‘Structure-Oriented’ Theories of the Firm: Neoclassical Theory of the Firm and New Institutional Economics

This chapter examines the neoclassical theory of the firm and new institutional economics respectively. Neoclassical theory of the firm focuses on the reactive behaviour of the firm to market signals, and ignores the organisation and internal workings of the firm. In other words, neoclassical theory of the firm takes the existence of the firm for granted. Transaction cost economics attempts to account for the reason for the existence of the firm. Neoclassical theory also ignores all incentive problems within the firm. Transaction cost theory of the firm extends the idea of imperfection to cover the firm as well. In other words, it proposes a more general framework of imperfection, that is, the concept of &s;organisational failure&s;, which implies that all organisations fail to work perfectly. Agency theory assumes a more efficient market, like game theory, but it does not rule out the possibility of sustainable firm differentials in the efficiently working markets.