Resource Allocation and Organizational Form
American Economic Journal: Microeconomics, Forthcoming
53 Pages Posted: 2 Sep 2009
Date Written: January 1, 2009
We develop a theory of firm scope and structure in which merging two firms allows the integrated firm's top management to allocate resources that are costly to trade. However, information about their use resides with division managers. We show that establishing truthful upward communication raises the cost of inducing managerial effort compared with stand-alone firms; this effect dominates a positive effect on effort driven by competition for the firm's resources. We derive predictions about optimal firm scope and structure. In particular, we show why it is optimal to separate the tasks of allocating resources and running a division.
Keywords: theory of the firm, coordination,authority, incentives, strategic information transmission,hierarchy
JEL Classification: D23, D82, L22, M52
Suggested Citation: Suggested Citation