Chapter 1: Introduction Brickley, Smith, and Zimmerman, Managerial Economics and Organizational Architecture, 4th ed. Chapter 1: Introduction

Subject Overview Competitive strategy Internal structure products and markets product characteristics production choices product pricing competitor behavior Internal structure decision rights (empowerment) compensation practices performance evaluation

Introduction learning objectives Students should be able to Describe generally how economics can aid in management decision making Describe “economic Darwinism”

The Economic Perspective How are resources allocated among competing uses? in society in the firm How do individuals make decisions? the role of incentives incentive conflicts and opportunistic behavior

Economic Darwinism Only the fittest survive competition encourages efficient decisions maximizing shareholder value Firms “benchmark” successful practices successful management practices spawn imitators but organization’s architecture must be compatible with innovation

Organizational Architecture Systematic approach to identifying and correcting organizational problems Three critical aspects of organization: the architecture Assignment of decision rights Methods of rewarding individuals Performance evaluation of individuals and business units

Managerial implications Existing architectures are not random Surviving architectures are optimal relative to competitors Environmental change may dictate architecture change

Fundamental concepts People act in their own self interest which is not the same as being greedy! Information is asymmetric we don’t all share the same information assignment of decision rights must be compatible with access to information reward and evaluation systems must in turn be compatible with decision rights

Mechanisms for Allocating Scarce Resources Markets “Sells” labor “Buys” labor Sells product Buys product Household division of labor Hierarchical decision making

Making choices Individual Social Strategic Buying DVDs Social Electing a president Committee decisions Strategic Anticipating a response What role does uncertainty play?

The nature of a free market economy Property rights Freely functioning markets Supply function and curve Demand function and curve Equilibrium price and volume

Role and functions of prices Coordination Incentives Rationing Signaling

Organizational Decision Making Costs Benefits If the benefits of an action outweigh the costs, do it Create and sell a new product (marketing, operations) Hire (or fire) an employee (human resources) Build a new plant (senior management team--capital budgeting) Select a new vendor (operations, purchasing) Issue bonds (finance)