Sunday, 29 May 2011

Does management matter?

A question asked by Claire Brunel in the latest NBER Digest. She writes,
Do differences in management practices cause differences in firm performance? Although economists typically have believed that competition will simply drive badly managed firms out of the market, co-authors Nicholas Bloom, Benn Eifert, Aprajit Mahajan, David McKenzie, and John Roberts find that that is not the case, at least in the Indian textile industry.

In "Does Management Matter: Evidence from India" (NBER Working Paper No. 16658), the researchers analyze the results of an experiment conducted among large multi-plant textile firms in India. A randomly chosen set of plants received free consulting on modern management practices, while other plants in the industry did not. When the authors compare the performance of the plants that received management advice with those that did not, they find that adopting the recommended management practices had three main positive effects. First, it raised average productivity by 11 percent, through improved quality and efficiency and reduced inventory. The evidence suggests that firms spread the "good management" practices from their plants that received the advice to other plants that they owned.

Second, it increased decentralization of decision making: owners delegated more power over hiring, investment, and pay to their plant managers. This happened in large part because the improved collection and dissemination of information that was part of the change in management process enabled owners to monitor their plant managers better, making them feel more comfortable with delegating.

Third, it increased the use of computers, which were necessitated by the data collection and analysis that are involved in modern management. Increased computerization, in turn, raised the demand for educated employees.

Because these practices were profitable, the authors ponder why firms had not adopted them before. They find that informational barriers were a primary factor in explaining this lack of adoption. Firms were often not aware of the existence of many modern management practices, such as inventory norms and standard operating procedures, nor did they appreciate how these could improve performance.

Moreover, it appears that firms that are poorly managed are not rapidly driven from the Indian textile market. Indeed, competition is limited by constraints on firm entry and growth. Tariff protectionism prevents entry of foreign competition which would force domestic firms to adopt more efficient practices. And, trust issues prevent delegating, thereby limiting how much additional productivity better management technology can generate from a single manager.
A couple of things seem interesting here: one being that the reason for non-adoption of profitable management practices was asymmetric information. Firms were not aware of modern management practices. What then is the standard of management training in India? Surely any decent management programme would teach the "best practice" methods of management. The second point is the effects of tariff protection which keeps out foreign competition which would force the local companies to upgrade their management thinking. This is something not normally thought about when considering the downside of trade barriers.

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