Friday, January 30, 3:00 p.m.
Center for Social Complexity Suite
Research Hall, Third Floor

Towards a Theory of Firms and Markets

Vipin Vitil, PhD Candidate
George Mason University

ABSTRACT: This paper develops an explanation for why some activities are or-ganized through markets and others through firms. A basic economic problem is how to coordinate the plans of individuals in a system where in-formation is widely dispersed. In a market, coordination happens through a process of decentralized interactions. In a firm, an entrepreneur central-izes information and then makes plans to coordinate activities. Using the market mechanism entails the cost of finding potential exchange partners and agreeing on terms of trade. The cost of using the firm mechanism is that the plans made by the entrepreneur will be only as good as the quality of information that can be centralized. Information that changes frequently will be difficult to centralize. So will information that is not easy to communicate. The relative cost of using the two mechanisms will depend on the nature of information. The organization of an economy into markets and firms of different sizes is not an arbitrary mix, rather it may reflect the underlying information problems.