Endogenous Firm and Information Rent Under Demand Uncertainty

Li, Yanfei and Yao, Shuntian and Chia, Wai-Mun (2009): Endogenous Firm and Information Rent Under Demand Uncertainty.

Abstract

Increasing evidence shows that ICT investment improves firm performance. Among the many explanations on why ICT contributed to labor productivity surge since 1990, this is the most promising one. It is thus necessary to take the firm as an information processing organization, putting it in stochastic environment. As perfect information is no longer the assumption, that firms exogenously exist in the economy would no longer be assumed here. With these in mind, the paper provides a model that involves the division of labor and specialization, the production and consumption under demand uncertainty, and the value of information. It shows that under certain business conditions, a firm with certain type of information processing ability comes into being endogenously. A surplus, which could reasonably be argued as information rent, is generated with firm production. The size of this information rent depends on a few key parameters, including the level of uncertainty, the degree of market competition, and the cost of information processing. To test the model, case studies on the financial industry and the wholesale and retail industry are conducted, which corroborate the theoretical predictions of the model.

• Item Type: MPRA Paper
• Language: English
• Keywords: demand uncertainty, information processing, firm, information rent
• Subjects: D - Microeconomics > D2 - Production and Organizations; L - Industrial Organization > L2 - Firm Objectives, Organization, and Behavior; D - Microeconomics > D8 - Information, Knowledge, and Uncertainty; D - Microeconomics > D4 - Market Structure, Pricing, and Design; L - Industrial Organization > L1 - Market Structure, Firm Strategy, and Market Performance

References

Alchian, Armen A. and Harold Demsetz. 1972. Production, information cost, and economic organization. The American Economic Review, 62(5): 777-795.

Aoki, Masahiko. 1986. Horizontal vs. vertical information structure of the firm. The American Economic Review, 76(5): 971-983.

Apte, Uday M. and Hiranya K. Nath. 2004. “Size, structure and growth of the U.S. information economy.” In Managing in the Information Economy, ed. Uday Apte and Uday Karmarkar, 1-28. Springer.

Arrow, Kenneth J. 1964. The Role of Securities in the Optimal Allocation of Risk-bearing. Review of Economic Studies, 31(2): 91-96.

Arrow, Kenneth J. 1971. The value of and demand for information. Decision and Organization, 131- 139. ed. C. B. McGuire and R. Radner, Amsterdam: North-Holland.

Arrow, Kenneth J. 1975. Vertical Integration and Communication. The Bell Journal of Economics. 6(1): 173-183.

Arrow, Kenneth J. 1985. Informational structure of the firm. The American Economic Review, Papers and Proceedings of the Ninety- Seventh Annual Meeting of the American Economic Association, 75(2): 303-307.

Barrios, Salvador and Jean-Claude Burgelman. 2007. Information and communication technologies, market rigidities and growth: implications for EU policies. European Commission, Joint Research Centre, and Institute for Prospective Technological Studies. Bryjolfsson, Erik and Lorin M. Hitt. 2000. Beyond computation: information technology, organizational transformation and business performance. Journal of Economc Perspective, 14(4): 23- 48.

Carlton, Dennis W. 1978. Market Behaviour with Demand Uncertainty and Price Inflexibility. The American Economic Review, 68(4): 571-587.

Carlton, Dennis W. 1979. Vertical integration in competitive markets under uncertainty. The Journal of Industrial Economics, XXVII (3): 189-209.

Casson, Mark. 1997. Information and organization: a new perspective on the theory of the firm. Clarendon Press Oxford.

Carter, Martin J. 1995. Information and the division of labour: implications for the firm’s choice of organization. The Economic Journal, 105: 385-397.

Debreu, Gerard. 1959. Theory of Value: An Axiomatic Analysis of Economic. New York, John Wiley and Sons.

DeCanio, Stephen J. and William E. Watkins. 1998. Information processing and organizational structure. Journal of Economic Behavior & Organization. 36: 275-294.

Jorgenson, Dale W. and Kevin J. Stiroh. 2000. Raising the speed limit: U.S. economic growth in the information age. Brookings Papers on Economic Activity, 2000(1): 125-235.

Lackman, Conway L. 1976. The classical base of modern rent theory. American Journal of Economics and Sociology, 35(3): 287-300.

Macho-Stadler, J. David Pérez-Castrillo, Richard Watt. 2001. An introduction to the economics of information: incentives and contracts. Oxford University Press.

Marschak, Jacob. 1954. Towards an economic theory of organization and information. Economic Information, Decision, and Prediction, Selected Essays: Volume II, Part II Economics of Information and Organization. 29-62. ed. Jacob Marschak. D. Reidel Publishing Company, 1974.

Marschak, Thomas. 2004. Information technology and the organization of firms. Journal of Economics and Management, 13(3): 473-515.

Malmgren, H. B. 1961. Information, expectation and the theory of the firm. The Quarterly Journal of Economics. 75(3): 399-421.

Matteucci, Nicola, Mary O’Mahony, Catherine Robinson, and Thomas Zwick. 2005. Productivity, workplace performance and ICT: industry and firm-level evidence for Europe and the US. Scottish Journal of Political Economy, 52(3): 359-386.

Oliner, Stephen D. and Daniel E. Sichel. 2000. The resurgence of growth in the late 1990s: is information technology the story? Journal of Economic Perspective, 14(4): 3-22.

Oulton, Nicholas and Sylaja Srinivasan. 2005. Productivity growth and the role of ICT in the United Kingdom: an industry view, 1970-2000. CEP discussion paper, 681.

Radner, Roy, and Joseph Stiglitz. 1984. “Nonconcavity in the value of information”, in Bayesian Models in Economic Theory, 33-52. ed. M. Boyer and R.E. Kihlstrom. Amsterdam: Elsevier.

Stiglitz, Joseph E. 2002. Information and the change in the paradigm in economics. The American Economic Review, 92(3): 460-501.

Stiroh, Kevin J. 2002. Information technology and the U.S. productivity revival: what do the industry data say? The American Economic Review, 92(5): 1559-1576.

van Ark, Bart, Robert Inkaar, and Robert H. McGuckin. 2002. “Changing gear” productivity, ICT and service industries: Europe and the United States. Paper for NEW conference 2002.

Weitzman, Martin L. 1974. Prices vs. quantities. Review of Economic Studies, 41: 477-492.

Wessel, Robert H. 1967. A note on economic rent. The American Economic Review, 57(5): 1221-1226.

Yang, Xiaokai, and Yew-Kwang Ng. 1995. Theory of the firm and structure of residual rights. Journal of Economic Behavior and Organization, 26: 107-128.