The Sveriges Riksbank Prize in Economic Sciences in Memory of Alfred Nobel 1978
Herbert A. Simon
Presentation Speech by Professor Sune
Carlson of the Royal Academy of Sciences
Translation from the Swedish text
Your Majesties, Your Royal Highnesses,
Ladies and Gentlemen,
In Saint Exupéry's book Le Petit Prince, there is a delightful story about how the little prince during his journey through the cosmos visits a planet inhabited by an old and learned man. He is a geographer, who is writing an enormous book, and knows everything about lakes, rivers, towns, mountains and deserts. But when the prince asks whether there are any rivers or lakes or deserts on this particular planet, the old man answers that he does not know. A geographer is occupied with tasks that are too serious to leave him any time for excursions outside his study.
If we suppose that the little prince had instead arrived on a planet inhabited by an economist of the old classical or neoclassical school and that he had asked how the firms on that planet made their decisions, he would probably have got a similar answer. An economist has tasks to fulfil that are too important to leave him time for such matters. He must sit in his study and develop theories with complicated systems of equations. In order to get these to tally, he must simply assume that the decisions are taken by an entrepreneur who can always foresee the consequences of his actions, who always acts rationally, and who is always trying to maximize his profit.
It is the appropriateness of such assumptions of a lone decision-maker with infallible foresight, with complete rationality and with profit maximization as his permanent aim that Herbert Simon has questioned.
However, the rudimentary theory of the firm to be found in traditional economics was designed only to serve as a basis for studies of the total market behaviour and not of the behaviour of the individual firms. As long as these firms consisted of small, family-owned, patriarchally run units, and the price competition was fierce, their activities remained relatively uninteresting. However, as companies grew in size, as their activities eventually spread out beyond the national borders, as running them became separated more and more from owning them, as employees began to form labour unions, as the rate of development increased and as price competition between many was replaced by competition with regard to quality and service between few, the behaviour of the individual companies took on quite a different kind of interest. Thus, with time, the study of the structure and the decision-making of the firm became an important task in economic science. It is in this new line of development that Simon's work has been of the utmost importance.
In his epoch-making book Administrative Behavior, which first appeared in 1947 and which has been translated into nearly a dozen languages, as well as in a number of subsequent works, Simon describes the company as an adaptive system of physical, personal and social components, which are held together by a network of intercommunications and by the willingness of its members to co-operate and to work towards common goals. In order to survive and develop, the firm must strive towards an equilibrium not only in relation to the outside world - the economists have known that for a long time - but also internally as between the various components of the organization.
Simon rejects the assumptions made in the classical theory of the firm of an omniscient, rational, profit-maximizing entrepreneur. Instead, he starts from the psychology of learning, with its less complicated rules of choice and its more moderate demands on the memory and the calculating capacity of the decision-maker. He replaces the entrepreneur of the classical school by a number of co-operating decision-makers, whose capacities for rational action are limited by a lack of knowledge of the total consequences of their decisions and by personal and social ties. Since these decision-makers cannot choose a best alternative, as can the classical entrepreneur, they have to be content with a satisfactory alternative. Individual firms, therefore, strive not to maximize profits but to find acceptable solutions to acute problems. This may mean that a number of partly contradictory goals have to be reached at the same time. Each decision-maker in such a situation attempts to find a satisfactory solution to his own set of problems, taking into consideration how the others are solving theirs.
Simon's theories and observations on decision-making in organizations apply well to the systems and techniques of planning, budgeting and control that are used in business and public administration. They are therefore an excellent foundation for empirical research. Modern business economics and administrative research are also to a large extent based on Simon's ideas.
Simon's interest in simplifying and understanding complex decision-making situations has led him into a number of research fields with similar problems, both in economics and in other disciplines. If the little prince had had a chance to meet him, they would certainly have had a most stimulating discussion.
Professor Simon, the Royal Academy of Sciences has decided to award you the 1978 Alfred Nobel Memorial Prize in Economic Sciences for your pioneering research into the decision-making process in economic organization. It is a great honour for me to be able to convey to you the congratulations of the Academy and to ask you to receive your prize from His Majesty the King.
From Nobel Lectures, Economics 1969-1980, Editor Assar Lindbeck, World Scientific Publishing Co., Singapore, 1992
Copyright © The Nobel Foundation 1978