Seminar – The rise and evolution of the innovative firm: A tale of technology, market structure, and managerial incentives

We develop a dynamic general equilibrium model of the transition from an economy with small owner-operated businesses to an economy where part of the control over large-scale organizations is delegated to managers. We model managerial delegation as a principal-agent problem: the owner must offer an incentive contract that makes managers exert effort. The choice of whether and when to delegate managerial tasks, and how many managers to employ is dictated by which organizational form yields the higher rate of return to innovative investments. Owners trade-off the benefit from improved efficiency with the cost of forgoing a share of the gross cash flows as managerial compensation. In equilibrium, the owner-managed organization prevails early on when market size is small; delegation becomes profitable only when market size is sufficiently large to guarantee the viability of the incentive contract. Upon delegation, the economy experiences a productivity growth acceleration fueled by faster innovation. However, the emergence of the managerial class is not hard-wired into the theory: equilibria where firms remain small and owner-managed are possible.

Room 0.18