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Oliver E. Williamson University of California, Berkeley email@example.com
Empirical microeconomics: another perspective Oliver E. Williamson*
What was obvious to many of us at the time has become even more evident since: the Graduate School of Industrial Organization at Carnegie-Mellon (then Carnegie Tech) had assembled an extraordinary group of faculty and students in the 1950s and early 1960s and the Ph.D. program was an inspiring experience. Studies by the Ford Foundation and the Carnegie
1 Foundation record some of the programmatic successes. Nobel Prizes and other awards for
research that was done by the GSIA faculty at Carnegie also speak to the intellectual vitality of
2 those years. As a student of Carnegie, I can only marvel at the project.
Of the many distinguished faculty at Carnegie, none cast a larger shadow than Herbert Simon. Everything seemed to be within his purview—as he made contributions to economics, political science, sociology, organization theory, statistics, philosophy, cognitive science and the list goes on. Then and since, he has expressed concerns that economic theories of the firm and of consumer choice worked off of implausible cognitive assumptions. Both were deeply problematic as a consequence. The common response that a theory should be judged not by the reasonableness of its assumptions but by the ‘comparison of its predictions with experience’ (Friedman 1953, p. 9) does not wash, moreover, if the resulting predictions are few in number and often bear a weak relation to the phenomena of interest, and if the empirical tests are limited and/or ambiguous or contradictory. Simon continues his criticisms of orthodoxy in the recent book, An Empirically Based Microeconomics (1997). The recent criticisms, moreover, go beyond orthodoxy to indict the New Institutional Economics, of which transaction cost economics is a part. Without question, transaction cost economics (TCE) is different from the behavioral economics program that flourished at Carnegie in the late 1950s/early 1960s. But while TCE is ‘more neoclassical’, it nevertheless relates to the Carnegie project in many respects—or at least that is my position (as developed elsewhere and repeated here). Also, contrary to Simon,
transaction cost economics is an empirical success story. I have no illusions, however, that mine is the last word. TCE always stands to benefit from good critics, of which Simon has been one and Mark Granovetter (1985) is another. The dialogue will continue and the outcome will be decided by others. The Simon critique of orthodoxy and of TCE is briefly summarized in Section 1. The ways in which the TCE perspective draws on and differs from the work of Simon and Carnegie are reviewed in Section 2. As set out in Section 3, TCE and Simon/Carnegie deal with different phenomena and are often complementary. The empirical research accomplishments of TCE are summarized in Section 4. Concluding remarks follow.
The Simon critique Simon is a self-described ‘scold’ of orthodoxy, going back at least to Models of Man
(1957). Although some mainline economists immediately took issue (Solow 1958), many have recognized that uncritical use of heroic assumptions (especially hyperrationality) by orthodoxy could lead to implausible constructions. Not only has Simon received recognition and awards from economists—witness his publications in leading economics journals, his presentation of the prestigious 1978 Richard T. Ely Lecture before the American Economics Association and the award of the Nobel Prize in Economics in 1978—but there is growing appreciation for the need to find ways to model bounded rationality (Rubinstein 1998; Kreps 1999; Maskin and Tirole 1999). Simon nevertheless despairs that the applied and theoretical efforts of economists will truly come to terms with bounded rationality (Simon 1991, 1997; Rubinstein 1998, Chap. 11).
Core position If ‘Nothing is more fundamental in setting our research agenda and informing our
research methods than our view of the nature of the human beings whose behavior we are studying’ (Simon 1985, p. 303), then social scientists should be prepared to name the key
attributes of human actors. Both the condition of cognition and self-interestedness need to be addressed. Simon early took the position that the hyperrationality assumption out of which orthodox economics works should be supplanted by the less demanding cognitive condition of bounded rationality—according to which human actors are intendedly rational but only limitedly so. The issue of self-interest has received less attention, but Simon has described it as ‘frailty of motive’ (1985, p. 303) and has also featured docility, identification, and loyalty in describing human behavior in organization (Simon 1991, 1997).
Theory and evidence Simon distinguishes three uses of economic theory: curiosity; a guide to the
management and operation of firms; and a guide to the operation of the economy (1997, p. 63). Achieving these three goals (Simon 1997, p. 63): …requires building an adequate, empirically based, theory of bounded rationality…. The knowledge that economic actors possess and do not possess, the computations that economic actors can make and cannot make must not enter as ad hoc assumptions…but must be shaped and tested by the sharpest empirical methods that we can devise. Although both the ‘experience-based tests’ on which Adam Smith relied and more recent econometric tests are instructive, neither are judged to be adequate to the sharpness needs to which Simon refers. He therefore recommends that these be supplemented by turning to and testing ‘the validity of some or all of the specific assumptions that are built into the models as well as the models as wholes’ (Simon 1997, p. 23). Laboratory experiments and ‘empirical studies that observe the behavior of consumers or of business firms directly’ are what he proposes (Simon 1947, p. 23). He observes in this connection that ‘When we look at organization in the real world, we find much more structure and complexity than is hinted at in the theory of the firm, whether in its
The comparative study of firms and markets requires that the strengths and limitations of each be identified and explicated. but a predictive theory of economic organization would advise on when and why the needs for coordination and the support of organizational loyalties vary with the circumstances. (The possibility that some of these features reside in the microanalytic attributes of transactions is nowhere admitted. p. Avinash Dixit. and that accounts for the large role of organizations in the economic activity of a society like ours’ (Simon 1997. p.) . whereupon an empirical research program focused on the key features could be undertaken. 49). But Simon’s view that the TCE and orthodox theories of the firm are two peas in a pod comes not only as a surprise to me but to many others as well—which includes not only NIE economists but Kenneth Arrow. That is because there are truly fundamental differences between the TCE theory of the firm as governance structure (which is an organizational construction) and the orthodox theory of the firm as production function (which is a technological construction). I return to these issues in Section 2. Simon’s contention that TCE has been remiss in empirical respects—it being his view that. Simon describes the strength of firms as follows: ‘The need for coordination. That is instructive. ‘the new institutional economics and related approaches as acts of faith. Oliver Hart.4 classical or its “New Institutional” versions’ (Simon 1997. along with the possibility of creating organizational loyalties are perhaps the two most important factors that give organizations an advantage over markets in many situations. or perhaps piety’ (Simon 1991. David Kreps. That orthodoxy is remiss in dealing with ‘real world’ organizations is widely conceded. p. 27)—is likewise one with which I (and others) take exception. Bengt Holmstrom. 38). whence none are identified or explicated by Simon. Empirical research in behavioral economics and in transaction cost economics is examined in Sections 3 and 4. awaiting empirical testing. Jean Tirole and the list goes on.
and very likely played such a role before perestroika began.4 Inasmuch as young scholars ‘desire to explore new paths.3 Conclusion Simon concludes that the economics profession needs to be more attentive to the needs of the many students who view ‘mathematical tools with distrust and deplore the necessity of devoting their research time to formalisms that they regard as mainly sterile’ (1997. This lack of a ‘consistent relation between forms of ownership and their operational efficiency’ is explained by the fact that ‘direct participation in profits plays only a small role in motivating the loyalty of employees to business and other organizations’ (Simon 1997. and ending with its valuable conclusions’ (1999. p. p.5 Also. including the path of empirical . however. He also discusses the comparative performance of private ownership. 45). 50). Simon is silent on the weaknesses of firms. 49). Demsetz 1969. starting with data about human reasoning. invite us to ‘consider the hypothesis that failures in skills of organizing and in enlisting organizational loyalties play a major role in Russian economic difficulties today. p. p. electric power and communications services) as compared with private (usually regulated) firms as inconclusive (Simon 1997. where he interprets the evidence on the efficiency of government providers of public utilities (such as water. Organizations are at least as large a part of the story of Russian disorganization and failure as are markets’ (Simon 1997. then symmetrical attention to the strengths and weaknesses of each is needed. Simon’s propensity to operate at a very high level of generality helps to explain Ariel Rubinstein’s remark that ‘The book is missing a chapter with a detailed example where Simon demonstrates the implementation of his approach. Williamson 1996). p. 1712). He therefore expresses skepticism over the need for the privatization of firms in moving from a centralized to a market economy (Simon 1997. More generally. 90). 1. p. nonprofits and government agencies. 51). Simon does. if all feasible modes of organization are flawed (Coase 1964.
Alfred Chandler’s studies of business story (1962). 72-74. . Some of the earlier work at Carnegie to which Simon makes favorable reference includes (1) an examination of how the policy recommendations of business executives responding to the same set of facts are strongly influenced by their training and the business functions (marketing. and survey techniques by George Katona (1951) and others. Other empirical work to which Simon makes favorable reference include the laboratory experiments on markets by Vernon Smith (1991) and his colleagues. (2) a study of the size distribution of firms. we need to revise the curriculum so that students of economics will be exposed to the range of empirical techniques that I have described’ (Simon 1997. 23. p.6 research…. which demonstrate that human actors are poor Bayesians. Econometric tests of macroeconomic theory using quantitative data are also mentioned. and the use of verbal protocols and computer simulation of thinking to produce ‘an extensive and well-tested theory of human cognitive performance over a wide range of tasks”. legal. 80). of which the department store pricing study by Richard Cyert and James March (1963) is an example. both laboratory and practical (Simon 1997. 91). according to which span of control and fairness considerations are combined to predict that the salaries of executives will vary directly with the logarithm of the number of subordinates (Simon  1957). with special emphasis on the limits of the data and the estimating procedures (Simon 1997. experimental game theory. production. p. 96-97). and (4) a series of studies of the specific business practices of individual business firms. which takes the form of a Pareto distribution and can be generated by the assumption that the growth of a firm is proportional to its current size (Ijiri and Simon 1977). Examples from cognitive and experimental psychology include tests of the postulates of rationality by Daniel Kahneman and Amos Tversky (1973). etc. (3) a study of the compensation of executives.) to which they were assigned (Dearborn and Simon 1958). pp.
TCE works out of (6) weak-form selection.1 Carnegie origins First and foremost. (4) discrete structural analysis. (3) near-decomposability. there is no question but that TCE draws extensively on organization theory—although some have questioned the value added. 1996). economics and organization theory. 16). p. xxiv). the imperative at Carnegie was to be disciplined. As I have described it elsewhere. Carnegie featured interdisciplinary social science. Even if economics is the queen of the social sciences (opinions differ). Consider each. (a) Bounded rationality TCE subscribes to the proposition that human behavior is intendedly rational but only limitedly so (Simon  1961. 2. by itself. Rather than pronounce ‘This is the law here”. Although TCE and Carnegie may divide on how closely to hew to the ‘rational spirit’ to which Arrow refers (1974. and (5) adaptation. p. Also. . I describe it as an interdisciplinary joinder of law. Economic actors are thus assumed to be attempting effectively to cope but lack the wits to maximize. 5 I begin with a sketch of the Carnegie contributions on which TCE rests and then turn to some of the significant respects in which Carnegie and TCE differ.7 2. be interdisciplinary and have an active mind (Williamson. no single social science is able. The transaction cost economics perspective Transaction cost economics can be variously described. Carnegie encouraged the student of organization to ask ‘What’s going on here?’ Not only does TCE ask that question but it is furthermore indebted to Carnegie by subscribing to the following: (1) bounded rationality. to explain the range of complex organizational phenomena with which Carnegie was concerned. (2) process matters. where the organization theory is predominantly of a Simon/Carnegie kind and economics is the first among equals.
(b) Process matters If organization. (b) in the long-run. Posing and answering these new questions is where the distinctive TCE contributions reside (Arrow 1987. like the law. 734). 370). As Robert Michels puts it in the context of oligarchy. This serenity and candor apply to the study of organization more generally. ‘New questions’ are swept in by the move from complete to incomplete contracts. p. has a life of its own. p. 129): (a) in a nearly decomposable system. the behavior of any one of the components depends in only an aggregative way on the behavior of the other subcomponents. Failing to be alert to the chief intertemporal propensities of organization. p. then intertemporal process transformations that predictably recur need to be discovered and the ramifications for organizational design wrung out. TCE holds that the principal ramification of bounded rationality for the study of economic organization is that all complex contracts are unavoidably incomplete. the short-run behavior of each of the component subsystems is approximately independent of the short-run behavior of the other components. ‘nothing but a serene and frank examination of the oligarchical dangers of democracy will enable us to minimize these dangers’ (1962. The main ideas here are these (Simon 1962.8 To concede bounded rationality is one thing. students and practitioners will fail to make allowance for unrecognized costs and benefits. (c) Near-decomposability The now widely recognized importance of modularity was anticipated by Simon’s work on nearly-decomposable systems. What to make of it is another. Near-decomposability is a widely observed design principle in complex social systems and reflects respect for the cognitive overload (bounded rationality) and ease of disclaiming . Unintended consequences and the imperatives of bureaucracy (March and Simon 1958) are among the more important conditions of which the student of economic organization needs to be apprised.
For. etc. of which two kinds are distinguished: autonomous and cooperative. The rudiments of a predictive theory of comparative economic organization reside in the answers to these. emphasis in original). (d) Discrete structural Simon’s idea of discrete structural. analysis is also one to which TCE subscribes. (e) Adaptation TCE also subscribes to the view that ‘Interdependence by itself does not cause difficulty if the pattern of interdependence is stable and fixed. which is broadly congruent with Jon Elster’s dictum that ‘explanations in the social sciences should be organized around (partial) mechanisms rather than (general) theories’ (1994.—in discrete structural terms. 449). It asks (1) what are the principal attributes with respect to which governance structures differ. p. hybrid. 75. become the object of analysis. but it takes three additional steps. 267-268). to the effect that. each subprogram can be designed to take into account all the subprograms with which it interacts’ (March and Simon 1958. The first of these was . organization reduces to repetition ( 1957. p. as against marginal. This argument is akin to one expressed earlier by Frank Knight. etc. (2) how is each generic mode of organization (market. bureau. but for unanticipated disturbances (uncertainty). Given near-decomposability. Not only does TCE view alternative modes of governance—markets.9 responsibility (opportunism) in fully connected systems. Because alternative modes of organization differ in kind rather than degree. firm. The central problem of organization on which TCE focuses is that of adaptation. bureaus. p. rather than an overarching theory of organization. the microanalytic mechanisms of governance. pp. in that case. firms.) defined in terms of these attributes and (3) what resulting strengths and weaknesses accrue to each generic mode (Williamson 1991). marginal analysis plays a less significant role in the choice among alternative modes of governance than it does in the analysis of market equilibria (Simon 1978. 159).
p. 69. background way on competition to perform a sort between more and less efficient modes of governance. purposeful’ kind (1938. thereby to link observations with concepts. TCE makes provision for adaptations of both kinds and holds that alternative modes of governance differ in their capacities to deliver autonomous and cooperative adaptations (Williamson 1991). deliberate. ‘not everything that is logically consistent is credulous’ (Kreps 1999. As against selection of the fittest. (3) subtle procedures of statistical inference to perform empirical testing and (4) ‘most important of all. emphasis in original).7 Interestingly. In all six of these respects. Chester Barnard. the close reasoning out of which TCE works is acutely attuned to the detailed knowledge to which Koopmans refers. TCE. is very conscious about the plausibility of postulates and the relevance of conclusions. the fitter survive. who emphasized spontaneous adaptation realized through markets. Thus Koopmans describes the four ‘skills within the economics profession’ as follows: (1) detailed knowledge of the realities of economic life. 145). working through administration. it subscribes instead to weak-form selection: ‘in a relative sense. invites empirical testing. p. p. their realism and the relevance or usefulness of the conclusions they lead to’ (Koopmans 1957. gives greater priority to plausibility. p. (f) Weak-form selection TCE relies in a general. emphasized cooperative adaptation of a ‘conscious. Tjalling Koopmans also has a broad (Carnegie-like) conception of the economic enterprise.10 featured by Friedrich Hayek (1945). 125). TCE is an exercise in close reasoning (which I take to be the Carnegie tradition) as opposed to the tight reasoning of mathematical economic theory—which routinely sacrifices plausibility in the name of logical consistency and mathematical rigor. the appraisal of postulates with regard to their plausibility. like Carnegie. but there is no reason to suppose that they are fittest in any absolute sense’ (Simon 1993. As discussed elsewhere (Williamson 2000). 6 . Albeit worthy values. 4). (2) the logical and mathematical skills of reasoning from postulates to conclusions. by contrast.
(2) the main lesson for economic analysis of bounded rationality. The most consequential of these are (1) choice and operationalization of the unit of analysis. Of these two steps.2 Some differences The significant reliance of TCE on Carnegie notwithstanding.11 and encourages logical and mathematical reasoning. (3) the description of self-interest. (a) Unit of analysis: decision premise or transaction Both the choice of a unit of analysis and the subsequent dimensionalization thereof are important to a progressive research agenda. He recommends instead that the decision premise be made the unit of analysis and avers that ‘Behavior can be predicted…when the premises of the decision are known (or can be predicted) in sufficient detail’ (Simon 1957b. By reason of these differences. p. TCE gives different and more prominent attention to contract. 2. whence the latter is often scanted. in the spirit of Koopmans. notes that while the concept of role has been proposed as a sociological unit of analysis. Although subsequent work on human problem solving by Simon (in collaboration with Alan Newell) is in this spirit. Also. Not only do the computer simulation models of A Behavioral Theory of the Firm (Cyert and March 1963) operate out of routines. xxx). ‘the term has never been given sufficiently precise definition’ (1957b. for example. A more composite variant of the decision premise is to treat the ‘routine’—the decision rules and procedures—as the unit of analysis. (4) the condition of foresight and (5) the role of informal organization. the systematic application of the decision premise as the unit of analysis has yet to produce a widely applicable theory of organization to which predictions about firm and market organization accrue and the data have been applied. One of the consequences is that TCE and Simon/Carnegie often deal with different microanalytic phenomena and inform different issues of public policy. there are also differences. this last (full formalism) does not trump all others (Kreps 1999). xxx). Simon. but Richard . naming a unit is easier than dimensionalization. p. in that the human actor is postulated to behave as an information processing system (Newell and Simon 1972).
which differ in their cost and competence. Not only does TCE view governance as the means by which to infuse order. uncertainty. emphasis in original). 204-205. The unit of analysis out of which transaction cost economics works is the transaction— which John R. 14). but it takes the transaction to be the basic unit of analysis and names asset specificity (in its various forms). ‘A Behavioral Model of Rational Choice’—which appeared in the Quarterly Journal of Economics . This unit is a transaction’ (1932. 4).12 Nelson and Sidney Winter make the bold claim that routines are to the evolutionary theory of the firm what genes are to the biological evolutionary theory (1982. are aligned with governance structures. p. This effort to dimensionalize transactions in combination with the aforementioned effort to name the principal attributes with respect to which governance structures differ become the basis for the discriminating alignment hypothesis. so as to effect a transaction cost economizing result. That sounds very fundamental. and frequency as the critical dimensions with respect to which transactions differ. (b) Bounded rationality: satisficing or incomplete contracting Simon holds that ‘the replacement of the goal of maximizing by the goal of satisficing. which differ in their attributes. of finding a course of action that is good enough…is an essential step in the application of the principle of bounded rationality’ (1957b. however. mutuality. and may prove to be precisely that. To date. and order. thereby to mitigate conflict and realize mutual gains. to wit: transactions. The large and growing body of empirical research discussed in Section 4 involves the application of this hypothesis to a wide range of phenomena. Commons features in his overarching statement on the study of economic organization: ‘The ultimate unit of activity…must contain in itself the three principles of conflict. Such a reformulation appeals to reason and has broad analytical ramifications. p. neither A Behavioral Theory of the Firm nor evolutionary economic theory has seriously addressed itself to the daunting challenge of dimensionalizing the routine. Simon’s 1955 article. pp.
which helps to explain Robert Aumann’s conclusion that the satisficing approach is not presently broadly applicable (Aumann 1985). If they slip. it is a normal friction and often a matter of bemusement. The upshot is that an issue of efficient governance is posed. TCE holds that the chief lesson of bounded rationality for the study of economic organization is that all complex contracts are unavoidably incomplete. Alas. Awaiting satisficing apparatus that is easier to implement. economists can be thought of as analytical satisficers: they use a short-cut form of analysis (maximizing) that often qualifies as ‘good enough. In contrast with satisficing. numerous refutable implications accrue thereto. 293)—uses a satisficing setup and potentially heralded a new era. conditional on the attributes of transactions.13 and has been described by Simon as his ‘chief epistle to the economists’ (1985. the question is how best to cope when unanticipated disturbances arise. But while inefficiency invites its own demise. that can be costly.’8 As hitherto indicated. then the mitigation of contractual hazards through the ex ante choice of a better mode of governance will yield efficiency gains. The proposition that routines describe the behavior of most individuals most of the time contemplates (nonstrategic) benign behavior. 303) is that most people will do what they say (and some will do more) without self-consciously asking whether the effort is justified by expected discounted net gains. . the apparatus out of which satisficing works is very cumbersome. which follows). some governance structures have superior adaptive properties than others. Such disturbances push the parties to an incomplete contract off of the contract curve. If. Among other things. p. whence inefficiency arises for which relief is sought.9 (c) Self-interest: frailty of motive or opportunism My interpretation of Simon’s description of self-interest seeking as ‘frailty of motive’ (Simon 1985. Faced with contractual incompleteness. the appropriate corrective action can be delayed or defeated by a propensity to bargain over the disposition of the potential gains (see the discussion of self-interest. The discriminating alignment hypothesis thus applies. p.
whereupon it may be possible to mitigate foreseeable oligarchical propensities at the initial design stage. but that is extreme.14 But while accurate descriptions of what is going on ‘most of the time’ are plainly essential. Serenity and candor nevertheless require us to entertain the possibility that foreseeable contractual hazards will be missed or suppressed by frailty of motive. candid reference to opportunism serves to uncover strategic issues that are ignored only at peril. much of what is interesting about human behavior in general and organizations in particular has reference not to routines but to exceptions. bilateral dependencies.—will now come into play if. Note. once good routines have been developed. therefore. which is not to celebrate this condition but to mitigate it. provision needs to be made for both. A more constructive and deeper lesson is to make allowance for all such predictable regularities at the outset. opportunism is the operative condition. Indeed. 365). even if frailty of motive describes day-to-day activity most of the time. of the delegates over the delegators. One response to unwanted oligarchical outcomes would be to eschew all proposals to introduce democracy in favor of the status quo. that the odium associated with opportunism is relieved by the main lesson of opportunism. Strategic considerations—which arise by reason of information asymmetries. To be sure. the chief role of management is to deal with the exceptions. Opportunism. Such exceptions arise from contractual incompleteness in combination with the disturbances referred to above. says oligarchy’ (Michels 1962. I submit. takes us into the deep structure of contract and organization in ways that frailty of motive does not. etc. rather than frailty of motive. Accordingly. Recall that Michels’ Iron Law of Oligarchy had its origins in his efforts to understand democracy: ‘It is [hierarchical] organization which gives birth to the dominion of the elected over the electors. p. the costliness of court enforcement of contracts. than pose the issue as frailty of motive (routines) or opportunism (strategic behavior). weaknesses of property rights. . moreover. of the mandatories over the mandators. the effects of which are to push the parties to an agreement off of the contract curve. opportunism is an unflattering behavioral assumption. Who says organization. Rather.
’ Alert practitioners.e. etc. perceive hazards and fold these back into the organizational design—in all significant contractual contexts whatsoever (intermediate product market. 12. George Schultz’s reflection on the importance of his training in economics is pertinent: ‘my training in economics has had a major influence on the way I think about public policy tasks.15 That very same lesson applies more generally. Our discipline makes one think ahead. At one extreme is myopia—as postulated by A Behavioral Theory of the Firm (Cyert and March 1963): local search. but what is really meant is that our expectations of the future affect what we do in the present’ (Arrow 2000. labor market. emphasis omitted). whence an important part of the study of economic organization is to look ahead. Attenuating the ex post hazards of opportunism through the ex ante choice of governance is central to the transaction cost economics exercise. even when they have no particular relationship to economics. TCE postulates ‘feasible foresight”.). ‘Whenever I see something badly done or not done at all. trial-anderror learning. 1). which entails ‘a single gigantic once-for-all forward “higgle-haggle” in which all contingent goods and services (i. Michels had it right: nothing but a serene and frank examination of the hazards of opportunism will enable us to mitigate these hazards. p.. p. which is located in between. fire-department model of firm behavior. I see an opportunity to make a fortune. The proposition that ‘The future influences the present…[may seem] like a violation of the laws of causality. all goods and services at each possible time-cum-environmental condition) are bought and sold once and for all now for money payments made now’ (Meade 1971. ask about indirect consequences. Similar skills have value elsewhere. At the other extreme is the comprehensive contracting model. 166). capital market. p. take note of variables that may not be directly under consideration’ (Schultz 1995. As the businessman Rudolf Spreckels once put it. (d) Foresight: myopic or farsighted Degrees of foresight can be placed on a continuum. consultants and public policy analysts who are alert to the lessons .
Because firm and market organization differ in these respects. a forced choice is unneeded. of self-respect. He goes on to observe that ‘Loyalty has not only a motivational component—internalization of the organization’s goals—but also a cognitive component’ (Simon 1997. 122).16 of experience and who possess the skills for and practice the art of feasible foresight will frequently be able to implement discriminating alignment by looking ahead. The informal effects to which Barnard refers occur spontaneously. p. (e) Informal organization Barnard argued that formal and informal organization always and everywhere coexist (1938. organizational loyalties are one of the two most important factors that give firms an advantage over markets (the other being coordination). 20) and that informal organization contributes to the viability of formal organization in three significant respects: ‘One of the indispensable functions of informal organization in formal organizations…[is] that of communication…. whereupon the enterprise is factored into manageable parts in which ‘an employee…acquires the goals appropriate to the position’ (Simon 1997. informal differences should be taken into account in the decision to use one or the other. p. p. A third function is the maintenance of the feeling of personal integrity. p. as a consequence of or in conjunction with formal organization. recognizing potential hazards and choosing governance structures appropriately. 44). According to Simon. Another function is that of maintaining the cohesiveness in formal organizations through regulating the willingness to serve and the stability of objective authority. construction. 10 That is the TCE . and independent choice’ (Barnard 1938. 44). The latter has its origins in bounded rationality. Theories of the firm that deal with short-run operating behavior will feature myopia.11 Again. p. 44). a principal criterion we have in mind is the loyalty and devotion of the employees to the organizational goals’ (Simon 1997. while theories that are more concerned with periodic governance alignments will invoke foresight. ‘When we speak of organization as having high morale.
very few issues of firm and market organization (and public policy that pertains thereto). Some of the phenomena of interest to Carnegie are therefore different from those dealt with by TCE. Phenomena of Interest Both Carnegie and TCE subscribe to bounded rationality and advance the proposition that organization matters. Both deal with more microanalytic phenomena than orthodoxy. p. 162. however. No less of an authority than Philip Selznick—who has a deep and abiding interest in identification—treats ‘Michels’ theory about democratic organization…as a special case of the general recalcitrance of the human tools of action. some issues of price and output. Carnegie and TCE also differ from one another in consequential ways. In that event. Carnegie is interested in very micro phenomena (individual decision making). 45). The TCE response to loyalty/identification comes down to this: (1) yes.17 ‘Because organizational attachments have this powerful cognitive component. efforts to ascertain the factors that influence the net effects are needed. In the end. provision for beneficial identification and subversive subgoal pursuit are both needed. it is customary to speak of organizational identification rather than loyalty’ (Simon 1997. as well as a motivational one. there is also a ‘dark side’ to the subgoal pursuit that arises from functional specialization and career concerns: the overarching goals of the organization can be and sometimes are subverted. p. and (3) because loyalty and identification can have both benefits and costs. The tendency for goals to be subverted through the creation of new centers of interest and motivation inheres in all organizations’ (Selznick 1950. As is apparent from the foregoing.12 3. By way of locating these phenomena on a continuum. considerations of loyalty and identification should be incorporated within the economizing calculus. and some . emphasis added). they remain vague. (2) awaiting a more complete description of the mechanisms through which they work. these considerations are unarguably important. The benefits of identification notwithstanding.
One example is the aforementioned study by Dewitt Dearborn and Simon (1958) of the reactions of 23 executives enrolled in an executive training program. 3. Simon summarizes as follows: experimental tests show that ‘people do not make consistent judgments about uncertain events. corporate governance and corporate finance.1 (a) Microanalytics Individual decision making According to Simon. TCE has focused on semi-microanalytic contractual phenomena. etc.18 macro economic issues. pp. labor market organization. thereafter studying the governance of contractual relations more generally—including the lessons for regulation/deregulation. vertical market restrictions and public policy more generally (Dixit 1996). [Accordingly. Experimental tests of the postulate of rationality. violating the axioms of utility maximization and frequently violating the laws of . accounting. production. 70-71). and laboratory studies of human problem solving. also operate at the level of the individual. As compared with Carnegie. p. ‘The most important data that could lead us to an understanding of economic processes and to empirically sound theories of them reside inside human minds…. TCE. The basic finding was that executives responded to the case study that was presented to them very much in line with their functional responsibilities—legal. by contrast. 64). This ‘is a vivid demonstration of how strongly identifications by particular functions…focus attention on some phenomena and away from others’ (Simon 1997. many of them of long-standing interest and puzzlement among applied microeconomists. as in Newell and Simon (1972).] we must seek to discover what went on in the heads of those who made the relevant decision’ (Simon 1997. along the lines of work by Daniel Kahneman and Amos Tversky (1973). had its origins with the vertical integration problem and antitrust lessons that accrue thereto. marketing.
19 probability’ (1997. Leda Cosmides and John Tooby observe in this connection that (1996. 328): By identifying and modeling the adaptive problems humans faced during their evolution. but evolutionary psychologists have begun to challenge the way in which probability events have been posed in the laboratory. and about many of the specific design features they required to be able to solve these problems. Armed with these models. is evident from alternative ways of posing probabilistic problems. many individuals perform better when probabilities are expressed in frequentist rather than point estimate terms. Our homonid ancestors were immersed in a rich flow of observable frequencies . For example. and computer simulations of cognitive process ‘provide little evidence…[for] utility maximization’ (1997. p. researchers can make educated guesses about the designs of the complex computational devices the human brain embodies. that we were successful 5 out of the last 20 times that we hunted in the north canyon. 15-16): What was available in the environment in which we evolved was the encountered frequencies of actual events—for example. 81). Whereas the usual practice is to model the mind as a general purpose problem solver. mathematics and probability theory). p. pp. as against a general-purpose system (using methods drawn from logic. some of which are more transparent and arguably relate more to evolutionary success than do others (see especially the exchange between Gerd Gigerenzer (1996) and Kahneman and Tversky (1996)). researchers can then design experiments that can detect and map the features of these complex devices-features that no one would otherwise have thought to test for. That it makes a difference whether we view the mind as a specialized problem-solver. evolutionary psychology works differently (Cosmides and Tooby 1994. These are noteworthy findings. p. 78).
variety and group interaction effects are all relevant.. p. Mean. Cosmides and Tooby thereafter ‘suggest that the human mind may contain a series of well-engineered competences capable of being activated under the right conditions.. 176) and subsequently observes that ‘the cognitive properties of groups are produced by interaction between structures internal to individuals and structures external to individuals. That is. and that a frequentist competence is prominent among these’ (1996.25. (2) upon recognizing that individuals differ in raw ability and expertise. p. Edwin Hutchins expresses ‘surprise that the division of cognitive labor has played such a very minor part in cognitive anthropology’ (1995.. variance. 262. better than average results can be realized by conferring ‘leadership’ (through delegation or imitation) on .. then organizing so as to deploy this scarce resource to best advantage has a lot to recommend it. There are advantages to storing and operating on frequentist representations because they preserve important information that would be lost by conversion to a single-event probability. The division of cognitive labor is also underdeveloped in economics. the puzzle is that experimental psychologists framed their experiments in nonintuitive (point estimate) ways. Given that ‘framing’ plays such a prominent role in laboratory experiments. If mind is a scarce resource.. The obvious propositions here are these: (1) very complex problems can sometimes be broken down into ‘subassemblies”. 151). 5 out of 20 contains more information and is easier to update than is . emphasis added). p. The possibility that many of the limitations of individuals are relieved by specialization also warrants remark.[and that] the performance of cognitive tasks that exceed individual abilities is always shaped by a social organization of distributed cognition’ (1995. p. given procedures that could take advantage of them. 17).20 that could be used to improve decision-making. within which specialization can take place and composite solutions worked up (March and Simon 1958.
an h > 0 condition exists. Economies of specialization thereby arise. (3) end games aside. One is a general purpose technology. A bilateral dependency condition applies to such transactions.. and (4) experienced as they are with a wide variety of transactions to which differential hazards accrue. firms can be presumed to craft contractual safeguards in differential degree. Parties have an incentive to devise safeguards to protect investments for transactions of the latter kind. and (3) because cognitive ability can take various forms. engineers. . intermediate product market transactions differ in the following respects: (1) firms can be presumed to be more nearly on a parity in information respects and can employ specialists (e. Productive values would therefore be sacrificed if h > 0 transactions were to be prematurely terminated. The special purpose technology requires greater investment in transaction-specific durable assets and is more efficient for servicing steady-state demands. the other a special purpose technology. Using h as a measure of contractual hazards. If instead transactions use the special purpose technology. The canonical problem of vertical integration out of which TCE works is illustrated by the simple contractual schema shown in Figure 1.g. Assets here are specialized to the particular needs of the parties. (2) considerations of differential risk aversion are of second order importance.21 those with greater ability. Contractual complications prospectively arise when there is a need to adapt to disturbances. transactions that use the general purpose technology are ones for which h = 0. such variations should be factored in. reputation effects can be presumed to be more effective. As compared with individual consumers. Thus assume that a good or service can be supplied by either of two alternative technologies. lawyers) to represent their interests more effectively. (b) Transactions/governance TCE is predominantly concerned with choice of governance structures by organizations (some of which are very large) rather than by individuals.
the transaction may be taken out of the market and organized under unified ownership (vertical integration) instead. of which the use of hostages to support exchange is an example (Williamson 1983). That an outside supplier will supply on better terms (supply at a lesser price) at node C than node B is not because it has received ‘simple assurances’ that the buyer will adapt cooperatively should an adverse state realization materialize during the contract implementation interval. Nodes C and D are those for which additional contractual support has been provided (s > 0). An s = 0 condition is one in which no safeguards are provided. Safeguards can take either of two forms. In the event that problems of crafting credible interfirm commitments are perceived to be especially great. A second would be to take transactions out of markets and organize them under unified ownership within which hierarchy (to include fiat) is used to effect coordination. internal organization is usefully thought of as the organization form of last resort: try markets.22 Let s denote the magnitude of any such safeguards. in that specialized investments are exposed (h > 0) for which no safeguards (s = 0) have been provided. either in the form of contractual safeguards (node C) or unified ownership (node D). Node A corresponds to the ideal transaction in law and economics: there being an absence of dependency (h = 0).. This is the credible interfirm commitment option. In consideration. arbitration) is devised. who will price out the implied risks. added information disclosure is provided and specialized dispute settlement machinery (e.g. Node B poses contractual hazards. . however. a decision to provide safeguards is reflected by an s > 0 result. One would be to provide interfirm contracts with added support: penalties to deter breach are introduced. for the added bureaucratic costs that accrue upon taking a transaction out of the market and organizing it internally. Rather. Such hazards will be recognized by farsighted players. such transactions benefit from the safeguard of competition. suppliers are viewed as hard-headed businessmen who will respond to what they perceive to be credible commitments.
regulation/deregulation. thus comes in only as higher degrees of asset specificity and added uncertainty pose greater needs for cooperative adaptation. capital markets. Two other theories that have Carnegie origins or connections are the ‘behavioral theory of the firm’ and the more recent work on ‘competence. vii). Labor markets. The chief mission of neoclassical economics is to understand . The latter has broad scope and. awaiting further work. ‘Any standard theory. some of which is in progress (Baron and Kreps 1999). Node D. The schema. as Arrow has observed. Harold Demsetz contends that ‘It is a mistake to confuse the firm of economic theory with its real-world namesake. for Simon it is bounded rationality.2 Theory of the firm If. starts from the existence of firms’ (1999. and. Friedrich Hayek’s assessment applies: ‘whenever the capacity of recognizing an abstract rule which the arrangement of those attributes follows has been acquired in one field. the same master mould will apply when the signs for those attributes are evoked by altogether different elements’ (1967. does not name a canonical problem to which variations on a theme can be referred. p. then would-be theories of economic organization should be expected to name the theory of the firm out of which they work. possibly for that reason. more generally. any issue that arises as or can be restated as a contracting problem are variations on a theme. (a) Carnegie Simon’s theory of the employment relation (1951) relates closely to Coase’s (1937) earlier treatment. 50).’ Both differ from orthodoxy. the employment relation is more in the nature of an incipient theory of the firm.23 try hybrids and have recourse to the firm only when all else fails. the firm. Whereas the unifying theme for TCE is that of discriminating alignment. moreover. p. applies not merely to intermediate product market contracts but much more generally. 3. That has been instructive but. not only the neoclassical.
subsequently they included internal allocation and market strategy decisions. is that few economists are interested in exact prices. p. Socialism. 7). economists are more interested in comparative statics: What changes in the parameters will move prices how and why? Awaiting a display of why they should be interested in pricing routines that predict to the exact penny. p. few economists or organization theorists have followed that empirical lead. it might be expected to deemphasize price and output. especially as it relates to technical and organizational innovation. Because Carnegie was plainly interested in the inner workings of real firms. p.24 how the price system coordinates the use of resources. The reason for this. 377). which is astonishing (Cyert and March 1963. the core competence perspective draws inspiration from Edith Penrose’s influential book on The Theory of the Growth of the Firm (1959) and Joseph Schumpeter’s earlier work on Capitalism. The first research commitment listed by Cyert and March. 2. not to understand the inner workings of real firms’ (Demsetz 1983. Rather. In the first instance. prices and output. I believe. and Democracy (1942). reads as follows (1963. As against the orthodox prescription to set prices on the basis of marginal costs and demand elasticities. Their department store pricing study correctly predicts prices ‘to the exact penny’ for 384 out of 404 items. Cyert and March maintain that they are set by simple routines. Yet despite their view that their computer model ‘lends itself to further elaboration and testing’ (Cyert and March 1963. emphasis in original): Focus on a small number for key economic decisions made by the firm. such results simply do not change the way in which economics gets done. Attention is thus focused on supply and demand. however. 148). these were price and output decisions. George Richardson’s article on ‘The Organization of Industry’ (1972) is seminal. As I have discussed elsewhere (Williamson 1999). Chap. as does Richard . The Cyert and March book (1963) makes the case for a ‘realism in process’ approach to the study of organization.
the overarching theme of which is the importance of process. but brings sharper nanoeconomic…reasoning to bear than as been customary’ (Arrow 1987. What are the priorities? Awaiting operationalization. whereby each discrete mode of governance is described as a syndrome of attributes to which distinctive strengths and weaknesses accrue. how to bring the more important processes together in a coherent way. the competence perspective relies primarily on success stories to make its case. All have had a significant influence on the strategy literature. (b) TCE TCE views the firm as a governance structure (which is an organizational construction) rather than as a production function (which is a technological construction). It is not obvious. the discriminating alignment hypothesis invites and has benefitted from empirical testing. the concept of core competence suffers from a tautological reputation (Porter 1994. why economic institutions have emerged the way they did and not otherwise. p. The decision to take a transaction out of the market and organize it hierarchically follows from the logic of the simple contractual schema set out above. p. One of the lessons of Carnegie is that firms have structure and that this structure arises for some reason (Arrow 1999. Always and everywhere. however. vii).25 Nelson and Sidney Winter’s book on An Evolutionary Theory of Economic Change (1982). rather than ‘consist primarily of giving new answers to the traditional questions of economics—resource allocation and the degree of utilization…it consists of [asking and] answering new questions. Not only is process analysis hard to do. More generally. As matters stand presently. it merges into economic history. Mosakowski and McKelvey 1997). 734. emphasis added).13 . but there are many important processes. TCE examines governance structures comparatively. Also.
price discrimination.26 3. aspects of economic development and reform. The United States Steel Corporation is a formal organization. Simon (and Carnegie) express little interest in public policy as it relates to such matters. the New York State Highway Department’ (March and Simon 1958.3 (a) Public policy toward business General The governance structure approach to economic organization has numerous ramifications for public policy toward business: vertical integration. TCE has responded to this lapse by examining nonstandard and unfamiliar organization and contractual practices through the lens of transaction cost economizing. Note that these nonstandard practices are very different from the resource allocation issues with which the orthodox theory of the firm was concerned (Demsetz 1983). the corner grocery store. nonstandard forms of contracting more generally (to include exchange agreements. take-or-pay agreements). the modern corporation (both domestic and multinational) and public policy toward business (antitrust and regulation/deregulation) more generally. labor market organization. p. (b) Public and private March and Simon’s famous book on Organizations opens as follows: ‘This book is about the theory of formal organizations…. differential risk aversion—deal with these matters in a systematic way. p. vertical market restrictions. 4). Neither individually nor collectively does orthodox appeal to price theoretic ‘wrinkles’—double-marginalization. 1). . corporate governance and corporate finance. reciprocity. the limits of legal centralism. far more than in markets. They thereafter observe that ‘Transactions that take place within organizations. are preplanned and precoordinated’ and that ‘the high specificity of structure and coordination within organizations…marks off the individual organization as a sociological unit comparable in significance to the individual organism in biology’ (March and Simon 1958. so is the Red Cross.
that the ‘managers of charitable organizations are subject to the same discipline as the managers of the profit-making firm’ (1997. by contrast. transactions also differ. a finding that public and private ownership has no impact on the manufacture of personal computers or the operation of grocery stores would be a big surprise to TCE (if not to Simon). 51) are plainly in the common theory tradition.27 Differences among private for-profit firms. p. get short shrift in this quest for a common theory of formal organizations. TCE holds that competition in both product and capital markets does have disciplinary consequences. p. Relatedly. moreover. however. regulated firms. 1996)). TCE. Because. p. 49). 50). 109). 128)). p. Lange. the choice of mode will be contingent on the transactions to be organized (Williamson 1991. By contrast. regulation. TCE concurs with Oskar Lange that ‘the real danger of socialism is that of a bureaucratization of economic life’ (1935. bureaucracy—differences appear (Levy and Spiller 1994. and that ‘in the transfer from centralized planning to a market economy it is not obvious to what extent the production organizations need to be privatized’ (1997. 1999). there is ‘no good solution’ for natural monopoly (1962. firms. nonprofits. upon making provision for variation in the institutional environment—polity. Given an institutional environment in which property and contract enjoy legal and constitutional supports. etc. Simon’s views that public and private firms are indistinguishable in supplying public utility services (1997. . judiciary. TCE furthermore holds that public utility transactions are intrinsically difficult to organize (as Milton Friedman has put it. whence charitable organizations will be reserved for a subset of transactions different from profit-making enterprise (Hansmann 1996). whence the lack of sharp differences between public and private operation of public utilities is not altogether surprising (although. relegated bureaucratization to the field of sociology rather than economic theory and bureaucratic differences between capitalism and socialism were neglected by economists for the next 50 years. Finally. public bureaus. and public bureaus as discrete structural modes of organization that differ in their attributes. p. views markets.
but a unified theory from micro through macro is very ambitious. 27) is broadly in this spirit. 63). Neoclassical theory. of the structure of contractual arrangements between firms. however. theory of bounded rationality’ is to better ‘understand and guide the operation of the economy’ (1997. p. p.28 the idea that privatization encourages economizing (discourages bureaucratizing) is now broadly conceded. My paper with Michael Wachter on ‘Obligational Markets and the Mechanics of Inflation’ (Wachter and Williamson 1978) is illustrative of how this can be done. Those who are closer to empirical TCE (have done empirical work) have a different opinion. Sam Peltzman (1991) holds a similar view of Industrial Organization more generally. empirically based. I do not disagree. 126). 89). and of the role and extent of . Thus Scott Masten remarks that whereas ‘Ronald Coase could justifiably lament the dearth of research on the organization of industry in 1972…. or others—to follow this up with empirical work. Simon’s statement that. Empirical TCE Bengt Holmstrom and Jean Tirole once described the theory of the firm as a field where ‘the evidence/theory ratio…is currently very low’ (1989. the transaction cost literature today  contains scores of empirical studies on the topics Coase viewed as central to our understanding of industrial organization—studies of the allocation of activities among firms. me. p. is ‘grossly inadequate…for either understanding the events that occur in the whole economy or providing a basis for macroeconomic policy’ (Simon 1997. Persistent application of the comparative contractual approach to economic organization holds promise for such a purpose. TCE was an act of faith or perhaps piety (1991. This is not. 4. (c) 14 Macroeconomics One of the reasons that Simon advances for ‘building an adequate. p. to say that we cannot make piecemeal progress in this direction. But there has been little effort to date—by Wachter. awaiting empirical testing. in his judgment.
p. 10). offers little support for agency theory’ (Masten and Saussier 2000. . p. A still more recent review of the relative contributions of agency theory and TCE to the empirical literature on contracting also bears remark. It could have been otherwise. will benefit from more and better empirical work. Subsequent empirical surveys—by Howard Shelanski and Peter Klein (1995). but ‘evidence from transaction cost economics. where variables of interest in the [two] theories overlap. p. but the theory and evidence display a remarkable congruity: ‘Progress in the application and testing of transaction cost economics can only be described as phenomenal’ (Masten 1995. in declaring that transaction cost economics is an empirical success story. To be sure. But where TCE has advanced numerous refutable implications. Judged comparatively. p. agency theory is notable for ‘its failure to generate testable hypotheses…[or even] to account for…the more basic features of real world contracts’ (Masten and Saussier 2000. 10). 81).15 A survey of empirical TCE currently in progress (Boerner and Macher 2000) estimates that the cumulative number of empirical TCE studies has grown from 200 in 1994 to over 600 in the year 2000. where this last focuses on empirical applications of transaction cost economics to marketing—agree. transaction cost economics. Econometric refinements. Bruce Lyons (1996).29 participation by government agencies in industry’ (1995. ‘this empirical work is in much better shape than much of the empirical work in industrial organization generally’ (Joskow 1991. Not only are there few empirical tests of agency theory. moreover. Keith Crocker and Scott Masten (1996) and Aric Rindfleisch and Jan Heide (1997). It is furthermore noteworthy that those who have done this empirical TCE work have often collected original data specifically attuned to the microanalytic phenomena in question. The theoretical TCE and agency theory literatures both took shape in the 1970s and both have undergone refinements since. I have no hesitation. xi). p. xi). like everything else. however. are being introduced as this work has progressed.
But the unit of analysis for TCE is the transaction. Conclusions TCE aspires to be both a ‘rational spirit’ and a ‘Carnegie spirit’ construction. all of which are flawed and need to be examined comparatively. Economizing on transaction costs is on the rational spirit side of the ledger. TCE moves to a more microanalytic unit of analysis. to which the lessons of organization theory apply. 16 5. it yields numerous refutable implications on a . rather than the decision premise or the routine. Such comparative institutional analysis invites the description of alternative modes of governance not in technological but in organizational terms. Carnegie has had a powerful influence on TCE efforts to understand nonstandard structures and practices for which orthodoxy was poorly suited (Coase 1972). Furthermore. For one thing. Although TCE does not attempt to implement the program described by Simon. But for this empirical research. It deals always and everywhere with feasible modes of organization. It is another to tell economists something different and consequential about phenomena that are of interest to them. also supports the idea of efficient alignment (as does weak form selection). yet that is demanding work—for which TCE empirical researchers deserve enormous credit. like Carnegie. Also. the latter will get their attention. TCE would merely join the list of plausible but conjectural theories of firm and market organization. Economists being very pragmatic people. Given the limits of legal centralism. TCE eschews hypothetical ideals in favor of feasible alternatives.30 Progress in science is normally attended by the collection of new and original data (Kuhn 1970). TCE subscribes to bounded rationality whence focuses on incomplete contracting. I would nevertheless describe it as an empirically based microeconomics. much of the action resides in the mechanisms of private ordering. and related. It is one thing to tell economists that their framework is self-limiting. sometimes buttressed by learning from own-experience and that of others. Feasible foresight. Also. TCE addresses itself to many of the long-standing puzzles of orthodoxy.
I am confident that those who have been working the transaction cost economics domain will continue their ‘modest. definitive’ efforts—piling block upon block until the value added cannot be denied. molecular.31 wide range of real-world issues. . the data have been generally corroborative. slow.
Suffice it to observe here that four of the central ideas of the ‘Carnegie tradition’—bounded rationality. pp. rule-based action and organizational learning—have been important to modern economic thinking about the firm. intra-firm conflict and strategic action. starts from the existence of firms’ (Arrow 1999. vis-à-vis transaction cost economics. This paper has benefitted from the helpful remarks of James March and Mie Augier. All four are featured prominently by Cyert and March (1963). Kaiser Professor of Business Administration. ‘Any standard economic theory. 89-90) and presumably reflect his assessment of the way in which mathematical social science has taken shape over the period 1957 to 1997. Professor of Economics. 1. is dealt with only in part and often only in passing. in which A Behavioral Theory of the Firm (Cyert and March 1963) played a central role. for which I am grateful. not just neoclassical. Merton Miller (1990) and Robert Lucas (1995) for work they did while on the faculty at GSIA.Footnotes *The author is Edgar F. These views differ from those he took much earlier (Simon 1957. Of these four. To address this larger project would require a much longer and more ambitious paper. The Carnegie Foundation study was done by Franklin Pierson (1959). 5. Nobel Prizes in Economic Science were awarded to Herbert Simon (1978). Although economics is an expansive enterprise. . vii). Berkeley. 4. It will not go unnoticed that the paper deals almost entirely with Simon. Franco Modigliani (1985). The larger Carnegie project. 2. and Professor of Law at the University of California. 3. p. See the exchange between Richard Posner (1993) and myself (1993) on this issue. transaction cost economics works principally off of the first two (but concedes merit to all (Williamson 1999)). The Ford Foundation study was done by Robert Aaron Gordon and James Howell (1959).
Whereas Simon has given prominent attention to the size distribution of firms (Simon and Bonini 1959. 734) are dispositive. Recall that cooperation is one of the two chief advantages that Simon ascribes to organizations in relation to markets (1997. short-cut forms of analysis can be and are sometimes used uncritically. but both Aumann and Arrow are thoughtful students of economic organization. 11. pp.’ 9. 37-39. Learning through experience and imitation are also relevant. anthropology.2 6. see Williamson (2000). As between the two. p. and the psychology of . TCE has been concerned with the boundary of the firm. it is the ‘capacity to simulate the future in imagination…[that saves] us from the worst consequences of the blind replicators’ (1976. boundary issues are closer to the subject of firm structure. whence there is a need to delimit the use of such methods to the ‘appropriate subset. Both are interesting questions. Neither Aumann’s (1985) negative assessment of satisficing nor Arrow’s judgment that TCE has made headway where the Simon agenda and older-style institutional economics did not (1987. 270-272). For a broader discussion of close reasoning. 1996. pp. 12. To be sure. 10. 49). is a chronic hazard. my efforts to curtail the excesses of calculativeness to which zealous economic reasoning leads have mainly been limited to ‘the economics of atmosphere’ (Williamson 1975. Richard Pipes holds that ‘the very principles of Communism violated everything that we have learned from sociobiology. Both benefit from a reflective rather than myopic interpretation of events. Ijiri and Simon 1977). 8. pp. Both work well in some circumstances but break down in others. 140-141). 14. 200). As matters stand presently. 79. Interestingly. See Tjalling Koopmans (1957. p. Overuse of maximizing. 7. p. As Richard Dawkins observes. like overuse of natural selection. 13.
15. . there is a need to sort the sheep from the goats. 36). the building blocks of every social order”. There being many plausible theories. p. That is accomplished by asking each candidate theory to advance refutable implications and ascertain whether the data are corroborative or not. whereupon he focuses on ‘the abolition of private property…[as] the quintessence of [the] movement’ (1996.3 human nature. Michael Whinston made similar observations in comparing TCE with the ‘property rights theory of the firm’ (2000). 16. Theories that cannot pass this test are eventually relegated to the history of economic thought.
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