Referee report A Theory of firm scope
Take for instance the scope of the traditional model on issues concerning integration of firms. In the traditional model, benefits in terms of decision making and other rights are transferred directly to the party that receives ownership of the assets (Dow, Hillard, 2002). Questions then arise, what of integrated firms where decision making is delegated to members who wield little ownership stakes like chief executive officers Concerning relationship based investments do the stipulations of traditional model suffice when the investing firms are integrated as they do for sole proprietorships
To answer these questions, Hart and Holstrom propose a model where contracts, especially of the incomplete type that are common in todays economic dealings, dictate activities of two parallel firms with reciprocal externalities (Hart, Holstrom, 2008). In the simplest model the firms are faced with a binary decision whose outcome may result in two gross scenarios, coordination or non coordination. The decisions in this model are ex ante non contractible in keeping with current literature. In subsequent models Hart and Holstrom introduce new conditions in an attempt to widen the scope of their theory. They include the possibility of rights being traded post ante, behavioral aspects of decisions on firms activities and the uniqueness that delegating brings to firms (Hart, Holstrom, 2008).
The central premise of the models chosen lies in their definition of benefits both as profits that according to traditional property rights model, can be shared thus acting as incentives and non transferable benefits like worker satisfaction (Hart, Holstrom, 2008). With the aid of two dimensional forms, x and y plots of these benefits, the authors answer questions that they had raised earlier. Coordination following integration was found to increase profits at the expense of non transferable benefits while non coordination had an effect somewhat paradoxical to coordination as it emphasized on both benefits but offered less in terms of coordination (Hart, Holstrom, 2008. Hart and Holstrom found delegation to be a form of incentive reliant on behavioral aspects and thus fronted delegation as a solution that exploits the benefits of both integration and non integration (2008).
Harts and Holstroms assumptions in this paper are economically sound. Their assumption on the negative impact that coordination has on nontransferable benefits is supported in fact by the study of behavioral economics which explains the behavior of individuals in economic activities (). The authors also consider the possibility of trading of property rights post ante to allow for the more probable scenarios that occur when decisions are ex ante non contractible (Hart, Moore, 2008). Their assumption that workers are concerned with managers while mangers of integrated firms focus on the profitability of the group in entirety, thus resulting in possible detrimental favoritism is supported by recent literature(). In addition, the consideration of economic perspectives on the characteristics of mankind and the role that market forces in play in capitalism, lays credence to their assumption that firm boundaries are affected by nontransferable worker benefits such as professional development (Perlman, 1996).
In keeping with elementary forms of representing relationships in economics, Hart and
Holstrom have enabled analysis of the mathematical equations employed in elaborating their theory. Subsequently, the results of the equations were also tastefully combined with explanatory text thus enabling the reader follow through their logic with much ease even if the readers have an economically young mind (Kruger, 1997). The topic of interest is drawn from micro economics and particularly deals with the very gist of this branch of economics as it focuses on the primary unit i.e. firm and individuals, by offering knowledge that may be of use in guiding microeconomic activities and in dealing with negatives such as transitional costs (Dow, Hillard, 2002). The paper seeks to build on a common approach to firm boundaries and property rights by introducing a dimension that was largely ignored thus presenting new possibilities and at the same time increasing its chances of acceptance (Kruger, 1997).
In section five of the paper the authors apply their models on Cisco, an information technology firm that undertook numerous mergers and acquisitions in the mid to late nineties and thus emerged as a leader in networking. The application of the models is satisfactory in this case but falls short in some areas (Hart, Holstrom, 2008). For instance, economic globalization is a reality that has failed to feature in the models proposed (Kruger, 1997). The acquisitions of Cisco occur in the same locality thus ignoring the impacts globalization has on nontransferable benefits like wages (Kruger, 1997). Based on their theory this aspect deserves some mention as it touches on prime aspects of the theory as they have argued that such non transferable benefits influence property rights and firm boundaries ( Kruger,1997, Hart, Holstrom, 2008).
The authors admiringly recognize the constraints fronted by their models. The two forms of firm organization that they choose, a firm with an owner as the manager and vis- a -vis another firm that has managers as unit owners operating under a professional owner manger, offer certain benefits to their theory thus explaining their choice (Hart, Holstrom, 2008). The authors should also include models which are consistent with organizational models commonly found today as noted by Stigler who recognized the immense influence that prevailing political environment plays in the development of economic theory (Stigler, Leube, Moore, 1986). One such model that the authors should consider is the area of consortium deals. These types of deals involve integrated firms that engage as a unit with other integrated firms to form an integrated firm so as to execute a given economic activity. It would be interesting to find out how leadership platforms are created in such instances and the effect of non transferable benefits on the boundaries of such firms (Hart, Holstrom, 2008).
Hart and Holstrom have managed to achieve balance on the expository needs of A theory of firm scope. They have clearly shown that the paper is part of current literature by highlighting work done by their peers. They have successfully presented their paper as an extension of work that has been done as concerns various disciplines of economics. For instance, the paper is supportive of property rights models that emphasize the behavioral economic notion of hold ups as being one of the negatives in integration of firms while exploiting the opportunity by introducing a newer concept of nontransferable benefits (Hart, Holstrom, 2008). They also recognize the role that incentives may play in deterring the effects of integration, as per current literature, but propose that their model is ideal as it offers a range of new possibilities that can be explored including enabling economists prod delegation (Hart, Holstrom, 2008).
The language and grammar application in the paper are up to desired standards but the flow is inhibited by the structure of the paper. The authors should endeavor to clearly illuminate the different sections of the paper as some parts like the discussion of their models are difficult to pick out. The application of different typesets would ensure this is achieved. For instance it is visually difficult to alienate the six sections of the paper as typesets of the headings introducing each section are almost similar to size and character to those introducing other aspects like the prepositions of the paper. Errors in typos, to their credit, are absent.