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When does centralization undermine adaptation?

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  • Liu, Shuo
  • Migrow, Dimitri

Abstract

We revisit the classic problem of optimally allocating decision rights in a multi-divisional organization. To be able to adapt its decisions to local conditions, the organization has to rely on self-interested division managers to collect and disseminate the relevant information. We show that if division managers are certain about how the headquarter (HQ) weights each division's performance, centralization may always dominate decentralization in generating information, and therefore even lead to more adaptative decisions. However, with uncertainty in HQ's decision criterion, centralization can perform poorly in motivating information acquisition, and particularly so when it is highly important to coordinate the activities of different divisions. As a result, decentralization can be optimal even with an arbitrarily strong coordination motive.

Suggested Citation

  • Liu, Shuo & Migrow, Dimitri, 2022. "When does centralization undermine adaptation?," Journal of Economic Theory, Elsevier, vol. 205(C).
    • Handle: RePEc:eee:jetheo:v:205:y:2022:i:c:s0022053122001235
    DOI: 10.1016/j.jet.2022.105533
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    JEL classification:

    • D82 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Asymmetric and Private Information; Mechanism Design
    • M52 - Business Administration and Business Economics; Marketing; Accounting; Personnel Economics - - Personnel Economics - - - Compensation and Compensation Methods and Their Effects

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