Management Quality, Firm Organization and International Trade

Abstract

The quality of management technology that is used to monitor and incentivize workers varies substantially across countries. To understand the impact of this on economic activities, I develop a two-sector model in which firms facing heterogeneous demands set up hierarchies to manage the production processes in a monopolistically competitive sector. Entrepreneurs decide the number of hierarchical layers, the effort level of each worker, and the span of control of supervisors. I then use the theory to explain two empirical findings established in the literature. First, a common improvement in this type of management technology across all firms intensifies competition in the monopolistically competitive sector. As a result, the smallest firms are forced to leave the market; the most efficient firms thrive; the average firm size increases. Second, firms are less decentralized in economies with ineffective management technology. In an extended two-country model incorporating international trade, I show that firms facing increasing import competition flatten their hierarchies and use more incentive-based pay. Further-more, I find that countries with superior management technology experience larger welfare gains from opening up to trade and have larger trade shares.