The Nature of the Firm Coase, Ronald H The Nature of the Firm Coase, Ronald H.(1937) Economica, 4 (November): 386-405 Yuju Tu Ronald Coase, 1991 Nobel Laureate, Economics

What is a Firm? Question: “…What are the differences among, factory, firm, and market?” Factory: Division-of-labor focus, e.g., team production yields more than the sum of individual productions Market: Price Mechanism focus, e.g., resource allocation through price mechanism Firm: Entrepreneur coordination focus, e.g., resource allocation by central authority

Why Does a Firm Exist? Question: “…why is there any organization”, i.e., why do firm exist? Prior economists: Firm exists only because of price mechanism (market). For example, if price factor A becomes higher in X than in Y, A will move from Y to X until the difference disappears. Ronald Coase: Firm exists because the cost of a central authority organizing transactions internally is cheaper than organizing them externally in the market

What Determines the Firm Size? Question: “Why is not all production carried on by one big firm?” Ronald Coase: This is because sometimes the cost of organizing the next transaction internally will be greater than the cost of organizing that same transaction in the marketplace. Question: “For a firm how big is big?” Ronald Coase: Firm tends to expand until the costs of organizing transactions approach to the costs of carrying same transactions in the market (or, another firm)

What Determines the Firm Size? Question: “Why would the costs of transaction within a firm rise?” Managerial diseconomy rise; Larger firms may pay more for resources; The spatial distribution of the transactions (Physical distance); Dissimilarity of transactions; and Rapidly changing environment

Conclusions Ronald Coase: the view of transaction-cost can help explain: The reason for the existence of a firm The limit of firm size The reason why a transaction takes place in a firm, i.e., using the price mechanism (market) to allocate resources is sometimes costly