The Nature of the Firm Author(s): R. H. Coase Source: Economica, New Series, Vol. 4, No. 16 (Nov., 1937), pp. 386-405 Published by: Blackwell Publishing on behalf of The London School of Economics and Political Science and The Suntory and Toyota International Centres for Economics and Related Disciplines StableURL: http://www.jstor.org/stable/2626876 Accessed: 26/07/2009 09:40
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The Nature of the Firm
By R. H. COASE
ECONOMIC theory has suffered in the past from a failure to stateclearly its assumptions. Economists in building up a theory have often omitted to examine the foundations on which it was erected. This examination is, however, essential not only to prevent the misunderstanding and needless controversy which arise from a lack of knowledge of the assumptions on which a theory is based, but also because of the extreme importance for economics of good judgment inchoosing between rival sets of assumptions. For instance, it is suggested that the use of the word " firm " in economics may be different from the use of the term by the "plain man."'' Since there is apparently a trend in economic theory towards starting analysis with the individual firm and not with the industry,2 it is all the more necessary not only that a clear definition of the word " firm " shouldbe given but that its difference from a firm in the " real world," if it exists, should be made clear. Mrs. Robinson has said that "the two questions to be asked of a set of assumptions in economics are: Are they tractable ? and: Do they correspondwith the real world ? "3 Though, as Mrs. Robinson points out, " more often one set will be manageable and, the other realistic," yet there may well bebranches of theory where assumptions may be both maniageableand realistic. It is hoped to show in the followingpaperthat a definitionof a firm may be obtained which is not only realistic in that it corresponds to what is meant by a firm in the real world, but is tractable by two of the most powerful instruments of economic analysis developed by Marshall, the idea of the margin and that ofsubstitution, together giving the idea of substitution at
1 Joan Robinson, Economics is a Serious Subject, p.
See N. Kaldor, "The Equilibrium of the Firm," Economic _ournal, Mllarch, 1934. 8 Op. cit., p. 6. 386
the margin., Our definition must, of course, "relate to formal relations which are capable of being conceived