The Influence of Public Policy on the Nature and Significance of Firms

I Neoclassical theory's neglect of the firm is understandable because the allocation of resources within the firm results from presumably rational decisions. These decisions might have been of interest to the developing study of psychology, but they presented no obvious mystery to neoclassical economists. No social organization puzzle seems to be involved, although there lurk behind these management decisions the puzzles of how to deal with shirking and agency problems. The problem that attracted the attention of neoclassical economists was to understand how a society, in the absence of central planning, could arrive at sensible and compatible resource allocations if decisions are made independently by millions of firms and households. Each of the decision-making units conceptualized in neoclassical theory, the firm and the household, is assumed to pursue its ends rationally, and this detaches these decisions from the integrative social problem that for so long has fascinated economists. The explicitly rational decisions made within these units were depicted simply by calculus-guided solutions to profit and utility maximizing problems. What remained to be solved, and that which constitutes the genuine social economic puzzle, is to understand the allocation of resources between firms and households, not within them. Because this is the puzzle adopted by neoclassical economists, the firm and its internal operations received little attention from them. Similarly for households. Instead, the role of prices in shaping