Economics of Strategy University of Victoria Summer 2011 Pascal Courty.
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Transcript of Economics of Strategy University of Victoria Summer 2011 Pascal Courty.
Economics of Strategy
University of VictoriaSummer 2011Pascal Courty
Economics of StrategyObjectives for today
• Discuss course outline• Introduction to economics of strategy• Academic influences
• Course objectives: learn how market environment and firm’s strategy influence firm performance
• Learning approach: mix of formal lectures (1/2), discussion of research articles (1/4), and class discussion(1/4)
• Material: book, slides, weekly emails, research articles• Pre-requisites: Micro, IO, game theory• Expectations: read book chapters, read research articles,
follow instructions in weekly emails• Grading: pb sets (40%), midterm (30%), essay (30%)
Course outline
– Part I. Incentives, Firms, and Markets• Chapters 3, 5, 6, 16, 17• Performance measurement and incentives within firms• Vertical boundaries of the firm
– Part II. Markets and Competitive Analysis• Chapters 9, 10, 11, 12• Thinking strategically and strategic commitment• Pricing rivalry• Entry• Industry analysis
– Part III. Competitive Advantage and Industry Dynamics• Chapters 13, 14, 15• Competitive advantage• Innovation and industry dynamics
Course Contents
Economics of StrategyAcademic Influences
• Industrial organization (analysis of market competition)
• Game theory (strategic interactions)• Economics of organization (transaction cost
economics, contract theory)• Incentive theory (personnel economics,
information theory)
• Focus can be on managerial ability to change firm position (organizational behaviour) or market environment (competition economics)
Research articlesPart I. Incentives, Firms, and Markets• The Dynamics of Franchise Contracting: Evidence from Panel Data. Francine Lafontaine and Kathryn L. Shaw. The Journal of Political Economy. Vol.
107, No. 5 (October 1999) (pp. 1041-1080)• Peers at Work. Alexandre Mas and Enrico Moretti. American Economic Review 2009, 99:1, 112–145.• Competition and Business Strategy in Historical Perspective. Pankaj Ghemawat. The Business History Review, Vol. 76, No. 1 (Spring, 2002), pp. 37-
74• Performance Pay and Top-Management Incentives. Michael C. Jensen and Kevin J. Murphy. Journal of Political Economy, 98. Page 225 of 225-264Part II. Markets and Competitive Analysis• How Much Does Industry Matter, Really? by Anita M McGAHAN, Michael E Porter. Strategic Management Journal (1997) Volume: 18, Issue: S1,
Publisher: John Wiley \& Sons, Pages: 15-30• Commitment to a Process Innovation: Nucor, USX, and Thin-Slab Casting. Pankaj Ghemawat. Journal of Economics & Management Strategy
Volume 2, Issue 1, pages 135–161, March 1993.• Entry, Exit, Growth, and Innovation over the Product Life Cycle. Steven Klepper. American Economic Review. 1996, vol 86, 562-58.• Klepper, S., and K. Simons, "The Making of an Oligopoly: Survival and Technological Change in the Evolution of the U.S. Tire Industry," Journal of
Political Economy 108 (2000), 728-760.• What do we know about entry? P. A. Geroski International Journal of Industrial Organization. Volume 13, Issue 4, December 1995, Pages 421-440Part III. Competitive Advantage and Industry Dynamics• Managing with Style: The Effect of Managers on Firm Policies. Marianne Bertrand and Antoinette Schoar. Quarrterly Journal of Economics, Nov
2003, vol 143. Page 1169 of 1169-1208• Does management matter? Evidence from India. Nicholas Bloom, Benn Eifert, Aprajit Mahajan, David McKenzie and John Roberts. Mimeo 2011. • Measuring and Explaining Management Practices Across Firms and Countries. Nick Bloom and John Van Reenen. Quarterly Journal of Economics,
November 2007.• Architectural innovation: The reconfiguration of existing product technologies and the failure of established firms. Rebecca M. Henderson and
Kim B. Clark. Administrative science quarterly, 1990, 35, 9-30. • Measuring Competence? Exploring Firm Effects in Pharmaceutical Research. Rebecca Henderson and Iain Cockburn. Strategic Management
Journal. 1994, vol 15, 63-84. • Exploiting a Cost Advantage and Coping with a Cost Disadvantage. David Besanko, David Dranove, Mark Shanley. Management Science, Vol. 47,
No. 2 (Feb., 2001), pp. 221-235• On the evolution of the firm size distribution: Facts and theory. Luis Cabral and Jose Mata. American Economic Review, 2003. 93, 1075-90.
Slides by: Richard Ponarul, California State University, Chico
Copyright 2010 John Wiley Sons, Inc.
Chapter 4
The Power of Principles: A Historical Perspective
1840, 1910, and Today
• The years 1840, 1910 and 2009 represent widely disparate business conditions.
• The general economic principles behind business strategy are enduring.
• Business practices evolve with changing environment.
Doing Business in 1840
• Numerous intermediaries - Farmers to factors to brokers agents to buyers
• Substantial price risk for participants• Infrequent transactions• Scarcity of information regarding sales and
prices of comparable goods
Infrastructure in 1840
• Infrastructure in transportation, communication and finance were poorly developed in 1840.
• Poor infrastructure meant the dominance of small family run firms.
• Markets were local.
Transportation in 1840
• Railroads, in their infancy, were fragmented. National railway network had not yet arrived.
• Waterways were used for long distance transportation. Yet routes were limited.
• With poor transportation, producers were limited to local markets
Communication in 1840
• Postal service was the dominant mode of long distance communication.
• Postal service relied on the horse and stagecoach.
• Telegraph was expensive and was used only for important time-sensitive information.
Finance in 1840
• Most businesses were sole proprietorships or partnerships which made long term debt difficult to obtain.
• Shares of stock were not easily traded and cost of capital was high.
• No institutional mechanism existed for handling business risk.
• Futures trading to manage price risk was yet to come about.
Production Technology in 1840
• Most factories used century old methods of production.
• Textile manufacture was mechanized.• Use of standardized parts (prevalent in clocks
and guns then) was just beginning.• Scale intensive industries and high volume
production were non existent.
Government in 1840
• Government was involved in large infrastructure investments such as canals and railroads.
• Later in the century government regulation of the business environment was emerging.
• Prime Meridian Conference led to the system of standard time.
Business in 1840
• Technology limited production to traditional modes.
• Production served local markets.• Without transportation infrastructure and
access to large markets, mass production technologies would not have been useful.
Business in 1840
• Without communication infrastructure, information on prices, sellers and buyers was not readily available.
• Credit was available based on personal relationships.
• As a result businesses were small and informally organized.
Business Conditions in 1910
• Mass-production technologies made possible high volume low cost manufacture of goods.
• Railroads dominated transportation and allowed mass distributors to reach widely scattered customers.
• Telegraph and telephones greatly improved long distance communications.
Business Conditions in 1910
• Manufacturing became more vertically integrated.
• Multidivisional firms emerged in response to the size and complexity of operations.
• Industries were becoming concentrated.• As standardization increased so did labor
related conflicts.
Finance in 1910
• Securities markets traded shares of large industrial firms.
• Credit bureaus made credit related information easily accessible.
• Innovations appeared in monitoring and reporting business activities.
• Public disclosure of accounting information was in vogue.
Government in 1910
• Government regulation extended to such areas as corporate law, antitrust and worker safety.
• Increased regulation forced managers to collect a lot of data on internal operations.
• Mandatory secondary schooling provided the labor force needed by large bureaucratic organizations.
Business in 1910
• Expanded infrastructure allowed firms to expand their markets, product lines and production scale.
• New technologies allowed high volume standardized production.
• Growth of financial infrastructure made large scale firms viable.
Doing Business Today
• Large vertically integrated firms have been declining.
• Alliances and joint ventures could work better than mergers and acquisitions.
• Firms adopt complex matrix structures.
Transportation Infrastructure Today
• Air, water, rail and ground transportation have become better coordinated.
• Sophisticated communication and data processing technologies enable container shipping.
• Cities like Atlanta have grown relying on air transport in spite of poor rail and water connections.
Communications Technology Today
• Capacity for instantaneous transmission of complex information makes possible global markets for products and services.
• Technology has enhanced worker productivity.• Coordination of activities has become easier
with modern computer and communication technologies.
Finance
• Regulation of banking and securities markets resulted in a stable financial services sector.
• Capital markets and financial institutions became more active in evaluating firm performance.
• Globalization of financial markets made many mergers and acquisitions possible.
• Liquidity crisis of 2008 has slowed economic and entrepreneurial activity.
Production Technology
• Modern technologies such as CAD/CAM have made low cost tailor-made production feasible.
• Use of new technologies often means reorganizing the firm around these technologies.
Government
• In some areas (airlines, trucking and financial services) traditional regulation has been relaxed.
• Regulation has increased in other areas (workplace safety, discrimination and environmental protection).
Government
• Intergovernmental treaties and agreements create regional free trade zones.
• Government’s anti trust policy encourages in-house development of capabilities.
• Government policy supports basic research and the commercialization of R & D projects.
Business Today
• With rising demand from developing nations the market size has increased.
• Firms focus on a narrow range of activities and enjoy the economies of scale.
• Financial innovation enables faster growth of firms and the ability of new entrants to challenge the incumbents.
Infrastructure in Emerging Markets
• Unlike the advanced nations, many developing nations still lack transportation and finance infrastructures.
• Businesses are reluctant to invest in countries where corruption, cronyism and conflicts are rampant.
Business Conditions and Strategy
• Business conditions change over time and so do the optimal strategies.
• Principles needed to arrive at successful strategies do not change.
• Recipes change from period to period but principles behind the recipes do not.