We extend traditional agency theory by exploring the roles for formal measures when managerial behavior is not governed by rules, formulas, or contracts. Part I describes relational incentive contracts with informal weights on formal performance measures. More importantly, it also explores how formal measures could be used in models of informal management, such as adaptation and coordination, politics and influence, leadership, and informal authority. Part II considers the benefits from allowing key stakeholders to develop their own, potentially inferior, performance measures. The collaboration to create a “balanced scorecard” of performance measures can help change an organization's culture.

Academics, consultants, and practitioners have long advocated bringing the market inside the firm. For example, in the 1950s and 1960s economists proposed that the transfer-pricing problem should be solved by charging market prices for internal transactions. Similarly, in the 1980s, financial economists suggested that the capital-allocation problem should be solved by charging the external cost of capital for internal investments. And wave after wave of organizational restructuring has advocated radical decentralization, empowerment, “intrapreneurship, ” and the like—in short, making employees feel like owners. Proponents of making transactions within firms more market-like often seem to ignore the factors that brought these transactions inside firms in the first place. But Bengt Holmstrom and Paul Milgrom (1991, 1994), Holmstrom and Jean Tirole (1991), and Holmstrom (1999) [hereafter collectively HMT] remind us that in some cases integration is efficient precisely because it eliminates market incentives. In such cases, bringing the market inside the firm would clearly be undesirable. In this paper we show that bringing the market inside the firm is often not feasible, even if it would be desirable. More precisely, if some aspects of the market transaction are non-contractible (as we define below) then it is impossible to replicate spot-market payoffs inside a firm. This result would be trivial if the firm’s only instruments were court-enforceable contracts: it is impossible (by definition) for such contracts to replicate payoffs that were non-contractible in a spot market. Our

We analyze a rational-expectations model of price formation in an intermediate-good market under uncertainty. There is a continuum of firms, each consisting of a party who can reduce production cost and a party who can discover information about demand. Both parties can make specific investments at private cost, and there is a machine that either party can control. As in incomplete-contracting models, different governance structures (i.e., different allocations of control of the machine) create different incentives for the parties’ investments. As in rational-expectations models, some parties may invest in acquiring information, which is then incorporated into the market-clearing price of the intermediate good by these parties’ production decisions. The informativeness of the price mechanism affects the returns to specific investments and hence the optimal governance structure for individual firms; meanwhile, the governance choices by individual firms affect the informativeness of the price mechanism. In equilibrium, the informativeness of the price mechanism can induce ex ante homogeneous firms to choose heterogeneous governance structures.

Several partners jointly own an asset that may be traded among them. Each partner has a valuation for the asset; the valuations are known privately and drawn independently from a common probability distribution. We characterize the set of all incentive-compatible and interim-individually-rational trading mechanisms, and give a simple necessary and sufficient condition for such mechanisms to dissolve the partnership ex post efficiently. A bidding game is constructed that achieves such dissolution whenever it is possible. Despite incomplete information about the valuation of the asset, a partnership can be dissolved ex post efficiently provided no single partner owns too large a share; this contrasts with Myerson and Satterthwaite's result that ex post efficiency cannot be achieved when the asset is owned by a single party.

Organizations are all around us. Culture is trickier—to analyze and even to see. We consider both the effect of management on culture and the effect of culture on performance. We begin by describing an intervention that dramatically improved outcomes and conspicuously included a culture-change component. We then use details from this intervention to describe potential empirical analyses of the association between organizational culture and performance in this and similar settings. Finally, we describe opportunities for theoretical models to explore how and why organizational culture might influence organizational performance.