The Vanishing Hand: The Changing Dynamics of Industrial Capitalism

Abstract:     
In a series of classic works, most notably The Visible Hand (1977) and Scale and Scope (1990), Alfred Chandler focused the spotlight on the large, vertically integrated corporation, which emerged in the late nineteenth century to replace what had been a fragmented and localized structure of production and distribution. In Chandler's account, the driving force behind the transformation was increased population and higher per-capita income, combined with lowered transportation and communications costs made possible by the spread of the railroad and telegraph. Adam Smith had predicted an increasingly fine division of labor as the response to a growing extent of the market; and, although he was actually quite vague on the organizational consequences of the division of labor, Smith was clear in his insistence on the power of the invisible hand of markets to coordinate economic activity. Chandler's account challenges this prediction: internal or managerial coordination became necessary to coordinate the "new economy" of the late nineteenth and early twentieth centuries, and the visible hand of managerial coordination replaced the invisible hand of the market.

Many would argue that the late twentieth (and now early twenty-first) centuries are witnessing a revolution at least as important as the one Chandler described. Population and income are again a driving force, but the railroad and telegraph have been replaced by the computer, telecommunications technology, and the Internet. In this epoch, Smithian forces may be outpacing Chandlerian ones. Management retains important functions, of course, including some of the same ones Chandler described. But as the central mechanism for coordinating high-throughput production, the visible hand - many would argue - is fading into a ghostly translucence.

This paper is a preliminary attempt to explain why this is so - to provide some theoretical insight into the organizational structure of the new economy. The basic argument "the vanishing-hand hypothesis" is as follows. Driven by increases in population and income and by the reduction of technological and legal barriers to trade, the Smithian process of the division of labor always tends to lead to finer specialization of function and increased coordination through markets. But the components of that process - technology, organization, and institutions - change at different rates. The managerial revolution Chandler chronicles was the result of such an imbalance, in this case between the coordination needs of high-throughput technologies and the abilities of contemporary markets and contemporary technologies of coordination to meet those needs. With further growth in the extent of the market and improvements in the technology of coordination, the central management of vertically integrated production stages is increasingly succumbing to the forces of specialization.

Keywords: New Economy, Mangerial Revolution, vertical integration, Internet, transaction costs, flexible specialization, subcontracting, division of labor, outsourcing

JEL Classifications: L2, L6, N82

Working Paper Series