Abstract
We survey the theoretical and empirical literature on decentralization within firms. We first discuss how the concept of incomplete contracts shapes our views about the organization of decision-making. We then overview the empirical evidence on the determinants of decentralization and on the effects of decentralization on firm performance. A number of factors highlighted in the theory are shown to be important in accounting for delegation, such as heterogeneity and congruence of preferences as proxied by trust. Empirically, competition, human capital, and IT also appear to foster decentralization. There are substantial gaps between theoretical and empirical work and we suggest avenues for future research in bridging this gap (JEL O31, O32, O33, F23).
Highlights
Grossman and Hart (1986) developed the incomplete contracts approach to analyze the costs and bene...ts of vertical integration, which could explain why ...rms have boundaries, and why not all transactions are taking place within a single ...rm
We look at decentralization within ...rms, rather than the more commonly studied issue of boundaries of the ...rm or vertical integration which was the original motivation for Grossman and Hart (1986)
We discussed how the concept of incomplete contracts shapes this organization of decision making within ...rms
Summary
Grossman and Hart (1986) developed the incomplete contracts approach to analyze the costs and bene...ts of vertical integration, which could explain why ...rms have boundaries, and why not all transactions are taking place within a single ...rm. The basic idea is that contracts cannot specify all states of nature or all actions in advance, or there are states of nature or actions which cannot be veri...ed ex post by third parties, and which are not ex ante contractible They used this approach to develop theories of ownership and vertical integration. In the second half of the paper we analyze some of the empirical literature, examining ...rst the determinants of organization (focusing on delegation/decentralization) from the perspective of the Grossman-Hart approach and its extensions, and second the e¤ects of decentralization on ...rm performance.
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