Governing Adaptation

We consider an organization in which two activities need to be coordinated with each other (standardization), and yet also need to respond to local conditions (customization). Control of the activities can be allocated among two privately informed but biased local agents (employees) and an uninformed but unbiased central agent (manager). We analyze how the allocation of decisions rights within the organization a¤ects strategic communication among the participants and the decisions that the organization makes. By modeling the participants as strategic actors, we endogenize both the biases in equilibrium decisions, conditional on the information available to the decision-maker(s), and imperfections in the information itself, with communication between the local agents and the decision-maker(s) modeled as a cheap-talk game. The results provide a quali…ed formalization of the common intuition that centralization of decision-making is needed when interdependencies between activities are high. The quali…ers are: (i) the performance di¤erential between centralized and decentralized decision-making is non-monotone in the importance of coordination, (ii) both of these common structures are dominated by asymmetric structures in su¢ ciently asymmetric environments and (iii) incentive alignment provides a natural alternative to centralization. Contact: [email protected]. Preliminary and Incomplete. I would like to thank my advisors Robert Gibbons and Bengt Holmström for many helpful discussions and continuous encouragement. In addition, Sylvain Chassang, Wouter Dessein, Mathias Dewatripont, Glenn Ellison, Louis Garicano, Jonathan Levin, Casey Rothschild, Eric Van den Steen, Birger Wernerfelt and participants of MIT Theory and Organizational Economics lunches provided helpful comments and advice. Financial support from the Yrjö Jahnsson Foundation and the Finnish Cultural Foundation is gratefully acknowledged. All remaining errors are naturally my own. 1 FRIDAY, Jan. 19, 2007 1:30 Pm – 3:00 pm, Room: JKP-202 FBE FACULTY RECRUITING MICROECONOMICS