The Objectives of Organisations

1
The Objectives of Organisations
SM139

• Kevin Hinde

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What are organisations?

• Even in the most libertarian of free-market
  economies, individuals voluntarily surrender
  their freedom of action in order to form and join
  organisations.
• Bruce Lyons in Hargreaves Heap et al (1993) The
  Theory of Choice. A critical guide, Blackwell,
  London. p155.
• They transform inputs into outputs with some aim
  in mind.

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Types of organisations

• Private sector
• Small business, partnerships, cooperatives,
  Limited Companies (including large
  multinationals.
• Public sector
• Local government, Central Government, schools,
  hospitals
• Quasi-Governmental
• Regulators such as OFTEL, OFT
• Charitable Sector
• What about churches, trade unions?

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Public sector

• Public Interest Theory
• Civil Servants and politicians seen as maximisers
  of social welfare.
• acting in pursuit of the public rather than
  private interests, e.g. where markets fail.
• Civil servant seen to be trustworthy and a
  disinterested expert.

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Criticism of Public interest theory

• difficulties in defining the public interest.
• Institutions seen as political instruments
• Regulators are usually politicians or civil
  servants and critics argue that they have their
  own agendas.
• regulatory capture.
• competition for power between interest groups
  which provides the various forms of regulation.
• Alternative views
• Niskanen (1971) emphasises the propensity of
  bureaucrats to maximise agency budgets.
• Dunleavy (1991) notes how agents of regulation
  engage in bureau-shaping to create job
  satisfaction.
• Majone (1996) points out how regulators seek to
  maximise the scope of their political influence
  across activities and space

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However

• Civil servants and politicians are accountable to
  parliaments parliamentary bodies and independent
  scrutinisers
• (e.g. the National Audit Office and the Media).
• Civil servants can act in the public interest if
  appropriate incentive schemes are in place.
• the existence of a competitive managerial labour
  market as well as remuneration packages.
• There has also been a greater emphasis on
  competition in recent times, e.g privatisation,
  liberalisation, compulsory competitive tendering,
  Best Value.

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Private sector firms

• Objectives are varied but the dominant one is
  profit maximisation.
• But what is profit maximisation?
• This occurs at the output level where the
  organisation's Total revenue (TR) most greatly
  exceeds its Total Cost (TC )

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Normal profit and economic profit

• Economists definition of cost
• The opportunity cost of an input. I.e. the cost
  of putting that input to its next best
  alternative use.
• However, economists include normal profit in
  their analysis of costs.
• normal profit, i.e. a return to the investors
  /entrepreneurs that reflects the risk associated
  with their investment and which just keeps them
  from exiting that activity.
• Economic profit (Sometimes called abnormal or
  supernormal profit) is profit from market power.
  In perfect competition firms can only earn a
  normal return in the long run.

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A simple example

• Assume a linear demand and constant marginal (and
  so average) costs.
• We will use a numerical example.

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Total Revenue
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Demand and Total Revenue
TR
Graph A
9
TR
0
6
3
Q
6
D
Price
Graph B
3
AR D
0
3
6
Q
12
Marginal Revenue
TR
Graph A
TR
0
Q
P,MR
Graph B
AR D
0
Q
13
Costs and profit
TC
Graph A
TC
0
Q
MC
Graph B
MCAC
0
Q
14
Profit maximisation under perfect competition
Break even?
TR, TC
Graph A
TC
X
TR
0
Q
P,MR, MC
Graph B
Y
MCAC
AR D
0
Q
Qpc
MR
15
Profit maximisation with market power
TR,TC
C
Graph A
TC
TR
0
Q
P,MR, MC
Graph B
X
MCAC
AR D
0
Q
Qm
Qpc
MR
16
Profit maximisation with market power
TR,TC
C
Graph A
TC
TR
0
Q
P,MR, MC
Graph B
Pm
MCAC
Ppc
AR D
0
Q
Qm
Qpc
MR
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Alternatives to profit maximisation the divorce
of ownership from control

• Sales maximisation (Baumol 1959)
• Growth maximisation (Marris 1964)
• Utility maximisation (Williamson 1959)
• Satisficing (Cyert and March 1963). Emphasis on
  managers with bounded rationality.

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However, profit maximisation bounces back.

• The Firm is a legal fiction that serves as a
  nexus of contracts Jensen M. C and Meckling W. H
  (1976).
• Principal Agent analysis stresses the role of
  incentives to encourage errant managers to
  maximise profits rather than their own objectives.