prestigious specialty journals and lower-tier general journals.

Naturally I’m tempted to ask for the raw data so I can analyze some sub-samples containing people I know personally. But perhaps it’s better not to go there. I do plan to defend myself against charges of being “eclectic” or “unfocused” by referring to this study and calling myself a “distinguished generalist.” At least it avoids Rothbard’s Law.

17 December 2008 at 10:18 am Leave a comment

Spulber’s Separation Theory of the Firm

| Peter Klein |

Dan Spulber’s new paper, “Discovering the Role of the Firm: The Separation Criterion and Corporate Law,” defines the firm “as a transaction institution [in which] the consumption objectives of the institution’s owners can be separated from the objectives of the institution itself.” 

The separation criterion provides a bright line distinction between firms and other types of transaction institutions. Firms under this criterion include profit-maximizing sole proprietorships, corporations, and limited-liability partnerships. Institutions that are not classified as firms include contracts, clubs, workers’ cooperatives, buyers’ cooperatives, merchants associations, basic partnerships, government enterprises, and government sponsored enterprises. The separation theory of the firm yields insights into corporate law that extend and complement the standard contractarian approach. The separation theory of the firm places emphasis on shareholder property rights and corporate governance.

The separation approach, Spulber argues, suggests that the corporate governance literature may pay too much attention to agency costs while downplaying the benefits of delegation. The paper builds on Spulber’s earlier work on intermediation and develops themes in his forthcoming book on the firm. Worth a look.

16 December 2008 at 12:42 am Leave a comment

Rizzo and Whitman on the New Paternalism

| Peter Klein |

Mario Rizzo and Glenn Whitman offer a Hayekian critique of Richard Thaler and Cass Sunstein in their new paper, “The Knowledge Problem of New Paternalism.” From the abstract:

The “new paternalism” is a set of policy prescriptions based on recent findings in behavioral economics whose purpose is to help individuals overcome a wide variety of behavior and cognitive biases. According to its proponents, it does not aim at replacing the preferences of individuals with those of the paternalist but rather to uncover the “true” preferences of individuals, that is, the preferences they would have if they had perfect knowledge, unlimited cognitive abilities and no lack of willpower.

The purpose of this Article is to show that new paternalist policies founder on the shoals of a profound knowledge problem revealed in Friedrich Hayek’s famous critique of central planning. Feasible policies require not only accurate scientific knowledge but also accurate knowledge of “the particular circumstances of time and place” that constitute the local and personal knowledge of individuals. This knowledge is not accessible by paternalists.

See also this exchange between Rizzo and Thaler in last year’s WSJ.

15 December 2008 at 1:46 am 2 comments

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Our Recent Books

Nicolai J. Foss and Peter G. Klein, Organizing Entrepreneurial Judgment: A New Approach to the Firm (Cambridge University Press, 2012).
Peter G. Klein and Micheal E. Sykuta, eds., The Elgar Companion to Transaction Cost Economics (Edward Elgar, 2010).
Peter G. Klein, The Capitalist and the Entrepreneur: Essays on Organizations and Markets (Mises Institute, 2010).
Richard N. Langlois, The Dynamics of Industrial Capitalism: Schumpeter, Chandler, and the New Economy (Routledge, 2007).
Nicolai J. Foss, Strategy, Economic Organization, and the Knowledge Economy: The Coordination of Firms and Resources (Oxford University Press, 2005).
Raghu Garud, Arun Kumaraswamy, and Richard N. Langlois, eds., Managing in the Modular Age: Architectures, Networks and Organizations (Blackwell, 2003).
Nicolai J. Foss and Peter G. Klein, eds., Entrepreneurship and the Firm: Austrian Perspectives on Economic Organization (Elgar, 2002).
Nicolai J. Foss and Volker Mahnke, eds., Competence, Governance, and Entrepreneurship: Advances in Economic Strategy Research (Oxford, 2000).
Nicolai J. Foss and Paul L. Robertson, eds., Resources, Technology, and Strategy: Explorations in the Resource-based Perspective (Routledge, 2000).

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