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Economic Theory (2008) 35: 7397
DOI 10.1007/s00199-007-0216-9
RESEARCH ARTICLE
Received: 20 October 2005 / Revised: 18 December 2006 / Published online: 28 March 2007 Springer-Verlag 2007
Abstract Current literature has largely ignored the fact that some organizations are highly selective when admitting new agents while others are more open. In addition, some organizations audit or sort agent behavior within the organization more aggressively than others. One might expect a priori that closed, highly selective, organizations would always be more efcient because they screen out the worst types, which could lead to better agent behavior. We show that this is not the case. Specically, when agent behavior in equilibrium is uniform across organizations (i.e., when the number of agents behaving the same way is identical), closed organizations are inefcient. However, when agent behavior varies across organizations, closed organizations may or may not be inefcient, depending on net payoffs to the organization and the agents. Our analysis implies that organizations should choose the open type when screening or sorting costs are high, when there is a high frequency of good agent types in the population, when agent misbehavior does not reduce output signicantly, and when penalties for misbehavior are large.
Keywords Asymmetric information Organization theory Efciency Sorting Screening
The paper has benetted from useful comments by David Flath, Charles Knoeber, Claudio Mezzetti, two anonymous referees and participants of the Spring 2005 Midwest Economic Theory meetings at Vanderbilt University, the 2005 meetings of the Society for the Advancement of Economic Theory in Vigo, Spain, the 2005 conference on Research in Economic Theory and Econometrics in Syros, Greece, and workshops at North Carolina State University, Texas A&M University and McGill University.
D. M. Holthausen T. Tsoulouhas (B) Department of Economics, North Carolina State University, Raleigh, NC 27695-8110, USAE-mail: [email protected]
D. M. Holthausen
E-mail: [email protected]
Duncan M. Holthausen Theofanis Tsoulouhas
The good, the bad and the ugly: agent behavior and efciency in open and closed organizations
74 D. M. Holthausen and T. Tsoulouhas
JEL Classication Numbers D82 L22
1 Introduction
Why are some organizations or societies more open than other, even seemingly similar, organizations or societies? For example, rms in the same industry, equally developed countries or institutions engaged in the same activities often differ in how selective they are...