What do you mean by theory of firm, Managerial Economics

Q. What do you mean by Theory of Firm?

Microeconomics especially the theory of firm, assumed importance and attracted considerable attention in the early 20thcentury. This shift ensued after the growing realisation that perfect competition assumption of the classical economists wasn't a ground reality. This realisation resulted in a spate of efforts to analyse and understand the behaviour of individual firms. In perfect competition, all firms are presumed to be price takers and consequently studies into the behaviour of individual firms weren't called for. Because the reality was far different, the urgency to study the behaviour of firms of all sizes was obvious. Naturally theory of the firm, rather how firms, small andbig, behave under different circumstances began to attract wide attention, especially in the aftermath of World War I.

The need for a revised theory of the firm was emphasised by empirical studies undertaken by Berle and Means that made it clear that ownership of a typical American corporation is spread over a wide number of shareholders, leaving control in the hands of managers who own very little equity themselves. Hitch and Hall found that executives made decisions by rule of thumb rather than in accordance to marginal analyses. Firms exist as an alternative system to market mechanism when it's more efficient to produce in a non-price environment. For illustration in a labour market, it may be very costly or difficult for firms or organisation to involve in production when they have to fire and hire their workers depending on supply/demand conditions. It may also be expensive for employees to shift companies everyday looking for better alternatives. So firms engage in a long-term contract with their employees to minimise the cost.

Klein (1983) asserts that 'Economists now recognise that such a sharp distinction [between inter- and intra-firm transactions] doesn't exist and that it's useful to consider also transactions occurring within the firm as representing market (contractual) relationships'. The costs involved in such transactions which are within a firm or even between the firms are transaction costs.

According to Putterman, this is an exaggeration-most economists accept a distinction between the two forms though also that two merge into each other; extent of a firm isn't simply defined by its capital stock. Richardson for illustration, notes that a rigid distinction fails because of existence of intermediate forms between market and firm such as inter-firm co-operation. 

Eventually whether the firm constitutes a domain of bureaucratic direction which is shielded from market forces or simply 'a legal fiction', 'a nexus for a set of contracting relationships among individuals' (Meckling andJensen) is 'a function of the completeness ofmarkets and ability of market forces to penetrate intra-firm relationships'.

Posted Date: 8/12/2013 2:35:50 AM | Location : United States







Related Discussions:- What do you mean by theory of firm, Assignment Help, Ask Question on What do you mean by theory of firm, Get Answer, Expert's Help, What do you mean by theory of firm Discussions

Write discussion on What do you mean by theory of firm
Your posts are moderated
Related Questions
Real Rigidities in the Credit Market How imperfections in the goods markets enable firms  to  set  prices  so  as to  generate  price  rigidities,  e.g.,  because of countercy

business decision making concepts of certainity risk unertainity sources of business risk steps invoived in analysiis of risky decisions risk adjustment etc

Types of Price Elasticity of demand   a)     Perfectly inelastic demand Demand is said to be perfectly inelastic if changes in price have no the quantity demanded so

Describe the Forecasting method in managerial economics It is a technique or a method to predict many future aspects of a business or any other operation. For illustration, a r

Difference between corporate profit maximization and maximization of shareholder wealth? Ans) Sure, profit maximization relates to profits *only* while shareholder wealth also i

who are the contributors in economics and what they contribute in economics

Write on one theory of profit. Profit as rent of ability: one of the most widely known theories of profit was propounded by F.A. Walker. According to him profit is the rent of is t

It is presumed that every of the different combinations of capital and labour displayed in Table produces the same level of output, which is, 20 units. Combinations are such that i

Please read the case study given below and answer questions given. Case Study Electron Control, Inc., sells voltage regulators to other manufacturers, who then cu

Q. Define the Natural Monopoly? Natural Monopoly: Natural monopoly is because of natural factors. For illustration, a particular raw material is concentrated at a specific pl