Networks, the internet, and Coase

I am reading The Revolt of the Public and the Crisis of Authority in the New Millennium by Martin Gurri. It is about the spread of networks and how they challenge traditional hierarchical organizations. So far, it seems to fit into the broader narrative of the decline of traditional types of authority, being replaced by networks. This narrative includes the spread of the sharing economy, Uber, AirBnB, the blockchain, Bitcoin, as well as the loss of trust in governments.

While reading I had a realization, that in retrospect seems obvious. However, I have yet to read anyone else make the claim I am about to very explicitly, so I feel it is worth blogging about.

The decline of hierarchy and the growth of networks fits perfectly into Coase’s theory of the firm. Coase, in his famous 1937 article argues that firms exist to reduce transaction costs. What he calls firms can be interpreted more broadly as hierarchical organizations, including the traditional nation state. The spread of the internet has lowered transaction costs. The benefits networks at the expense of traditional hierarchies. No longer do we have to book flights through a trusted travel agency, we can get them directly from the airlines. We can buy goods from anonymous strangers because a rating mechanism guarantees their trustworthiness.

The ability to network has empowered people to circumvent the firm. Coase asked, why have a firm, why not contract everything. As transaction costs fall more people will contract, rather than use a firm. Perhaps the most interesting aspect is we have yet to fully exploit how the internet can lower transaction costs. Electricity took 40 years to be fully integrated into everyday life. If we assume a similar time frame for the internet we can expect another 20 years of innovation, much of it being geared toward lowering transaction costs. How firms, and more interestingly the nation state, evolve in response should be watched closely.

3 comments

  1. Very interesting thought. Although I think so far it has only allowed people to circumvent certain firms, most prominently, traditional middle-men. eBay, Amazon, Uber, AirBnB, HomeAway, are, after all, still firms, and they still reduce transaction costs. The networked nature of the internet, including the fact that the developed world carries supercomputers around in their pockets, demands a new type of firm, rather than no firm at all. Wal-Mart could never have been Amazon. Marriott could never have been AirBnB. What seems clear to me, all else equal, is that this shift results in less firms overall. In the future, regarding your point on the long tail of impact the internet is likely to have, I suspect we will see much greater inroads into truly firm-less contracting, rather than an altered model that still involves organizations.

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