Organizational Economics

The NBER's Working Group on Organizational Economics met in Cambridge on November 17-18. Working Group Director Robert Gibbons of MIT organized the meeting. These researchers' papers were presented and discussed:

Nicholas Bloom, Stanford University and NBER; Aprajit Mahajan, the University of California at Berkeley and NBER; David McKenzie, the World Bank; and John Roberts, Stanford University

Do Management Improvements Persist? Evidence from India

Some eight years ago Bloom, Mahajan, McKenzie, and Roberts conducted a CRT with improving management practices in a sample of Indian weaving firms by employing Accenture to provide consulting (Bloom et al, QJE 2013). The intervention changed management practice and improved performance significantly on several dimensions. Profits on average essentially doubled. But the common wisdom in consulting is that such interventions rarely last three years. So Bloom, Mahajan, McKenzie, and Roberts employed the same team from Accenture to return to the subject firms, both treatment and control. Contrary to the researchers expectations, there was real persistence, especially among practices that were relatively widespread before the intervention (but not adopted already in the subject plant). There was significant diffusion of practices from treatment plants to other plants in the same firm, and a limited amount between firms.

Camelia M Kuhnen,the University of North Carolina at Chapel Hill and NBER, and Saravanan Kesavan, the University of North Carolina at Chapel Hill

Demand Fluctuations, Precarious Incomes, and Employee Turnover

Millions of employees face work schedules and wages that change frequently as firms try to match labor to demand. Here, Kuhnen and Kesavan use personnel records from the retail industry to examine whether workers' income precariousness impacts firm performance. The researchers find that lower income levels and higher income volatility increase employee turnover, without improving revenues. These effects are not driven by employee ability. Using exogenous changes in customer traffic as instruments for employees' income level and volatility, Kuhnen and Kesavan show that these results have a causal nature. Hence, firm efforts to optimally deploy labor need to account for employees' response to precarious wages.

Michael Waldman, Cornell University, and Xin Jin, the University of South Florida

Lateral Moves, Promotions, and Task-Specific Human Capital: Theory and Evidence

Waldman and Jin study the link between lateral mobility and promotions. The first part of the paper extends the theoretical literature by incorporating lateral moves, i.e., moves between jobs at the same job level, into a job assignment model with task-specific human capital accumulation. Lateral moves help workers acquire different types of task skills so that, if upper level jobs use task skills from multiple lower level jobs, then a laterally moved worker will become more productive after a promotion. The model thus predicts that workers who are laterally moved in one period are more likely to be subsequently promoted and experience high wage growth compared to workers who are not laterally moved. In addition, workers with very high levels of education are less likely to be laterally moved compared to workers with lower levels of education. Waldman and Jin test the model's predictions using a large employer-employee linked panel dataset on senior managers in a sample of large US firms during the period 1981 to 1985. The researchers' findings support the theoretical predictions and show the importance of lateral mobility in wage and promotion dynamics.

Drew Fudenberg, Harvard University, and Luis Rayo, the University of Utah

Training and Effort Dynamics in Apprenticeship

A principal specifies time paths of knowledge transfer, effort provision, and task allocation for a cash-constrained apprentice, who is free to walk away at any time. In the optimal contract the apprentice pays for training by working for low or no wages and by working inefficiently hard. The apprentice can work on both knowledge-complementary and knowledge-independent tasks. Fudenberg and Rayo study how the nature of the production technology influences the length of the optimal contract and its mix of effort types, and discuss the effect of regulatory limits on how hard the apprentice can work and how long the apprenticeship can last.

Tianjiao Dai and Juuso Toikka, MIT

Robust Incentives for Teams

Dai and Toikka consider team incentive schemes that are robust to nonquantifiable uncertainty about the game played by the agents. A principal designs a contract for a team of agents, each taking an unobservable action that jointly determine a stochastic contractible outcome. The game is common knowledge among the agents, but the principal only knows some of the available action profiles. Realizing that the game may be bigger than he thinks, the principal evaluates contracts based on their guaranteed performance across all games consistent with his knowledge. All parties are risk neutral and the agents are protected by limited liability. A contract is said to align the agents' interests if each agent's compensation covaries positively and linearly with the other agents' compensation. It is shown that contracts that fail to do so are dominated by those that do, both in terms of the surplus guarantee under budget balance, and in terms of the principal's profit guarantee when he is the residual claimant. It thus suffices to base compensation on a one-dimensional aggregate even if richer outcome measures are available. The best guarantee for either objective is achieved by a contract linear in the monetary value of the outcome. This provides a foundation for practices such as team-based pay and profit-sharing in partnership.

Tarek F. Ghani, Washington University in St Louis, and Tristan Reed, the University of Chicago

Relationships, Risk and Rents: Evidence from a Market for Ice

Firms frequently engage in repeated trade despite the availability of alternative business partners. A large literature shows how such relationships affect market outcomes, but less is known about how changes in market structure affect these relationships. Ghani and Reed study a market for an intermediate input -- ice -- in which customers -- fishermen -- are regularly loyal to retailers, who prioritize loyal customers for deliveries when supply from a monopolist manufacturer is scarce. When entry of additional manufacturers reduces supply risk, retailers can no longer extract loyalty in exchange for informal insurance, and switching between customers and retailers becomes more common. Retailers respond by expanding trade credit to customers, particularly previously loyal ones. Ghani and Reed interpret this as evidence that supply risk and demand volatility can contribute to loyalty in relationships, particularly in developing countries. Further, the researchers show that entry into ice manufacturing leads to substantial improvements in fishermen's productivity and reductions in the consumer price of fish, indicating that increased upstream competition in low income economies can lead to improvements in downstream productivity and welfare.

Wouter Dessein and Andrea Prat, Columbia University

Organizational Capital, Corporate Leadership, and Firm Dynamics

Dessein and Prat argue that economists have studied the role of management from three perspectives: contingency theory (CT), an organization-centric empirical approach (OC), and a leader-centric empirical approach (LC). To reconcile these three perspectives, the researchers augment a standard dynamic firm model with organizational capital, an intangible, slow-moving, productive asset that can only be produced with the direct input of the firm's leadership and that is subject to an agency problem. Dessein and Prat characterize the steady state of an economy with imperfect governance, and show that it rationalizes key findings of CT, OC, and LC, as well as generating a number of new predictions on performance, management practices, CEO behavior, CEO compensation, and governance.

Robert S. Gibbons, and Marco LiCalzi and Massimo Warglien, Ca' Foscari University of Venice

What Situation is This? Coarse Cognition and Behavior over a Space of Games

Gibbons, LiCalzi, and Warglien study strategic interaction between agents who distill the complex world around them into simpler situations. Assuming agents share the same cognitive frame, the researchers show how the frame affects equilibrium outcomes. In one-shot and repeated interactions, the frame causes agents to be either better or worse off than if they could perceive the environment in full detail: it creates a fog of cooperation or a fog of conflict. In repeated interaction, the frame is as important as agents' patience in determining the set of equilibria: for a fixed discount factor, when all agents coordinate on what they perceive as the best equilibrium, there remain significant performance differences across dyads with different frames. Finally, Gibbons, LiCalzi, and Warglien analyze some tensions between incremental versus radical changes in the cognitive frame.

Eliza Forsythe, the University of Illinois-Urbana

Occupational Job Ladders and the Efficient Reallocation of Displaced Workers

Forsythe investigates how movements up and down an occupational job ladder lead to earnings gains and losses for both displaced and non-displaced workers. They find both types of workers exhibit similar rates of upward and downward mobility, and relative occupational wages before mobility strongly predict the direction of mobility. Forsythe argues these patterns indicate that occupational sorting after displacement is efficient, nonetheless, displaced workers earn 9% less per hour than non-displaced workers who make occupational changes of the same magnitude. After evaluating a variety of alternative mechanisms, they conclude sorting to lower-paying firms is likely the primary driver of these comparative wage losses for displaced workers. Such losses constitute a reallocation of rents rather than a distortion in the assignment process, which has direct policy implications.

Guido Friebel and Nick Zubanov, Goethe University Frankfurt, and Matthias Heinz, the University of Cologne

Making Managers Matter

In a field experiment, top management of a retail chain (238 stores, 7,700 employees) communicated to managers in a treatment group of stores about high rates of personnel turnover. Treated store managers were asked "to do what they can" to bring turnover down, leading to quit rates decreases by up to a third, for a period of nine months (compared to the control group). The effect vanished afterwards, but a reminder treatment with a similar communication led to another, albeit less long-lived quit rate decrease in the same order of magnitude. Through numerous surveys throughout the hierarchy, Friebel, Heinz, and Zubanov identify the mechanisms: treated managers shift their time use toward HR activities, and interact more frequently with their employees. Employees report more managerial attention and support. The researchers thus provide causal evidence for the importance of face-to-face communication.

David C. Chan, Jr, Stanford University and NBER, and Michael J. Dickstein, New York University and NBER

Price-setting by Committee: Evidence from Medicare

A committee of physicians sets prices for physician services in Medicare. Using novel data from the price-setting process, Chan and Dickstein first investigate whether affiliation with specialties represented on the RUC leads to biased prices. Increasing affiliation by one standard deviation increases prices by 10%. Equalizing affiliation would reallocate roughly $1.9 billion in annual Medicare spending across services. The researchers then evaluate the effect of affiliation on information extraction. They find that less affiliated proposals produce more hard information, measured as better survey data. But more affiliated proposals result in prices that are more closely followed by private insurers, suggesting that affiliation increases total (hard and soft) information.

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