Table Of ContentX-EFFICIENCY:
THEORY, EVIDENCE
AND APPLICATIONS
Second Edition
Topics in Regulatory Economics and Policy Series
Michael A. Crew, Editor
Graduate School of Management, Rutgers University
Newark, New Jersey, U.S.A.
Previously published books in the series:
Rowley, C., R. Tollison, and G. Tullock:
Political Economy of Rent-Seeking
Frantz, R.:
X-Efficiency: Theory, Evidence and Applications
Crew, M.:
Deregulation and Diversification of Utilities
Shogren, J.:
The Political Economy of Government Regulation
Hillman, J., and R. Braeutigam:
Price Level Regulation for Diversified Public Utilities
Einhorn, M.:
Price Caps and Incentive Regulation in Telecommunications
Crew, M.:
Competition and the Regulation of Utilities
Crew, M., and P. Kleindorfer:
Competition and Innovation in Postal Services
Thompson, H.:
Regulatory Finance: Financial Foundations of Rate of Return Regulation
Crew, M.:
Economic Innovations in Public Utility Regulation
Crew, M., and P. Kleindorfer:
Regulation and the Nature of Postal and Delivery Services
Oren, S., and S. Steven:
Service Opportunities for Electric Utilities: Creating Differentiated Products
Kolbe, A.L., W.B. Tye, and S.C. Myers:
Regulatory Risk: Economic Principles and Applications to Natrual Gas Pipelines
Pechman, C.:
Regulating Power: The Economics of Electricity in the Information Age
Gordon, R.K.:
Regulation and Economic Analysis: A Critique over Two Centuries
Blackmon, G.:
Incentive Regulation and the Regulation of Incentives
Crew, M.:
Incentive Regulation for Public Utilities
Crew, M., and P. Kleindorfer:
Commercialization of Postal and Delivery Services
Abbott, T.:
Health Care Policy and Regulation
Goff, B.:
Regulation and Macroeconomic Performance
Coate, M.B., and A.N. Kleit:
The Economics of the Antitrust Process
Crew, M.:
Pricing and Regulatory Innovations Under Increasing Competition
Crew, M., and P. Kleindorfer:
Managing Change in the Postal and Delivery Industries
X-EFFICIENCY:
THEORY, EVIOENCE
ANO APPLICATIONS
Second Edition
Roger S. Frantz
San Diego State University
San Diego, California, U.S.A.
....
"
Springer Science+Business Media, LLC
Library or Congress Cataloging~in·Publication Data
Frantz, Roger S.
X-efficieney: lheory, evidence and applications 1 by Roger
Frantz. -- 2nd ed.
p. cm. -- (Topics in regulalOry economics and palicy ; 23)
lnc1udes bibliographical references and index.
ISBN 978-1-4613-7875-4 ISBN 978-1-4615-6265-8 (eBook)
DOI 10.1007/978-1-4615-6265-8
1. Industria! effieiency. 2. Industria! produetivity.
3. Industria! paliey. 1. Title. II. Series
HD56.F725 1997
338' .06--de20 96-28940
CIP
Copyright c 1997 Springer Science+Business Media New York
Originally publishcd by Kluwcr Academic Publishers in 1997
Softcover reprint of the hardcover 1s t edition 1997
Ali rights reserved. No part of lhis publicalion may be reproduced, stored in
a relrieva! syslem or transmitted in any fonn or by any means, mechanica!,
photo-copying, recording, ar olherwise, wilhout lhe prior written pennission of
lhe publisher, Springer Science+Business Media, LLC.
Printed an acid-free paper.
Harvey Leibenstein - 1922-1994.
This book is dedicated to Harvey Leibenstein,
founder of X-Efficiency Theory, and my mentor,
who I miss very much.
CONTENTS
List of figures and tables ix
P~~ ~
Forward to first edition (by Harvey Leibenstein) xiii
Forward to second edition (by Mark Perlman) xvii
1. Introduction 1
1. 1. Introduction 1
1.2. X and Allocative Efficiency and the Welfare Losses 2
From Monopoly Power
1.3. X-Efficiency and the Neoclassical Production and 2
Cost Functions
1.4. The Development of XE Theory 3
1.5. XE Theory and Generalized Neoclassical Theory 4
1.6. XE as a Research Design 4
1.7. Empirical Research on XE Theory 6
1.B. Critics of XE Theory 6
2. Production, Cost, and Welfare: A Review 7
2.1. Introduction 7
2.2. The Firm in the Short Run 8
2.3. The Firm in the Long Run 10
2.4. Firms, Markets, and Efficiency 12
2.5. Implications 15
3. X-Efficiency: The Intellectual Setting and an Introduction 17
to the Theory
3.1. Introduction 17
3.2. Complex Objective Functions 17
3.3. Rent-Seeking Behavior 21
3.4. Simon and the Carnegie School 24
3.5. XE Theory: An Introduction 25
3.6. X-Efficiency 29
3.7. Conclusions 33
4. X-EfficiencyTheory: 1 35
4. 1. Introduction 35
4.2. The Individual in XE Theory 35
4.3. Conclusions 43
viii MANAGING CHANGE IN THE POSTAL AND DELIVERY INDUSTRIES
5. X-Efficiency Theory: 2 45
5.1. Introduction 45
5.2. Individual Effort and the Inert Area 45
5.3. Intrafirm Determinants of Individual and Group Effort 49
SA. Productivity, Effort Conventions, and the Prisoner's 52
Dilemma
5.5. Market Structure, Pressure and Effort 56
5.6. A Synthesis and an Illustration 58
5.7. Implications and Conclusions 62
6. Empirical Evidence: Regulated Industries 63
6. 1. Introduction 63
6.2 Empirical Studies 63
6.3 Conclusions 82
7. Empirical Evidence: Market Structure and Firm Organization 83
7. 1. Introduction 83
7.2. Owner vs. Manager Controlled Firms 83
7.3. Market and Firm Concentration 87
704. Public vs. Private Ownership 96
7.5. Other Ownership Studies 99
7.6. Conclusions 105
8. Empirical Studies: Input Ratios and International Trade 107
8. 1. Introduction 107
8.2. Input Ratios 107
8.3. Exports and Effective Protection From Competition 116
804. Conclusions 125
9. X-Efficiency, Its Critics, and a Reply 127
9. 1. Introduction 127
9.2. Rent-Seeking 128
9.3. Leisure as Output 131
904. Management Utility Under Competition 136
9.5. Property Rights 137
9.6. Some General Comments 140
9.7. X-Efficiency and Allocative Efficiency: What Have 141
We Leamed?
9.8. Conclusions 144
10. Implications and Conclusions 145
10. 1. X and Allocative Efficiency 145
10.2. X-Efficiency Theory as a Research Design 146
10.3. X-Efficiency and Its Critics 147
1004. X-Efficiency Theory and Neoclassical Theory: 148
Some Final Thoughts
References 153
Index 163
List of Figures and Tables
Figures
Figure 1 Short-run production functions 8
Figure 2 Short-run average total cost curve 9
Figure 3 Long-run production function and the firm's expan- 10
sion path
Figure 4 Long-run average total cost curve 11
Figure 5 Market equilibrium and allocative-market-efficiency 13
Figure 6 The firm and allocative-market-efficiency 14
Figure 7 Welfare costs of taxes, tariffs, and rent-seeking 23
Figure 8 Discretionary behavior and the short-run production 29
function as a "band"
Figure 9 Pressure, technological change, and costs 31
Figure 10 The effects of X-inefficiency and technological 32
change on costs
Figure 11 The inert area 48
Figure 12 Vertical relations and the inert area 50
Figure 13 A multiperson inert area 51
Figure 14 An adaptation of the Yerkes - Dotson law: pressure 59
and the quality of decision making
Figure 15 A synthesis: determinants of X-inefficiency 60
Figure 16 Allocative-price and X-inefficiency caused by a fuel 68
adjustment mechanism
Figure 17 Components of allocative and X-inefficiency caused 81
by a lack of competition in the electric utility in-
dustry
Figure 18 X-inefficiency, suboptimal capacity, and excess ca- 88
pacity
Figure 19 Railroad mergers and their welfare costs 93
Figure 20 Appropriate technology, allocative-price inefficiency 108
and X-inefficiency
Figure 21 Partitioning the higher costs of monopoly power: 127
profits, wages, job perquisites, and X-ineffi-
ciency
Figure 22 Rent-seeking, allocative-market inefficiency and X- 129
inefficiency
x MANAGING CHANGE IN THE POSTAL AND DELIVERY INDUSTRffiS
Figure 23 On-the-job leisure, and the welfare costs of a sub- 141
sidy
Figure 24 Rent-seeking, on-the-job leisure, and the welfare 143
costs of a subsidy
Tables
Table 1 Methodological consequences of implicit type 1 and 5
type 2 errors
Table 2 Productivity as a prisoner's dilemma 53
PREFACE
My interest in X-Efficiency (XE) dates back to 1978. At the time, I was writing the
dissertation for my Ph.D. at Washington State University. My dissertation was
concerned with the role of attitudes in the school-to-work transition among young
men. I was advised by Professor Millard Hastay (a member of my committee) to
look at Leibenstein's "new" book, Beyond Economic Man. One of the things that
caught my attention was his behavioral description of (selective) rationality. It
seemed that Leibenstein' s behavioral description of a (selectively) rational individ
ual was very similar to what psychologists such as Abraham Maslow were reporting
as being the product of a particular motivational system. In other words, I was
impressed with the idea that what Leibenstein was referring to as X-inefficiency
was being discussed by psychologists as "the way it (often) is." So from the
beginning I always considered the concept ofX-(in)efficiency to be a valuable one
for understanding human behavior. I have since come to believe that this is
particularly true when considering behavior in non-market environments, i.e.,
within the firm.
Work on this book, however, can most realistically said to have started with
work which I began in 1982 while I was a Visiting Scholar at Harvard University.
Professor Leibenstein suggested that I consider how some empirical evidence
which was being cited as evidence for the role of property rights might also be
consistent with XE theory. (The consistency, in both directions, is considerable.)
This led to an investigation of empirical research that cited XE as a possible
explanation for the reported results. This literature seemed large, but not as large
as theoretical work citing XE. Taken together, I was organizing a very large
literature and one of which many of my colleagues and others with whom I spoke
were not generally aware. My impression is that this body ofliterature on XE theory
continues to be unknown by many in the economics profession.
My greatest indebtedness for this book is to Harvey Leibenstein, who has been
generous with both his time and his encouragement for this and other projects. I
have known him to be one who is not afraid to think outside the orthodox
framework, and whose insights have firmly impressed me as being keen, educa
tional, and wonderfully refreshing. While Professor Leibenstein and I might
disagree on certain points, I believe it fair to exclaim at the outset of this book that,
"I am an X-ist."
Many others have read portions of this book or otherwise given of their time and
