In the first lecture, we begin with the theory of the firm and look at the characteristics it acquired during
the First Industrial Revolution, focusing on the rise of the factory system. The reference country for this
first part is England, as this is the country where the First Industrial Revolution started; hence this is
where the revolutionary process of business development began (1800-1850).
Week 1 (**mandatory, * recommended, nothing optional)
**Mokyr, J. (2001). The rise and fall of the factory system: technology, firms, and households since the
industrial revolution. In Carnegie-Rochester Conference Series on Public Policy (Vol. 55, No. 1, pp. 1-45).
North-Holland.
*Amatori, F., & Colli, A. (2013). Business History: Complexities and Comparisons. London and New York:
Routledge, ch. 4.
Allen, R. C. (2009). The British Industrial Revolution in Global Perspective. Cambridge: Cambridge
University Press.
LECTURE 1: THE INDUSTRIAL REVOLUTION
The theory of the firm
There are 3 main perspectives:
1. Neo-classical (Marshall 1890): a model firm that does not necessarily exist but which is used as
an abstract construction to illustrate the operations of a market as a whole
a. Assumes that the key objective of the firm is to transform inputs into outputs
b. Assumes that firms aim to maximize profit given prices and technology (price-taker)
Firm size under perfect competition where firm →
Marginal revenue is constant and parallel to the quantity, the firm
sells any quantity at the same price, it cannot sell it for a higher
price and it has no reason to sell it below
ATC = TC / Q and TC = FC (e.g. building) + FC (e.g. staff)
Average costs have a U shape: high with low quantity,
decline until a certain point where they increase
MC = Change in TC / Change in Q
Law of diminishing marginal returns: initially fall due to
improvements in specialization and underutilization of
fixed FOP, after a certain point they increase
The size of the firm is the same as the quantity produced and this is determined by the intersection
between marginal returns and the costs - size of the firm increases with fixed costs
2. New institutional (Coase 1937): Why do firms even exist? Why not leave all the transactions to
the market?
a. Assumes that the firm is hierarchical (coercion)
b. Assumes that the market is voluntary (freedom)
c. The market is not frictionless, there are transaction costs
d. The role of firms is to reduce these transaction costs:
i. Discover prices
ii. Negotiate and conclude contracts
, iii. Taxes
iv. Principal-agent problem
e. These costs non-existent within a firm: no prices to discover, no need to negotiate and
conclude individual contracts, no taxes and principal agent problem is mitigated
f. If there are no costs why shouldn’t we all live under one giant firm? Why is the market?
i. The firm is costly as well and there are decreasing returns to management
ii. Factories decrease monitoring costs
g. Appropriate size of the firm is determined by how much friction there is on the market
and how good firms are at lowering transaction costs
h. The size of the firm is determined by
i. Marginal costs of hierarchical transactions (inefficiencies)
ii. Vs marginal costs of market transactions (firms)
iii. This is determined by technology: information technology or management
technology/institutions
The telephone makes it easy to organize the firm spatially (pushing the size of the firm
upwards) but also to discover prices (pushing the size of the firm downwards)
3. The entrepreneur (Schumpeter 1912): Where does technology come from?
a. Beyond determinism: change comes from within (the top of) the firm
b. The entrepreneur is seen as an agent of technological change
c. Technology is broadly defined:
i. As new consumer goods
ii. As new methods of production and transport
iii. As new markets or niches
iv. As new forms of organizations
d. Entrepreneurship is motivated by monopolistic profit
e. Focus on disequilibrium and change: creative destruction is the essential fact of
capitalism
Preindustrial organization
Proto-industry: industrial production organization before industrial revolution
● Work from home (cottage)
● Surplus of workers in the countryside due to changes in production patterns of agriculture (busy
during harvest season and free during winter where they are able to work on proto-industry)
● Traditional way of production, basic techniques and no innovation
● Inefficiency does not lead to elimination (no Schumpetarian competition) but continuity
● Phased out due to the decline in prices and move of the people to the cities
Putting-out system/cottage industry: how cottages work together on a network
Merchant entrepreneur connects the cottages, it uses a network of households
● Subcontracting work (to each household)
● Workers use own machines to process the raw materials provided by the merchant entrepreneur
● Suited to pre-urban times because workers did not have to travel to work
, ● Flexibility for workers, which was needed to adjust production patterns to seasonality of
agricultural sector
● “Piece-wage” rather than by the hour since they could not control workers; no surveillance
Craft guilds (in the cities)
● Quasi enterprises that organized labour and capital
● Managed human capital formation
● Quality control
● Controlling entry to the labour market to ensure quality
● Stability of income
● As monopolies they restricted supply
● Stifled innovation due to no interest from managers
● Division of labour based on age and status not skill
The industrial revolution (1760-1849): the rise of the factory system
- The industrial revolution is crucial for the onset of modern economic growth
- Malthusian ceiling: periods of economic growth were followed by periods of decline
- Industrial revolution brought about an unprecedented sustained development in GDP
- Britain was the first country to industrialize
Industrialization is closely related to demographic transition
- Birth rate and death rate initially both increased
- As a result of rising standards of living, death rate decreased but birth rate kept increasing
- This lead to a demographic explosion; population expanded
- Birth rate then declined as a result of advancements in standard of living, medicine, and
education of women this brings the birth rate closer to the death rate
- Developing countries first expand and then the population stabilizes
Structural transformation
- In the pre-industrial society 50% worked in agriculture and 20% in industry and services sector
- Then decline in people working in the agriculture sector who move to industry and services
- 18th century shares stabilize and by the end there is a gradual decline in agriculture
- Creative destruction: rise of factory creates employment opportunities in services
- Economy shifts predominantly agriculture to industry and services
What is the industrial revolution?
● Industrial revolutions are share transitions in technological paradigms
○ Clusters of inventions (steam engine, cotton spinning)
○ Associated with new General-Purpose Technology
● Steam and the First Industrial Revolution (1760-1849)
● Electricity and the Second Industrial Revolution (1870-1913)
● ICT and the Third Industrial Revolution (1970-ongoing)
, Energy enables the production of goods; change inputs into outputs - hence the more energy harvest,
the more efficient and cheaply we can produce goods
- Before the Industrial Revolution, water and wind were the major sources of energy so the
location of manufacturers was dependent on geography; rivers and hills with wind
- Introduction of steam engine replaced water and wind as sources of energy with steam
- Introduction of spinning increased the capital costs since it was expensive also more effective
and increased labour productivity meaning that the costs of labour decreased
- Arkwright mill involved high costs of capital but lower costs of labour
- Glasgow mill technology became cheaper and more productive meaning that capital costs
decreased with time and labour also decreased
The entrepreneurs as inventors
● Newcomen invested 10 years in R&D but unsuccessfully tried to patent his engine
● Watt raised nearly 1000 for R&D on the engine project and patented it in 1769 and built a
successful business
● Hargreaves (invented spinning) was a hand-loom weaver and raised money but he made little
money and sold spinning jennies
● Arkwright was probably the richest entrepreneur of the industrial revolution, who raised funds
and also invented the cotton mill, becoming a factory owner
Coal and industrial location
● At first steam engine was used to supplement water power
● Steam engine is independent from water or workers so it can be placed anywhere
● This allowed factories to move outside of cities to suitable locations near coal
● This resulted in new urban centres (Manchester)
● Reliability
● Dependence on coal
The factory system
Early 1700s: few big factories 300/800 people (shipyards), almost work done at home or next to it
1800: 900 cotton small spinning factories, but only 300 employed 50+ people so still dominated by
cottage workers
18030s: average Manchester mill had 400 workers, ironworks employed up to 5000 people
1914: majority of Westerern European workers no longer worked at home (⅔ in France)
Benefits of the factory system:
1. Economies of scale and scope: increase in quantity results in decrease in costs
a. Factories mostly specialise in one good
b. Factories cluster in same places (backward and forward linkages)
c. Increase in mechanization and fixed costs; more machines
d. Capital intensive industries expand (iron)
e. Traditional industries (cotton) become more capital intensive
