Dynastic Management

By Caselli, Francesco; Gennaioli, Nicola | Economic Inquiry, January 2013 | Go to article overview

Dynastic Management


Caselli, Francesco, Gennaioli, Nicola, Economic Inquiry


I. INTRODUCTION

There is broad agreement that differences in aggregate total factor productivity (TFP) constitute a large fraction of the existing cross-country differences in per-capita income. That is, not only do poor countries have fewer productive resources, such as physical and human capital, but they also employ them less effectively than rich countries. The current consensus is that TFP differences account for upwards of 50% of income inequality. (1) Existing attempts to explain this fact emphasize lags in technology diffusion, geography, vested interests and other institutional failures, and several other causes. We believe, however, that a potentially critical source of inefficiency has so far been largely overlooked by the TFP literature: failures of meritocracy.

Individuals are manifestly heterogeneous in their decision-making skills. Differences across countries in the accuracy with which the best decision makers are selected for managerial responsibilities--differences in meritocracy--can result into differences in the returns countries reap from their productive resources-differences in TFP. Meritocracy can fail spectacularly in the public sector (Caselli and Morelli 2004). But meritocracy can also fail in the private sector. This paper studies the macroeconomic causes and consequences of an important private-sector non-meritocratic practice: the inter-generational transmission of managerial responsibilities in family firms, a Phenomenon that we call dynastic management. (2)

As we document in Section II, the incidence of dynastic management is the most striking difference in corporate-governance arrangements between rich and poor countries, as the latter rely much more on the dynastic family firm, where ownership and control are passed on across generations of the same family. We argue that this systematic difference may be a proximate source of TFP differences: even allowing for self-selected initiators of family businesses, as long as managerial talent is not perfectly correlated across generations, assets will sooner or later end up "in the wrong hands," that is those of a managerially inept descendant. If most firms in an economy are managed dynastically, therefore, aggregate TFP may be negatively affected.

But why is dynastic management more prevalent in some countries than others? In our model, we focus on financial frictions. First, financial frictions hinder the working of the market for corporate control, which is a key determinant of the incidence of dynastic management. Untalented heirs of family firms would like to transfer control to new talented owners (or hire talented managers). However, when financial markets are underdeveloped, it is difficult for talented outsiders to obtain financing to take over incumbent firms. Furthermore, untalented firm owners have little scope for preventing outside managers from appropriating the firm's profits, that is, it is difficult to separate ownership and control. In addition, poorly working financial markets hinder capital mobility. In principle, talented entrepreneurs could bid up the interest rate and drive untalented managers out of capital markets, but financial frictions dampen this mechanism. As a result of both effects, the incidence of dynastic management will be more severe in developing countries precisely because they suffer from less developed financial markets. (3,4)

We study a growth model where dynastic management arises endogenously as a consequence of financial frictions, and look at the consequences of this failure of meritocracy for TFP, capital accumulation, and other macroeconomic variables. A plausible parametrization of our model is able to generate a cross-country dispersion of TFP which is roughly one-third as large as the one observed in the data. Interestingly, both the market for control and capital mobility appear to significantly contribute to the overall effect of financial frictions.

The rest of this article is only available to active members of Questia

Sign up now for a free, 1-day trial and receive full access to:

  • Questia's entire collection
  • Automatic bibliography creation
  • More helpful research tools like notes, citations, and highlights
  • Ad-free environment

Already a member? Log in now.

Notes for this article

Add a new note
If you are trying to select text to create highlights or citations, remember that you must now click or tap on the first word, and then click or tap on the last word.
One moment ...
Project items

Items saved from this article

This article has been saved
Highlights (0)
Some of your highlights are legacy items.

Highlights saved before July 30, 2012 will not be displayed on their respective source pages.

You can easily re-create the highlights by opening the book page or article, selecting the text, and clicking “Highlight.”

Citations (0)
Some of your citations are legacy items.

Any citation created before July 30, 2012 will labeled as a “Cited page.” New citations will be saved as cited passages, pages or articles.

We also added the ability to view new citations from your projects or the book or article where you created them.

Notes (0)
Bookmarks (0)

You have no saved items from this article

Project items include:
  • Saved book/article
  • Highlights
  • Quotes/citations
  • Notes
  • Bookmarks
Notes
Cite this article

Cited article

Style
Citations are available only to our active members.
Sign up now to cite pages or passages in MLA, APA and Chicago citation styles.

(Einhorn, 1992, p. 25)

(Einhorn 25)

1

1. Lois J. Einhorn, Abraham Lincoln, the Orator: Penetrating the Lincoln Legend (Westport, CT: Greenwood Press, 1992), 25, http://www.questia.com/read/27419298.

Cited article

Dynastic Management
Settings

Settings

Typeface
Text size Smaller Larger
Search within

Search within this article

Look up

Look up a word

  • Dictionary
  • Thesaurus
Please submit a word or phrase above.
Print this page

Print this page

Why can't I print more than one page at a time?

Full screen

matching results for page

Cited passage

Style
Citations are available only to our active members.
Sign up now to cite pages or passages in MLA, APA and Chicago citation styles.

"Portraying himself as an honest, ordinary person helped Lincoln identify with his audiences." (Einhorn, 1992, p. 25).

"Portraying himself as an honest, ordinary person helped Lincoln identify with his audiences." (Einhorn 25)

"Portraying himself as an honest, ordinary person helped Lincoln identify with his audiences."1

1. Lois J. Einhorn, Abraham Lincoln, the Orator: Penetrating the Lincoln Legend (Westport, CT: Greenwood Press, 1992), 25, http://www.questia.com/read/27419298.

Cited passage

Welcome to the new Questia Reader

The Questia Reader has been updated to provide you with an even better online reading experience.  It is now 100% Responsive, which means you can read our books and articles on any sized device you wish.  All of your favorite tools like notes, highlights, and citations are still here, but the way you select text has been updated to be easier to use, especially on touchscreen devices.  Here's how:

1. Click or tap the first word you want to select.
2. Click or tap the last word you want to select.

OK, got it!

Thanks for trying Questia!

Please continue trying out our research tools, but please note, full functionality is available only to our active members.

Your work will be lost once you leave this Web page.

For full access in an ad-free environment, sign up now for a FREE, 1-day trial.

Already a member? Log in now.