Many of today’s global problems, such as sustainability, technology, skills, and diversity can only be solved by organisations. This column argues that more work is needed to understand strategic management by firms, how firms behave, and how they respond to economic incentives. Future research should study strategic decisions by firms as well as their internal organisational choices. Filling this gap will help understand the persistent differences in performance across firms, how they might respond to new, disruptive technologies, and how to best design industrial policies for strategic sectors.
Organisations play a central role in our economies, and many of today’s global problems can only be solved by organisations. For example, sustainability, innovation, technology, skills, diversity, and the recent challenges posed by artificial intelligence are all mediated by organisational choices. Even addressing inequality requires an understanding of what organisations, particularly firms, do (Song et al. 2019). Therefore, we need to better understand organisations’ behaviour, how they function, how they set their goals, and their internal strategies to achieve these goals.
Economics has examined individual incentives closely, as well as the relationships, both contractual and non-contractual, among members of an organisation (e.g. Gibbons and Roberts 2013). This complements insights from the field of industrial organisation about the strategic choices firms make about pricing and entry, as well as recent work on the purpose of organisations (e.g. Rajan et al. 2023, Zentefis and Gorton 2020).
However, much more work is needed to fully understand how organisations behave and respond to economic incentives. For example, more recent work has started to unpack the black box of organisations, showing that they often don’t work very well. There is large heterogeneity in performance across otherwise similar organisations, particularly among firms (Syverson 2011). This implies that scarce resources are being used inefficiently, and there is huge potential opportunity in understanding why inefficiency persists. It also raises the question of why effective ideas are not widely copied (Dessein and Prat 2019). For example, good managerial practices can significantly impact firm performance, but there is vast disparity in their adoption (Hsieh and Klenow 2009, Bloom et al. 2010). And the forces that create persistent performance differentials may also cause organisations to respond to policy initiatives differently from what would be predicted in a frictionless firm (Gibbons 2010).
Bridging the gap between individual decision-making and organisation-level choices
Strategic management – a key domain of activity within organisations – is an area that has so far been the object of limited scrutiny within economics. Filling this knowledge gap is important: for example, if we want to understand how firms respond to challenges like the arrival of disruptive technologies such as generative artificial intelligence (GenAI) or the green transition, it is not enough to study organisational adaptation alone. These challenges require a fundamental reassessment of the strategic direction of firms – with significant implications for optimal organisational design.
Similarly, a better understanding of firms’ strategies may also help design more effective policies. For example, an explicit consideration of firm strategies is essential for the development of industrial policies in strategic sectors – such as semiconductors – where firms make substantial capital commitments over long time periods. Recent evidence in Goldberg et al. (2024) suggests the effectiveness of government subsidies in this industry is far from being automatic and depends on the extent to which these subsidies translate into knowledge spillovers locally and internationally through firms’ decisions. Therefore, understanding the long-run strategies and organisational structures of key players in the semiconductor supply chain are crucial to infer the likelihood that industrial policy will be able to generate the desired results.
This presents a compelling case for incorporating a strategic management perspective into the study of organisations. Specifically, we need to understand how firm decisions are made and how decision-making may help account for the wide heterogeneity we observe in firm performance.
Getting closer to strategy may also help economics regain influence with actual decision-makers who are, as of today, arguably more influenced by strategy than by economics, a schism that started 40 years ago with the rise of Porter’s five forces framework thanks to its accessibility and pragmatism. To influence (and improve) decision-making in organisations, we must acknowledge this reality and understand the logic and language behind actual decision processes, so that important messages arising from economics research are not lost in the translation to actual decisionmakers.
Opening the dialogue between organisational economics and strategy is not only relevant for firms. Organisations of various types—such as those in health, education, and public administration—are ubiquitous. Despite their differing purposes, all these organisations need a strategy to achieve their goals. This raises several important questions. For instance, to what extent can we recognise common patterns in the functioning or strategising of different organisations? How do these organisations differ in their strategic approaches? Are they affected by similar challenges, such as the impact of artificial intelligence, or do their issues vary, and why? In the economics of education, for example, we can view schools as organisations, with principals or boards acting as strategists who must make key decisions about the future and the functioning of the organisation.
What is a possible path forward?
We envision a space that goes from the structure of organisations to the definition of their goals, and the strategies for achieving them. This space combines organisational economics and strategy: Organisational economics uses economic logic and methods to understand the existence, nature, design, and performance of (managed) organisations. Strategy is about how agents make big decisions in organisations. These research fields are interrelated because making strategic decisions requires an understanding of how organisations function, and many organisational questions can be viewed through the lens of decision-making – such as the decision to implement specific practices, support particular incentives systems, invest in new technologies, or nurture certain skills. We need to study these interdependencies and develop a unified framework, or at least a framework in which these themes speak to each other, to understand how organisational functioning affects strategic decisions and vice versa.
We require a principled approach to understand which decisions are considered, how they are made, how they translate into actions by agents throughout the hierarchy, how they are influenced and updated in response to external stimuli (changes in competition, incentives, or policy), and, importantly, whether there is a theory behind their decisions. In doing so, we can trace heterogeneity, both positively and normatively, back to differing decisions based on the use of various theories for making strategic decisions.
Conclusion
Given that we spend much of our lives within them, organisations are worth studying. But, even more importantly, firms’ decisions, and how these decisions are mediated by organisational choices, are key players that need to be enlisted to address timely global issues such as the green transition, innovation, technology, skills, diversity, and the challenges posed by artificial intelligence.
We have argued that neither internal organisational choices nor strategic decisions should be analysed in isolation. Considering them jointly will not only enhance our understanding of each but also increase our influence, ensuring our insights are heard and understood. Ultimately, building on and enriching these initial attempts may also help us design better policies that have a higher likelihood of being adopted and implemented.
Overall, this calls for a better understanding of firms’ strategic decisions and their organisational implications, both theoretically and empirically. In turn, this calls for a dialogue among disciplines to understand decision-making in the field, and to develop measures about the nature and performance of these decisions and their links to organisations. Some early attempts (e.g. Camuffo et al. 2023, Yang et al. 2020) show that this shift is possible, but much more work is needed to accelerate progress.
Source : VOXeu
