The Modern Firm in Theory and Practice Nick Bloom (Stanford Economics and GSB) Lecture 2: Management Practices 1

Long debate over the importance of management for growth and development Francis Walker wrote a paper called in 1887 in the Quarterly Journal of Economics called “The Sources of Business Profits” Walker argued that management was the key driver of differences in firm performance

But there is still a wide debate – many people claim management is “hot air” or “bullshit” “No potential driving factor of productivity has seen a higher ratio of speculation to empirical study” - Chad Syversson (2011, Journal of Economic Literature)

This is a key issue for business…..

….and for policy

I will try to summarize 10+ years research in 2 areas 1)Measuring management: World Management Survey 2) Impact of management on performance -Regression results -Field experiments

I will try to summarize 10+ years research in 2 areas 1)Measuring management: World Management Survey 2) Impact of management on performance -Regression results -Field experiments

World Management Survey has covered about 20,000 manufacturing firms globally since 2004

What are the key areas of management practices (what would they teach in business school for example)?

Typical 2-year MBA would include most of: -Operations -Human Resource Management -Finance -Marketing -Organizational Behavior -Strategy -Economics (macro) -Ethics -International business (global)

1) Developing management questions Scorecard for 18 monitoring and incentives practices in ≈45 minute phone interview of manufacturing plant managers 2) Getting firms to participate in the interview Introduced as “Lean-manufacturing” interview, no financials Official Endorsement: Bundesbank, RBI, PBC, World Bank etc. 3) Obtaining unbiased comparable responses, “Double-blind” Interviewers do not know the company’s performance Managers are not informed (in advance) they are scored Basic survey methodology – 3 key steps

Score(1): Measures tracked do not indicate directly if overall business objectives are being met. Certain processes aren’t tracked at all (3): Most key performance indicators are tracked formally. Tracking is overseen by senior management (5): Performance is continuously tracked and communicated, both formally and informally, to all staff using a range of visual management tools Example monitoring question, scored based on a number of questions starting with “How is performance tracked?”

Examples of performance metrics – Car Plant

Examples of a performance metrics – Hospital 14

Examples of performance metrics – Retail (Ctrip)

Examples of performance metrics – Heathrow T5

Example of no performance metrics: Textile Plant

Score(1) People are promoted primarily upon the basis of tenure, irrespective of performance (ability & effort) (3) People are promoted primarily upon the basis of performance (5) We actively identify, develop and promote our top performers Example incentives question, scored based on questions starting with “How does the promotion system work?”

Examples of performance reviews – Retail Bank 19

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Wide spread of management in manufacturing

Class question (1): If America has so much better management practices than China why are so many Chinese firms exporting to America?

Average manufacturing management scores across countries are strongly correlated with GDP

Management also varies heavily within countries

Also been looking at other sectors: hospitals Randomly surveyed population of hospitals in each country that offer acute care (take emergencies), and have an orthopaedics and/or cardiology department. Total of 1687 hospitals.

Again see a very wide spread in hospitals Source:

Also been looking at other sectors: high-schools Management Score UK Sweden US Canada Germany Italy India School Management Scores, by Country n Randomly surveyed population of high schools in each country with 100+ pupils aged 15.

Class question (2): Do you think there is a public-private management gap, and if so why?

I will try to summarize 10+ years research in 2 areas 1)Measuring management 2) Impact of management on performance - Regression results - Field experiments

31 Management practices and performance Management score Productivity log(sales/employee) Does this make you worry about case studies?

Management score decile Productivity Profit Output growth Exporters R&D per employee Patents per employee These management scores are positively correlated with firm performance

These management scores are positively correlated with firm performance – even with many controls

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This positive correlation with performance has been pretty much true in every sector examined For example, higher management scores correlated with: Hospitals: Higher case-mix survival from heart-attack & surgery Schools: Better test scores Retail: Great profits and sales Drug and alcohol addictions clinics: Lower readmission rates Universities: Higher research rankings

I will try to summarize 10+ years research in 2 areas 1)Measuring management 2) Impact of management on firm and national performance - Regression results - Field experiments

Class question – if you wanted to design an experiment to evaluate the impact of management how would you do it?

Took 28 large textile plants near Mumbai and randomized into treatment (improved management) & control (same as before)

Inventory Control: Before

Inventory Control: After

Factory operations: Before

Factory operations: After

These simple management improvements increased productivity by 20% within 1 year alone Control plants Treatment plants Weeks after the start of the management experiment Productivity (output per worker) Source: Bloom, Eifert, Mahajan, McKenzie & Roberts, forthcoming Quarterly Journal of Economics

44 Wrap up and next class We see massive variation in GDP per capita across countries and performance across firms (from last week) Much of these differences appear to be driven by differences in management practices Variations appear to come from differences in competition, education, ownership and regulation On Wednesday we will drill into management practices for incentives using Lincoln Electric case In advance everyone should use the grid to score a firm – any sector and size – they know to prepare for class discussion