First Look

October 23, 2012

Economics: It is Brain Science

Several Harvard Business School researchers have shown a growing interest in how the brain works when deciding which brands to buy, how it can be primed to make us more confident, and even how the unconscious mind can lead to better thinking. Now, the research team of Thalia Wheatley, Olivia Kang, Carolyn Parkinson, and Christine E. Looser explore one of the great mysteries of science and life: the "click" of kindred spirits that happens between some people, but not others. "Researchers from psychology and neuroscience are converging on a likely physiological basis for connection—neural synchrony," they write. Their paper, "From Mind Perception to Mental Connection: Synchrony as a Mechanism for Social Understanding," was published in the August issue of Social and Personality Psychology Compass.

Analyzing An Iphone Assembly Plant Problem

Imagine your firm has been hired to assemble 2.4 million iPhones, and after three months you are already operating at a loss. How do you diagnose what is wrong and what to do about it? The case "Danshui Plant No. 2," written by William Bruns, Julie H. Hertenstein, and Kelvin Liu, follows the Chinese plant's manager as he dives into the numbers. "Students must perform breakeven and flexible budget analyses and calculate price and usage variances as they consider solutions for the plant's problems with the iPhone contract," according to the case's authors.

The Surprisingly High Number Of Pe Deals By Banks

From a "too big to fail" perspective, banks with private equity operations can be perceived as dangerous. Wary of this connection, the Volcker Rule in the Dodd-Frank Act attempts to limit banks' exposure to private equity and hedge funds. A new working paper sides somewhat with concerns of regulators, while admitting there is a lot to learn. But the big finding here might be how widespread PE activity by banks has become: "We find that banks are surprisingly large players in the private equity market, accounting for 30 percent of transactions between 1983 and 2009, with transition values exceeding $700 billion," write the authors, Lily H. Fang, Victoria Ivashina, and Josh Lerner. Those numbers make the paper's findings even more important. Read the working paper, Combining Banking with Private Equity Investing."

— Sean Silverthorne


Inflection Point: New Vision, New Strategy, New Organization


An abstract is unavailable at this time.

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Customer-Driven Misconduct: How Competition Corrupts Business Practices


Competition among firms yields many benefits but can also encourage firms to engage in corrupt or unethical activities. We argue that competition can lead organizations to provide services that customers demand but that violate government regulations, especially when price competition is restricted. Using 28 million vehicle emissions tests from more than 11,000 facilities, we show that increased competition is associated with greater inspection leniency, a service quality attribute that customers value but is illegal and socially costly. Firms with more competitors pass customer vehicles at higher rates and are more likely to lose customers whom they fail, suggesting that competition intensifies pressure on facilities to provide illegal leniency. We also show that, at least in markets in which pricing is restricted, firms use corrupt and unethical practices as an entry strategy.

Fairness, Efficiency and Flexibility in Organ Allocation for Kidney Transplantation


We propose a scalable, data-driven method for designing national policies for the allocation of deceased donor kidneys to patients on a waiting list, in a fair and efficient way. We focus on policies that have the same form as the one currently used in the United States. In particular, we consider policies that are based on a point system, which ranks patients according to some priority criteria, e.g., waiting time, medical urgency, etc., or a combination thereof. Rather than making specific assumptions about fairness principles or priority criteria, our method offers the designer the flexibility to select his desired criteria and fairness constraints from a broad class of allowable constraints. The method then designs a point system that is based on the selected priority criteria and approximately maximizes medical efficiency, i.e., life year gains from transplant, while simultaneously enforcing selected fairness constraints. Among the several case studies we present employing our method, one case study designs a point system that has the same form, uses the same criteria, and satisfies the same fairness constraints as the point system that was recently proposed by U.S. policymakers. In addition, the point system we design delivers an 8% increase in extra life year gains. We evaluate the performance of all policies under consideration using the same statistical and simulation tools and data as the U.S. policymakers use. Other case studies perform a sensitivity analysis (for instance, demonstrating that the increase in extra life year gains by relaxing certain fairness constraints can be as high as 30%) and also pursue the design of policies targeted specifically at remedying criticisms leveled at the recent point system proposed by U.S. policymakers.

On the Efficiency-Fairness Trade-Off


This paper deals with a basic issue: How does one approach the problem of designing the "right" objective for a given resource allocation problem? The notion of what is right can be fairly nebulous; we consider two issues that we see as key: efficiency and fairness. We approach the problem of designing objectives that account for the natural tension between efficiency and fairness in the context of a framework that captures a number of resource allocation problems of interest to managers. More precisely, we consider a rich family of objectives that have been well studied in the literature for their fairness properties. We deal with the problem of selecting the appropriate objective from this family. We characterize the trade-off achieved between efficiency and fairness as one selects different objectives, and we develop several concrete managerial prescriptions for the selection problem based on this trade-off. Finally, we demonstrate the value of our framework in a case study that considers air traffic management.

Ethnic Innovation and U.S. Multinational Firm Activity


This paper studies the impact that immigrant innovators have on the global activities of U.S. firms by analyzing detailed data on patent applications and on the operations of the foreign affiliates of U.S. multinational firms. The results indicate that increases in the share of a firm's innovation performed by inventors of a particular ethnicity are associated with increases in the share of that firm's affiliate activity in their native countries. Ethnic innovators also appear to facilitate the disintegration of innovative activity across borders and to allow U.S. multinationals to form new affiliates abroad without the support of local joint venture partners. Thus, this paper points out that immigration can enhance the competitiveness of multinational firms.

Charitable Giving When Altruism and Similarity Are Linked


This paper presents a model in which anonymous charitable donations are rationalized by two human tendencies drawn from the psychology literature. The first is people's disproportionate disposition to help those they agree with, while the second is the dependence of peoples' self-esteem on the extent to which they perceive that others agree with them. Government spending crowds out the charity that ensues from these forces only modestly. Moreover, people's donations tend to rise when others donate. In some equilibria of the model, poor people give little because they expect donations to come mainly from richer individuals. In others, donations by poor individuals constitute a large fraction of donations, and this raises the incentive for poor people to donate. The model predicts that under some circumstances, charities with identical objectives can differ by obtaining funds from distinct donor groups. The model then provides an interpretation for situations in which the number of charities rises while total donations are stagnant.

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From Mind Perception to Mental Connection: Synchrony as a Mechanism for Social Understanding


Connecting deeply with another mind is as enigmatic as it is fulfilling. Why people ''click'' with some people but not others is one of the great unsolved mysteries of science. However, researchers from psychology and neuroscience are converging on a likely physiological basis for connection-neural synchrony (entrainment). Here, we review research on the necessary precursors for interpersonal synchrony: the ability to detect a mind and resonate with its outputs. Further, we describe potential mechanisms for the development of synchrony between two minds. We then consider recent neuroimaging and behavioral evidence for the adaptive benefits of synchrony, including neural efficiency and the release of a reward signal that promotes future social interaction. In nature, neural synchrony yields behavioral synchrony. Humans use behavioral synchrony to promote neural synchrony, and thus, social bonding. This reverse-engineering of social connection is an important innovation likely underlying this distinctively human capacity to create large-scale social coordination and cohesion.

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Working Papers

Combining Banking with Private Equity Investing


Bank-affiliated private equity (PE) groups account for 30% of all PE investments. These affiliated groups' market share is highest during peaks of the PE market, as is the fraction of transactions where the parent bank leads the loan syndicate (parent-financed deals). Bank-affiliated deals are similar in characteristics and financing to stand-alone deals but have worse outcomes if consummated during the peaks of the credit market. Parent-financed deals enjoy significantly better financing terms than stand-alone deals but do not exhibit better performance. The parent-financing advantage in loan terms is concentrated during credit market peaks when banks tend to syndicate more of the loans to external loan investors and is not explained by the banks' previous relationships with the targets, the PE groups' reputations, or the banks' prominence in structured financing markets. Banks' involvement in private equity investments provides significant cross-selling opportunities. Collectively, this evidence is consistent with banks' taking advantage of favorable credit-market conditions.

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Diasporas and Outsourcing: Evidence from oDesk and India


This study examines the role of the Indian diaspora in the outsourcing of work to India. Our data are taken from oDesk, the world's largest online platform for outsourced contracts, where India is the largest country in terms of contract volume. We use an ethnic name procedure to identify ethnic Indian users of oDesk in other countries around the world. We find very clear evidence that diaspora-based links matter on oDesk, with ethnic Indians in other countries 32% (9 percentage points) more likely to choose a worker in India. Yet, the size of the Indian diaspora on oDesk and the timing of its effects make clear that the Indian diaspora was not a very important factor in India becoming the leading country on oDesk for fulfilling work. In fact, multiple pieces of evidence suggest that diaspora use of oDesk increases with familiarity of the platform, rather than a scenario where diaspora connections serve to navigate uncertain environments. We further show that diaspora-based contracts mainly serve to lower costs for the company contacts outsourcing the work, as the workers in India are paid about the market wage for their work. These results and other observations lead to the conclusion that diaspora connections continue to be important even as online platforms provide many of the features that diaspora networks historically provided (e.g., information about potential workers, monitoring, and reputation foundations).

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Cases & Course Materials

Boardroom Battle Behind Bars: Gome Electrical Appliances Holdings—A Corporate Governance Drama

William C. Kirby and Tracy Yuen Manty
Harvard Business School Case 312-025

Despite widespread news of the incarceration of Gome Electronics' CEO, Huang Guangyu, Bain Capital felt they carefully undertook due diligence before making a significant investment in the company. The venture capital firm was confident that it and the current management could work together to revamp the fortunes of China's leading electronic retailer. However, it did not anticipate the power Huang had behind bars. As the majority shareholder, Huang managed to manipulate shareholder meetings and current management decisions and structure. Was this typical of an investment in China or did Bain Capital just find itself in a unique situation? What can future managers learn from this situation about corporate governance and ethical rules of business in China?

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Fairstar Heavy Transport (A)

Guhan Subramanian and Rhea Ghosh
Harvard Business School Case 911-036

In 2009, the small heavy marine transport company Fairstar entered into bidding on one of the largest contracts in the history of the industry. The case chronicles the company's year-long tendering process, leading up to a final make-or-break meeting.

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