A dynamic characterization of efficiency

Abstract

Abstract The definition and measurement of dynamic economic performance has been addressed obliquely in the literature with the notions of scope economies and capacity utilization measures, but little work has focused on develop the static theory analogs of efficiency measures into the dynamic context. This paper is an attempt to identify some of the conceptual and methodological issues to be addressed. A model allowing for dynamic production decisions in the face of inefficiency is presented to illustrate some of the issues and the extensions necessary to identify truly dynamic performance measures. Keywords: (ProQuest: ... denotes formulae omitted.) Introduction The issue of dynamic efficiency is an important component in assessing capital accumulation patterns and growth. Early characterizations of efficiency over time focus on how the capital stock relates to the Golden Rule level (Phelps, 1961; Diamond, 1965). Others focus on how the presence of dynamic efficiency facilitates intergenerational transfer of assets (Weil, 1987) and can eliminate the prospect of speculative bubbles (Tirole, 1985). Abel et al. (1989) investigate if capital accumulation levels of OECD economies operate above or below Golden Rule levels. Most of these studies have a distinctly macroeconomic policy orientation. However, the extent of inefficient behavior in the management of dynamic assets at the firm level has not been clearly characterized or modeled. The determination of efficient behavior discussed here is temporal in nature by describing the degree of efficiency of the firm at a particular point of its adjustment path. The firm's optimal adjustment path over time and the steady-state may vary with temporal efficiency. This paper initiates a discussion of conceptual and methodological issues revolving around the measurement of economic performance when firm make decisions linked over time. A model allowing for dynamic production decisions in the face of inefficiency is presented to illustrate some of the issues and the extensions necessary to identify truly dynamic performance measures. Conceptual issues When addressing the dynamic efficiency we need to distinguish between a) tracking efficiency over time (which involves modeling exogenous versus endogenous forces and the impact of covariates/environmental variables on econ performance), and b) persistence which involves identifying the contributions of structural (deterministic) sources and the stochastic sources. The sources of economic dynamics are: * economic forces (for example, adjustment cost and financial constraint models), * technological characteristics (for example, physical/biological nature of production, and vintage investment/stock nonconvexities like we see with lumpy investment), and * cognitive capacity. To date, our models do not separate our these forces, and thus, can confound the results reported in the literature. The economic forces can relate largely to adjustment processes which has been classically presented in the literature as a dichotomy between the short and long runs. The distinction between the short and long run becomes a prime consideration in determining the appropriate time scale of economic decision making strategies. These strategies focus on the choice of production factors assumed to be fixed when factor allocation decisions are to be made. All economic activity occurs in the short-run to the extent a factor (or factors) of production are taken as fixed. The long run refers to the firm planning ahead to select a future short-run production situation. The problem with the classical description of the short- and long-run is that the story of the envelope curve is not entirely consistent with the story motivating the distinction between the short and long run.1 The long run consists of a range of possible short run situations available to the firm. …