The Limits of Bureaucratic Efficiency

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The Limits Of Bureaucratic Efficiency
Canice Prendergast∗ University of Chicago & NBER Third Draft: May 9, 2001

Abstract Bureaucrats typically intermediate between a principal and a consumer, by diagnosing benefits for the consumer. This paper argues that bureaucratic efficiency is limited by the fact that the decisions made by bureaucrats involve rents to consumers. This means that a primary means of oversight, namely, using consumers to complain about incorrect decisions, can become ineffective. This has two implications for a bureaucracy. First, oversight becomes more difficult as customers cannot be relied upon to point out bureaucratic error. Second, it gives bureaucrats an incentive to accede to consumer demands simply to avoid a complaint. I show that when this second effect is important, bureaucracies (efficiently) respond in the following ways: (i) they ignore legitimate consumer complaints, especially those aimed at incompetent bureaucrats, (ii) they monitor more in situations where it is not needed, (iii) they correct fewer errors than in non-bureaucratic situations, (iv) they delay decision-making “too long”, and (v) oversight is biased against consumers. This paper also shows how the need for bureaucrats depends on how their allocations are priced to consumers. The primary implication of this section is that observed bureaucracies are always inefficient: the features that make bureaucrats more efficient also make them unnecessary. To phrase this another way, when bureaucracies work well, consumer choice works even better. By contrast, when bureaucratic choice works inefficiently, consumer choice works even worse. Thus bureaucratic organizations appear to work less well than those where consumers have more choice, yet here this is no fault of the bureaucracy.

I am grateful to Kent Daniel, Lars Stole, and seminar participants at Harvard University, University of Michigan, Bristol University, and the Royal Economic Society, Durham, for helpful comments. I would also like to thank the NSF and the University of Chicago for generous support. Any errors are my own.



Bureaucrats pervade economic life. They approve our medical procedures, process our credit card enquiries, decide whether to arrest and incarcerate us, issue our licenses, approve our immigration status, schedule our appointments, and so on. Arguably most economic interactions that we engage in involve not the canonical buyer-seller relationship of economic theory, but are instead affected by some intermediary. The objective of this paper is to better understand agency issues that affect bureaucratic decision-making and to identify the constraints that make efficiency difficult to attain. It is hard to find much good that is said about bureaucracies, both private and public. The IRS and INS are regularly vilified in the press, and the practices of health insurance companies’ bureaucracies and police officers fare little better. This is reflected in the pejorative terms for bureaucrats (beancounters, penpushers, and so on) that pervade such descriptions. The typical perception of a bureaucracy has some of the following features. Standards of consumer service are low. They are largely unresponsive to customer complaints. Their decisions are rarely overturned. They are predisposed to turning down consumer requests. They take forever to come to decisions. Finally, they appear to be governed by rules (perhaps the defining characteristic of a bureaucracy) rather than using their discretion in the appropriate way. This paper offers a model of bureaucracies that yields these outcomes as the optimal resolution of agency problems. Perhaps most importantly, bureaucrats are used only when they exhibit these “inefficiencies”: ironically, the factors which lead bureaucrats to be more efficient also render them unnecessary. Bureaucrats typically mediate between a principal and a consumer, by diagnosing whether a consumer should receive some benefit. In this paper, a...
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