ECON5323 Organisational Economics
Organisational structure
, Recap
• So far, three overarching themes
1. How incentives work in a short-term horizon world
• i.e. how to design compensation schemes for workers where the
main problem is that effort is “unpleasant” (moral hazard)
2. How incentives work in a long-term horizon world
• i.e. how to manage careers for workers who find effort unpleasant,
but with whom the relationship lasts over time, and so the range of
possible incentive schemes (as well as what the employer might
want the worker to do) is different
• here we have also introduced the idea of heterogeneity of type into
our models: some workers were “good” and some workers were “bad”
3. How to choose the “right” people
• i.e. how to screen workers and allocate them to jobs (using the
heterogeneity introduced before)
• Today: How to choose the “right” organisational structure/form
, Organisational structure
• The main question we will be addressing concerns how top-down or
dispersed decision-making power is
• On what criteria should we evaluate which is “better”?
• Many possible candidates
• We will focus on one: how good the organisation is at putting into action
good ideas (and how that changes depending on whether power is
concentrated or dispersed)
• What makes a good idea?
1. Model 1: the principal and the agent have conflicting interests and may
disagree about what makes a good idea
2. Model 2: everyone in the organisation agrees on what makes a good
idea, but each of us can make mistakes
, Model 1: Authority and conflicting interests
• There is a principal and an agent, each of which can produce an idea
• When the agent exerts effort 𝑒, he produces an idea with probability 𝑒 and
!
at a personal cost of " 𝑒 "
• The principal always produces an idea with constant probability E
• We are assuming perfect motivation on the part of the principal (e.g. he is
the owner of the firm, so the magnitude of E measures how innately good
he is at his job)
• We are also assuming the events are independent: one party getting an idea
does not make the other party getting an idea more or less likely
• Whenever only one of them produces an idea, that idea is implemented
• Whenever both of them produce an idea, whose idea is implemented
depends on who has authority
• If P has authority (centralisation), his idea is implemented
• If A has authority (delegation), his idea is implemented
Organisational structure
, Recap
• So far, three overarching themes
1. How incentives work in a short-term horizon world
• i.e. how to design compensation schemes for workers where the
main problem is that effort is “unpleasant” (moral hazard)
2. How incentives work in a long-term horizon world
• i.e. how to manage careers for workers who find effort unpleasant,
but with whom the relationship lasts over time, and so the range of
possible incentive schemes (as well as what the employer might
want the worker to do) is different
• here we have also introduced the idea of heterogeneity of type into
our models: some workers were “good” and some workers were “bad”
3. How to choose the “right” people
• i.e. how to screen workers and allocate them to jobs (using the
heterogeneity introduced before)
• Today: How to choose the “right” organisational structure/form
, Organisational structure
• The main question we will be addressing concerns how top-down or
dispersed decision-making power is
• On what criteria should we evaluate which is “better”?
• Many possible candidates
• We will focus on one: how good the organisation is at putting into action
good ideas (and how that changes depending on whether power is
concentrated or dispersed)
• What makes a good idea?
1. Model 1: the principal and the agent have conflicting interests and may
disagree about what makes a good idea
2. Model 2: everyone in the organisation agrees on what makes a good
idea, but each of us can make mistakes
, Model 1: Authority and conflicting interests
• There is a principal and an agent, each of which can produce an idea
• When the agent exerts effort 𝑒, he produces an idea with probability 𝑒 and
!
at a personal cost of " 𝑒 "
• The principal always produces an idea with constant probability E
• We are assuming perfect motivation on the part of the principal (e.g. he is
the owner of the firm, so the magnitude of E measures how innately good
he is at his job)
• We are also assuming the events are independent: one party getting an idea
does not make the other party getting an idea more or less likely
• Whenever only one of them produces an idea, that idea is implemented
• Whenever both of them produce an idea, whose idea is implemented
depends on who has authority
• If P has authority (centralisation), his idea is implemented
• If A has authority (delegation), his idea is implemented
