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The BIG stretch: Software and flexing your firm's size

Drawing parallels between enterprise IT and fiscal policy

A mathematician (a Fields Medal winner, so a real one) once asked an economist whether there was anything in economics that was non-obvious and non-trivial.

Well, the answer that came back was: "It's all obvious or trivial except Ricardo on comparative advantage."

So, once explained, this analogy is both obvious and trivial, clearly, because it's not Ricardo.

That analogy being that enterprise software — this stuff that we try to use to glue companies together, and aids them in operating more efficiently — is very like fiscal policy in one specific respect.

Fiscal policy being that whole idea of who we tax, how much we tax them, where we go and spend the money, and upon whom and how much borrowing do we do while we're about it.

The basic theory here comes from Robert Mundell, essentially the idea of optimal currency areas.

Weirdly, he was a great enthusiast for the euro despite giving us the tools with which to critique the idea. Even more weirdly, he got the Nobel Prize in 1999 just as we were about to launch the euro.

The essential point is that there's one process that makes such an optimal area over which to share one currency larger and another, countervailing, force which makes the optimal area smaller.

Having one currency as a unit of exchange is just great: we get to trade, without currency risk, with more people and places. However, having the one currency also means that we must, by definition, have the same monetary policy.

And there's lots of times when that's not a good idea. The most obvious part of monetary policy being the general interest rate. As one example, the higher interest rates required to kill off southern England house price speculation might be much too high for northern England manufacturing to be able to withstand. People make that very case.

Mundell went on to point out that it's the tension between these two that determines what the optimal currency area is. Further, that we can deal with at least part of the monetary policy problem by having an extension of fiscal policy. We've got European Union and we've got monetary union but we need to move to fiscal union to protect the first two.

The point being that if we've got areas that require different monetary policies, but we can't do that, we can move tax money around to end up with the same result. The end result of this would be that some significant part of the European economy would be paid to Brussels, allocated by Brussels, and spent where Brussels says it should be.

This would mean German taxes paying Greek pensions, which is possibly why there's a certain resistance to this, although it would very definitely increase the optimum area over which to have just the one currency, the euro.

Which brings us to Ronald Coase, who gained the Nobel Prize in part for asking the very interesting question in Nature of the Firm: Why do we have firms?

There's heavy fixed costs associated with their existence, and nobody who has ever watched the sub-committee on capital budgets argue for an hour over whether to have choccy biccies at the next meeting would insist that they are always hotbeds of efficiency, so why do they exist? Why isn't everything done just by a series of ad hoc contracts between individuals?

That would at least save us from Worstall's Law, namely that all and any organisation end up being run by those who stay awake in committee meetings.

The answer being that sometimes, in certain industries (depending upon the time, the technology and so on) it's more efficient to have the firm; at others it's better to have the network of ad hoc contracts. Err, yes, this is Nobel-worthy work in economics.

Which brings us to enterprise software. Assumptions about enterprise software are challenged these days, with the rise of new providers, new delivery mechanisms and a general fragmentation of the existing, monolithic system of suppliers and products.

For all that change, the point and purpose remains: enterprise software is there to speed the flow of information around a company, to make collaboration within it more efficient. And thus to overcome some of those fixed costs of its existence: in short, to increase the optimal size of a firm.

Or, of course, in the case of a bad implementation of it, reduce it, too.

And so it is that enterprise software is like fiscal policy. They are both attempts to alter the optimal size of an organization. It’s just that one is a currency area while the other is a firm of individuals and processes. ®

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