Future of Sourcing - Economics https://www.futureofsourcing.com/tags/economics en Richard Thaler: Writing Contracts for Humans https://www.futureofsourcing.com/richard-thaler-writing-contracts-for-humans <div class="field field-name-field-image field-type-image field-label-hidden"><div class="field-items"><div class="field-item even" rel="og:image rdfs:seeAlso" resource="https://www.futureofsourcing.com/sites/default/files/articles/FOS%20Digital_Kate%20Vitasek_Slider%20Graphic%20%281%29%20%281%29_63.png"><a href="https://www.futureofsourcing.com/sites/default/files/articles/FOS%20Digital_Kate%20Vitasek_Slider%20Graphic%20%281%29%20%281%29_63.png" title="Richard Thaler: Writing Contracts for Humans" class="colorbox" rel="gallery-node-1094-MQmTAjs3UgY"><img typeof="foaf:Image" src="https://www.futureofsourcing.com/sites/default/files/styles/juicebox_medium/public/articles/FOS%20Digital_Kate%20Vitasek_Slider%20Graphic%20%281%29%20%281%29_63.png?itok=UVQ_EOR_" width="624" height="325" alt="" title="" /></a></div></div></div><div class="field field-name-body field-type-text-with-summary field-label-hidden"><div class="field-items"><div class="field-item even" property="content:encoded"> <p>Nobel laureate Richard Thaler understands the &ldquo;human&rdquo; side of economics. He&rsquo;s a founding member of behavioral economics and most recently won the 2017 Nobel Prize in Economics Sciences.&nbsp;</p> <p>The Nobel committee credited Thaler -- Professor of Behavioral Science and Economics at the University of Chicago Booth School of Business -- with taking the behavioral field from the fringe to the academic mainstream. The Nobel committee said that by &ldquo;exploring the consequences of limited rationality, social preferences, and lack of self-control, he has shown how these human traits systematically affect individual decisions as well as market outcomes.&rdquo; To many, Thaler is considered the father of behavioral economics.&nbsp;</p> <p>Thaler has said the basic premise of his approach to economics is that, &ldquo;In order to do good economics, you have to keep in mind that people are human.&rdquo; In a 2015 New York Times article, <a href="https://www.nytimes.com/2015/05/10/upshot/unless-you-are-spock-irrelevant-things-matter-in-economic-behavior.html" target="_blank">&ldquo;Unless You Are Spock, Irrelevant Things Matter in Economic Behavior,&rdquo;</a> Thaler wrote, &ldquo;Supposedly irrelevant factors, or SIFs, matter a lot, and if we economists recognize their importance, we can do our jobs better. Behavioral economics is, to a large extent, standard economics that has been modified to incorporate SIFs.&rdquo;&nbsp;</p> <p>That&rsquo;s a wonderful insight, but the trick is to sift through the factors that are relevant, possibly relevant, irrelevant and possibly irrelevant, while making the numbers make sense.&nbsp;</p> <p>For those not familiar with Thaler and his work, his book Misbehaving: The Making of Behavioral Economics, is a must read. In it he describes how behavioral economists challenged traditional thinking over the last forty years. His best-selling book Nudge (2008 - with Cass R. Sunstein) is also a great read that explores how behavioral economics can be used to tackle many of society&rsquo;s major problems.&nbsp;</p> <p>Simply put, Thaler is instrumental in making economics more human.&nbsp;</p> <p>David Frydlinger, a Swedish lawyer and partner in the Lindahl law firm, is one of Thaler&rsquo;s many fans. Frydlinger, an expert in relational contracts, says, &ldquo;Thaler is of fundamental importance for those who wish to succeed in writing good contracts in a complex economy.&rdquo;&nbsp;</p> <p><a href="http://outsourcemag.com/a-clear-understanding-of-outcome-based-contracts" target="_blank">&ldquo;Humanizing&rdquo; economics and contracts</a> is a significant and much-needed development that the legal and contracting community should carefully follow, and why Thaler&rsquo;s work is so significant.&nbsp;</p> <p><a href="http://outsourcemag.com/avery-w-katz-dealing-with-the-incomplete-contract" target="_blank">Read more: Avery W. Katz: Dealing with the Incomplete Contract&nbsp;</a></p> <p>I agree with Frydlinger&rsquo;s analysis about Thaler that we live in two worlds&mdash;the world of traditional economics, where there are only rational and smart but egotistical &lsquo;Econs,&rsquo; and the real world of &lsquo;Humans&rsquo; which are only rational to a certain extent, have a strong sense of fairness and a strong tendency to think short-term instead of long term.&nbsp;</p> <p>So, how is this relevant to contracts? To answer this question, Frydlinger suggests that we must determine whether we think of ourselves as Econs or Humans, both those who write contracts as well as those on &lsquo;the other side.&rsquo;&nbsp;</p> <p>Econs will lie to get what they want and will take every chance to get a contract that gives them most of the power and completely regulates all the bad things that can happen. &ldquo;If I think that I am an Econ, I will think that I in fact can write a watertight contract since I have unbounded rationality and can foresee everything,&rdquo; says Frydlinger.&nbsp;</p> <p>But the problem is that everyone is Human even if some think of themselves as utterly rational Econs. Frydlinger observes that Humans have a strong sense of fairness and often punish those who treat them unfairly even if it is against their own best economic interest. So, treating Humans as if they are Econs can lead to problems if they are sent a contract that is power-based and shifts most of the risks to them.&nbsp;</p> <p>Says Frydlinger, &ldquo;By viewing ourselves and others as Econs instead of Humans when writing and negotiating contracts, we will generate many of the risks we think we mitigate when writing the contract.&rdquo;&nbsp;</p> <p>&ldquo;There can be no doubt that this explains many of the reports of value leakage and other problems in many transactional contracts,&rdquo; Frydlinger notes.&nbsp;</p> <p>Bottom line according to Frydlinger&mdash;and I concur: it can be very costly to ignore Thaler&#39;s Nobel prize and write contracts as if we and the others are Econs instead of Humans.&nbsp;</p> <p>There is a growing amount of research showing how and when relational contracts (Human) out-perform conventional transactional contracts (Econ) in terms of cost advantages, time, quality and innovation. Researchers at the University of Tennessee and organizations such as the International Association for Contract and Commercial Management and Lindahl are behind this movement to help individuals and organizations understand and make the shift to using the modern form of relational contracts when appropriate.&nbsp;</p> <p>Read more about relational contracting in <a href="http://www.vestedway.com/wp-content/uploads/2016/10/Unpacking-Relational-Contracting_v19.pdf" target="_blank">&ldquo;Unpacking Relational Contracts,&rdquo;</a> and the troublesome fact that evolution has made us ill-equipped to make good plans and at the same time well-equipped to believe we are good planners.&nbsp;</p> <p>Simply put, we are all human.</p> </div></div></div><div class="field field-name-field-tags field-type-taxonomy-term-reference field-label-inline clearfix"><div class="field-label">Tags:&nbsp;</div><div class="field-items"><div class="field-item even" rel="dc:subject"><a href="/tags/economics" typeof="skos:Concept" property="rdfs:label skos:prefLabel" datatype="">Economics</a></div><div class="field-item odd" rel="dc:subject"><a href="/tags/contracts" typeof="skos:Concept" property="rdfs:label skos:prefLabel" datatype="">Contracts</a></div><div class="field-item even" rel="dc:subject"><a href="/tags/behavioral-economics" typeof="skos:Concept" property="rdfs:label skos:prefLabel" datatype="">Behavioral Economics</a></div><div class="field-item odd" rel="dc:subject"><a href="/tags/nobel-prize" typeof="skos:Concept" property="rdfs:label skos:prefLabel" datatype="">Nobel Prize</a></div><div class="field-item even" rel="dc:subject"><a href="/tags/cost" typeof="skos:Concept" property="rdfs:label skos:prefLabel" datatype="">Cost</a></div></div></div><div class="field field-name-field-addthis field-type-addthis field-label-hidden"><div class="field-items"><div class="field-item even"><div class="addthis_toolbox addthis_default_style " addthis:title="Richard Thaler: Writing Contracts for Humans - Future of Sourcing" addthis:url="https://www.futureofsourcing.com/richard-thaler-writing-contracts-for-humans"><a href="https://www.addthis.com/bookmark.php?v=300" class="addthis_button_linkedin"></a> <a href="https://www.addthis.com/bookmark.php?v=300" class="addthis_button_facebook"></a> <a href="https://www.addthis.com/bookmark.php?v=300" class="addthis_button_twitter"></a> <a href="https://www.addthis.com/bookmark.php?v=300" class="addthis_button_googleplus"></a> <a href="https://www.addthis.com/bookmark.php?v=300" class="addthis_button_pinterest_share"></a> <a href="https://www.addthis.com/bookmark.php?v=300" class="addthis_button_reddit"></a> <a href="https://www.addthis.com/bookmark.php?v=300" class="addthis_button_email"></a> <a href="https://www.addthis.com/bookmark.php?v=300" class="addthis_button_print"></a> </div> </div></div></div><div class="field field-name-field-region field-type-taxonomy-term-reference field-label-inline clearfix"><div class="field-label">Region:&nbsp;</div><div class="field-items"><div class="field-item even"><a href="/regions/global" typeof="skos:Concept" property="rdfs:label skos:prefLabel" datatype="">Global</a></div></div></div> Wed, 14 Mar 2018 18:43:21 +0000 Kate Vitasek 1094 at https://www.futureofsourcing.com https://www.futureofsourcing.com/richard-thaler-writing-contracts-for-humans#comments Institutions and Success: a Tribute to Douglass North https://www.futureofsourcing.com/institutions-and-success-a-tribute-to-douglass-north <div class="field field-name-field-image field-type-image field-label-hidden"><div class="field-items"><div class="field-item even" rel="og:image rdfs:seeAlso" resource="https://www.futureofsourcing.com/sites/default/files/articles/FOS%20Digital_Kate%20Vitasek_Slider%20Graphic%20%281%29%20%281%29_65.png"><a href="https://www.futureofsourcing.com/sites/default/files/articles/FOS%20Digital_Kate%20Vitasek_Slider%20Graphic%20%281%29%20%281%29_65.png" title="Institutions and Success: a Tribute to Douglass North" class="colorbox" rel="gallery-node-1070-MQmTAjs3UgY"><img typeof="foaf:Image" src="https://www.futureofsourcing.com/sites/default/files/styles/juicebox_medium/public/articles/FOS%20Digital_Kate%20Vitasek_Slider%20Graphic%20%281%29%20%281%29_65.png?itok=oCBSbRA9" width="624" height="325" alt="" title="" /></a></div></div></div><div class="field field-name-field-intro field-type-text-long field-label-hidden"><div class="field-items"><div class="field-item even"> <p style="margin-top: 0px; outline: 0px; font-family: 'Open Sans', Arial, Helvetica, Verdana, 'Bitstream Vera Sans', sans-serif; font-size: 13px; font-weight: bold; line-height: inherit; color: rgb(51, 51, 51);">In anticipation of the return of Kate Vitasek&rsquo;s column &ldquo;The Academics of Sourcing,&rdquo; Outsource is pleased to showcase some of her best articles from the archives.</p> <p style="margin-top: 0px; outline: 0px; font-family: 'Open Sans', Arial, Helvetica, Verdana, 'Bitstream Vera Sans', sans-serif; font-size: 13px; font-weight: bold; line-height: inherit; color: rgb(51, 51, 51);">&ldquo;The Academics of Sourcing&rdquo; is a series that regularly shares some of the best academic insights and translates the learnings from academia into sound advice for practitioners.</p> <p style="margin-top: 0px; outline: 0px; font-family: 'Open Sans', Arial, Helvetica, Verdana, 'Bitstream Vera Sans', sans-serif; font-size: 13px; font-weight: bold; line-height: inherit; color: rgb(51, 51, 51);">Read on to get reacquainted with Kate Vitasek&rsquo;s insight and experience into the world of sourcing and the academics behind it.&nbsp;</p> </div></div></div><div class="field field-name-body field-type-text-with-summary field-label-hidden"><div class="field-items"><div class="field-item even" property="content:encoded"> <p>This month&rsquo;s Academic of Outsourcing tribute goes to Douglass C. North for his work on &ldquo;new institutional economics.&rdquo; North &ndash; a professor, economist, philosopher and economic historian &ndash; was the co-recipient (with Robert Fogel) of the 1993 Nobel Prize in Economic Sciences &ldquo;for having renewed research in economic history by applying economic theory and quantitative methods in order to explain economic and institutional change.&rdquo;&nbsp;</p> <p>A mouthful for sure, so let me translate. North, a former professor at Washington University&rsquo;s Department of Economics in St. Louis, MO, led groundbreaking work on how institutions and societies interact and how those interactions can positively or negatively impact economics over time as they evolve.&nbsp;</p> <p>In a 1991 paper on institutions, North argued that institutions are &ldquo;the humanly devised constraints that structure political, economic and social interaction. They consist of both informal constraints (sanctions, taboos, customs, traditions and codes of conduct), and formal rules (constitutions, laws, property rights).&rdquo; As an institution, these formal and informal behaviors have the power to &ldquo;shape the direction towards growth, stagnation or decline.&rdquo;&nbsp;</p> <p>Wow...powerful stuff. The formal policies and informal behaviors we have in business exchanges help form the basis of our future business success (or decline).&nbsp;</p> <p>A key premise of North&rsquo;s work is that institutions are needed to &ldquo;create order and reduce uncertainty in exchange.&rdquo; Businesses eventually create a set of institutional norms and actions that drive the nature of the relationship, and in turn the economic value that follows from businesses doing business together.&nbsp;</p> <p>Viewing businesses as institutions mean that there are more than cold commercial calculations at work, because institutions, as North indicates, are also social arrangements. North examines this through a game theory lens: &ldquo;Wealth-maximizing individuals will usually find it worthwhile to cooperate with other players when the play is repeated, when they possess complete information about the other player&rsquo;s past performance, and when there are small numbers of players. But turn the game upside-down. Cooperation is difficult to sustain when the game is not repeated (or there is an end game), when information on the other players is lacking, and when there are large numbers of players.&rdquo;&nbsp;</p> <p>The last sentence is worth repeating. &ldquo;Cooperation is difficult to sustain when the game is not repeated (or there is an end game), when information on the other players is lacking, and when there are large numbers of players.&rdquo; Bottom line: what North was getting at is that it&rsquo;s hard to build a highly cooperative business relationship when you don&rsquo;t trust the other party, or in other words, when there&rsquo;s a win-lose &ldquo;end game&rdquo; underway.&nbsp;</p> <p>I wholeheartedly agree with North. For commercial relationships to work successfully over the long term, they must consciously adopt formal and informal ethical social norms of trust, integrity and honesty with the clear intention of raising the level of certainty in doing business with another party&nbsp;</p> <p>In my book &ndash; <em>Vested: How P&amp;G McDonald&rsquo;s and Microsoft are Redefining Winning in Business Relationships</em> &ndash; I describe how McDonald&rsquo;s has created a &ldquo;system&rdquo; that includes long-term relationships with its most strategic suppliers based on a simple handshake. Ray Kroc&rsquo;s handshake formed the basis for a social contract based on transparent, hyper-collaborative&nbsp;</p> <p>relationships under the &ldquo;none of us is as good as all of us&rdquo; mantra. McDonald&rsquo;s social contracts have evolved, including formalization of fabulous governance mechanisms with the conscious goal of driving predictable, trusted relationships with their most strategic suppliers.&nbsp;</p> <p>Establishing social norms to drive predictable patterns of behaviors between business partners based on trust, integrity and honesty definitely has the power to motivate order and certainty in a business relationship. A case in point is that McDonald&rsquo;s and its suppliers face the same dynamic and ever-changing world fraught with the same risk as their fiercest competitors. The difference is that McDonald&rsquo;s and its suppliers de-risk the supply chain by working together to solve the most complex supply chain challenges &ndash; such as how to not run out of chicken during the Avian Flu crisis, or how to become the first restaurant to open after Hurricane Katrina.&nbsp;</p> <p>Think about it. Which side do you want to be on in the face of a dynamic and risk-filled business world? Someone you can trust? Or someone that is consistently opportunistic and will throw you under the bus in the face of adversity? If you ask me, I&rsquo;d rather be on the same side of the table with my customer (or supplier) solving the tough problems rather than sitting across the table negotiating in a never-ending battle of tradeoffs, concessions and risk-shifting.&nbsp;</p> <p>North&rsquo;s analysis of institutions and how they interact economically and socially is relevant &ndash; and encouraging.</p> </div></div></div><div class="field field-name-field-tags field-type-taxonomy-term-reference field-label-inline clearfix"><div class="field-label">Tags:&nbsp;</div><div class="field-items"><div class="field-item even" rel="dc:subject"><a href="/tags/supply-chain" typeof="skos:Concept" property="rdfs:label skos:prefLabel" datatype="">Supply Chain</a></div><div class="field-item odd" rel="dc:subject"><a href="/tags/outsourcing" typeof="skos:Concept" property="rdfs:label skos:prefLabel" datatype="">Outsourcing</a></div><div class="field-item even" rel="dc:subject"><a href="/tags/economics" typeof="skos:Concept" property="rdfs:label skos:prefLabel" datatype="">Economics</a></div><div class="field-item odd" rel="dc:subject"><a href="/tags/risk" typeof="skos:Concept" property="rdfs:label skos:prefLabel" datatype="">Risk</a></div><div class="field-item even" rel="dc:subject"><a href="/tags/trust" typeof="skos:Concept" property="rdfs:label skos:prefLabel" datatype="">Trust</a></div></div></div><div class="field field-name-field-addthis field-type-addthis field-label-hidden"><div class="field-items"><div class="field-item even"><div class="addthis_toolbox addthis_default_style " addthis:title="Institutions and Success: a Tribute to Douglass North - Future of Sourcing" addthis:url="https://www.futureofsourcing.com/institutions-and-success-a-tribute-to-douglass-north"><a href="https://www.addthis.com/bookmark.php?v=300" class="addthis_button_linkedin"></a> <a href="https://www.addthis.com/bookmark.php?v=300" class="addthis_button_facebook"></a> <a href="https://www.addthis.com/bookmark.php?v=300" class="addthis_button_twitter"></a> <a href="https://www.addthis.com/bookmark.php?v=300" class="addthis_button_googleplus"></a> <a href="https://www.addthis.com/bookmark.php?v=300" class="addthis_button_pinterest_share"></a> <a href="https://www.addthis.com/bookmark.php?v=300" class="addthis_button_reddit"></a> <a href="https://www.addthis.com/bookmark.php?v=300" class="addthis_button_email"></a> <a href="https://www.addthis.com/bookmark.php?v=300" class="addthis_button_print"></a> </div> </div></div></div><div class="field field-name-field-region field-type-taxonomy-term-reference field-label-inline clearfix"><div class="field-label">Region:&nbsp;</div><div class="field-items"><div class="field-item even"><a href="/regions/global" typeof="skos:Concept" property="rdfs:label skos:prefLabel" datatype="">Global</a></div></div></div> Thu, 11 Jan 2018 18:09:53 +0000 Kate Vitasek 1070 at https://www.futureofsourcing.com https://www.futureofsourcing.com/institutions-and-success-a-tribute-to-douglass-north#comments Hart, Holmstrom: Contract theory and incomplete contracts https://www.futureofsourcing.com/node/640 <div class="field field-name-field-image field-type-image field-label-hidden"><div class="field-items"><div class="field-item even" rel="og:image rdfs:seeAlso" resource="https://www.futureofsourcing.com/sites/default/files/articles/FOS%20Digital_Kate%20Vitasek_Slider%20Graphic%20%281%29%20%281%29_72.png"><a href="https://www.futureofsourcing.com/sites/default/files/articles/FOS%20Digital_Kate%20Vitasek_Slider%20Graphic%20%281%29%20%281%29_72.png" title="Hart, Holmstrom: Contract theory and incomplete contracts" class="colorbox" rel="gallery-node-640-MQmTAjs3UgY"><img typeof="foaf:Image" src="https://www.futureofsourcing.com/sites/default/files/styles/juicebox_medium/public/articles/FOS%20Digital_Kate%20Vitasek_Slider%20Graphic%20%281%29%20%281%29_72.png?itok=Kb4Hwo8U" width="624" height="325" alt="" title="" /></a></div></div></div><div class="field field-name-body field-type-text-with-summary field-label-hidden"><div class="field-items"><div class="field-item even" property="content:encoded"> <p>Professors Bengt Holmström (MIT) and Oliver Hart (Harvard) received the 2016 Nobel Prize in economic science in October for their work in the realm of contract theory and, most intriguing, the nature of contracts as being essentially incomplete.</p> <p>The Nobel Prize committee&rsquo;s <a href="https://www.nobelprize.org/nobel_prizes/economic-sciences/laureates/2016/press.html" target="_blank">press release</a> said, &ldquo;The new theoretical tools created by Hart and Holmström are valuable to the understanding of real-life contracts and institutions, as well as potential pitfalls in contract design.&rdquo;</p> <p>I am particularly interested in Hart&rsquo;s work, which delves into the importance of the correct contract design to ensure success in business relationships.</p> <p>When a customer&rsquo;s interests are not aligned with the supplier&rsquo;s interests &ndash; and vice versa &ndash; problems inevitably arise. When the customer wants lower price and the supplier higher margins &ndash; which is typically the case &ndash; they end up in a zero-sum game where one party&rsquo;s gain is the other party&rsquo;s loss.</p> <p>How can this be avoided? How can commercial deals and contracts be designed to optimise chances of success, avoiding conflicting interests? Can contracts be written that answer every possible conflict of interest or eventuality?</p> <p>Hart&rsquo;s focus is on contract design and the rules of the game. He points to the simple but often ignored fact that all contracts are incomplete.</p> <p>The idea of contract incompleteness has been explored most notably by another Nobel laureate, Oliver Williamson, and is a foundational idea behind the Vested sourcing business model. It is not possible to predict everything that will happen and write contractual rights and obligations to deal with every eventuality. The contract will be silent on many points. This fact must be embraced and dealt with, for when (not if) the contract is silent, conflicting interests between the parties could erode value, unless the parties have established flexible, relational and collaborative mechanisms to deal with this.</p> <p>Hart&rsquo;s (and Williamson&rsquo;s) insight on this is critical: The typical attitude of most lawyers is to attempt to write a complete contract, even though everyone knows this is virtually impossible. Having a Nobel Prize laureate point out the incompleteness of contracts will hopefully help make it impossible to ignore this simple fact. The relational contract, for example, which underlies Vested agreements, embraces contract incompleteness and has built-in, flexible mechanisms to deal with the potential conflicts that arise in the &ldquo;gray&rdquo; areas of incompleteness.</p> <p>Hart&rsquo;s work into contract theory has evolved significantly over the years. Hart&rsquo;s message &ndash; outlined during a recent seminar in Sweden on contract theory that was hosted by Lindahl Law Firm (<a href="http://excellencewithoutnonsense.lindahl.se/news-in-english/contract-theory-swedens-competitive-position/" target="_blank">view the videos here</a>) &ndash; is the idea that when contracts are incomplete, ownership of the asset becomes an important and controlling factor. Hart&rsquo;s advice is to allocate ownership of assets before the contract is signed.</p> <p>Hart&rsquo;s early work is heavily influenced by traditional economic theory and using power to allocate decision rights in a contract. Hart advised if it is possible to achieve an allocation that creates a power balance, the parties should enter into a contract. If it is not possible to achieve a power balance, one of the parties should buy the other, i.e. vertically integrate. Why? Because it is assumed to be impossible to avoid that, in case of a conflict of interests, the parties will try to exploit one another.</p> <p>The video from the seminar explains how Hart has had a change of heart in his views on traditional economic theory as it relates to contract. His later work is heavily influenced by behavioural economics. In the seminar sponsored by Lindahl, Hart acknowledged that, &ldquo;I learned and had to accept that my theory had gaps in it, and had to introduce some behavioural features; my experiments support the theory.&rdquo;</p> <p>Hart stresses the importance of communication. Maybe if things are talked out early on, &ldquo;you can get away from bad feelings and get good performance. Rather than something completely binding and everything is spelled out, you have to think more about the fuzzy stuff, the trust, the relationships, the fairness, and how you deal with new situations in a way that both parties feel comfortable about.&rdquo; Hart noted that this relates to relational contracts; &ldquo;I&rsquo;m very sympathetic to relational contracts.&rdquo;</p> <p>In the seminar attorney David Frydlinger sums up the application of behavioural economics with a simple but profound statement: &ldquo;It is simply not true that only self-interest and power rules the market,&rdquo; adding &ldquo;research does indeed show that a &ldquo;what&rsquo;s in it for we&rdquo; (WIIFWe) mindset exists.</p> <p>Daniel Kahneman is one such expert provided strong evidence for people&rsquo;s strong sense of fairness in his own 2002 Nobel Prize-winning research. Kahneman&rsquo;s work clearly shows individuals are inclined to a fair sharing of value and moral behaviour, even when it is against strict economic rationality.</p> <p>I see the WIIFWe mindset every day between customers and suppliers implementing the highly collaborative Vested model. The results are real, as demonstrated in <em><a href="http://www.vestedway.com/vested/" target="_blank">Vested: How P&amp;G, McDonald&rsquo;s and Microsoft are Redefining Winning in Business Relationships</a></em>.</p> <p>It is great to hear first-hand how a big thinking economics guru such as Hart has evolved his thinking over the years to include the softer side of economics. And it is even more exciting to see the Nobel Prize committee rewarding him for this big thinking.</p> </div></div></div><div class="field field-name-field-tags field-type-taxonomy-term-reference field-label-inline clearfix"><div class="field-label">Tags:&nbsp;</div><div class="field-items"><div class="field-item even" rel="dc:subject"><a href="/tags/strategy" typeof="skos:Concept" property="rdfs:label skos:prefLabel" datatype="">Strategy</a></div><div class="field-item odd" rel="dc:subject"><a href="/tags/sourcing" typeof="skos:Concept" property="rdfs:label skos:prefLabel" datatype="">Sourcing</a></div><div class="field-item even" rel="dc:subject"><a href="/tags/contract" typeof="skos:Concept" property="rdfs:label skos:prefLabel" datatype="">Contract</a></div><div class="field-item odd" rel="dc:subject"><a href="/tags/law" typeof="skos:Concept" property="rdfs:label skos:prefLabel" datatype="">Law</a></div><div class="field-item even" rel="dc:subject"><a href="/tags/economics" typeof="skos:Concept" property="rdfs:label skos:prefLabel" datatype="">Economics</a></div></div></div><div class="field field-name-field-addthis field-type-addthis field-label-hidden"><div class="field-items"><div class="field-item even"><div class="addthis_toolbox addthis_default_style " addthis:title="Hart, Holmstrom: Contract theory and incomplete contracts - Future of Sourcing" addthis:url="https://www.futureofsourcing.com/node/640"><a href="https://www.addthis.com/bookmark.php?v=300" class="addthis_button_linkedin"></a> <a href="https://www.addthis.com/bookmark.php?v=300" class="addthis_button_facebook"></a> <a href="https://www.addthis.com/bookmark.php?v=300" class="addthis_button_twitter"></a> <a href="https://www.addthis.com/bookmark.php?v=300" class="addthis_button_googleplus"></a> <a href="https://www.addthis.com/bookmark.php?v=300" class="addthis_button_pinterest_share"></a> <a href="https://www.addthis.com/bookmark.php?v=300" class="addthis_button_reddit"></a> <a href="https://www.addthis.com/bookmark.php?v=300" class="addthis_button_email"></a> <a href="https://www.addthis.com/bookmark.php?v=300" class="addthis_button_print"></a> </div> </div></div></div> Fri, 06 Jan 2017 13:53:32 +0000 Kate Vitasek 640 at https://www.futureofsourcing.com https://www.futureofsourcing.com/node/640#comments Deirdre McCloskey: Are Markets Moral? https://www.futureofsourcing.com/deirdre-mccloskey-are-markets-moral <div class="field field-name-field-image field-type-image field-label-hidden"><div class="field-items"><div class="field-item even" rel="og:image rdfs:seeAlso" resource="https://www.futureofsourcing.com/sites/default/files/articles/FOS%20Digital_Kate%20Vitasek_Slider%20Graphic%20%281%29%20%281%29_79.png"><a href="https://www.futureofsourcing.com/sites/default/files/articles/FOS%20Digital_Kate%20Vitasek_Slider%20Graphic%20%281%29%20%281%29_79.png" title="Deirdre McCloskey: Are Markets Moral?" class="colorbox" rel="gallery-node-1095-MQmTAjs3UgY"><img typeof="foaf:Image" src="https://www.futureofsourcing.com/sites/default/files/styles/juicebox_medium/public/articles/FOS%20Digital_Kate%20Vitasek_Slider%20Graphic%20%281%29%20%281%29_79.png?itok=BEtNyvaS" width="624" height="325" alt="" title="" /></a></div></div></div><div class="field field-name-body field-type-text-with-summary field-label-hidden"><div class="field-items"><div class="field-item even" property="content:encoded"> <p>Economist and philosopher<a href="http://www.deirdremccloskey.com/" target="_blank">&nbsp;Deirdre McCloskey</a>&nbsp;has some thought-provoking and highly nuanced takes on innovation and ethics in the commercial arena.</p> <p>How about this for starters: capitalism&nbsp;<em>is</em>&nbsp;innovation, in her estimation. And she contends that capitalism/innovation backed by liberal economic ideas &ldquo;has made billions of poor people pretty well off, without hurting other people.&rdquo; Did I mention she is also controversial?</p> <p>Over her long career she has done some deep thinking on the intersection of economics, markets and morality, as might be expected from her list of titles: Distinguished Professor of Economics, History, English, and Communication at the University of Illinois at Chicago. She is also adjunct professor of Philosophy and Classics there, and for five years was a visiting Professor of philosophy at Erasmus University, Rotterdam.</p> <p>McCloskey laid out the essence of her thinking in&nbsp;<a href="https://www.youtube.com/watch?v=x-rf66RRtx4&amp;feature=youtu.be" target="_blank">this video</a>&nbsp;in which she discusses three of her books that come under the overall theme she calls the Bourgeois Era:&nbsp;<em>The Bourgeois Virtues: Ethics for an Age of Commerce</em>&nbsp;(2006);&nbsp;<em>Bourgeois Dignity: Why Economics Can&rsquo;t Explain the Modern World</em>&nbsp;(2010); and the upcoming (this year)&nbsp;<em>The Treasured Bourgeoisie</em>.</p> <p>The motivation of the trilogy, she says, is to persuade what she calls the &ldquo;clerisy&rdquo;&mdash;the intelligentsia, communicators, shapers of minds, etc.&mdash;that &ldquo;capitalism can be ethical; it can be unethical, and that is a choice we face&mdash;it&rsquo;s not built into the nature of the system.&rdquo; McCloskey&rsquo;s central point is that individuals and organizations &ldquo;can live an ethical life in a commercial society.&rdquo;</p> <p>The modern way to do that, she continues, is to balance life in commerce with the virtues of love, courage, temperance, justice, faith, hope and prudence. Did I mention she&rsquo;s a maverick in a multitude of ways?</p> <p>Where most of today&rsquo;s economists fall short lies in their &ldquo;conception that economics is only about prudence&hellip;<em>prudence only</em>&nbsp;is not sufficient for a truly scientific economics.&rdquo; She argues for &ldquo;humanomics&rdquo; instead. Because the economy &ldquo;depends massively on cooperation, economists need to stop telling people that all that matters is prudence.&rdquo; The other virtues need to be included.</p> <p>McCloskey also insists that unlike what most economists preach, capital accumulation is not what made the modern world&mdash;&ldquo;this is rubbish!&rdquo; It&rsquo;s ideas that matter and &ldquo;how we think of each other&hellip;it&rsquo;s about sociology, not psychology.&rdquo;</p> <p>She argues that the important flaw in economics &ldquo;is not its mathematical and necessarily mistaken theory of future business cycles, but its materialist and unnecessarily mistaken theory of past growth.&rdquo; The &lsquo;Big Economic Story&rsquo; of present times is not the Great Recession of 2007-2009, it is that the &ldquo;Chinese in 1978 and then the Indians in 1991 adopted liberal ideas in the economy, and came to attribute a dignity and a liberty to the bourgeoisie formerly denied. And then China and India exploded in economic growth.&rdquo;</p> <p>McCloskey&rsquo;s moral is that in achieving a pretty good life for the mass of humankind, and a chance at a fully human existence, &ldquo;ideas have mattered more than the usual material causes.&rdquo;</p> <p>Simply put: we become rich by &ldquo;gigantically increasing the size of the pie.&rdquo;</p> <p>There you go! This is highly Vested: the idea is that creating, sharing and expanding value through collaboration and adhering to basic guiding principles will transform our business relationships&mdash;creating the long-term win-win.</p> <p>Agree with all she says or not, McCloskey makes a definite point that we need to &ldquo;abandon the materialist premise that reshuffling and efficiency, or an exploitation of the poor, made the modern world.&rdquo; Rather a new science of history and the economy is needed, &ldquo;a humanistic one that acknowledges number and word, interest and rhetoric, behavior and meaning.&rdquo;</p> </div></div></div><div class="field field-name-field-tags field-type-taxonomy-term-reference field-label-inline clearfix"><div class="field-label">Tags:&nbsp;</div><div class="field-items"><div class="field-item even" rel="dc:subject"><a href="/tags/capitalism" typeof="skos:Concept" property="rdfs:label skos:prefLabel" datatype="">Capitalism</a></div><div class="field-item odd" rel="dc:subject"><a href="/tags/economics" typeof="skos:Concept" property="rdfs:label skos:prefLabel" datatype="">Economics</a></div><div class="field-item even" rel="dc:subject"><a href="/tags/ethics" typeof="skos:Concept" property="rdfs:label skos:prefLabel" datatype="">Ethics</a></div><div class="field-item odd" rel="dc:subject"><a href="/tags/morality" typeof="skos:Concept" property="rdfs:label skos:prefLabel" datatype="">Morality</a></div><div class="field-item even" rel="dc:subject"><a href="/tags/vested-outsourcing" typeof="skos:Concept" property="rdfs:label skos:prefLabel" datatype="">Vested Outsourcing</a></div></div></div><div class="field field-name-field-addthis field-type-addthis field-label-hidden"><div class="field-items"><div class="field-item even"><div class="addthis_toolbox addthis_default_style " addthis:title="Deirdre McCloskey: Are Markets Moral? - Future of Sourcing" addthis:url="https://www.futureofsourcing.com/deirdre-mccloskey-are-markets-moral"><a href="https://www.addthis.com/bookmark.php?v=300" class="addthis_button_linkedin"></a> <a href="https://www.addthis.com/bookmark.php?v=300" class="addthis_button_facebook"></a> <a href="https://www.addthis.com/bookmark.php?v=300" class="addthis_button_twitter"></a> <a href="https://www.addthis.com/bookmark.php?v=300" class="addthis_button_googleplus"></a> <a href="https://www.addthis.com/bookmark.php?v=300" class="addthis_button_pinterest_share"></a> <a href="https://www.addthis.com/bookmark.php?v=300" class="addthis_button_reddit"></a> <a href="https://www.addthis.com/bookmark.php?v=300" class="addthis_button_email"></a> <a href="https://www.addthis.com/bookmark.php?v=300" class="addthis_button_print"></a> </div> </div></div></div><div class="field field-name-field-region field-type-taxonomy-term-reference field-label-inline clearfix"><div class="field-label">Region:&nbsp;</div><div class="field-items"><div class="field-item even"><a href="/regions/global" typeof="skos:Concept" property="rdfs:label skos:prefLabel" datatype="">Global</a></div></div></div> Wed, 13 May 2015 22:19:48 +0000 Kate Vitasek 1095 at https://www.futureofsourcing.com https://www.futureofsourcing.com/deirdre-mccloskey-are-markets-moral#comments Jean Tirole: The science of taming powerful firms https://www.futureofsourcing.com/jean-tirole-the-science-of-taming-powerful-firms <div class="field field-name-field-image field-type-image field-label-hidden"><div class="field-items"><div class="field-item even" rel="og:image rdfs:seeAlso" resource="https://www.futureofsourcing.com/sites/default/files/articles/FOS%20Digital_Kate%20Vitasek_Slider%20Graphic%20%281%29%20%281%29_81.png"><a href="https://www.futureofsourcing.com/sites/default/files/articles/FOS%20Digital_Kate%20Vitasek_Slider%20Graphic%20%281%29%20%281%29_81.png" title="Jean Tirole: The science of taming powerful firms" class="colorbox" rel="gallery-node-1107-MQmTAjs3UgY"><img typeof="foaf:Image" src="https://www.futureofsourcing.com/sites/default/files/styles/juicebox_medium/public/articles/FOS%20Digital_Kate%20Vitasek_Slider%20Graphic%20%281%29%20%281%29_81.png?itok=E0yJbxgK" width="624" height="325" alt="" title="" /></a></div></div></div><div class="field field-name-body field-type-text-with-summary field-label-hidden"><div class="field-items"><div class="field-item even" property="content:encoded"> <p>Jean Tirole, the French professor of economics who recently received the&nbsp;<a href="http://www.nobelprize.org/nobel_prizes/economic-sciences/laureates/2014/" target="_blank">Nobel Prize</a>, is one of the most influential modern economists for his extensive theories and rigorous mathematic analysis of strategic behaviour and information economics in what is known as &ldquo;Industrial Organisation&rdquo; (IO).</p> <p>As part of his research, he studied firms and markets where a firm had &ldquo;power&rdquo; to dominate the market and perhaps abuse that power.</p> <p>Tirole&rsquo;s research addresses two key questions: when a firm has market power, how will it behave; and how does its behaviour affect the firm&rsquo;s suppliers, customers, and competitors? Tirole&rsquo;s research, textbooks and mathematical models helps in understanding the science of taming powerful firms through regulation, the effectiveness of incentives and whether legal sanctions are substitutes or complements for social sanctions and norms.</p> <p>Tirole&rsquo;s models are decidedly mathematical in nature, starting with individuals or firms that are assumed to be rational creatures out to maximise their utility and profits. He then usually incorporates the tools of game theory.</p> <p>While you might not find Tirole&rsquo;s deep thinking and mathematical analysis much fun to read if you are a business person, you likely will find his work worthy to consider if you practice the art and science of structuring outsourcing agreements.</p> <p>His findings? There are no standard answers for regulation and competition policy because solutions will vary among different, complex markets.</p> <p><em>Simply put, there is no one-size-fits-all approach to regulation and keeping a firm&rsquo;s power in check.</em></p> <p>For example, the&nbsp;<a href="http://archive.outsourcemag.com/jean-tirole-the-science-of-taming-powerful-firms/www.nobelprize.org/nobel_prizes/economic-sciences/laureates/2014/advanced-economicsciences2014.pdf" target="_blank">Nobel Committee on Economic Sciences</a>&nbsp;said Tirole&rsquo;s work shows that cooperation on price-setting within a market is usually harmful, but cooperation regarding patent pools can benefit everyone involved. The merger of a firm and its supplier may lead to more rapid innovation, but it could also distort competition. Thus, a new way of looking at oligopoly markets was needed, because in the final analysis all regulation must be industry-specific.</p> <p>Tirole, in his&nbsp;<em><a href="http://archive.outsourcemag.com/jean-tirole-the-science-of-taming-powerful-firms/classwebs.spea.indiana.edu/kenricha/Oxford/Archives/Courses%202010/Governance%202010/Articles/Tirole.pdf" target="_blank">The Theory of Industrial Organisation</a>,</em>&nbsp;asserts the behaviour of firms is &ldquo;not a simple matter&hellip;there are many ways in which business decision makers may deviate from profit-maximising behaviour and many mechanisms that, in turn, limit managerial discretion.&rdquo; To put it bluntly: sometimes companies are tempted to justify less than ethical practices to maximize their profit. (Note: see Dan Ariely&rsquo;s book,&nbsp;<em>The (Honest) Truth about Dishonesty: How We Lie to Everyone &mdash; Especially Ourselves</em>, to learn more about how organisations and individuals justify their bad behaviour.)</p> <p>Tirole says there are three ways to view firms. When you begin to understand the various views, you can gain insight and build industry-specific or relationship-specific self-governing mechanisms that can help prevent a firm&rsquo;s temptation to &ldquo;cheat&rdquo; in their effort to maximise profit.</p> <p>The first, the technological view, can be seen as a &ldquo;loophole for the exercise of monopoly power&rdquo; by internalising practices that circumvent legal frameworks.</p> <p>The second, contractual view, sees the firm as a &ldquo;long-run arrangement of its units.&rdquo; This leads to the &ldquo;Williamsonian [Oliver Williamson] theory of the hazards of idiosyncratic exchange in a long-run relationship,&rdquo; especially in the buyer-supplier relationship in which the parties &ldquo;must sink trade-specific investments before trading.&rdquo;</p> <p>The third view, the incomplete-contracting view, also follows Oliver Williamson&rsquo;s research that all complex contracts are incomplete. Tirole notes that &ldquo;contracts are necessarily incomplete, because some contingencies are unforeseeable or because there are too many of them to specify in writing.&rdquo;&nbsp; In this case we must resist the urge to create rigid contractual documents for complex outsourcing relationships and instead seek to &ldquo;define only the broad lines of the relationship.&rdquo; Thus the degree of integration can be roughly measured by the &ldquo;extent to which authority is distributed between contracting authorities.&rdquo;</p> <p>So how can you take Tirole&rsquo;s lessons and apply them in the real world of outsourcing?</p> <p>First, business professionals need to look in the mirror and admit no business agreement is perfect. There simply cannot be a &ldquo;standard template&rdquo; for any complex outsourcing agreement. And if you try cram a complex business relationship into a standard agreement (or regulatory) framework you are likely to fail since by nature businesspeople will tend to become opportunistic and try to &ldquo;win&rdquo; at the expense of their business partner (or when there is a lack of government regulation) if the door is left open.</p> <p>Second, study the University of Tennessee&rsquo;s&nbsp;<a href="http://www.vestedway.com/" target="_blank">Vested Outsourcing</a>&nbsp;business model. The Vested methodology starts with the fact that all complex contracts are incomplete &ndash; and that organisations need to create a &ldquo;flexible framework&rdquo; to manage the dynamic nature of business reality.</p> <p>Vested&rsquo;s governance framework helps buyers and suppliers shift from a traditional &ldquo;buy-sell&rdquo; mentality to co-create an outsourcing agreement that is optimal for their specific relationship and business needs. The agreement is designed as a flexible framework, and parties jointly design mechanisms that help keep their interests aligned over time.</p> <p>One of Vested&rsquo;s Five Rules is &ldquo;Insight versus Oversight Governance structure,&rdquo; where the parties design-in self-governing techniques to keep them in alignment &ndash; and prevent them from the temptation of abusing their power. When &ldquo;business happens&rdquo; &ndash; no problem! The party that has the weaker power and will get harmed by the change invokes the self-governing mechanisms that enable the parties to get back in alignment.</p> <p>Think of Vested as a &ldquo;system&rdquo; that keeps itself regulated much the way you set the thermostat in your home. If you craft a good agreement using the Vested model, your relationship will stay in balance just the way your home stays the right temperature.</p> </div></div></div><div class="field field-name-field-tags field-type-taxonomy-term-reference field-label-inline clearfix"><div class="field-label">Tags:&nbsp;</div><div class="field-items"><div class="field-item even" rel="dc:subject"><a href="/tags/contract-management" typeof="skos:Concept" property="rdfs:label skos:prefLabel" datatype="">Contract Management</a></div><div class="field-item odd" rel="dc:subject"><a href="/tags/economics" typeof="skos:Concept" property="rdfs:label skos:prefLabel" datatype="">Economics</a></div><div class="field-item even" rel="dc:subject"><a href="/tags/governance" typeof="skos:Concept" property="rdfs:label skos:prefLabel" datatype="">Governance</a></div><div class="field-item odd" rel="dc:subject"><a href="/tags/industrial-organization" typeof="skos:Concept" property="rdfs:label skos:prefLabel" datatype="">Industrial Organization</a></div><div class="field-item even" rel="dc:subject"><a href="/tags/relationship-management" typeof="skos:Concept" property="rdfs:label skos:prefLabel" datatype="">Relationship Management</a></div><div class="field-item odd" rel="dc:subject"><a href="/tags/vested-outsourcing" typeof="skos:Concept" property="rdfs:label skos:prefLabel" datatype="">Vested Outsourcing</a></div></div></div><div class="field field-name-field-addthis field-type-addthis field-label-hidden"><div class="field-items"><div class="field-item even"><div class="addthis_toolbox addthis_default_style " addthis:title="Jean Tirole: The science of taming powerful firms - Future of Sourcing" addthis:url="https://www.futureofsourcing.com/jean-tirole-the-science-of-taming-powerful-firms"><a href="https://www.addthis.com/bookmark.php?v=300" class="addthis_button_linkedin"></a> <a href="https://www.addthis.com/bookmark.php?v=300" class="addthis_button_facebook"></a> <a href="https://www.addthis.com/bookmark.php?v=300" class="addthis_button_twitter"></a> <a href="https://www.addthis.com/bookmark.php?v=300" class="addthis_button_googleplus"></a> <a href="https://www.addthis.com/bookmark.php?v=300" class="addthis_button_pinterest_share"></a> <a href="https://www.addthis.com/bookmark.php?v=300" class="addthis_button_reddit"></a> <a href="https://www.addthis.com/bookmark.php?v=300" class="addthis_button_email"></a> <a href="https://www.addthis.com/bookmark.php?v=300" class="addthis_button_print"></a> </div> </div></div></div><div class="field field-name-field-region field-type-taxonomy-term-reference field-label-inline clearfix"><div class="field-label">Region:&nbsp;</div><div class="field-items"><div class="field-item even"><a href="/regions/global" typeof="skos:Concept" property="rdfs:label skos:prefLabel" datatype="">Global</a></div></div></div> Mon, 22 Dec 2014 02:07:46 +0000 Kate Vitasek 1107 at https://www.futureofsourcing.com https://www.futureofsourcing.com/jean-tirole-the-science-of-taming-powerful-firms#comments Paul Krugman: pushing for some economic rationality https://www.futureofsourcing.com/paul-krugman-pushing-for-some-economic-rationality <div class="field field-name-field-image field-type-image field-label-hidden"><div class="field-items"><div class="field-item even" rel="og:image rdfs:seeAlso" resource="https://www.futureofsourcing.com/sites/default/files/articles/FOS%20Digital_Kate%20Vitasek_Slider%20Graphic%20%281%29%20%281%29_97.png"><a href="https://www.futureofsourcing.com/sites/default/files/articles/FOS%20Digital_Kate%20Vitasek_Slider%20Graphic%20%281%29%20%281%29_97.png" title="Paul Krugman: pushing for some economic rationality" class="colorbox" rel="gallery-node-1123-MQmTAjs3UgY"><img typeof="foaf:Image" src="https://www.futureofsourcing.com/sites/default/files/styles/juicebox_medium/public/articles/FOS%20Digital_Kate%20Vitasek_Slider%20Graphic%20%281%29%20%281%29_97.png?itok=A0lbtZCB" width="624" height="325" alt="" title="" /></a></div></div></div><div class="field field-name-body field-type-text-with-summary field-label-hidden"><div class="field-items"><div class="field-item even" property="content:encoded"> <p>I&rsquo;ve talked a lot about &ldquo;economic rationality&rdquo; in outsourcing and business relationships in a globalised marketplace. This blog is dedicated to Paul Krugman, an economist and Nobel laureate, who fights for rationality mostly against great odds from within and without the economic community.</p> <p>Krugman is a widely-read columnist for the&nbsp;<em>New York Times</em>, a prolific author of books and articles, and a frequent speaker and guest on news programs. He has a lively and entertaining way of expressing himself; his acerbic and insightful&nbsp;<a href="http://krugman.blogs.nytimes.com/" target="_blank">blog</a>&nbsp;for the&nbsp;<em>Times</em>&nbsp;takes the pulse of the economy and the politics surrounding the economy every day. Krugman is unafraid to poke holes into the &ldquo;conventional wisdom&rdquo; of what he sarcastically calls the &ldquo;Very Serious People,&rdquo; including his colleagues in the economic community who expound their &ldquo;wisdom&rdquo; about politics, trade, the marketplace and the global economy.</p> <p>Like&nbsp;<a href="http://www.outsourcemag.com/articles/item/4207-joseph-e-stiglitz-making-globalisation-work" target="_blank">Joseph Stiglitz</a>&nbsp;and&nbsp;<a href="http://www.outsourcemag.com/articles/item/4169-umair-haque-the-art-of-being-disruptive-and-constructive" target="_blank">Umair Haque</a>, he questions the way globalisation and capitalism &ndash; he calls it &ldquo;pop internationalism&rdquo; &ndash; have evolved: creating massive inequalities between the rich and the poor, along with zero-sum strategies between businesses that should be working together. And that is where his insights have a high degree of value when it comes to outsourcing and the many corporations that employ it simply in the name of enhancing profit, not the value of their business relationships.</p> <p>For example, he says one of the main perceptions of outsourcing &ldquo;is to ensure that as little as possible of what corporations earn goes into the pockets of the people who actually work for those corporations&rdquo;. Harsh, but all too often, very true. And he looks at offshoring in even bleaker terms as the &ldquo;right of corporations to do whatever maximises their profits, even if that means shipping jobs overseas.&rdquo; Obviously that is not what outsourcing is really about, but it is just one source of a &ldquo;huge disconnect between a tiny elite and ordinary American workers, a disconnect that has been growing for more than 30 years,&rdquo; Krugman says.</p> <p>And the economist community isn&rsquo;t really helping the situation much: &ldquo;While the vast majority of economists may work on issues far removed from the question of what to do in a depression, an important part of our field&rsquo;s prestige and the support it receives comes from the perception that economists do indeed have useful advice to offer in times of depression, and may come up with more useful advice in the future.&rdquo;</p> <p>In a speech entitled, &lsquo;<a href="http://bernard.pitzer.edu/~lyamane/poptrade.html" target="_blank">What Do Undergrads Need To Know About Trade?</a>&lsquo; Krugman gave this advice: &ldquo;An introductory economics course should drive home to students the point that international trade is not about competition, it is about mutually beneficial exchange.&rdquo; Somewhere along the line I agree with Krugman that we&rsquo;ve lost touch with that fundamental idea. &ldquo;Even more fundamentally,&rdquo; he says, &ldquo;we should teach students that imports, not exports, are the purpose of trade. That is, what a country gains from trade is the ability to import things it wants. Exports are not an objective in and of themselves: the need to export is a burden that a country must bear because its import suppliers are crass enough to demand payment.&rdquo;</p> <p>Yes, Krugman definitely pulls no punches. In the same speech, he says, &ldquo;one of the distressing things about the tyranny of pop internationalism is that there has been a kind of&nbsp;<a href="http://bernard.pitzer.edu/~lyamane/poptrade.html" target="_blank">Gresham&rsquo;s Law</a>&nbsp;in which bad concepts drive out good.&rdquo; For example, the idea that head-to-head competition always has to be win-lose should get a &ldquo;visceral negative reaction&rdquo; from those undergrads.</p> <p>At the recent annual meeting of the American Economic Association in San Diego, Krugman&nbsp;<a href="http://www.nytimes.com/2013/01/07/opinion/krugman-the-big-fail.html?_r=2&amp;" target="_blank">wrote</a>&nbsp;the reason that the global economic slump is dragging on so long is mainly due to the &ldquo;triumph of bad ideas&rdquo; and worse, sticking with those ideas &ndash; can you say &ldquo;austerity&rdquo;? &ndash; even when they don&rsquo;t work.</p> <p>&ldquo;It&rsquo;s tempting to argue that the economic failures of recent years prove that economists don&rsquo;t have the answers. But the truth is actually worse: in reality, standard economics offered good answers, but political leaders &ndash; and all too many economists &ndash; chose to forget or ignore what they should have known.&rdquo;</p> <p>Bad economic ideas, if implemented and then left alone by those in power, can trump even the most modern and innovative business models, such as&nbsp;<a href="http://www.vestedway.com/" target="_blank">Vested</a>, because they can be and often are at odds with the Vested approach to collaboration and expanding value to create mutual benefits.</p> <p>It&rsquo;s like pressing both the accelerator and the brake pedals at the same time: not much will happen except damage to the vehicle you&rsquo;re trying to move forward.</p> </div></div></div><div class="field field-name-field-tags field-type-taxonomy-term-reference field-label-inline clearfix"><div class="field-label">Tags:&nbsp;</div><div class="field-items"><div class="field-item even" rel="dc:subject"><a href="/tags/economics" typeof="skos:Concept" property="rdfs:label skos:prefLabel" datatype="">Economics</a></div><div class="field-item odd" rel="dc:subject"><a href="/tags/globalisation" typeof="skos:Concept" property="rdfs:label skos:prefLabel" datatype="">Globalisation</a></div><div class="field-item even" rel="dc:subject"><a href="/tags/vested-outsourcing" typeof="skos:Concept" property="rdfs:label skos:prefLabel" datatype="">Vested Outsourcing</a></div><div class="field-item odd" rel="dc:subject"><a href="/tags/economy" typeof="skos:Concept" property="rdfs:label skos:prefLabel" datatype="">Economy</a></div><div class="field-item even" rel="dc:subject"><a href="/tags/blog" typeof="skos:Concept" property="rdfs:label skos:prefLabel" datatype="">Blog</a></div></div></div><div class="field field-name-field-addthis field-type-addthis field-label-hidden"><div class="field-items"><div class="field-item even"><div class="addthis_toolbox addthis_default_style " addthis:title="Paul Krugman: pushing for some economic rationality - Future of Sourcing" addthis:url="https://www.futureofsourcing.com/paul-krugman-pushing-for-some-economic-rationality"><a href="https://www.addthis.com/bookmark.php?v=300" class="addthis_button_linkedin"></a> <a href="https://www.addthis.com/bookmark.php?v=300" class="addthis_button_facebook"></a> <a href="https://www.addthis.com/bookmark.php?v=300" class="addthis_button_twitter"></a> <a href="https://www.addthis.com/bookmark.php?v=300" class="addthis_button_googleplus"></a> <a href="https://www.addthis.com/bookmark.php?v=300" class="addthis_button_pinterest_share"></a> <a href="https://www.addthis.com/bookmark.php?v=300" class="addthis_button_reddit"></a> <a href="https://www.addthis.com/bookmark.php?v=300" class="addthis_button_email"></a> <a href="https://www.addthis.com/bookmark.php?v=300" class="addthis_button_print"></a> </div> </div></div></div><div class="field field-name-field-region field-type-taxonomy-term-reference field-label-inline clearfix"><div class="field-label">Region:&nbsp;</div><div class="field-items"><div class="field-item even"><a href="/regions/global" typeof="skos:Concept" property="rdfs:label skos:prefLabel" datatype="">Global</a></div></div></div> Wed, 30 Jan 2013 22:39:19 +0000 Kate Vitasek 1123 at https://www.futureofsourcing.com https://www.futureofsourcing.com/paul-krugman-pushing-for-some-economic-rationality#comments Elinor Ostrom: getting involved in your own governance https://www.futureofsourcing.com/elinor-ostrom-getting-involved-in-your-own-governance <div class="field field-name-field-image field-type-image field-label-hidden"><div class="field-items"><div class="field-item even" rel="og:image rdfs:seeAlso" resource="https://www.futureofsourcing.com/sites/default/files/articles/FOS%20Digital_Kate%20Vitasek_Slider%20Graphic%20%281%29%20%281%29_101.png"><a href="https://www.futureofsourcing.com/sites/default/files/articles/FOS%20Digital_Kate%20Vitasek_Slider%20Graphic%20%281%29%20%281%29_101.png" title="Elinor Ostrom: getting involved in your own governance" class="colorbox" rel="gallery-node-1128-MQmTAjs3UgY"><img typeof="foaf:Image" src="https://www.futureofsourcing.com/sites/default/files/styles/juicebox_medium/public/articles/FOS%20Digital_Kate%20Vitasek_Slider%20Graphic%20%281%29%20%281%29_101.png?itok=vBaSJoQi" width="624" height="325" alt="" title="" /></a></div></div></div><div class="field field-name-body field-type-text-with-summary field-label-hidden"><div class="field-items"><div class="field-item even" property="content:encoded"> <p>This month&rsquo;s column pays a tribute to Elinor Ostrom, who shared the&nbsp;<a href="http://www.nobelprize.org/nobel_prizes/economics/laureates/2009/press.html" target="_blank">Nobel Prize</a>&nbsp;award in economic science in 2009 with Oliver Williamson. Ostrom, who died at age 78 on June 12, was cited by the Nobel Committee for &ldquo;her analysis of economic governance, especially the commons,&rdquo; a term that refers to resources that are owned or shared in common among communities.</p> <p>It&rsquo;s well past time to recognise Ostrom, and sadly I wish I would have given her the credit she deserves before her passing.</p> <p>First, hats off for Ostrom for challenging traditional wisdom. Traditionally, economics taught that ownership of common resources results in excessive exploitation, as when fishermen overfish a common pond. This is referred to as the as the Tragedy of the Commons, which is outlined in the excellent but older&nbsp;<a href="http://www.sciencemag.org/site/feature/misc/webfeat/sotp/commons.xhtml" target="_blank">Science Magazine article</a>. The Tragedy of the Commons suggests that common resources must be managed either through privatisation or government regulation.</p> <p>Ms Ostrom spent her life challenging the logic of the Tragedy of the Commons, suggesting that collaboration and cooperation can effectively govern to the benefit of the group. In fact, she spent her life studying cases around the world &ndash; from Indonesia to Nepal to Maine &ndash; in which communities successfully regulated resource use through cooperation.</p> <p>She delved deeply through research and fieldwork in exotic locations into the use of collective action, trust, and cooperation in the management of so-called &ldquo;common pool resources&rdquo; (CPR).&nbsp; Based on numerous studies of user-managed fish stocks, pastures, woods, lakes, and groundwater basins, Ostrom observed that resource users frequently develop sophisticated governance mechanisms for decision-making and rule enforcement to handle conflicts of interest. She concluded that the outcomes are more often than not better than predicted by standard theories.</p> <p>In a nutshell, Ostrom&rsquo;s unconventional work showed how humans interact with ecosystems in nature and in institutions to maintain long-term sustainable resource yields.&nbsp; She went beyond markets and states in the governance of those systems to a &ldquo;<a href="http://www.nobelprize.org/nobel_prizes/economics/laureates/2009/ostrom_lecture.pdf" target="_blank">polycentric governance of complex economic systems</a>.&rdquo;</p> <p><a href="http://www.nobelprize.org/nobel_prizes/economics/laureates/2009/ostrom-telephone.html" target="_blank">In Ostrom&rsquo;s words</a>, she explained that &ldquo;Classical Game Theory is very predictive in some environments but not fully predictive, by any manner/means, in an environment which is a social dilemma. [It is] helpful for us in analysing and as we develop a behavioral theory of humans and of other formal mechanisms we can explain why people do cooperate in some settings and not others.</p> <p>&ldquo;That&rsquo;s what I&rsquo;ve been working on for all my life! Humans have great capabilities and somehow we&rsquo;ve had some sense that the officials had genetic capabilities that the rest of us didn&rsquo;t have&hellip;There are many other small to medium-sized groups that have taken on the responsibility for organising resource governance.&rdquo;</p> <p>It is easy to make the connection on how Ostrom&rsquo;s work can be applied to the governance of resources such as fisheries and social problems like global warming. But you might ask, how does this relate to outsourcing? The answer is easy! Buyers and suppliers (and the people who run them) are really an ecosystem. They need to set social norms and manage their ecosystem as they seek to optimise performance among the organisations &ndash; the &ldquo;System&rdquo; per se.</p> <p>But is anyone really applying her theories in the real world? The answer is yes! Look no further than McDonald&rsquo;s &ndash; which thinks about its supplier and owner/operator franchise relationships as a &ldquo;System&rdquo; and applies sound governance mechanisms to help everyone live up to the &ldquo;System First&rdquo; promise. McDonald&rsquo;s also helped apply Ostrom&rsquo;s concepts as they worked with suppliers and NGOs to solve for fish sustainability. We share McDonald&rsquo;s world class approach to governing their System in our upcoming book&nbsp;<em><a href="http://www.vestedoutsourcing.com/books-2/" target="_blank">Vested: How P&amp;G, McDonald&rsquo;s and Microsoft are Redefining Winning in Business Relationships</a></em>.</p> <p>It&rsquo;s long past time for me to give Ostrom her due. Her big thinking emphasised collaboration and cooperation, a cornerstone of the Vested concept and one that all companies should study as it relates to the governance of their own &ldquo;systems.&rdquo;</p> <p>Fellow outsourcing professionals, let&rsquo;s all take our hats off in respect to Eleanor Ostrom.</p> </div></div></div><div class="field field-name-field-tags field-type-taxonomy-term-reference field-label-inline clearfix"><div class="field-label">Tags:&nbsp;</div><div class="field-items"><div class="field-item even" rel="dc:subject"><a href="/tags/collaboration" typeof="skos:Concept" property="rdfs:label skos:prefLabel" datatype="">Collaboration</a></div><div class="field-item odd" rel="dc:subject"><a href="/tags/cooperation" typeof="skos:Concept" property="rdfs:label skos:prefLabel" datatype="">Cooperation</a></div><div class="field-item even" rel="dc:subject"><a href="/tags/economics" typeof="skos:Concept" property="rdfs:label skos:prefLabel" datatype="">Economics</a></div><div class="field-item odd" rel="dc:subject"><a href="/tags/game-theory" typeof="skos:Concept" property="rdfs:label skos:prefLabel" datatype="">Game Theory</a></div><div class="field-item even" rel="dc:subject"><a href="/tags/governance" typeof="skos:Concept" property="rdfs:label skos:prefLabel" datatype="">Governance</a></div><div class="field-item odd" rel="dc:subject"><a href="/tags/vested-outsourcing" typeof="skos:Concept" property="rdfs:label skos:prefLabel" datatype="">Vested Outsourcing</a></div></div></div><div class="field field-name-field-addthis field-type-addthis field-label-hidden"><div class="field-items"><div class="field-item even"><div class="addthis_toolbox addthis_default_style " addthis:title="Elinor Ostrom: getting involved in your own governance - Future of Sourcing" addthis:url="https://www.futureofsourcing.com/elinor-ostrom-getting-involved-in-your-own-governance"><a href="https://www.addthis.com/bookmark.php?v=300" class="addthis_button_linkedin"></a> <a href="https://www.addthis.com/bookmark.php?v=300" class="addthis_button_facebook"></a> <a href="https://www.addthis.com/bookmark.php?v=300" class="addthis_button_twitter"></a> <a href="https://www.addthis.com/bookmark.php?v=300" class="addthis_button_googleplus"></a> <a href="https://www.addthis.com/bookmark.php?v=300" class="addthis_button_pinterest_share"></a> <a href="https://www.addthis.com/bookmark.php?v=300" class="addthis_button_reddit"></a> <a href="https://www.addthis.com/bookmark.php?v=300" class="addthis_button_email"></a> <a href="https://www.addthis.com/bookmark.php?v=300" class="addthis_button_print"></a> </div> </div></div></div><div class="field field-name-field-region field-type-taxonomy-term-reference field-label-inline clearfix"><div class="field-label">Region:&nbsp;</div><div class="field-items"><div class="field-item even"><a href="/regions/global" typeof="skos:Concept" property="rdfs:label skos:prefLabel" datatype="">Global</a></div></div></div> Thu, 02 Aug 2012 00:12:28 +0000 Kate Vitasek 1128 at https://www.futureofsourcing.com https://www.futureofsourcing.com/elinor-ostrom-getting-involved-in-your-own-governance#comments Steven D. Levitt: it’s all about incentives https://www.futureofsourcing.com/steven-d-levitt-it%E2%80%99s-all-about-incentives <div class="field field-name-field-image field-type-image field-label-hidden"><div class="field-items"><div class="field-item even" rel="og:image rdfs:seeAlso" resource="https://www.futureofsourcing.com/sites/default/files/articles/FOS%20Digital_Kate%20Vitasek_Slider%20Graphic%20%281%29%20%281%29_113.png"><a href="https://www.futureofsourcing.com/sites/default/files/articles/FOS%20Digital_Kate%20Vitasek_Slider%20Graphic%20%281%29%20%281%29_113.png" title="Steven D. Levitt: it’s all about incentives" class="colorbox" rel="gallery-node-1141-MQmTAjs3UgY"><img typeof="foaf:Image" src="https://www.futureofsourcing.com/sites/default/files/styles/juicebox_medium/public/articles/FOS%20Digital_Kate%20Vitasek_Slider%20Graphic%20%281%29%20%281%29_113.png?itok=k-reMTaO" width="624" height="325" alt="" title="" /></a></div></div></div><div class="field field-name-body field-type-text-with-summary field-label-hidden"><div class="field-items"><div class="field-item even" property="content:encoded"> <p>If you walk past a bookstore or watch&nbsp;<a href="http://www.cbsnews.com/sections/60minutes/main3415.shtml?tag=hdr;snav" target="_blank"><em>60 Minutes</em></a>&nbsp;you have likely heard of the wonderful works by the academic economist&nbsp;<a href="http://pricetheory.uchicago.edu/levitt/home.html" target="_blank">Steven D. Levitt</a>,&nbsp;<a href="http://freakonomicsbook.com/" target="_blank"><em>Freakonomics</em>&nbsp;and&nbsp;<em>Superfreakonomics</em></a>. Levitt teamed with his journalist collaborator Stephen J. Dubner to create two bestsellers I highly recommend reading. The books are fun and clever, but more importantly they reveal basic insights about human economic activity while exploring &ldquo;the hidden side of everything.&rdquo;</p> <p>The books are based on some fundamental concepts:</p> <ul style="list-style-type:square;"> <li>&ldquo;Morality is what people should do.&nbsp; Economics is what people do.&rdquo;</li> <li>&ldquo;The conventional wisdom is often wrong&rdquo;</li> <li>&ldquo;Incentives are the cornerstone of modern life&rdquo;</li> <li>&ldquo;Dramatic effects often have distant, even subtle, causes&rdquo;</li> <li>&ldquo;Knowing what to measure and how to measure it makes a complicated world much less so&rdquo;</li> </ul> <p>One of Levitt&rsquo;s most powerful points is what he calls the &ldquo;law of unintended consequences.&rdquo; While he tells lively stories of how unintended consequences drive the behaviors of schoolteachers, realtors, crack dealers, prostitutes and expectant mothers, this law also greatly affects outsourcing deals as well.</p> <p>In fact, an outsourcing deal that is not collaboratively planned, tracked and governed will suffer from all sorts of random, unintended but predictable negative consequences. In my research at the University of Tennessee I outline 10 common unintended consequences which I call&nbsp;<a href="http://www.vestedoutsourcing.com/category/10-ailments/" target="_blank">ailments</a>&nbsp;&ndash; all of which diminish or derail the effectiveness of an outsource partnership.</p> <p>Levitt stresses in his second book,&nbsp;<em>Superfreakonomics</em>, that &ldquo;People respond to incentives.&rdquo; Incentives are the &ldquo;cornerstone of modern life,&rdquo; and while people respond to them, unfortunately they do not necessarily respond &ldquo;in ways that are predictable or manifest,&rdquo; which is where unintended consequences enter the fray and become perverse incentives.</p> <p>Our research has also found that some of the most successful outsourcing deals leverage incentives heavily to motivate service providers. Deals are structured around business results &ndash; or Desired Outcomes &ndash; versus paying a service provider by transaction or headcount.</p> <p>In&nbsp;<a href="http://www.vestedoutsourcing.com/books/" target="_blank"><em>The Vested Outsourcing Manual</em></a>, I say that companies should always incorporate incentives &ndash; whether they are cost, performance, awards or nonmonetary incentives &ndash; that are mutually beneficial to the parties in order to offset the flaws of using conventional firm fixed price or cost-reimbursement models, which can lead to perverse incentives. If one side&rsquo;s incentives come at the expense of the other side then the outsourcing deal is in jeopardy.</p> <p>The challenge is to motivate outsourcing teams to make the&nbsp;<a href="http://www.vestedoutsourcing.com/the-gorilla-vs-the-elephant-part-2-the-elephant/" target="_blank">collaborative decisions</a>&nbsp;on pricing, performance and outcomes that ultimately will translate into the incentives that breed success and the win-win.</p> <p>In outsourcing, it&rsquo;s important to consider Levitt&rsquo;s insight: &ldquo;Morality is what people should do. Economics is what people do.&rdquo; He also says that &ldquo;in economics as in life, you&rsquo;ll never find the answer to a question unless you&rsquo;re willing to ask it, as silly as it may seem.&rdquo;</p> <p>Here&rsquo;s a parting word of advice if you are looking to structure an outsourcing deal. You&rsquo;ll never find the right incentive package unless you&rsquo;re willing to ask the right questions with your outsourcing partner. So rather than use your procurement and negotiation&nbsp;<a href="http://www.vestedoutsourcing.com/a-nobel-laureate-with-undertones-for-vested-outsourcing/" target="_blank">muscle</a>, stop and ask the service provider what motivates it and how it would structure a deal that&rsquo;s designed to achieve what you want. That&rsquo;s not silly to me at all.</p> </div></div></div><div class="field field-name-field-tags field-type-taxonomy-term-reference field-label-inline clearfix"><div class="field-label">Tags:&nbsp;</div><div class="field-items"><div class="field-item even" rel="dc:subject"><a href="/tags/behavioural-economics" typeof="skos:Concept" property="rdfs:label skos:prefLabel" datatype="">Behavioural Economics</a></div><div class="field-item odd" rel="dc:subject"><a href="/tags/desired-outcomes" typeof="skos:Concept" property="rdfs:label skos:prefLabel" datatype="">Desired Outcomes</a></div><div class="field-item even" rel="dc:subject"><a href="/tags/economics" typeof="skos:Concept" property="rdfs:label skos:prefLabel" datatype="">Economics</a></div><div class="field-item odd" rel="dc:subject"><a href="/tags/freakonomics" typeof="skos:Concept" property="rdfs:label skos:prefLabel" datatype="">Freakonomics</a></div><div class="field-item even" rel="dc:subject"><a href="/tags/incentives" typeof="skos:Concept" property="rdfs:label skos:prefLabel" datatype="">Incentives</a></div><div class="field-item odd" rel="dc:subject"><a href="/tags/partnership" typeof="skos:Concept" property="rdfs:label skos:prefLabel" datatype="">Partnership</a></div><div class="field-item even" rel="dc:subject"><a href="/tags/superfreakonomics" typeof="skos:Concept" property="rdfs:label skos:prefLabel" datatype="">Superfreakonomics</a></div><div class="field-item odd" rel="dc:subject"><a href="/tags/vested-outsourcing" typeof="skos:Concept" property="rdfs:label skos:prefLabel" datatype="">Vested Outsourcing</a></div></div></div><div class="field field-name-field-addthis field-type-addthis field-label-hidden"><div class="field-items"><div class="field-item even"><div class="addthis_toolbox addthis_default_style " addthis:title="Steven D. Levitt: it&amp;rsquo;s all about incentives - Future of Sourcing" addthis:url="https://www.futureofsourcing.com/steven-d-levitt-it%E2%80%99s-all-about-incentives"><a href="https://www.addthis.com/bookmark.php?v=300" class="addthis_button_linkedin"></a> <a href="https://www.addthis.com/bookmark.php?v=300" class="addthis_button_facebook"></a> <a href="https://www.addthis.com/bookmark.php?v=300" class="addthis_button_twitter"></a> <a href="https://www.addthis.com/bookmark.php?v=300" class="addthis_button_googleplus"></a> <a href="https://www.addthis.com/bookmark.php?v=300" class="addthis_button_pinterest_share"></a> <a href="https://www.addthis.com/bookmark.php?v=300" class="addthis_button_reddit"></a> <a href="https://www.addthis.com/bookmark.php?v=300" class="addthis_button_email"></a> <a href="https://www.addthis.com/bookmark.php?v=300" class="addthis_button_print"></a> </div> </div></div></div><div class="field field-name-field-region field-type-taxonomy-term-reference field-label-inline clearfix"><div class="field-label">Region:&nbsp;</div><div class="field-items"><div class="field-item even"><a href="/regions/global" typeof="skos:Concept" property="rdfs:label skos:prefLabel" datatype="">Global</a></div></div></div> Wed, 31 Aug 2011 17:00:00 +0000 Kate Vitasek 1141 at https://www.futureofsourcing.com https://www.futureofsourcing.com/steven-d-levitt-it%E2%80%99s-all-about-incentives#comments Oliver Williamson: Not Examining All Costs Can Really Cost You https://www.futureofsourcing.com/oliver-williamson-not-examining-all-costs-can-really-cost-you <div class="field field-name-field-image field-type-image field-label-hidden"><div class="field-items"><div class="field-item even" rel="og:image rdfs:seeAlso" resource="https://www.futureofsourcing.com/sites/default/files/articles/FOS%20Digital_Kate%20Vitasek_Slider%20Graphic%20%281%29%20%281%29_115.png"><a href="https://www.futureofsourcing.com/sites/default/files/articles/FOS%20Digital_Kate%20Vitasek_Slider%20Graphic%20%281%29%20%281%29_115.png" title="Oliver Williamson: Not Examining All Costs Can Really Cost You" class="colorbox" rel="gallery-node-1033-MQmTAjs3UgY"><img typeof="foaf:Image" src="https://www.futureofsourcing.com/sites/default/files/styles/juicebox_medium/public/articles/FOS%20Digital_Kate%20Vitasek_Slider%20Graphic%20%281%29%20%281%29_115.png?itok=ip_UFRq_" width="624" height="325" alt="" title="" /></a></div></div></div><div class="field field-name-field-intro field-type-text-long field-label-hidden"><div class="field-items"><div class="field-item even"> <p>In anticipation of the return of Kate Vitasek&rsquo;s column &ldquo;The Academics of Sourcing,&rdquo; Outsource is pleased to showcase some of her best articles from the archives.</p> <p>&ldquo;The Academics of Sourcing&rdquo; is a series that regularly shares some of the best academic insights and translates the learnings from academia into sound advice for practitioners.</p> <p>Read on to get reacquainted with Kate Vitasek&rsquo;s insight and experience into the world of sourcing and the academics behind it.&nbsp;</p> </div></div></div><div class="field field-name-body field-type-text-with-summary field-label-hidden"><div class="field-items"><div class="field-item even" property="content:encoded"> <p>Many of the economists I&rsquo;ve highlighted in this space, from <a href="http://archive.outsourcemag.com/ronald-coase-business-is-a-math-problem/" target="_blank"><span style="color:#ff0000;">Coase</span></a> (do the math!) to <a href="http://archive.outsourcemag.com/john-nash-robert-axelrod-game-theory-and-the-art-of-playing-nice/" target="_blank"><span style="color:#ff0000;">Nash</span></a> (win-win behavioral economics) to <a href="http://archive.outsourcemag.com/robert-solow-innovation-technology-and-math-make-all-the-difference/" target="_blank"><span style="color:#ff0000;">Solow</span></a> (importance of innovation and technology) laid the economic foundation for outsourcing. Another Nobel laureate, Oliver Williamson, has taken those threads, added a few of his own and weaved them directly into modern outsourcing, which makes him, in my mind, the most influential.&nbsp;</p> <p>Williamson, professor emeritus of business, economics and law at the University of California at Berkeley, took transaction cost analysis to a new and seminal level with the concept of &lsquo;transaction cost economics&rsquo; (TCE). TCE looks at all the costs of doing business, including: the contracting process; how organizations behave with regard to the contract; and how people behave during contract negotiations.&nbsp;</p> <p>Over a long career Williamson applied TCE directly to the vagaries of outsourcing and to the cost of contracting. His article in the April 2008 Journal of Supply Chain Management (&ldquo;Outsourcing: Transaction Cost Economics and Supply Chain Management&rdquo;) examined outsourcing from the TCE perspective. Williamson states that &ldquo;all complex contracts will be incomplete &ndash; there will be gaps, errors, omissions and the like,&rdquo; and he advises that organizations shift to contracts with a more flexible framework. Williamson advises that having a contract that is too rigorous ultimately leads to higher transaction costs and that companies should create mechanisms that preserve continuity and that can cope with unanticipated disturbances as they arise.&nbsp;</p> <p>I like to think of it as &ldquo;business happens.&rdquo; In short, we need to create outsourcing deals that embrace change, rather than fight about it. One of my favorite lessons from Williamson is that your style of working with suppliers matters. Williamson states that &ldquo;muscular buyers not only use their suppliers, but they often &lsquo;use up&rsquo; their suppliers and discard them.&rdquo; Organizations that flex their &ldquo;muscle&rdquo; to gain an advantage over suppliers may have a short-term win, but they will lose over the long term. He stresses the need for companies to use a &ldquo;credible&rdquo; style of contracting that builds long-term trust.&nbsp;</p> <p>One tactic that Williamson says is effective for building trust is to leave money on the table when it comes to negotiating. It may sound counter-intuitive, but when striking a strong business relationship, leaving money on the table can signal a constructive intent to work cooperatively and helps build an environment that is credible from start to finish.&nbsp;</p> <p>Williamson also takes <a href="http://archive.outsourcemag.com/john-nash-robert-axelrod-game-theory-and-the-art-of-playing-nice/" target="_blank"><span style="color:#ff0000;">Nash&rsquo;s concept of win-win behavioral economics</span></a> out of the theoretical realm of strategy and into the reality of contracting by showing that the contract itself can have negative impacts on business if an organization does not think clearly about how to structure and negotiate the contract properly. It goes without saying that Williamson is an advocate of win-win thinking with his clear advocacy for creating contracts with &ldquo;mutual advantage.&rdquo;&nbsp;</p> <p>For those interested in learning more about Oliver Williamson&rsquo;s Nobel Prize winning work, the University of Tennessee teamed with Georgia Southern University, Cranfield School of Business, and the International Association for Contract and Commercial Management to produce a white paper titled <a href="http://www.vestedway.com/vested-library/" target="_blank"><span style="color:#ff0000;">&ldquo;Unpacking Oliver: 10 Lessons to Improve Collaborative Outsourcing&rdquo;</span></a>, which is available for a free download at the Vested Outsourcing site. I like Williamson&rsquo;s thoughts on outsourcing because he digs beyond the numbers to substantiate the value of a collaborative, win-win approach to outsourcing.&nbsp;</p> <p>It is the best academic work I&rsquo;ve seen that shows how to address contract and governance structures in developing advanced, collaborative outsourced relationships. The bottom line on Williamson&rsquo;s work is that the bottom line is not always apparent; the contracting process is full of the hidden costs of doing business.&nbsp;</p> <p>I think Williamson brilliantly captured mathematically what my mamma always told me: you get what you pay for.</p> </div></div></div><div class="field field-name-field-tags field-type-taxonomy-term-reference field-label-inline clearfix"><div class="field-label">Tags:&nbsp;</div><div class="field-items"><div class="field-item even" rel="dc:subject"><a href="/tags/supply-chain-management" typeof="skos:Concept" property="rdfs:label skos:prefLabel" datatype="">Supply Chain Management</a></div><div class="field-item odd" rel="dc:subject"><a href="/tags/economics" typeof="skos:Concept" property="rdfs:label skos:prefLabel" datatype="">Economics</a></div><div class="field-item even" rel="dc:subject"><a href="/tags/education" typeof="skos:Concept" property="rdfs:label skos:prefLabel" datatype="">Education</a></div><div class="field-item odd" rel="dc:subject"><a href="/tags/negotiation" typeof="skos:Concept" property="rdfs:label skos:prefLabel" datatype="">Negotiation</a></div><div class="field-item even" rel="dc:subject"><a href="/tags/governance" typeof="skos:Concept" property="rdfs:label skos:prefLabel" datatype="">Governance</a></div></div></div><div class="field field-name-field-addthis field-type-addthis field-label-hidden"><div class="field-items"><div class="field-item even"><div class="addthis_toolbox addthis_default_style " addthis:title="Oliver Williamson: Not Examining All Costs Can Really Cost You - Future of Sourcing" addthis:url="https://www.futureofsourcing.com/oliver-williamson-not-examining-all-costs-can-really-cost-you"><a href="https://www.addthis.com/bookmark.php?v=300" class="addthis_button_linkedin"></a> <a href="https://www.addthis.com/bookmark.php?v=300" class="addthis_button_facebook"></a> <a href="https://www.addthis.com/bookmark.php?v=300" class="addthis_button_twitter"></a> <a href="https://www.addthis.com/bookmark.php?v=300" class="addthis_button_googleplus"></a> <a href="https://www.addthis.com/bookmark.php?v=300" class="addthis_button_pinterest_share"></a> <a href="https://www.addthis.com/bookmark.php?v=300" class="addthis_button_reddit"></a> <a href="https://www.addthis.com/bookmark.php?v=300" class="addthis_button_email"></a> <a href="https://www.addthis.com/bookmark.php?v=300" class="addthis_button_print"></a> </div> </div></div></div> Mon, 04 Jul 2011 16:45:31 +0000 Kate Vitasek 1033 at https://www.futureofsourcing.com https://www.futureofsourcing.com/oliver-williamson-not-examining-all-costs-can-really-cost-you#comments Robert Solow: Innovation, technology – and math – make all the difference! https://www.futureofsourcing.com/robert-solow-innovation-technology-math-make-difference <div class="field field-name-field-image field-type-image field-label-hidden"><div class="field-items"><div class="field-item even" rel="og:image rdfs:seeAlso" resource="https://www.futureofsourcing.com/sites/default/files/articles/FOS%20Digital_Kate%20Vitasek_Slider%20Graphic%20%281%29%20%281%29_117.png"><a href="https://www.futureofsourcing.com/sites/default/files/articles/FOS%20Digital_Kate%20Vitasek_Slider%20Graphic%20%281%29%20%281%29_117.png" title="Robert Solow: Innovation, technology – and math – make all the difference!" class="colorbox" rel="gallery-node-1048-MQmTAjs3UgY"><img typeof="foaf:Image" src="https://www.futureofsourcing.com/sites/default/files/styles/juicebox_medium/public/articles/FOS%20Digital_Kate%20Vitasek_Slider%20Graphic%20%281%29%20%281%29_117.png?itok=FydY7Ar_" width="624" height="325" alt="" title="" /></a></div></div></div><div class="field field-name-field-intro field-type-text-long field-label-hidden"><div class="field-items"><div class="field-item even"> <p style="margin-top: 0px; outline: 0px; font-family: 'Open Sans', Arial, Helvetica, Verdana, 'Bitstream Vera Sans', sans-serif; font-size: 13px; font-weight: bold; line-height: inherit; color: rgb(51, 51, 51);">In anticipation of the return of Kate Vitasek&rsquo;s column &ldquo;The Academics of Sourcing,&rdquo; Outsource is pleased to showcase some of her best articles from the archives.</p> <p style="margin-top: 0px; outline: 0px; font-family: 'Open Sans', Arial, Helvetica, Verdana, 'Bitstream Vera Sans', sans-serif; font-size: 13px; font-weight: bold; line-height: inherit; color: rgb(51, 51, 51);">&ldquo;The Academics of Sourcing&rdquo; is a series that regularly shares some of the best academic insights and translates the learnings from academia into sound advice for practitioners.</p> <p style="margin-top: 0px; outline: 0px; font-family: 'Open Sans', Arial, Helvetica, Verdana, 'Bitstream Vera Sans', sans-serif; font-size: 13px; font-weight: bold; line-height: inherit; color: rgb(51, 51, 51);">Read on to get reacquainted with Kate Vitasek&rsquo;s insight and experience into the world of sourcing and the academics behind it.</p> </div></div></div><div class="field field-name-body field-type-text-with-summary field-label-hidden"><div class="field-items"><div class="field-item even" property="content:encoded"> <p>Common sense tells us that businesses grow when they innovate. And that those with the greatest amount of innovation benefit the most.&nbsp;</p> <p>It was Robert Solow, the 1987 Nobel laureate in economic sciences, who made the revolutionary connection between innovation and economic growth. Solow began his search more than 50 years ago with the idea that technological improvements are the major driver of economic growth. He defines technological improvements as &ldquo;improvements in business processes or products&rdquo; and asserts that they become the innovations that drive economic growth.&nbsp;</p> <p>But how does this relate to outsourcing? The primary point is that companies outsource processes in hopes that their service providers will drive advancements in the business functions they outsource. Solow likely could never have predicted the explosive growth in outsourcing as companies have used outsourcing to facilitate their own economic growth efforts in their search to cut the costs of non-core business processes or allow them access to new markets.&nbsp;</p> <p>While Solow gained notoriety in 1987 with his Nobel Prize, his work stems from a lifelong effort to study and prove his concepts. Solow&rsquo;s growth model was first presented in an article entitled, &lsquo;A Contribution to the Theory of Economic Growth&rsquo; (1956). His starting point was that society saves a given constant proportion of its incomes. The population and the labor supply grow at a constant rate and capital intensity (or capital per employee) can be regulated. But without technological progress, Solow continued, growth rates for capital, labor and total production would all be about the same. As a result, technological development would be the motor for economic growth over the long haul. In Solow&rsquo;s model, if continuous technological progress can be assumed, growth in real incomes will be determined by technological progress.&nbsp;</p> <p>His visionary model has had an enormous impact on economic analysis. His work laid the foundations for what was later to develop into what is known today as &ldquo;growth accounting.&rdquo;&nbsp;</p> <p>But probably the most important contribution was that Solow demonstrated that only a small proportion of annual growth could be explained by increased inputs of labor and capital. Just how small? Thirteen percent.&nbsp;</p> <p>In other words technological growth makes the crucial difference when it comes to economic growth &ndash; a whopping 87 percent. Now keep in mind technological growth happens in two ways: product and process improvements.&nbsp;</p> <p>So what is your focus when outsourcing? If it is purely labor arbitrage and searching for the lowest cost of labor or facilities in offshore countries, you are probably missing the boat to tap into a longer-term and sustainable path to economic growth for your business. Remember that&nbsp;</p> <p>Solow&rsquo;s findings showed a full 87 percent of economic growth is driven from technological change in process and product improvements.&nbsp;</p> <p>In his Nobel Prize Lecture, Solow said: &ldquo;When I look back now at the articles I wrote in the 1950s and 1960s on this general subject, I am struck and even a little surprised at how much effort went into broadening the technological framework of growth theory.&rdquo;&nbsp;</p> <p>In the lecture, Solow also quoted a warning issued by a leading student of the baseball statistics: &ldquo;No amount of (apparent) statistical evidence will make a statement invulnerable to common sense.&rdquo;&nbsp;</p> <p>That quote hangs in his office. He&rsquo;s brought common sense to the evolution of economic growth &ndash; which should be front and center for anyone outsourcing today. Don&rsquo;t simply outsource for cheaper butts in seats. Outsource with a purpose to drive technological improvements &ndash; including business process improvements.</p> </div></div></div><div class="field field-name-field-tags field-type-taxonomy-term-reference field-label-inline clearfix"><div class="field-label">Tags:&nbsp;</div><div class="field-items"><div class="field-item even" rel="dc:subject"><a href="/tags/cost" typeof="skos:Concept" property="rdfs:label skos:prefLabel" datatype="">Cost</a></div><div class="field-item odd" rel="dc:subject"><a href="/tags/labor" typeof="skos:Concept" property="rdfs:label skos:prefLabel" datatype="">Labor</a></div><div class="field-item even" rel="dc:subject"><a href="/tags/growth" typeof="skos:Concept" property="rdfs:label skos:prefLabel" datatype="">Growth</a></div><div class="field-item odd" rel="dc:subject"><a href="/tags/technology" typeof="skos:Concept" property="rdfs:label skos:prefLabel" datatype="">Technology</a></div><div class="field-item even" rel="dc:subject"><a href="/tags/economics" typeof="skos:Concept" property="rdfs:label skos:prefLabel" datatype="">Economics</a></div></div></div><div class="field field-name-field-addthis field-type-addthis field-label-hidden"><div class="field-items"><div class="field-item even"><div class="addthis_toolbox addthis_default_style " addthis:title="Robert Solow: Innovation, technology &amp;ndash; and math &amp;ndash; make all the difference! - Future of Sourcing" addthis:url="https://www.futureofsourcing.com/robert-solow-innovation-technology-math-make-difference"><a href="https://www.addthis.com/bookmark.php?v=300" class="addthis_button_linkedin"></a> <a href="https://www.addthis.com/bookmark.php?v=300" class="addthis_button_facebook"></a> <a href="https://www.addthis.com/bookmark.php?v=300" class="addthis_button_twitter"></a> <a href="https://www.addthis.com/bookmark.php?v=300" class="addthis_button_googleplus"></a> <a href="https://www.addthis.com/bookmark.php?v=300" class="addthis_button_pinterest_share"></a> <a href="https://www.addthis.com/bookmark.php?v=300" class="addthis_button_reddit"></a> <a href="https://www.addthis.com/bookmark.php?v=300" class="addthis_button_email"></a> <a href="https://www.addthis.com/bookmark.php?v=300" class="addthis_button_print"></a> </div> </div></div></div><div class="field field-name-field-region field-type-taxonomy-term-reference field-label-inline clearfix"><div class="field-label">Region:&nbsp;</div><div class="field-items"><div class="field-item even"><a href="/regions/global" typeof="skos:Concept" property="rdfs:label skos:prefLabel" datatype="">Global</a></div></div></div> Thu, 02 Jun 2011 14:56:26 +0000 Kate Vitasek 1048 at https://www.futureofsourcing.com https://www.futureofsourcing.com/robert-solow-innovation-technology-math-make-difference#comments