Oliver Williamson

One would have expected that Oliver Williamson winning the Nobel prize for economics would have been controversial but that turned out not to be. I say this because for at least a decade I have participated at numerous lunch and dinner time debates over whether Oliver Williamson should win the Nobel prize. The most recent of these was a couple of weeks ago at Stanford in a discussion with Williamson’s colleague Steve Tadelis. Steve was currently writing an important survey chapter with Williamson and so was better placed than most to evaluate his contributions.

Before turning to these, let me explain the controversy. The issue is that to many economists much of Williamson’s writings were obscure and did not really constitute a complete economic theory. To be sure, the same could be said of Thomas Schelling and his many influential ideas but Schelling wasn’t pretending to be more. For Williamson, you had to do a lot of work to find the 10% of his writing that was more significant.

The point is that that 10 percent is very significant and influential. Indeed, as Steve pointed out to me, you can read them all in this 9 page American Economic Review paper from 1973, “Markets and Hierarchies: Some Elementary Considerations.” (It is paywalled on Jstor here). Let me summarise:

  • Bounded rationality: organisational economics requires us to recognise that agents cannot process all information. The organisation exists because of that fact although others also recognise that the market also has that issue too — in particular, in terms of contracting.
  • Opportunism: individuals are really self-interested and properly modelled as immoral. Indeed, it is a what would now be called ‘Dilbert’ view of organisations. There is no one nice in Williamson’s world.
  • Fundamental transformation: when you join an organisation you may investments specific to a relationship. This creates relationship specific assets and means that while you might have operated in a competitive market before, now you are in a more monopolistic setting. This changes the way you have to consider the transaction.
  • Hold-Up: in particular, you are vulnerable to hold-up — that is, while in a competitive market, your assets might be valuable, after the transformation, they are of more specific value and you can’t be sure you are going to get a competitive return. Of course, this is just a form of moral hazard but Williamson was the first to articulate and emphasise that this might explain alot about why organisations look the way they do.

Even after all of that, there is a ton of other stuff in that 9 pages that doesn’t seem to have stood the test of time. Nonetheless, putting contracting issues at the heart of organisational economics and tying together bounded rationality, opportunism and asset specificity have been extremely influential. That is why you award a Nobel prize for it.

In addition, Williamson was responsible for articulating the philosophical and modelling issue of ‘selective intervention’ (that is, why can’t a centralised organisation replicate anything a decentralised one can? Ergo, why don’t we just see hierarchies with markets controlled within?). He was also responsible for the anti-trust analysis of mergers illustrating the trade-off between anti-competitive consequences and potential synergies through cost savings. That remains the single most important trade-off in practical merger analysis to this day.

One thought on “Oliver Williamson”

  1. Joshua, apropos your nice summary  on Willamson’s Nobel award, here are a few thoughts.

    Yes, some controversy surrounding Willaimson’s award was expected because the essential ideas guiding his work were originally developed by Coase in his seminal Theory of the Firm article (Economica 1937). To this extent, Willamson’s work is not really new. In addition, the behavioral assumptions of opportunism and bounded rationality did not sit well with many mainstream economists who assumed hyperrational decision makers. Williamson’s main contribution lies in transforming Coase’s original and somewhat abstract work into empirically testable ideas.

    Other than economics, perhaps marketing has seen the most widespread use of Willamson’s work. A majority of marketing studies have empirically tested several core propositions of Williamson’s theory. To some extent, this has been aided by survey methods used by researchers to directly measure focal transaction cost theory constructs such as opportunism, specific investments, and uncertainty. 

    In the channels of distribution area, inter-firm relationships have been conceptualized as a set of deliberate governance decisions. Beyond the basic make or buy decision (should a firm employ external channels or conduct activities in-house?), marketing scholars have extended Willamson’s work in several ways. First, in a channel many firms are small and have invested in specific assets that can be expropriated by the other (usually powerful) party. Resource considerations preclude these smaller channel partners from buying out the larger firm (the transaction cost prediction).  In these situations, the smaller firm which is closer to customers can forward bond (develop customer relationships) and create a reverse dependency on the larger firm.  This phenomea is widespread in the insurance industry where many indpendent agents forward bond with customers and become somewhat irreplaceable.  Other extensions have to do with intermediate governance forms. For example, in franchised channels, firms typically use make and buy forms of governance. In this plural form, the make channel can actually helps the franchisor monitor the buy channel (franchised agent).  In addition, relational norms can also serve a safeguarding function and vertical integration, though ideal may not be a prcatical governance form in channels.

    A recent twist in marketing is the governance value literature. Instead of looking at governance in a transaction cost minimizing way (safeguarding specific assets), firms can create value by proactively investing in these assets to realize joint gains. In the Japanese auto industry, suppliers make proactive specialized investments with  a view to creating value and not to minimze transcation costs via safeguarding. Finally, work is ongoing in the area of specific asset transformation. Many small firms develop memory banks around relationship knowledge or specific human capital investment. Instead of crafting safeguards, these firms try to embody organizational routines by transforming embedded knowledge that employees possess. Ultimately, knowledge dissemination througout the organization creates value in and of itself.

    In the channels area we owe a debt of gratitude to Coase and Williamson. Congratulations to these wonderful scholars.

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