In this chapter, knowledge and learning are seen as key factors impacting economic organization. In particular, the dynamic capabilities framework is used to explain how the distinctive experience-based and knowledge-based assets of firms drive their vertical (and lateral) integration, their heterogeneity, and indeed, their very existence. Mainstream economics has employed ideas from organizational learning in a piecemeal fashion (Boerner, et al., 2001). The resource-based view (RBV) of the firm, in which resources are built through experiential learning, can inform economic models (Conner, 1991) and business arrangements more generally.
In competitive market environments, firms must build assets and capabilities that enable positive differentiation. Knowledge assets such as technical and organizational know-how can provide this differentiation. Accordingly, they can undergird a firm’s competitive position.
Knowledge is often embedded in routines, the well-established and largely uncodified patterns that firms have developed for finding solutions to particular problems (Nelson and Winter, 1982). More formal types of knowledge assets, such as patents, can also support competitive advantage.
Although the organizational knowledge that undergirds distinctive capabilities transcends the knowledge of individual firm employees, it must nonetheless be created and applied through the management of employees. With respect to knowledge assets, an important class of employees is that of experts (literati and numerati), whose management requires limited hierarchy, flexible teams, and performance-based incentives (Teece, 2011). Entrepreneurial managers with superior skills in asset orchestration are also vital to successful value capture.
Whereas firms may once have derived (and in some industries still do) advantage over rivals primarily from the efficient management of large scale manufacturing investment (Chandler, 1990), firms increasingly build competitive advantage and hence long-term profitability mainly through the creation, ownership, transfer, orchestration, and protection of non-tradable (intangible) assets. Knowledge itself is of course the prime example of an intangible asset.
An economic question of particular importance as more industries embrace outsourcing is why hierarchically-managed firms exist at all. Why not just organize the same activities using a nexus of contracts? Would a plethora of arm’s-length contracts suffice to organize economic activity? If not, why not? These issues go to the heart of the ‘theory of the firm’ and are discussed later in this chapter.