Hayek's Study Of Firms And Markets example essay topic

Business Economics Course Work Evaluate the basis of the disagreement between Williamson's and Hayek's views of the efficiency of markets. The following essay will introduce the two economists basic outline of their respective theories. Then further try to explain the reasons for Williamson to refute Hayek's overruling ideas and to evaluate the disagreements between the two economists. Firstly an introduction to the two economists. Friedrich Hayek was born in 1899 in Vienna, Austria. He earned degrees in law and politics at the University of Vienna in 1921 and 1923, and in 1940, he recieved the Doctor of Science degree in economics from the University of London.

In 1974, he was awarded the Nobel Memorial Prize in Economic Science. Oliver Williamson was born in Superior, Wisconsin in 1932. He received his Ph. D. in economics at Carnegie-Mellon University in 1963. He is currently Gordon Tweedy Professor of Economics of Law and Organisation at Yale University Louis Putter man 1989. A market, is an environment where business organisations do their buying and selling. Hayek further describes how markets operate as whole sphere of scattered commercial activity that goes on in the market F.V. Hayek...

This commercial knowledge of these particular circumstances of time, place know how of a special nature where every individuals has some advantage over all others, therefore individuals who possess this unique information of situation / circumstance. Beneficial use might be made if the person was to use this knowledge. This knowledge can never be collected and concentrated or integrated in a single form and given to a single source (mind or firm). This information can t also be expressed in some statistical form but remains a highly valuable asset to the individual who possesses it. Therefore if an assumption was made that there was perfect knowledge. This would have the effect that there would be no competitive advantage.

This is due to most firms and individuals competitive advantage stems from possession of special knowledge about themarket and as there is no special knowledge in a perfect market; as everyone acquires the same information therefore competitive advantage cannot exist. Planning has to be carried out this requires the body to make decisions on how to allocate the available resources. Then the problem arises of how to gather this special knowledge from the individual so as to utilise this information to the maximum. We therefore come to a question of what sort of body is to provide for this planning. Should the planning be carried out centrally by one authority for the whole of the economic system or decentralised by many separate individuals. e. competition. The half way house which Hayek talks about is where whole industries come under central planning known as Monopolies.

But as the question may arise which of these systems is more efficient Where Hayek proclaims that where the fuller use will be made of existing knowledge F.V. Hayek. The central planning is likely to succeed only if all knowledge can be gathered which ought to be used but is dispersed initially to all the individuals. Hayek further on concludes that if all knowledge was translated as scientific knowledge then it could be concluded that the decision makers could be the various experts in the various fields but the problem arises that Hayek says Beyond question a body of very important but unorganized knowledge which cannot possibly be called scientific in the sense of knowledge of general rules: the knowledge of the particular circumstances of time and place. F.V. Hayek. If economic problems of society can be associated mainly with rapid adaptation to changes in the particular circumstances of time and place.

This would have the effect that the final decision must be left to the individuals who are accustomed withthe circumstances, who can observe the following changes directly. Therefore to obtain the resources immediately so as to meet the changes brought about. If this problem was to be resolved by a central body the effect would be that all knowledge would have to be communicated back then after acquiring all knowledge it would have to decide what orders to give. The answer to this is de centralising the procedure of directives to be given at a lower level so as the problem can be resolved immediately. But you must remember that the man on the Spot F.V. Havek can t decide solely on the basis of his limited but intimate knowledge of the facts of his immediate surroundings since he requires further information to make his decisions in to the whole economic framework.

The individual will only be interested in how much the good or service costs through the price mechanism not why the prices have gone up or down unless they are effecting his own environment which are causing the fluctuations in price. This can be shown by example if a producer of good A suddenly finds that the demand for his good has increased as consumers switch from good B to C he i sonly interested in the new demand and not of how this was bought about. The price mechanism can be seen as mechanism for communicating information where only the most essential information is passed on and passed on to only those concerned. F.V. Havek Therefore for one company to transact with another firm, assuming that they have varying information, they conduct the transaction on the judgement of price; this assume that price is sufficient statistic to perform exchange. Adam Smith also believed that it was this price system that indicated to the individual, by means of price / profit incentive., to seek one's own interest. It also can be shown that the price mechanism acts as a guide to efficient resource allocation where the solution is found in the mechanism by the interaction of allthe people each of whom posses only partial knowledge.

Hayek has acknowledge the fact that individuals try and use this unequal distribution of knowledge to their own betterment. Society may feel that the individual is achieving his goals in a dishonest fashion but it is important that society uses these opportunities. Hayek argues that markets are more efficient and the most appropriate of allocating resources. This makes central planning redundant, which would include governments in interfering and trying to manipulate themarket.

But there are certain goods which the price mechanism does not provide for these a republic goods such as defence, roads, railways where no individual is responsible for the cost. There are also market failure when the market does not take into consideration of externalities i.e. when in the production of electricity through coal combustion there is sulphur emission which pollute the atmosphere. Hayek describes monopoly as delegation of planning to organised industries F. V Hayek and states theses are a midpoint between centralised and decentralised planning. However Hayek's argument of prices being a sufficient statistic could be questionable with the existence of monopolies as there is no basis for comparison to decide whether price is acceptable or not. A recent example of the price mechanism to overlook social costs is the coal industry where Britain has been importing cheap coal (attracted by the competitive price), but as consequence resulting inthe downfall of the coal industry in Britain and resulting in severe job losses. Other arguments opposing Hayek's idea could be the importance of repetition, quality and reliability which may be significant factors within transactions.

Williamson argues that if markets were efficient, then you wouldn t have any firms as there would be no reason tointernalise the function of the market as there would be no reason for a firm to produce anything. When a firm internalizes a function it produces the good within the firm instead of obtaining it from the market. Williamson believes the inability of the market to provide goods and services are market failures and the growth of the firm is a consequence of this. Markets and firms are a alternative form for competing transactions and Williamson argues there is a cost of using the market. The firm will determine whether to use the market orinternalise the function, depending on the relative cost of transaction under the two alternatives.

The major cause of market failure, which gives rise for the tendency for the firm to internalize, are transaction difficulties and the inability of the firms to form contracts. Williamson maintains that markets fail because the excess cost of writing, executing and enforcing contingent claims of contracts. Where contracts made contingent upon the uncertainty involved O.E. Williamson. Williamson identifies two reasons for this; 1) Environmental factors which include uncertainty and complexity and small numbers of firms 2) Human factors which include bounded rationality and opportunism. The term bounded rationality was coined by Simon to reflect constraint on the ability to processing (receiving, storing, retrieving, transmitting) information. O.E. Williamson. Whereas the second human factor Opportunism is related to but is a somewhat more general term that the condition of moral hazards to which Knight referred in his classic statement of economic organisation.

Opportunism effectively extends the usual assumption of self-interest seeking to make allowance for self-interest seeking with guile. O.E. Williamson. Williamson argues that firms operate in a environment where each firm is trying to gain an advantage over the other through opportunism. He defines this behaviour into methods. Withholding information from the other party and entering into contract with no intention of fulfilling the terms of the contracts. Opportunism is the driving force of capitalism where if firms do not take advantage of asymmetric information the firm would be depriving itself from its true potential. Opportunistic behaviour may occur leading to allthe information not being available before the transaction resulting in hidden information coming to light after the transaction this would have the resulting factors of moral hazard, some form of hidden action, may cast doubt and uncertainty over the compliance of the contractual agreements.

Bounded rationality will only pose a problem in environments that are characterised by uncertainty and complexity, where there is much doubt in the transaction (i.e. not every day purchases). Firms will try and economise on bounded rationality by internal ising market function and using available knowledge. This being less complex and more certain then using the market. Idiosyncratic knowledge is where an individual posses certain specialist information that others do not have. This sort of knowledge is tended to be used to gain advantage. e.g. An interpreter has the ability to translate from one language to another to initiate communication with the two parties. There are not only saving on transaction and contractual which are partly reasons for a firm tointernalise, Williamson has also stressed other reasons also.

1) the opportunities for opportunistic behaviour within firms is restricted causing individuals agents and mangers to have a more nearly joint profit maximising attitude 2) internal organisation can before effectively audited 3) Internal organisation realises an advantage over market mediated exchange in dispute settling respects. Douma & SchreuderThe above statements can be redesigned to keywords that state the properties of the firm that commend internal organisation as a market subsitude would appear to fall into the three categories: Incentives, Controls and what may be referred to broadly as inherent Structural Advantages. O.E. Williamson In conclusion Hayek's study of firms and markets has dismissed equilibrium economics with the observation of a dynamic model where the economic problem of society is mainly one of adaptation to changes in particular circumstances of time and place F.V. Hayek and who has emphasised the marvel of the price system which accomplishes this without conscious direction F.V. Hayek. The three important observation made by Hayek First in his emphasis on change and the need to devise adaptive institutional forms. Second, his reference to particular circumstances, as distinguished from statistical aggregates, reflects a sense that economic institutions must be sensitive to dispersed knowledge of a microanaylytic kind. Thirdly was his insistence that attention to the details of social processes and economic institutions was made necessary by the unavoidable imperfection of man's knowledge. O.E. Williamson But where Hayek is to be criticised is heh as not recognised the limits of the markets which have been glossed over. e.g. Transaction costs. The adherence to markets to be all domineering in Hayek's view can be dispelled objectively as 85% of world trade is done by 10% of multinationals.

Whereas Williamson has concluded that with the existence of (environmental and human) factors that therefore priceis not the overruling statistic that dictates to form market exchange. Williamson does admit that in certain markets that price is a sufficient statistic, e.g. spot markets where priceis an overruling factor that equates the margin of uncertainty. Williamson has also emphasised the prospect of opportunistic behaviour. It is certain to a large extent that firms are present in deceiving one other but there are firms who on mutual basis are thereto co-operate with each other and to conduct their business amicably. Also there are laws present with contractual obligations for firms to complete contracts and comply to terms and business law. Every individual may have a tendency to behave opportunistically butt here are in some way bounded by the social and legal constraints.

Williamson has neglected to discuss the value of economies of scale. Where if production of a firm was increased so that the firms unit costs fell it could pass on the benefits to its customers. This new price could compensate the customer who is experiencing transaction costs, but this is only feasible where there is large numbers of customers exist.

Bibliography

The economic nature of the firm Louis PuttermanThe use of knowledge in society F A Von Hayek Markets and Hierarchies Oliver E WilliamsonEconomic Organisation Oliver E WilliamsonEconomic approaches to organisation Douma and Schreuder 314.