Econ 508 Presentation Federalism and the Mform Hypothesis

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Econ 508 PresentationFederalism and the M-form
Hypothesis

• How the Study of Comparative Economic Systems
  Relates to the Corporate Sector
• by Matt Holian Aug 6, 2007

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A central theoretical question is how
organization makes a difference to economic
performance. -- Maskin, Qian and
XuOrganizing an economy in order to best get
information is just as relevant in centrally
planned economies as it is in private
firms. -- Belton Fleisher (from F.
Hayek)I will discuss some of the similarities
between firms and economies from an
organizational perspective. Organizational
problems are pervasive and they all share some
common features.
Motivation
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Outline

• Taxonomy of corporate structures (U-form, M-form
  and H-form)
• The M-form Hypothesis
• What is behind the M-form Hypothesis?
• Part I - motivating employees
• Example USSR and China
• What is behind the M-form Hypothesis?
• Part II optimal decentralization
• Example The U.S. Federal System
• Conclusion

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I. Taxonomy of corporate structures (M-form,
H-form and U-form)
U-form one organization, made up of a
collection of different functions, no one of
which can conduct business separately. H-form
a collection of many different unrelated U-form
organizations. M-form a collection of many
different related U-form organizations.

of organizations
U - - - - - M - - - - - H
related unrelated
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Examples of M-form and U-form

• A classic example of the U-form was the Ford
  Motor Company before the Second World War. In
  those days, Ford was organized into a number of
  functionally specialized departments production,
  sales, purchasing, and so on. In other words,
  the various departments carried out complementary
  tasks none was independent of the others. By
  contrast, General Motors under Alfred Sloan
  became the prototypical M-form GM comprised (and
  still comprises) a collection of fairly
  self-contained divisions, e.g. Chevrolet,
  Pontiac, and Oldsmobile
• - Maskin et. al (p. 360)
• Today, Ford also owns Lincoln, Lincoln, Mercury,
  Mazda, Volvo, Jaguar, and Land Rover.

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II. The M-form Hypothesis

• the organizational and operation of the large
  enterprise along the lines of the M-form favors
  goal pursuit and least cost behavior more nearly
  associated with the neoclassical profit
  maximization hypothesis than does the U-form
  organizational alternative.
• - Williamson, p. 134
• Williamsons contention was that all firms would
  have to become M-form if they grew large in order
  to allow the manager to efficiently use
  information.

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III. Whats behind the M-form Hypothesis? Part I

• Maskin et. al formalize Williamsons theory.
  They explain how having better access to
  information enables organizations to reward
  employees for effort by using performance
  incentives.
• This in turn enables organizations to increase
  productivity. This idea is related to a bigger
  theme we explored this quarter providing good
  incentives.

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• IV. Example U.S.S.R. vs China
• Maskin et. al frame the discussion in terms of
  the organization of the former USSR and China
  since 1970s.
• Russia was a U-form
• (managers had control over industries)
• China is an M-form
• (control over geographic regions)

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V. Whats behind the M-form Hypothesis? Part II

• corporate managers must strike a careful
  balance in an M-form. On the one hand, they must
  encourage competition between divisions for
  capital and recognition. On the other hand, they
  must encourage cooperation in those areas where
  synergies exist between divisions in order to
  obtain higher overall levels of performance.
  M-forms that are able to strike this balance will
  outperform both large U-forms and all H-forms.
  This, in a nutshell, is Williamsons M-form
  Hypothesis.
• - Barney and Ouchi
• So in addition to being able to use performance
  incentives (the forces of competition) better
  than U-forms, M-forms can partially centralize
  some activities in order to use the forces of
  cooperation, as well.

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VI. Example The U.S. Federal System

• federation designers must strike a careful
  balance in an M-form. On the one hand, they must
  encourage competition between cities for
  residents and recognition. On the other hand,
  they must encourage cooperation in public goods
  areas where synergies exist between cities in
  order to obtain higher overall levels of
  performance. M-forms that are able to strike
  this balance will outperform both large U-forms
  and all H-forms.
• (words in italics replace the original quotation)
• The upshot of the 1972 Oates theorem is that
  lower levels of government should have authority
  when spillovers in public good provision are few,
  but higher levels of government should have
  authority over those public goods that have big
  spillovers, (with common preferences and scale
  economies.)

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VII. Conclusion

• As we have seen, many issues, such as rewarding
  employees for effort, and harnessing the forces
  of cooperation as well as competition, are
  present in very different types of organizations.
• References
• Barney, Jay B. and Ouchi, William G.
  Organizational Economics
• Fleisher, Belton comment in course E508, OSU,
  winter 2006
• Maskin, Quin and Xu Incentives, Information and
  Organizational Form
• Oates, Wallace Fiscal Federalism
• Williamson, Oliver Markets and Hierarchies