Question

What is the justification for firm organization according to Coase? What was the criticism that Simon had with Coase and neoclassical theory in general?

Answer 1

In economics firm are characterized by production function, cost curves , demand curves etc. Firms transfer inputs to outputs. A firm consist of employers and employees.

According to coase observation, There are cost known as " marketing cost " which are to use the price mechanism for coordinating economic activity. Hence given this an alternative institutional measure may coordinate economic activity at a lower cost.

The theory is based on a concept that firms exist to economize on the cost of coordinating economic activity. Also the firms are to be considered with the absence of the price mechanism.

This theory is a transaction based theory. If it is more efficient for a transaction to be conducted under alternative institutions. than it is supposed that the price mechanism will not work. This concept is applied to institutions. Institution arise in order to economize on transaction cost.

Hence , if its clear that it is more efficient for a transaction to take place within the firm than under the institutional arrangement, then the first priority would be the firm. If not, then it would take place in another firm, or a firm mediated by the market.

For instance we can take an example where we can form a coaseian explanation. Lets talk about two big firmsa;- Disney and ABC. Now lets say that we will compare the cost of coordinating the economic activity both at perticular levels and when they both are together. We would find that the cost of coordinating the economic activity within Disney and ABC seperately was higher than the cost of doing so together where we have assumed that the work is done under the direction of Disney. Also we find that it is less costlier to do everything that Disney does managing by fiat than mediated through the price mechanism. The scope of the firm is limited because the marginal cost is rising and also there are decreasing returns of managerial ability.

Drawbacks of the Coase's theory

(1) Firstly under the coase theory it is not clear that that whether salesman selling products for a firm are to be conidered the employees for that firm or they are independant contractors working for themselves.

(2) In the soviet union, the capital was often alloacted across firms by the goverment. So were the individuals productive enterprises firms.

(3) Do the secretaries and receptionist work for a firm or they are independant workers.

(4) Movie theaters chains and distributors are often under the firm name but when movies are released they are offered to exhibitors on a non discriminatory basis.

Hence coase theory could'nt explain these listed things clearly.