Economics of resource based and dynamic capabilities view: a contemporary framework.
Parayitam, Satyanarayana ; Guru-Gharana, Kishor
INTRODUCTION
One of the burning questions in strategic management is how firms
attain sustained competitive advantage. Taking cue from Andrews (1971)
that firms appraise the internal resources and competencies while
formulating strategies, researchers focused on resources and
capabilities as primary drivers for a firm's sustained competitive
advantage. Following Penrose (1959), a research stream that dominated
the strategic management literature consisted of contributions from
several scholars in terms of resource based view (RBV) and dynamic
capabilities approach (DCA). The intellectual currency for these
approaches is coming from Barney (1986,1991), Lippman and Rumelt (1982),
Wernerfelt (1984), Dierickx and Cool (1989), Castanias and Helfat
(1991), Conner (1991), Mahoney and Pandian (1992), Teece (1980, 1982),
Teece, Pisano & Shuen (1997), to name a few.
A literature review of these approaches reveals that each scholar
has made an unique contribution to the field, though sometimes there is
overlap of the concepts and terminological conflicts. Despite some
disagreements about terminology (for review please refer to Teece et al
(1997) for DCA and Priem & Butler (2001), Barney (2001) for RBV),
strategy researchers are attempting to combine these two approaches viz.
RBV and DCA. It is interesting to note that at both the approaches have
used the classical economic concepts of rent generation process in their
explanation of sustained competitive advantage. To be precise these are
Ricardian rents and Schumpeterian rents. The underling economics of the
RBV and the origins of heterogeneity have been emphasized by Barney
(1991) while the DCA has incorporated Schumpeterian rents in the
explanation of sustainable competitive advantage (Teece et al, 1997).
Let us consider some examples. In their classic paper on dynamic
capabilities, Teece et al (1997) have emphatically stated in table 1
that the nature of rents are 'Ricardian" for Resource-based
perspectives and 'Schumpeterian' for Dynamic capabilities
perspectives (p. 527). While synthesizing the resource based and dynamic
capabilities views, in a recent paper, Makadok (2001) mentioned:
"For those who take the Ricardian perspective (Ricardo, 1817)
that has been codified into 'resource-based view' (e.g.,
Barney, 1986, 1997: 138-141: Conner, 1991; Montgomery and Wernerfelt,
1988; Peteraf, 1993; Wernerfelt, 1984), resource picking is the main
mechanism for the creation of economic rent.... However, as Mahoney and
Pandian (1992) pint out, this Ricardian perspective has been challenged
by Schumpeterian perspective (Schumpeter, 1950) that has been codified
into a 'dynamic -capability view' (e.g., Amit and Schoemaker,
1993; Dierickx and Cool, 1989; Mahoney, 1995; Nelson and winter, 1982;
Teece, Pisano, and Schuen, 1997). This Schumpeterian dynamic-capability
view highlights the importance of an alternative rent-creation
mechanism--namely, capability building--which is rather different from
resource-picking" (p 388).
The purpose of this paper is to bring to the attention to the
strategic management scholars that the work at the conceptual level,
particularly with regard to rent generation process, requires
re-consideration lest it might misdirect the future researchers. Before
going further, it is imperative to revisit the Ricardian and
Schumpeterian concepts of rents and properly apply these to the
sustained competitive advantage. This paper is a modest attempt to
unravel the false/inappropriate dichotomy between the processes of
generation of rents on which these approaches are based. Taking in the
much lighter vein, the scholars ofboth RBV and DCA have unwittingly
misunderstood the very basic concepts of Ricardian and Schumpeterian
rents and took a myopic view of the economic bases of rent generation
process. When one views from the prism of the unadulterated versions of
Ricardo and Schumpeter the contemporary framework emerges emphasizing
that both rents are quite indispensable for sustained competitive
advantage.
This paper is organized into three sections. First section outlines
the traditional approach (i.e. the approaches so far followed). Second
section is devoted to the discussion of Ricardian rent and its
applicability to sustained competitive advantage. Third section is
devoted to the discussion of Schumpeterian rents. Based on the
unadulterated versions of Ricardian and Schumpeterian concepts, a
contemporary approach is discussed in the fourth section. The
contemporary framework in terms of 2x2 matrix with its implications to
future strategic management are discussed in the final section.
TRADITIONAL APPROACH
Much has been said about the sustained competitive advantage in
terms of both RBV and DCA. Much more have been empirically demonstrated
in support of these approaches. Strategic management scholars are now
busy integrating both approaches, as if these are totally different,
though emerging from the same branch. Before any attempt to go further,
it is imperative to look back and verify the foundation of economic
basis of both RBV and DCA. It is time to re-consider the economics of
RBV and Dynamic capabilities view especially with regard to the
dichotomy between Ricardian and Schumpeterian rents. Strategic
management scholars so far have been convinced of one simple fact:
Ricardian and Schumpeterian rents are mutually exclusive and
competitive. Without doubt, to date there is a great deal of confusion
about the economic basis of both RBV and Dynamic Capabilities view. A
majority of scholars agree with the explanation of RBV through Ricardian
rents and emphasize that heterogeneity of resources are the primary
cause of economic rents (Peteraf, 1993; Barney, 1991). It is also
contended that market-based models (such as Porter's Five-forces
model) result in monopoly rents as the firms restrict output taking into
account the relative position and behavior of other firms in industry.
This being so, the Dynamic capabilities view considers Schumpeterian
rents as the economic basis which is a radical departure from Ricardian
rents. The traditional thinking is captured in Figure 1.
[FIGURE 1 OMITTED]
RICARDIAN RENT
Ricardian rent arises because of scarcity (rarity of
resources/capabilities). Resources, when valuable, result in low cost
and as long as these resources are scarce and available only to some
firms, the operating cost will be low when compared to cost of
production to other firms. The other competing firms will have to
produce at a high cost and the difference between the unit cost of
production of competing firms and the lowest unit cost of production of
the firms possessing these scarce resources result in economic rent
known as 'Ricardian rent'. This can be seen in the Figure2.
[FIGURE 2 OMITTED]
Ricardian rent to the extent of 'ab' per unit of output
arises to firm 1 by virtue of scarcity of the capabilities which are
valuable. As long as firm2 is not having the resources possessed by firm
1, the firm 2 will have to charge higher price to survive in the market.
The difference between the marginal revenue charged by the firm 2 and
profit maximizing (equilibrium) level of average cost i.e. b is equal to
Ricardian rent. In this sense, Ricardian rent arises by virtue of
'scarcity/ rarity' of the resources which are deployed by the
firm. The surplus of revenue over costs here is the area under the
rectangle 'pabc' and is termed as 'scarcity rent'
(alternatively, the profits).
The concept of rent was originally applied to the land, according
to Ricardo in his 'Principles of Political Economy and Taxation
(1817)1, as the 'payment to the landlord for the use of the
original and indestructible powers of the soil' (p.33). Though, on
the surface it might appear that rent is a productivity phenomenon, the
ultimate rationale is more clearly expressed in terms of productivity
and scarcity by Ricardo:
"On the first settling of a country, in which there is an
abundance of rich and fertile land, a very small proportion of which is
required to be cultivated for the support of actual population or indeed
can be cultivated with the capital which the population can command,
there will be no rent; for no one would pay for the use of land and when
there was an abundance quantity not yet appropriated, and therefore, at
the disposal of whosoever might choose to cultivate it.
On the common principles of supply and demand, no rent could be
paid for such land, for the reason stated why nothing is given for the
use of air and water, or for any other of the gifts of nature which
exist in boundless quantity.... If all land had the same properties, if
it were unlimited in quantity, and uniform in quality, no charge could
be made for its use, unless where it possessed peculiar advantages of
situation. It is only because land is not unlimited in quantity and
uniform in quality and because land of an inferior quality is called
into cultivation, that rent is ever paid for the use of it. When, in the
progress of society, land of the second degree of fertility is taken
into cultivation, rent immediately commences on that of the first
quality, and the amount of that rent will depend on the difference in
the quality of these two portions of land.
When land of the third quality is taken into cultivation, rent
immediately commences on the second, and it is regulated as before by
the difference in their productive powers." (pp. 34-35).
Thus, Ricardo used 'scarcity' as the root cause for the
existence of 'rent'. Ricardo (1817) contends that
'possessing utility, commodities derive their exchangeable value
from two sources: from their scarcity, and from the quantity of labor
required to obtain them' (p.5). The statement that "all land
had the same properties, if it were all unlimited in quantity, and
uniform in quality, no charge be made for its use, unless it possesses
peculiar advantages of situation" refers to 'differential
rent' according to Ricardo.
SCHUMPETERIAN RENT
In a sharp contrast, Schumpeterian rent arises by virtue of
non-imitability of innovation (capabilities of competing firms) and
non-substitutability of the capabilities a firm possesses and develops
over a period of time. This can be seen in the following sequence.
According to Schumpeter, profits to entrepreneur arise because of
innovation (strategies) and as long as imitators are not available to
imitate the innovation, entrepreneur continues to enjoy the profits.
When imitators come into existence, profits get evaporated.
Entrepreneurs continue to search for new innovations. Thus, profits
(rents) appear (when innovations are new), disappear (when imitators
imitate the innovations), and reappear (when new innovations take
place). In this cycle of profits appearing, disappearing, and
re-appearing the 'imitators' play a critical role. Thus,
according to Schumpeter, non-imitability gives rise to entrepreneurial
profits. To Schumpeter, the dynamic innovations of the entrepreneurial
class constitute the most powerful competitive force in any economy.
According to Schumpeter (1934):
"Stated differently, it is quite possible that short-run
semi-monopolistic positions, agreements, and strategies, with
accompanying short-run inefficiencies in resource allocation and
inequalities of income distribution, are necessary to provide a basis
for the innovational investment that brings greater long-run performance
and more vigorous long-run competition. Entreprenuership may be, in
large measure, a function of an institutional sociopolitical structure
which permits protection to the innovator and the generation of pure
economic profits through the manipulation of price, quantity, and
quality variables via techniques which in the short run appear
restrictive and monopolistic. Thus, the possibility of retention, at
least temporarily, of above-normal profits from innovations may well
stimulate a higher rate of innovation and technological improvement.
Short-run strategies and practices that protect the monopoly position of
the innovator thus may be the price society pays for technological
progress and thereby a higher growth rate over the long run. Moreover,
because of the tendency of innovations to spread, by imitation and
extension to allied fields, the monopoly position--and the associated
monopoly profits--of the industrial pioneer is only temporary (pp.
xxxvii-xxxviii & p 152). Schumpeterian rents can be understood from
the Figure 3.
[FIGURE 3 OMITTED]
CONTEMPORARY APPROACH
Following Ricardo (1817) and Schumpeter (1934), it can be noted
that rents a firm appropriates come from both sources. Figure 4
represents the contemporary approach, which is a radical departure from
the traditional approach represented by Figure 1.
[FIGURE 4 OMITTED]
The point that there existed a great deal of confusion in making
distinction between Ricardian and Schumpeterian rents in strategic
management literature is explanatory when Figure 1and 2 are compared. To
make the point more clear and to substantiate this claim that rents
comprise of both sources Ricardian and Schumpeterian approaches to rents
are revisited. While Ricardian rent is essentially dealing with rent
arising from scarcity of resources, Schumpeterian rent is attributed to
the non-imitability of the strategies by the competing firms. Often
scholars contend that Ricardian rent accrues to RBV while Schumpeterian
rent accrues to Capability building approach. Actually in both RBV and
Capability building approaches both rents arise. Conceptually, to the
extent resources are valuable and rare, the economic rent is termed as
'Ricardian rent' while the rents that arise due to
non-substitutability and non-imitability are explained through
Schumpeterian rent. According to Schumpeter, rents appear, disappear and
reappear in the sense a firm makes rents as long as competitors do not
duplicate or imitate the strategies of other firms and when they start
imitating then rents disappear. The rents reappear when firms innovate
something new (develop new capabilities or acquire new resources that
enables a firm to develop capabilities that are valuable, rare,
non-substitutable, and non-imitable. Once again, in this process a part
of Schumpeterian rents are called Ricardian rents as long as the
capabilities become rare (scarce).
CONTEMPORARY FRAMEWORK
When we sit through the Schumpeterian and Ricardian rents and see
the rent-generation process, contrary to what most of the strategic
management scholars believe, RBV & DCA both give rise to both these
rents. To be more specific, to the extent rents are due to rarity and
value of the resources (and capabilities organizations possess and
develop) Ricardian rents are assumed. On the other hand, to the extent
rents are due to non-imitability and non-substitutability, Schumpeterian
rents are assumed.
Organizational Rents (OR)
These comprise of both Ricardian and Schumpeterian rents. When a
firm achieves sustained competitive advantage OR generates as follows:
Organizational Rents = Ricardian rents + Schumpeterian rents
The contemporary approach of organizational rents is depicted in
Figure 4. The Figure 4 is self-explanatory and it unravels the confusion
between Ricardian and Schumpeterian rents and explains that
organizational rents comprise of both Ricardian and Schumpeterian rents.
Using the unadulterated Ricardian and Schumpeterian rents, an
integrating framework of RBV and DCA can be developed. An attempt to
provide a dynamic view of strategic management is not new in strategic
management literature. As things stand now, it can be observed that
there is a virtual polarization of the approaches, with one approach
emphasizing 'industry' (goes by the term 'Porter's
Industry analysis'); and 'resources' being the emphasis
of the other (goes by the term Resource Based View of Barney and other
scholars). Taking RBV as the logical foundation, a group of scholars
have attempted to develop a sub-stream calling it Capabilities view
(Teece et al, 1997). Digging up the literature reveals the basic
paradigmatic approaches to the dynamic view of strategy wherein these
basic approaches are dealt with separately. Recently a theoretical model
is developed synthesizing the RBV and Dynamic-capability views of rent
creation wherein arguments are made that these approaches are
complementary rather than competitive (Makadok, 2001). Thus as suggested
by Williamson (1991) that:
"The leading efficiency approaches to business strategy are
the resource-based and dynamic capabilities approach... It is not
obvious to me how these two literatures will play out--- either
individually or in combination. Plainly, they deal with core issues.
Possibly they will be joined" (Williamson, 1991: 76)
Though some authors consider the resource perspective complements
the industry analysis framework (Amit and Schoemaker, 1993: 35), in
several important respects the perspectives are also competitive (Teece
et al, 1997: 526). However, it should be noted that " slavish
adherence to one class to the neglect of all others is likely to
generate strategic blind spots" (Teece et al, 1997: 526). Thus,
consistence with the suggestions made by strategic management scholars,
an integrative framework is provided in the Figure 5.
A cursory look at the framework suggests four cells. Cell 1: This
is characterized by 'no rents' at all. This is represented by
the absence of both Ricardian and Schumpeterian rents. Firms will not be
able to have any competitive advantage and hence no rents. Firms leave
the scenario sooner than later. Many new firms that cannot survive for
long belong to this category. Cell 2: Purely Ricardian rents: This is
characterized by the situation of presence of two or the traits
specified by Barney (1991). When the resources/ capabilities are
valuable and rare, Ricardian rents are said to be accruing to the firms.
Firms will be able to enjoy competitive advantage. Cell 3: Schumperian
rents: When resources/capabilities possess the traits of
non-transferability, non-transperency, and non-imitability, then
Schumpeterian rents are said to be accruing to the firms. Cell 4:
Organizational rents: When the resources/capabilities possess all the
traits specified by Barney (1991), sustained competitive advantage is
the outcome. That is to say, organizations will be able to enjoy both
Ricardian and Schumpeterian rents.
IMPLICATIONS FOR FUTURE RESEARCH
The conceptual clarity of the rent generation process under the
contemporary framework would be useful to future researchers who are
attempting to integrate both RBV and DCA. Especially in view of the
changing landscape of the competition in the twenty first century,
calling for industry transformation and suggesting the firms to change
the configurations of resources and capabilities to meet the changing
demands, the contemporary framework would be much useful. As pointed out
by Penrose (1959), environmental changes 'may change the
significance of resources to the firm' (p.79). The contemporary
framework suggests that the RBV and DCA focus on only a part of
organizational rents and firms enjoy sustained competitive advantage
only when they are operating on cell 4. The framework would be helpful
for the future researchers to integrate both these approaches help them
extending the framework to link it to industrial organization view. Such
linkage is essential because organizations have to tie the resources and
capabilities with what is required in environment i.e. to take advantage
of opportunities and reduce threats from environment.
ENDNOTES
(1) The Principles of Political Economy and Taxation was first
published in 1817. Reprinted in 1917. Also see Ricardo (1951-73) The
works and correspondence of David Ricardo, ed. P. Sraffa (11 vols)
Cambridge: Cambridge University Press
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Satyanarayana Parayitam, University of Massachusetts Dartmouth
Kishor Guru--Gharana, Texas A&M University, Commerce
FIGURE 5
Contemporary framework
No Yes
Ricardian Yes Purely Ricardian Ricardian+
rents rents : Schumpeterian rents :
Competitive Sustained Competitive
Advantage Advantage
(Only traits:Valuable, All the traits: V,R,Ns,Ni
Rare are present) Nt are present.
No No rents Purely Schumpeterian
Sustained rents :
Competitive Competitive
Disadvantage Advantage
(None of the (Only traits: Ns,Ni,Nt
traits is present) are present)
Schumpeterian rents
V= Valuable; R= Rare; Ni = Non-imitable;
Ns= Non-substitutable; and Nt= Non-transferable
