Sunday, 26 January 2014

How not to think about the firm 2

In a previous post on How not to think about the firm I briefly commented on a post at the Fresh economic thinking blog by economist Cameron K Murray on Time for a new theory of the firm. In the comments section to my post Cameron has kindly left the following message,
Hi Paul, I'm glad you've contributed to the discussion, and congrats on yours Surveys publication (which is actually quite a good read).

I must note that perhaps you've missed the point here. Neoclassical theory still dominates the analysis of firm production decisions, even if it leaves the internal organisation questions unanswered. Our theory improves on this by adding the existence of economies of scale as a necessary condition for production to even take place. This suggests a reason for firm existence considering that economies of scale tend not to be the preserve of a sole trader or even small business.

Indeed, one could argue that the reduction in transaction costs arising from being within the boundary of a single firm is part of the economies of scale. We don’t rule out incomplete contracts or any type of transaction cost. But of course that is not the focus of the paper.

I plan to expand on many of the points I made in the blog post in the coming weeks, and I'd appreciate any comments/feedback given your expertise in this are in general.
I think part of the different views here goes back to the point I made about the change in the questions asked by the theory of the firm in the last 30-40 years. To a large degree today's theory of the firms doesn't ask about a firm's production decisions (however a number of people are trying to include such ideas within the contemporary framework). As I have said elsewhere,
What we have seen since the 1970s is a movement away from the theory of the firm being seen as developing a component of price theory, namely the component which asks, How does the firm act in factor and product markets?, to the theory being concerned with the firm as a subject in its own right.
This, I think, means that Cameron's problems sits a bit outside the modern theory of the firm.

A second point here would go back to my zero transaction cost comment. In such a world any economies of scale can be achieved without the use of a firm. In a world of zero transaction costs any institutional arrangement can mimic any other institutional arrangement. So even if there are economies of scale a firm is not necessary to take advantage of them.

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