– Klein – | Organizations and Markets

Readings for Hayek-Klein Day

| Peter Klein |

Here are some readings to help you celebrate tomorrow’s Hayek-Klein Day:

7 May 2010 at 11:05 am Peter G. Klein 8 comments

The Invention of Enterprise: Reviews

| Peter Klein |

If you haven’t yet had a chance to read Landes, Mokyr, and Baumol’s 600-page baby, The Invention of Enterprise: Entrepreneurship from Ancient Mesopotamia to Modern Times, here are reviews by Mansel Blackford and Reuven Brenner. Blackford is impressed; Brenner, not so much. Brenner is worth quoting at length:

[L]arge chunks of the book are more about the topic of inhibitions to enterprise and both the variety of ideas people came up with to rationalize them and the institutions rulers and governments put in place to enforce these ideologies. . . .

Unfortunately most of the chapters dealing with the topic of inhibitions miss the forest from the trees, as not one addresses what is to me the basic issue when examining “the invention of enterprise.” There is nothing more threatening to an established order — any order — than opening up, deepening, democratizing capital markets — accountably, allowing people to leverage their inventive, enterprising spirit. True, this would also disperse power — political power in particular. The deeper capital markets would also threaten established industries and commerce. Entrepreneurs, brilliant and ambitious as they might be, are not a threat. They can be sent to Siberia, forced into complacency by the Maos of this world, and the opportunistic ones will channel their ambition through the established powers.

But entrepreneurs with access to different, independent sources of risk capital — now that’s threatening, be they Brin and Page, Jobs or Milken at the time (quickly taking away much of the banks’ bread and butter of providing loans). Understanding this, even if not wanting to articulate it, provides enough incentives for those in power to subsidize, spread, and promote ideas and institutions inhibiting the deepening of capital markets under a wide variety of jargons, and thus inhibiting the invention and reinvention of enterprises. With time, people get accustomed to these institutions, their origins lost in the mist of time, inhibiting entrepreneurship and business for centuries. Today this may be happening a bit before our eyes. Suddenly, everything becomes a “bubble” — Internet, oil, houses, gold, bonds. Guess what: if everything is — why have capital markets to start with? If pricing no longer offers guidance to allocate capital; if stock and bond markets are not there to help correct mistakes faster — why should they continue to exist? And if they do not exist, who else remains but politicians, bureaucrats and the academics surrounding them — none of whom ever worked in a business even one day in their lives — who would then tax and borrow and subsequently allocate capital and “invent enterprises” based on — well — whatever.

6 May 2010 at 9:31 am Peter G. Klein 2 comments

Religion and Economic Development

| Peter Klein |

Thanks to Tyler for calling my attention to Davide Cantoni’s job-market paper, “The Economic Effects of the Protestant Reformation: Testing the Weber Hypothesis in the German Lands”:

Many theories, most famously Max Weber’s essay on the ‘Protestant ethic,’ have hypothesized that Protestantism should have favored economic development. With their considerable religious heterogeneity and stability of denominational affiliations until the 19th century, the German Lands of the Holy Roman Empire present an ideal testing ground for this hypothesis. Using population figures in a dataset comprising 276 cities in the years 1300-1900, I find no effects of Protestantism on economic growth. The finding is robust to the inclusion of a variety of controls, and does not appear to depend on data selection or small sample size. In addition, Protestantism has no effect when interacted with other likely determinants of economic development. I also analyze the endogeneity of religious choice; instrumental variables estimates of the effects of Protestantism are similar to the OLS results.

In my AE 8050 class last semester we discussed several papers on religion, and other aspects of culture, as they affect economic development (e.g., Stulz and Williamson, 2003). Cantoni’s paper will go on my reading list next year.

5 May 2010 at 1:18 am Peter G. Klein Leave a comment

Why People Resist Marginal Cost Pricing

| Peter Klein |

Hahn and Passell get it right, I think:

Consumers everywhere seem to like all-you-can-eat/drink/exercise/drive pricing, even if their own consumption is modest and they are net losers in the process. This may simply be irrational. But (as cruise ship lines understand very well) it may also reflect the real psychological benefits of being able to imagine oneself in an environment of no scarcity, in which everything is “free” including calories. By the same token, salad-bar-style blanket pricing may relieve consumers of the very real costs of weighing costs against benefits at every turn of the menu.

One could interpret this in terms of bounded rationality, e.g., Akerlof and Yellen’s concept of near-rationality (1, 2): small deviations from “rational” behavior aren’t too costly, in such cases, so why be fully rational? Alternatively, call these decision-making costs some kind of transaction costs and deem the behavior fully rational, once all relevant costs are taken into consideration. (Some hand-waving required in both cases.) But some kind of cognitive explanation is probably best here.

3 May 2010 at 10:50 am Peter G. Klein 4 comments

Greenstein on Innovation

| Peter Klein |

One of my regular lectures at the Mises University deals with the economics of networks and information technology, with a particular focus on the history of the internet. A few years ago I wrote up my notes for a Mises.org daily article, which appeared as “Government Did Invent the Internet, But the Market Made It Glorious.” Shane Greensteinn’s new NBER paper could used the same title, though he chose something meatier: “Nurturing the Accumulation of Innovations: Lessons from the Internet.” Okay, the paper is a bit meatier too. Check it out:

The innovations that became the foundation for the Internet originate from two eras that illustrate two distinct models for accumulating innovations over the long haul. The pre-commercial era illustrates the operation of several useful non-market institutional arrangements. It also illustrates a potential drawback to government sponsorship — in this instance, truncation of exploratory activity. The commercial era illustrates a rather different set of lessons. It highlights the extraordinary power of market-oriented and widely distributed investment and adoption, which illustrates the power of market experimentation to foster innovative activity. It also illustrates a few of the conditions necessary to unleash value creation from such accumulated lessons, such as standards development and competition, and nurturing legal and regulatory policies.

1 May 2010 at 4:34 pm Peter G. Klein 5 comments

Nerd Merit Badges

| Peter Klein |

How many of these could you earn?

My favorite is Inbox Zero (right), perhaps because it’s the least attainable. (And no, I didn’t know what foursquare was either.) Thanks to Wired for the pointers.

The cynical among you may prefer The Onion’s take on merit badges.

29 April 2010 at 3:11 am Peter G. Klein 2 comments

Quote of the Day, Free Trade and Peace Edition

| Peter Klein |

Go into the London Stock Exchange — a more respectable place than many a court — and you will see representatives of all nations gathered there for the service of mankind. There the Jew, the Mohammedan, and the Christian deal with each other as if they were of the same religion, and give the name of the infidel only to those who go bankrupt. There the Presbyterian trusts the Anabaptist, and the Anglican accepts the Quaker’s promise. . . . If there were just one religion in England, despotism would threaten; if there were two religions, they would cut each other’s throats; but there are thirty religions, and they live together peacefully and happily.

—Voltaire (Letters on England, Letter 6)

Source.

28 April 2010 at 10:40 am Peter G. Klein 3 comments

Lazear on Leadership

| Peter Klein |

Ed Lazear tries his hand at the leadership literature in “Leadership: A Personnel Economics Approach.” The paper fits closely with his earlier work on entrepreneurship (here and here). Intuition:

The view presented [here] is that leaders are individuals who confront new situations often and choose the right direction in a high proportion of cases. Leaders also have the ability to identify situations where their skills will be needed and to do this frequently in a public setting. As a result of their success in choosing direction, and because the success is observable to others, leaders acquire followers who turn to the leaders for guidance in new and ambiguous situations. Individuals follow those who make correct decisions for a variety of reasons, the most direct of which is that they will boost their own probabilities of being correct by mimicking the decisions of the leaders. Thus, a leader is someone who has both vision and wisdom and who attracts a coterie of followers because of displayed superiority of decision making.

Because leaders are confronted with a wide variety of choices and because these choices span many fields, leaders tend to be generalists rather than specialists. Further, the broader the organization that an individual leads, the more general are the skills. . . .

An additional key ingredient is that leaders also possess the skills necessary to convince others that they have leadership ability. Consequently, communication skills are likely to be an important component in the leadership mix.

A formal model generates some testable propositions: “1. Ability and visibility, manifested in number of contacts per period, are complements. The most able seek to be the most visible in decision making settings. 2. The most able leaders are in the highest variance industries. 3. Leaders are generalists.” Survey data from Stanford MBAs are consistent with #2 and #3. Overall, a useful contribution to the small economics-of-leadership literature pioneered by Ben Hermalin.

Update: I neglected to mention this very important paper on leadership.

27 April 2010 at 11:33 am Peter G. Klein 3 comments

Business Ethics Symposium in Reason Papers

| Peter Klein |

From Reason Papers 31 (Fall 2009):

Articles: Business Ethics Symposium

Rival Paradigms in Business Ethics —Nicholas Capaldi

The Need for Realism in Business Ethics —Elaine Sternberg

The Virtue of Prudence as the Moral Basis of Commerce —Tibor R. Machan

Hume and Smith on the Moral Psychology of Market Relations, Practical Wisdom, and the Liberal Political Order —Jonathan Jacobs

Ethics without Profits —Douglas Den Uyl

Is a Market for Values a Value in Markets? —Alexei Marcoux

The Sloppiness of Business Ethics —Marianne Jennings

The Business Ethics of Incarceration: The Moral Implications of Treating Prisons Like Businesses —Daniel D’Amico & Joseph Butt

26 April 2010 at 9:35 pm Peter G. Klein 3 comments

O&M Four-Year Anniversary

| Peter Klein |

O&M went live April 25, 2006. Our inaugural post said: “Welcome to all readers. (Hopefully the plural is appropriate.)” Since then we’ve spread our message to literally tens of people around the world. Actually, the numbers aren’t bad: over these four years we’ve delivered 2,247 posts and 6,036 comments to 797,965 unique visitors (based on IP address). The comments are of consistently high quality too. Thanks to all current and former guest bloggers, commenters, pingbackers, lurkers, and other friends.

For a blast from the past, why not try our random post link? You never know what you’ll find. . . .

25 April 2010 at 1:06 am Peter G. Klein 9 comments

Esther Duflo Wins Clark Medal

| Peter Klein |

Congratulations to MIT’s Esther Duflo for winning the John Bates Clark Medal. (NB: Unlike Richard T. Ely, J. B. Clark was actually a great economist.) Duflo is a pioneer in the use of randomized controlled trials (RCTs) which, along with natural experiments, is becoming an increasingly popular alternative to conventional regression models. Interestingly, the WSJ reports that Harvard’s Sendhil Mullainathan, another RCT person, was also on the short list. Given the extreme faddishness of social scientists we can expect a wave of RCT centers, experiments, and papers in the next few years.

23 April 2010 at 3:07 pm Peter G. Klein 3 comments

Raising Rivals’ Costs, Goldman Edition

| Peter Klein |

One could also call this “From the Department of ‘Duh'”:

A powerful alumni network plus bundles of campaign cash mean Goldman will get what it wants — and contrary to the media narrative, what Goldman wants is not laissez-faire.

Politico quoted a Goldman lobbyist Monday saying, “We’re not against regulation. We’re for regulation. We partner with regulators.” At least three times in Goldman’s conference call Tuesday, spokesmen trumpeted the firm’s support for more federal control. . . .

Goldman reported on the conference call that it holds 15 percent “Tier 1 capital,” meaning it is very liquid and not very risky. Goldman can play it safe, you see, without needing a regulation. But regulations prevent smaller competitors from taking the risks needed to compete with Goldman (and every competitor is smaller).

The article is also very good on Obama’s Goldman problem. (Link from Steve Horwitz via Per Bylund.)

21 April 2010 at 9:58 am Peter G. Klein 2 comments

Melnyk on Flew

| Peter Klein |

My Missouri colleague Andrew Melnyk penned this nice appreciation of Antony Flew, who passed away 8 April 2010. Flew “was for several decades a heroic defender of classically liberal political philosophy and indeed by far the best known professional philosopher in Britain over that period to champion classical liberalism.” As Andrew notes, “in challenging the spirit of the age as sharply and as unapologetically as he did, he was, and must have known that he was, irreparably damaging his reputation among his overwhelmingly left-leaning professional peers.”

Here are remarks on Flew’s political philosophy from David Gordon, David Conway, and Sean Gabb. Here’s a biographical sketch written for Flew’s 2001 Schlaurbaum Prize, and here’s the acceptance speech.

20 April 2010 at 11:19 am Peter G. Klein 1 comment

C. K. Prahalad (1941-2010)

| Peter Klein |

C. K. Prahalad died Friday at the age of 68. He’s best known for his “guru” work with Gary Hamel, but had turned his attention more recently to economic development , particularly the “bottom-of-the-pyramid” approach to poverty reduction. Here are thoughts and reminiscences from the WSJ, HBR, Ross Emmett, and the Ross School. HBR has already set up a Prahalad page. Here are previous O&M mentions. I last saw him at the 2009 SMS conference in Washington, D.C. where he spoke with Yves Doz on “The Future of Strategy.”

19 April 2010 at 1:40 pm Peter G. Klein 2 comments

Quoted in the WSJ, Kinda Sorta

| Peter Klein |

Earlier this week AFL-CIO president Richard Trumka wrote a predictable WSJ piece blaming private equity for various economic and social ills. PE firms, you see, are “unregulated and shrouded in secrecy, and they extract big profits while the companies, their employees and many of their investors lose.” Um, OK. A few sentences later he says it again: PE firms “function with virtually no oversight. Despite managing trillions of dollars and employing millions of Americans, they operate as a shadow financial system — in secret, free to take on outsized risks, and make huge bets with no outside supervision.” Hmmmm, one might think the limited partners who provide the funds — usually sophisticated, experienced investors holding substantial equity stakes — would exercise a wee bit of supervision, but never mind. Trumka goes on to demand that PE firms be forced to make all their information public, defeating one of the main purposes of private equity. (Hey, Rich, when will the minutes of that last AFL-CIO board meeting show up on your Twitter feed?)

Today’s paper includes several responses, some supplying actual arguments and evidence on the nature and effects of private equity. One letter notes that “[r]esearchers at the University of Missouri found that private equity-backed companies that exited between 1984 and 2006 grew employment by an average of more than 13% a year over the life of the private-equity investment.” The writer is citing my paper with John Chapman, “Value Creation in Middle-Market Buyouts: A Transaction-Level Analysis,” which came out earlier this year in a Wiley finance handbook series. (You can download an SSRN version here.) We report financial, operating, and employment performance for a sample of 288 middle-market transactions collected, through surveys and interviews, from 13 US PE firms. The results suggest that PE firms create substantial economic value. A shout-out by name would have been nice, but it’s nice to be noticed.

17 April 2010 at 10:53 pm Peter G. Klein Leave a comment

Neuroeconomics and Methodological Individualism

| Peter Klein |

Methodological individualists, following Schumpeter (1908), hold that aggregates like firms, societies, nations, etc. should be modeled as organizations or ecosystems composed of smaller decision-making units. But the reduction has to stop somewhere — it can’t be turtles all the way down (the Matrix-within-the-Matrix problem). Economists typically define the individual actor as the relevant unit of analysis; we don’t go further down to the level of, say, the gene (see Nicolai’s earlier discussion of the “driver’s seat fallacy”).

Neuroeconomics — the latest advance of the behavioralist revolution — rejects the conventional perspective, however. Isabelle Brocas and Juan Carrillo conclude their recent useful summary of neuroeconomic research by likening individuals to organizations:

Neuroeconomic theory will soon play a crucial role in the building of new reliable theories capable of explaining and predicting individual behaviour and strategic choices. The main message is that the individual is not one coherent body. The brain is a multi-system entity (with conflicting objectives, restricted information, etc.) and therefore the decision-maker must be modelled as an organisation. We conclude with an analogy. Before the so-called modern theory of the firm, organisations were modelled as individual players characterised by an input-output production function. The systematic study of interactions between agents and decision processes within organisations (acknowledging informational asymmetries, incentive problems, restricted communications channels, hierarchical structures, etc.) led to novel economic insights. Applying a similar methodology to study individual decision-making is, in our view, the most fruitful way to understand the bounds of rationality.

Hmmm, I admit that my brain often has trouble motivating other parts of my body to achieve the brain’s objectives, but I’ve never thought of these as agency costs. And I suppose that leprosy — in which the nervous system fails to communicate information about damage to bodily extremities to the brain – could be described as a failure to make effective use of dispersed specific knowledge. But I don’t quite see the value added.

More generally, my own view is that neuroeconomics represents a potentially interesting branch of applied psychology, but has little to do with economics per se. Economics is about the logical relationships between means and ends, not the psychology of preferences and beliefs. But mine is a minority view.

17 April 2010 at 2:47 pm Peter G. Klein 8 comments

IRB Flames

| Peter Klein |

Zachary Schrag’s excellent Institutional Review Blog highlights the discussion on a recent Chronicle post about IRBs. As you can imagine, most of the comments are from frustrated researchers who see the campus IRB as their enemy, not their ally. Sample: “At my current institution, humanities scholars are subject to an IRB that only makes sense for scientists collecting blood and doing life-threatening experiments on small children.” Zach points out that a few comments defend the local IRB, but these comments “are vaguer and less eloquent,” and “none tells a story of an IRB review that proved necessary.”

I suspect that some of this researcher frustration can be alleviated by recognizing that IRBs exist not to protect research subjects, but to protect the university. The IRB’s goal is to prevent the university from being sued or otherwise losing Federal funding. Protecting research subjects, improving research methods, and contributing to the growth of knowledge are incidental.

15 April 2010 at 9:08 pm Peter G. Klein 7 comments

Miscellaneous Conference and Paper Links

| Peter Klein |

SSRN has a new Philosophy and Methodology of Economics working-paper series, sponsored by the International Network for Economic Method.

Here’s a CFP for a Special Issue of the E-conomics e-Journal on the Social Returns to Higher Education, R&D and Innovation.

You can watch a live stream of this weekend’s SEJ Special Issue Conference on Knowledge Spillovers & Strategic Entrepreneurship.

The registration and accommodations section of the ISNIE 2010 website is now open.

14 April 2010 at 10:12 am Peter G. Klein Leave a comment

A Real Hostage Model

| Peter Klein |

Forget Williamson (1983). Check out Randall Morck and Fan Yang’s analysis of the 19th-century banks Shanxi, China. These banks featured a dual-class equity structure and, to mitigate agency problems created by entrenched insiders, not only gave insiders few voting rights, but also allowed outsiders to enslave insiders’ wives and children and hold their relatives as hostages. As Morck and Yang observe, with dry humor: “Modern civil libertarians might question some of these governance innovations, but others provide lessons to modern corporations, regulators, and lawmakers.”

13 April 2010 at 12:51 pm Peter G. Klein Leave a comment

Recommendation Letters

| Peter Klein |

Like most academics, I often write recommendation letters for students and colleagues, and sometimes ask for them myself. There’s an art to getting a good recommendation letter, much of it nicely summarized by Jodi Glickman Brown on her HBR blog. In short, 1) highlight [the writer’s] qualifications, 2) provide a template, and 3) offer a “no questions asked” policy. I’d add a conceptual note: Consider the recommendation letter an additional channel for information, beyond those the letter-reader will already have. Letters that simply repeat information contained in the candidate’s CV, academic transcripts, writing samples, application forms, and the like do not add value Ask yourself what you want the reader to know about you that isn’t otherwise be obvious from the rest of your dossier. The letter is your opportunity to get this information out. But the letter-writer has to know what you have in mind.