Marris’s main contribution is the incorporation of the financial policies of the firm into the decision-making process of the firm.
This is done by introducing the financial coefficient a = a* in the model as an additional policy variable.
However, not much is said regarding the actual value of this coefficient. The determination of a is exogenous to the model, reflecting the subjective risk attitudes of managers.
Surely a is at least partly endogenous. Some exogenous influences are imposed from the demands of shareholders, but the risk attitude of managers is affected by the past performance of the firm. If in the past the firm has launched a series of successful new products, and if the profit margin has been increasing, the managers will tend to be more adventurous and take more risks.
Marris’s model is ingenious in that it postulates a solution which maximises the utility of both the managers and the owners. However, whether the balanced-growth solution will maximise the utility functions of managers and owners, depends on the assumption that all factors appearing in these functions are correlated with size and rate of growth. This may be so in periods of steady growth, but need not be true for recessions or ‘tight’ markets. Even in conditions of steady growth it is questionable whether the goals of managers and owners can be reconciled.
The model can deal with the observed fact of multiplicity of goals. Furthermore it shows that growth and profits are competing goals in the real world. The model implies that both managers and owners perceive that the firm cannot simultaneously achieve maximum growth and maximum profits, and that owners do in fact prefer the maximisation of the rate of growth, sacrificing some profits. Marris does not justify the preference of owners for capital growth over maximisation of profits.
The maximum g* depends on the value of a*, which is exogenously determined. It is reasonable to argue that the divorce of ownership and management turns the managers into risk-avoiders. Top management seeks a ‘steady performance’ rather than the adoption of promising but risky projects. This fact is reflected in setting a value to a* which does not in fact lead to the maximisation of the rate of growth in the long run.
Marris assumes given production costs and a price structure whose determination is not explained. Oligopolistic interdependence is not satisfactorily dealt within Marris’s model. Really Mai is brushes aside the mechanism by which prices is determined. This is a serious shortcoming of the model, in view of Marris’s assumption that the growth of the firm is achieved mainly via the introduction of new products, which will (sooner rather than later) be imitated by competitors.
The assumption that continuous growth is possible by creating new markets, that is, by developing ‘products whose sales grow at the expense of total demand in the economy at large’, is highly questionable. It is based on Galbraith’s and Penrose’s theory that a firm can sell anything to the consumers (via an appropriately organised marketing campaign) even against consumers’ resistance. The firm surely does not have unlimited influence on the consumer. After all, if one or two new products prove unsuccessful, it is highly unlikely that the consumer will be willing to try other new products of the firm, launched after the earlier failures.
Then if the assumption of ‘differentiated diversification’ is accepted, Marris’s model is applicable basically to those firms which produce consumers’ goods. The model is not appropriate for analysing the behaviour of manufacturing businesses or traders. There are five policy weapons in Marris’s model; price (P), the product (represented by d), advertising (A), research and development (R & D), and the financial variable a*. However, P and a* are exogenously given, and A and R & D are combined in a single variable, the average profit margin, m. Ultimately the firm is free to decide only one of the policy variables, m or d, but not both. Determination of the one, defines the other simultaneously.
The lumping together of A and R&D expenses is a serious shortcoming of the model, since the effectiveness of these two weapons is not the same in any given period. Marris accepts that the firm prefers to grow with new products which have no close substitutes, because in this way the firm does not encroach on the markets of competitors and hence does not run the danger of retaliatory reactions. We think that there are two weaknesses in this argument.
Firstly, Marris argues at another point that successful new products are eventually imitated. Successful new products thus ‘shelter’ the firm from competition only in the short run, since in the long run this shelter is eroded by imitation. Secondly, this behaviour creates interdependence of oligopolistic firms. Even if prices are assumed as given, competition takes the form of new products. This sort of interdependence is not analysed by Marris.
Marris’s model relies heavily on the restrictive assumption that firms have their own research and development department. Actually most firms do not have such departments but rely on imitation of the inventions of other firms, or, when this is not successful, they pay royalty for using a patented invention.
Marris argues that ‘the firms which most successfully maximise growth will in the long run increase their share of total economic activity’. This implies that concentration should increase over time if firms are growth maximisers. There is some empirical evidence which shows an increase in concentration in many industries.
This, however, does not necessarily support Marris’s theory. Actually most of the observed change in concentration has been achieved by mergers, which are excluded from Marris’s model. An increase in concentration may be due to factors other than the desire of firms to maximise growth.
The welfare implications of Marris’s model are not obvious. One might reasonably argue that if all firms compete with new products, serious misallocation of resources may arise from excessive advertising or wasteful use of research and development resources.
Furthermore, the risk-avoidance of managers may affect the growth of the economy as a whole. Growth may be retarded by not exploiting some new project because of their high risk. However, one could also argue that the welfare of consumers will increase, since they will have a wider choice between continuously increasing number of products.
In general the basic weaknesses of managerial theories are the following:
(1) They fail to explain oligopolistic interdependence in non-collusive markets. Not only is price interdependence ruled out ex hypothesis, but the interdependence created by non-price competition is not analysed. The timing of launching of a new product, or of a new advertising campaign, or of a new research project, is crucial in oligopolistic markets. Yet the ‘imitative process’ in all these forms of competition is not analysed.
(2) The assumption that the firm has unlimited power to create new needs of the consumers via advertising and other selling activities seems rather farfetched.
(3) The managerial models, while explicitly or implicitly assuming continuous diversification, seem to narrow the scope of economic analysis to a ‘micro-micro’ level these theories seem to be suitable for the analysis of the behaviour of individual large firms, while the observed direction of diversification clearly indicates the need for a more general approach.
(4) The managerial models do not explain how price is determined in the market. They imply that firms pay much more attention to their output than to the price at which it will be sold. There are only vague hints about a price structure which may be arrived at in many ways (for example, with collusion, price leadership, or after some period of price war, advertising war, and/or product war).