Environmental Uncertainty and IT Governance: A Moral Hazard Perspective

Abstract

Prior research considers the IT governance decision to be a trade-off between the cost-efficiency of centralized information processing, and the responsiveness provided by local information processing. Environmental uncertainty plays a major role in this trade-off. In uncertain environments, the need for local information processing dominates the cost-efficiency available from centralization, leading to decentralization in IT governance. This view of the impact of environmental uncertainty on IT governance, however, overlooks the presence of the moral hazard associated with local decisions. Using a moral hazard model, this paper shows that while environmental uncertainty makes decentralization more valuable by enhancing responsiveness to local information; decentralization also exaggerates the moral hazard problem, as it is hard for headquarters to monitor business units' decisions. By considering the presence of this moral hazard, we show that there exists an inverted-U-shaped relationship between environmental uncertainty and decentralization in IT governance. When the information asymmetry between the headquarters and the business unit is high, increase in environmental uncertainty first increases and then decreases the likelihood of adopting decentralized IT governance. We validate our analytical results using a sample of business units of Fortune 1000 companies. The empirical analysis provides evidence of an inverted-U-shaped relationship between environmental uncertainty and decentralization in IT governance. Moreover, the distance between business units and their headquarters moderates the relationship between environmental uncertainty and decentralization in IT governance.