Governing Adaptation

To remain competitive, an organization needs to respond to information about its environment while at the same time retaining coordination among its activities. We analyze how the allocation of decision rights within an organizational hierarchy in‡uences the organization’s ability to solve such problems of coordinated adaptation information is both soft and distributed inside the organization and the organizational participants behave strategically. The results show that, contrary to the common intuition, the performance di¤erential between centralized and decentralized decision-making is non-monotone in the importance of coordination. Further, both of these common structures are dominated by asymmetric structures in su¢ ciently asymmetric environments (such as a small division developing a new product in the presence of a large division with an established product). Finally, if the incentive con‡icts between the participants can be made su¢ ciently small, centralized decision-making is always dominated by decentralized decision-making. Contact: rantakar@marshall.usc.edu. This paper is based on chapter one of my Ph.D. dissertation submitted to the Massachusetts Institute of Technology. I would like to thank my advisors Robert Gibbons and Bengt Holmström for many helpful discussions and continuous encouragement, and three anonymous referees for their comments. In addition, Sylvain Chassang, Wouter Dessein, Mathias Dewatripont, Glenn Ellison, Luis Garicano, Jonathan Levin, Casey Rothschild, Eric Van den Steen, Birger Wernerfelt, seminar participants at University of Southern California, Northwestern University, IESE Business School, Universitat Pompeu Fabra and London Business School, 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 my own.