What do LMFs Maximize?

Economists have long debated what the LMF maximizes. From the standpoint of the modern theory of the firm, it is not obvious that LMFs maximize anything. Firms are complicated coalitions in which each agent has her own preferences, information, and feasible actions. These coalitions face difficult coordination, bargaining, and incentive problems. Whether the strategic actions of individual labor and capital suppliers translate into the pursuit of some objective by the coalition as a whole is very much open to debate.

Early writers made strong claims about the behavior of LMFs: They were assumed to maximize net income per worker. This objective has implications for input demand and output supply that differ drastically from those of profit maximization, and not usually in attractive ways. Many writers skeptical of LMFs seized on these perversities as a way of explaining why LMFs are rare. More surprisingly, many proponents of the LMF took the hypothesis of per capita income maximization to heart, and thereby dug themselves into a deep analytical hole from which it is hard to climb out. I will argue here that it is time to stop digging. The model in question is not plausible in theory, it bears little resemblance to the organizational practices of real LMFs, and it has only modest empirical support.