X-lnefficiency and Management Practices: Beyond Supply and Demand

Abstract

At the core of economics is the concept of efficiency. Efficient methods lead to higher profit margins, more production possibilities and growth. The goal of every firm should be to minimize costs while maximizing profits, hence the firm will be operating productive efficiently. There are two principal reasons why firms operate inefficiently, hence at levels below the capabilities of their resource and technology: production inefficiency and x-inefficiency. Production efficiency means that resources are used at levels that meet their production possibility curve. However, behind that theory of supply and demand there exists a theory of human motivation, the core of what makes a firm operate at its efficient level; the theory of x-efficiency. Standard economic theory implicitly assumes that people are always fully motivated. Yet, one will find in real business situations that people are not always functioning fully motivated. It is the manager's responsibility to insure that the firm is operating both production efficiently as well as x-efficiently. The purpose of this paper is to show that x-efficiency does exists and to demonstrate the effects of x-inefficiency by using a firm that I was recently employed. I will start with a definition of x-inefficiency, following with a discussion on relative theories of x-inefficiency, argued by leading economist, continuing with a demonstration of the conditions required for a firm to operate x-inefficiently. Using those tools for analysis. I will apply the theory of x-inefficiency to the firm I worked for during my SIP quarter, Can-Am. Can-Am is a travel agency operating in the Detroit area. In my opinion, Can-Am was already operating productive efficiently. The owner of Can-Am, Russ Zahodnik, was very conscientious about expenditures, sales, and potential profit margins. He tried, and in my opinion quite successfully, to keep variable expenses very low. However, while was working there I noticed several problems that arose within the office that interfered with the productiveness of the employees. These problems could counteract the production efficient methods already in use resulting in a zero net effect on efficiency. This would happen when the cost effective methods that Russ used to keep the company operating had no over all effect due to the presences of these inter-office problems. Moreover, these inter-office problems could even have a negative effect on the efficient methods already in use. This would happen when the inter-office problems effected the productive capacities of the travel agents working there, in such a way that these problems out-weighed the effective methods making the company even worse off. I am not going to make a judgement on whether or .not the inter-office problems had a negative effect or a zero effect on the efficiency of the company. I am merely going to use the problems that the company incurred to demonstrate that x-inefficiency does exists and that it does have an effect on the productiveness of the company. Following my discussion of x-inefficiency, both in theory and in the case of Can-Am, I will briefly describe the work that I performed at Can-Am, relating it to the courses that I have taken here at Kalamazoo College, and to my goals for the future.