The Logic of Economic Organization

Abstract

In his pivotal article from 1937, Coase questions the reason why organizations exist at all, since resources are ostensibly allocated most efficiently by the price mechanism of the market (Coase, 1937:388). He argues that markets and hierarchies were equivalent institutional arrangements to carrying out a transaction, if they would not entail different costs (Coase, 1937:388-392). Therefore “[T] he main reason why it is profitable to establish a firm would seem to be that there is a cost of using the price mechanism” (Coase, 1937:390). With this argumentation, Coase contributes to economic theory in a great manner: The distinction between market and hierarchy can be understood as two categories of possible ways of organizing economic transactions, whose favorability is determined by the costs they cause. “[A]s categories come to be defined in terms of different situations in which practitioners might find themselves” (Christensen et al., 2001:11), the costs which arise when using the price mechanism (market), respectively authority (hierarchy)represent such different situations and are as a result the circumstances to distinguish between the two categories market and hierarchy.