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The Failure of Theory to Predict the Way Public Sector Organisation Responds to its Organisational Environment and the Need for a Mosaic-View of Organisational Theory

Bryane Michael & Maja Popov

Published online: 25 November 2014 # Springer Science+Business Media New York 2014

Abstract What does theory predict about the way government size and structure adapts to changes in government’s organisational environment (particularly to uncertainty and complexity)? In this paper, we review the theory and evidence from the literature about the way government size adjusts to such changes – particularly to changes in macroeconomic fundamentals like gross national prod- uct (GDP). We find that the traditional theories from the organisational theory literature—like the contingency-based view, resource-based view and the rational choice view – fail to provide global explanations for much of the variation we see in the world around us. Instead, theorists need to adopt a “mosaic view” of organisational theory – accepting that different theories may explain the way public sector size and structure responds to the uncertainty and variability in its (macroeconomic) organisational environment. We also provide several empirical hypotheses to test such a mosaic-view.

Keywords Contingency theory. Public sector organisational theory. Resource-based view. Size of government . Government structure . “Mosaic view”

JELCodes . F4 . D7 . E6 . H1 . H4

Public Organiz Rev (2016) 16:55–75 DOI 10.1007/s11115-014-0296-5

The views expressed in this paper remain the views of the authors alone and do not reflect the views of the organisations for which the authors work or are affiliated with.

The affiliations shown as of time of writing.

B. Michael (*) Columbia University (SIPA), 420 W 118th St #1, New York, NY 10027, USA e-mail: [email protected]

M. Popov General Secretariat of the Government of Serbia, 11 Nemanjina St., Belgrade, Serbia

Introduction

Despite over 40 years of theorizing about public sector organisation, we still know very little about how government responds to changes in its organisational environment. A variety of theories predict how government size and structure should respond to the national macroeconomic environment it regulates (as well as buys and sells labour, capital and goods in). Contingency theorists argue – though are now in relative disrepute – that government departments and agencies grow, shrink, divide and/or merge in response to changes in the macroeconomic environment (Gupta et al. 1994). Resource-based theorists – and their newer off-spring who write about “competencies” – argue that these govern- ment departments morph, depending on the resources (budgetary, staffing, know-how and so forth) they already have available – or can obtain through bureaucratic and/or political means (Bryson et al. 2007). Rational-choice theorists, and select scholars in public administration, argue that government organisational structure does (or should) foresee upcoming challenges and respond to them before they occur (Robertson et al. 1993 and especially Vietor 2007). Finally, in opposition to these classical theories, a new school of interpretative and post-modern scholars argue that government organisational structure reflects cognitive understandings, culture, politics and symbols which no empirical study can correctly capture – or even try to (Frumkin and Galaskiewicz 2004). Yet, despite these 40-plus years of studying public sector organisational theory, most primers about organisational theory in the public sector contain almost no actual empirical studies proving or disproving the theories they present (Christensen et al. 2007).

In this paper, we argue for a “mosaic view” of organisational theory – one which accepts that different organisational theories may apply to different governments’size and structure at differing times. By comparing various theories (often from outside the organisational theory literature), we find that no one theory of organisational theory sufficiently explains the way all governments respond to their organisational environ- ments over all time periods. Our paper is organised as follows. The first section provides a basic overview of government sizes and the complexity and variability of the macroeconomies in which they exist. The section also provides an overview of the proxies we use to assess the extent to which public sector organisational structure adapts to changes in its organisational environment. The second section looks at the arguments and supporting evidence for the contingency-based view of organisational adaptation. We find that any contingency-based view of such change proves more convincing for some countries than for others. The third section assesses the extent to which – if governments do adapt their organisational structure to their macroeconomic environment - they do so “rationally.” Namely, do they accurately anticipate future macroeconomic changes and change government organisational structure (using whatever resource available) in antic- ipation of such change? Or do they observe such changes and adapt reactively – if at all? The fourth section assesses the extent to which governments adapt their structure based on the resources (tax revenue) at their disposal, rather than due to changes in the macroeco- nomic environment. Again, we find that the resource-based view of organisational change probably fits some countries better than others. The fifth section argues for a “mosaic” view of public sector organisational theory. In such a view, different theories might apply to different countries—at different times. We also propose several hypotheses which in- depth empirical study could help shed light on. The final section concludes.

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We would like to point out several caveats and limitations to our discussion before we begin. First, we discuss the extremely broad concept of “organisational adaption” using the very narrow definition of government expenditure (as a proxy for organisational size). We adopt this tactic to keep our paper to the journal’s word limits. Interested readers can see a much fuller description and discussion of the various dimensions of public sector organisation in the working paper version of this paper.1 Second, we do not attempt to deconstruct the vast literature on the topic – from papers which construct the concept of “organisation” to extensive reviews of organisational theories. 2 Third, we do not attempt to review the literature on public sector organisation.3 Our study sits uncomfort- ably at the nexus of macroeconomics and organisational theory – as we attempt to assess how well organisational theory helps us understand public sector organisation across-borders. As such, we draw from studies outside of organisational theory—often interpreting them through an organisational theorist lens.4

What Does Government Size and its Organisational Environment Look Like Across Countries?

The sizes of governments around the world vary between about 10 % of GDP to over 50 % of GDP. A cursory glance at Fig. 1 shows few similarities between countries which allow for generalisations about government sizes. Lesotho, the Maldives, Greece, Hungary and France have some of the largest governments—in terms of the amount of national resources managed and spent by the government (spending about twice the world average).5 Academics since Meltzer and Richard (1981) have tried to explain such differences. Economists like Alesina and Wacziarg (1998) and Rodrik (1996) have sought explanations—from trade openness to differences in politics. In truth, academics have given up on such explanations rather than settled on a definitive one.6

1 Michael and Popov (2011) provide an extended (200-page) working paper version of this paper under the title The Size and Structure of Government available online. The working paper contains an extended discussion of size and structure as well as the model and the empirical results we call for in this paper. 2 Much organisational theorising over the recent 10–20 years has exactly argued against attempts like ours to develop simple definitions and tests of theory. They have sought to incorporate symbolic and interpretive understandings of organisation - while accepting multiple perspectives (Hatch, 1989). 3 The lack of detailed and rigorous studies in public sector organisational theory may explain why no such literature review exists to date. Except for Rainey (2009), we know of no broad and wide-reaching literature review of organisational theories as applied in the public sector context. 4 Roy (2009) provides one of the most obvious examples of a study looking at the issue of changes in government size to changes in macroeconomic variables from an economist’s perspective. Readers interested in following this literature can see his excellent overview. Yet, readers steeped in organisational theory (or macroeconomics) will find our import of economic studies into the organisational theory realm rather unsettling. 5 We assume, like most authors writing about the size of government, that government expenditure as a percent of GDP serves as the most relevant indicator of such size. Other measures used in the literature include employment by the government (at various levels), levels of government consumption, government revenue (earned through tax and non-tax methods). These other measures of government size correlate highly with government expenditure. 6 The citations we provide are dated because authors stopped writing about the topic. Durevall and Henrekson (2011) describe the search for such theorising in their title as a “futile quest.”

A Mosaic-Theory Approach to Public Sector Organisational Theory 57

Differences in the type and variability of economic shocks in these government’s organisational environment (as we define it in this paper) may in-part explain differ- ences in government sizes across countries.7 Figure 2 shows the variability of GDP over the period 2000–2008 for selected high-income, medium-income and low-income countries. Low-income countries’ GDP varied more throughout the period than GDPs in the other income groups. The most volatile economies in the high-income countries had variances similar to the most volatile economies in the medium-income countries group. The least volatile economies in all three income groups exhibited very similar levels of (non)volatility during the period – suggesting that income-level itself makes a poor predictor of the volatility (and thus uncertainty) of a national economic environ- ment. Authors like Suarez and Rogelio (2005) provide a taxonomy for such change. Authors likeNaranjo-Gil, David (2009) may take into account actors’ perceived views of such variability. Yet, volatility still remains the gold standard for measuring change in any industry or economy.

A more detailed analysis of asymmetric macroeconomic shocks reveals much about the uncertainty of various governments’ organisational environments. Figure 3 shows the magnitude and timing of asymmetric shocks (shocks which affect one sector of the economy rather than the entire economy) for high-income, middle-income and low- income countries. The figure specifically shows changes in output in the industrial sector (as a percent of GDP) relative to changes in the service sector and/or the agricultural sector. The index we show in the figure rises as more resources are drawn into the industrial sector—and falls as more resources are pulled into the service or agricultural sectors.

All three income groups have roughly the same magnitude of changes in sectoral production—albeit at different times. High-income countries tended to have larger volatility (measured by changes in the change) in industrial output than countries in the other income classification groups. Medium-income countries tended to have more

7 The canonical definition of an organisational environment from the organizational theory literature defines such an environment as the “forces outside the boundaries [of the organization] that can impact upon it [the organization]” (Hatch 2006). In this paper, we focus on the macroeconomic environment and leave out the other elements such as legal environment, societal, and other environmental factors in order to limit the scope of our analysis.

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Fig. 1 Little explains differences in the size of government around the world

58 B. Michael, M. Popov

steady growth rates in industrial output (with far fewer swings in the value of industrial production). Low income countries tended – in general – to show much less inter- sectoral macroeconomic volatility than the simple measure of GDP volatility we used in Fig. 3 above shows. For many low income countries, the size of GDP throughout the period varied much more than the composition of that GDP between the industrial, service and agricultural sectors. In all cases, the variance or change in the broader macroeconomic environment makes the government’s organisational environment more uncertain – as both government and businesspersons have greater difficulty deciding to which sector of the economy they should allocate resources.8

Does Government Adjust its Size Contingent on Macroeconomic Change?

How does government size respond to changes in the uncertainty and complexity of the government’s organisational environment? In the previous section, we showed the varying degrees to which the organisational environment of various governments around the world changed during the 2000s. Variance in GDP represents a simple proxy for the uncertainty and complexity of governments’ organisational environment (and we will discuss more refined measured later in the paper). More volatility in GDP makes planning more difficult—thus increasing overall uncertainty (Sepulveda- Umanzor 2004). More volatility also likely corresponds with more complex economies – because more complex economies have a greater need to reallocate resources across economic sectors, respond quickly and effectively to changes in tastes and technologies – and so forth.

Changes in government size positively correlate with the uncertainty and complexity of government’s organisational environment—as measured by the variance of GDP.

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The data in the graph show the volatility of GDP between 1999 and 2009 for all countries for which the IMF provide data. We show examples of countries with the highest and lowest GDP volatility in each income group. We measure such volatility as the standard deviation of the log of GDP over the period divided by the average log value of GDP during the period. We used the natural log of GDP (rather than GDP itself) because using log values removes the effect of relvative size (as bigger economies will have a larger volatility of GDP simply because of their size). Log values - by their nature - describe changes in magnitudes. Thus, by looking at the standard deviation of the log of GDP, we are focusing on changes in the magnitudes of GDP over the period rather than levels themselves. Source: World Development Indicators database (2010).

Fig. 2 Different countries have very different economic environments

8 Indeed, underlying productivity, trade and other factors may affect government while simultaneously affecting government agencies and departments. For example, an IT innovation (like Facebook) may show itself as increased volatility in the IT sector. However, the innovation itself may reduce spending on information collection for certain types of social services (Caliendo et al. 2013).

A Mosaic-Theory Approach to Public Sector Organisational Theory 59

Figure 4 shows the relationship between the uncertainty and complexity of govern- ment’s organisational environment (as measured by average variances in GDP) and changes in the size of government (as measured by average changes in total govern- ment expenditure).9 For low-income, medium-income and high-income economies, more output volatility corresponds roughly with more volatility in government expen- diture during the 2000s. Such a correlation increases in strength for richer economies. Low-income economies exhibit a very weak pattern in the data while high-income economies show a relatively strong correlation between output volatility and the variance of government expenditure.10 In other words, government size (expenditure) is contingent on its organisational environment.11

Authors like Kikulis et al. (1995) have observed changes in organisational size and structure in response to sector-specific changes.12 Yet, we do not observe a relationship between changes in government size and the magnitude of asymmetric/sector-specific shocks. The data show—as shown in Fig. 4 – a relationship between the average size of

9 Government spending will affect the macroeconomy – just like changes in the macroeconomy may affect the size and structure of government. Fortunately, for our purposes of presenting the relationship between these factors, we do not need to discuss causality. Afonso and Furceri (2010) provide an excellent overview and data about such causality. 10 Carmignani et al. (2009) point to several of the causal factors for governments changing their size and structure in response to changes in the macroeconomy. Some of these factors include politicians attempts to smooth out economic shocks, political pressures which force politicians and civil servants to respond to dislocations and so forth. 11 See Meznar and Johnson (2005) for some recent theorising about contingency theory in a government context. See Alford (2002) for recent tests of contingency theory in the public sector context. 12 In Michael and Popov (2011), we provide a detailed discussion of the way government structure – as well as size – changes in response to changes in its organisational environment. We omit this discussion here to keep the paper readably short.

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The figure shows the changes in the relative proportion of GDP in the industrial sector as opposed to in the service sector or the agricultural sector. We use these changes as a proxy which might show the effects of sector-specific, asymmetric shocks (and thus measure the overall uncertainty of the macroeconomic environment). We constructed our proxy as follows. We subtracted the proportion of the service sector in overall GDP from the proportion of industry in overall GDP (giving the absolute change in the importance of the service and industrial sectors). We divided these differences by the proportion of GDP in the agricultural sector (thus expressiing all "shocks" relative to the size of the agricultural sector). We calculated the rates of change of these ratios for each year (removing any rates of change over 300% or -300% which might have popped up due to the country having a relatively small agricultural sector). We found the arithematic average of these growth rates between 1999 and 2009 and calculated a weighted average of these growth rates for each of the three groups of countries (high-income, medium-income and low-income). We used each country's share of 2004 GDP in current US dollars (as a proportion of the total GDP for that county's group) as the weight applied in our weighted average calculation. Source: World Development Indicators (2010).

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Fig. 3 Different profiles of uncertainty in governments’ organisational environment

60 B. Michael, M. Popov

shocks to a macroeconomy (which presumably results in greater policymaker uncer- tainty in choosing correctly sizes and targeted policies) and the size of that country’s government. Figure 5 shows the relationship between the magnitude of asymmetric, sector-specific shocks—as measured by changes in industrial output relative to service- sector and agricultural sector output – and changes government size (as measured by expenditure). In the simple portrayal shown in Fig. 5, for economies of all income- levels, larger industrial sector shocks (relative to other sectors) do not correlate with changes in government size–as shown the circular clouds of dots in the figure.13

Moreover, the data are contradictory—with some authors finding that government shrink with macroeconomic change. Figure 6 shows a simple correlation between government size and output volatility run by Fatas and Mihov (2001). Countries with more output volatility correlate (rather strongly) with smaller government sizes. Such a conclusion appears robust to the number of countries included – as a larger sample (as shown in the figure) also shows that smaller governments operate in highly uncertain macroeconomic environments. Governments thus appear to shrink – rather than expand – when confronted with a high variable organisational environment (if we use domestic macroeconomic volatility instead of trade openness as our measure of environmental uncertainty and complexity). Such evidence runs counter to results from authors like Andres et al. (2008) who argue that government size helps to stabilise economic change. As such, no general conclusions can be made across countries – we must take a “mosaic view” when applying contingency theory to governments world-wide.

Government probably grows or shrinks depending on the source and magnitude of uncertainty in the macroeconomic environment. Governments shrink (as shown in Fig. 6) when environmental uncertainty stems from the macroeconomy itself—sug- gesting that government uses size as a “shock absorber.”14 Even for changes emanating from the domestic economy, government size probably does not grow or shrink

13 The correlation coefficients for each pair of data are all below 0.40 and not significantly different than zero. For high-income countries, the correlation coefficient equals 0.34, the coefficient for medium-income countries equals 0.16 and for low-income countries equals 0.22. 14 A series of papers look at the extent to which government acts as a shock absorber (insulating the macroeconomy against adverse shocks) through counter-cyclical spending and employment practices (Furceri 2010).

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The figure shows the relation between average rates of nominal GDP growth and average growth in government expenditure (in USD terms) from 1999 to 2009. Our averages represent simple arithematic means over the period. We use the World Bank's classification of countries by income-per-capita in assigning countries to income-groupings. Source: World Development Indicators (2010).

Fig. 4 The size of government probably increases as the government’s organisational environment becomes more uncertain and complex

A Mosaic-Theory Approach to Public Sector Organisational Theory 61

indefinitely as the government’s organisational environment becomes more or less uncertain. As Debrun et al. try to show in Fig. 7, governments will respond to increased macroeconomic volatility up to a point—consuming up to about 45 % of GDP. After that point, governments become either unwilling to grow more (because increased expansion does not translate into reduction of macroeconomic uncertainty) or unable to grow more (because large governments crowd out household consumption and private sector investment). We find similar support for Debrun et al.’s model – plotting the line of best fit for the data in our own sample as the red line above the x-axis. In both cases, the reductions in output volatility – for a marginal increase in government size – seem to asymptote out when government expenditure equals about 45 % of GDP.

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Fig. 6 Does a more nuanced view of the data show governments shrink in response to more uncertain organisational environments?

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The data in the figure show the average changes in government expenditure compared with changes in the magnitude of economic shocks between 1999 and 2009. The index of economic shocks consists of subtracting the percent of industrial GDP from the percent of GDP in the service sector and dividing the resulting difference by agriculture's share in GDP. The average magnitude of economic shocks shown in the figure takes the arithematic average of changes in this index of economic shocks over the period 1999 to 2009 for each of the 96 countries shown in the figure. The average change in government expenditure shows the simple arithematic average change in dollar-valued government expenditure between the same period. Source: World Development Indicators (2010).

Fig. 5 No relation between average changes in expenditures and changes in economic shocks

62 B. Michael, M. Popov

These data point to three conclusions. First, some groups of countries’ governments likely adapt to changes in GDP (and thus its organisational environment) more readily than others. Taking even the roughest measure of organisational adaptation (the correlation coefficient), lower income countries’ governments’ expenditure change had a correlation coefficient of 0.51 with changes in GDP. Upper income governments’ changes in size had a correlation coefficient of 0.27. Second, some of these countries may expand their government sizes, while others contract them. Indeed, middle income countries governments correlation coefficient of changes in expenditure (and thus government size) and GDP came in at around −0.42. Third, such changes in govern- ment size may be conditional on factors like the size of the government already and other factors. We cannot make any simple generalisation across countries. We must take a mosaic view of organisational theory—accepting that the contingency-based view of public sector organisational change fits better for some countries than others.

What Do we Know About the Speed of Government’s Organisational Adjustment and Rational Expectations?

Organisational theory has a difficult time explaining why “organisational fields” seem to promote similar organisational adaption by some governments, yet not by others.15

Different types of governments adapt to changes in their organisational environment with different speeds—in theory rationally as required.16 Differences in changes in government expenditure and changes in GDP for the previous year, the current year and the following year tell us about the government’s overall adaptive stance toward

15 In the paper that launched this branch of the literature, DiMaggio and Powell (1983) noticed that some organisations tend to change together, while others did not. Even recently, authors like Wooten and Hoffman (2008) have argued that academics still could not say with any certainty why some governments change their organisational structure and others do not. 16 Meltzer and Richard (1981) represent the first to describe the rational expectations approach to government organisation. Since then, authors have extended the framework to cover game theory and a range of other tools.

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The data in the figure show the relation between the size of government (as measured by government expenditure over GDP) and two measures of output volatility. The lower blue line shows the line-of-best-fit between volatility of GDP growth rates and government size in Debrun and his co-authors' model. The upper red line depicts the relation between GDP volatility (in nominal US dollar terms) and government size between 1999 and 2009 in our own dataset. Both lines roughly show that government size no longer correlates with decreases in output volatility after expenditure-to-GDP ratios of about 0.45. Source: Debrun et al. (2008) for the lower blue line and authors for the upper red line.

Fig. 7 Government adaptation to the organisational environment fails to have an effect after government spends about half of GDP

A Mosaic-Theory Approach to Public Sector Organisational Theory 63

changes in the macroeconomy. Across countries, the correlation coefficient between government’s expenditure changes and changes in GDP comes to around 0.40. Yet, subtracting the difference between changes in government expenditure and changes in GDP between 2000 and 2008 gives a total “error” in government’s response to changes in output of roughly 36 %.17 Theory generally attributes such error to adoption failures – as public officials fail to incorporate the organisational field logics around them (Egeberg, Morten 2003).

Depending on your view of the nature of change in government expenditure, governments in high-income countries adjusted government sizes strategically while governments in medium-income countries adjusted contemporaneously. As shown in Fig. 8, between 1999 to 2003 changes in government expenditure relatively closely matched changes in output in both sets of countries. Only by 2004 did the “match” between changes in government spending change significantly from changes in output. By 2008, we observe changes in government spending again returning to a closer tracking of changes in output. Moreover, high-income countries’ governments tended to match changes in expenditure (and thus probably government size) sooner and more closely with changes in output than medium-income countries’ governments. Figure 8 shows the annual differences between changes in government expenditure and changes in output—treating differences as an “error” (though such differences could reflect thoughtful policymaking in the presence of counter-cyclical organisational adaptation of organisational buffering against an excessively volatile organisational environment). For high-income countries, contemporaneous changes in output correlate less well with changes government spending than a similar correlation using lagged changes in output. The difference between changes in output and government expenditure is almost twice as large if we assume that high-income country governments respond contemporaneous rather than strategically (changing government size before changes in output occur). 18 For medium-income economies, however, the two approaches to government’s organisational adaptation to changes in output yield roughly the same error. Using our measure of the “fit” of organisational response to changes in output, the figure shows that a model of contemporaneous response fit very well until about 2004 – whereas a model of strategic response fit less well. Thus, we have – for the purposes for labelling this set of countries in one category or the other – chosen to portray these countries governments’ organisational response as contemporaneous rather than strategic.

17 We assume that policymakers will want to adjust government expenditure pro-cyclically with changes in GDP – and by exactly the same percentage amount (in other words, unity represents the optimal elasticity of government expenditure with respect to GDP). Much empirical evidence suggests that policymakers instead adjust government expenditure counter-cyclically. In this case, the largest “errors” in the figure would best explain the government’s adaptive response to changes in its organisational environment. We use the figure to discuss the method of determining the government’s responsiveness to changes in its organisational environ- ment – namely whether certain kinds of governments adaptive reactively, contemporaneously or strategically – rather than use the figure to pass judgments or make definitive conclusions about fiscal policy in these countries. We put the word “error” in quotes to emphasize that we take a positive rather than normative view of the data in this paper – seeking to describe the data rather than determine a best or optimal response. 18 As described previously, we use the word “strategic” to describe changes in government expenditure occurring before changes in output. The lack of a response, or a counter-cyclical response may be more “strategic” (as commonly understood in the public administration literature). We only use the word to describe changes in government spending in time and do not attach a value-judgment nor argue that strategic responses are necessarily superiour to other types of responses.

64 B. Michael, M. Popov

While the authors we review establish that government size responds to the uncer- tainty and complexity of the macroeconomic environment, they do not discuss whether policymakers respond on purpose to external shocks.19 While economists must assume at government officials act rationally, organisational theorists make no such claims. The policymakers of economics can use economic models and statistics to predict the emergence of external shocks – and adapt government sizes to minimise the negative economic effects of those shocks. 20 In the words of organisational theory, these policymakers can act strategically—by predicting changes in their organisational environment.21 At the very least, if policymakers cannot predict the future, they can reactively adjust to changes which have already occurred in the past. Much empirical work from economics helps us assess whether governments’ organisational responses (or at least sizes) have reacted strategically or reactively to changes in these govern- ments’ external macroeconomic environment.22

The extant data show little evidence that organisational sizes have reactively adapted to more uncertain and complex macroeconomic environments. Figure 9 shows the relationship between government sizes among OECD member states and past econom- ic shocks. Government sizes—at least in the OECD – do not “adjust” to long-run changes in the uncertainty and complexity of their macroeconomic policymaking

19 Authors like Fernandez and Rainey (2006) assume managers always want to change their government departments’ organisational structure to respond to challenges (and they provide management guru-like advice on doing so). 20 Political economy offers the greatest promise for helping us understand the factors driving the data we present in this paper. However, with the exception of Besley and Burgess (2002), a lack of theorising and applied empirical work has limited our ability to use theory to discriminate between types of governments. 21 We draw attention to a very basic misunderstanding about strategy between economic theory and organisational theory. In economics, strategy describes the best response to the action of another sentient player who can predict (and react to the predictions of) other players. Strategy, in organizational theory, usually refers to predicting the future and emerging trends and patterns. We adopt the “future seeing” definition of organizational theory as we attempt to test theories in organizational theory rather than economics. 22 From a theoretical perspective, authors like Fernandez and Pitts (2007) might argue that delays in organisational adjustment stem from the need to deal with internal, as well as external, factors.

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The figure shows the error in the adjustment of government expenditure to changes in GDP. The area under each line represents the difference between the change in government expenditure and GDP -- thus representing a type of "error" in government spending (assuming governments adapt pro-cyclically). We looked at three scenarios. We first substract the current year's change in GDP from the current year's change in government expenditure to investigate the extent to which government expenditure contemporaneously adjusts to changes in GDP. In the second set of calculations, we subtracted the current year's change in GDP from the following year's change in government expenditure to investigate the extent to which government expenditure changed reactively. In the third set of calculations, we subtracted the previous year's change in government expenditure from the current year's change in GDP in order to asses the extent of strategic change in government expenditure. We do not show reactive responses as they "fit" much less closely with changes in GDP. Source: World Development Indicators (2010).

Fig. 8 High income countries adjust expenditure strategically while medium-income countries contemporaneously

A Mosaic-Theory Approach to Public Sector Organisational Theory 65

environments. 23 Several of the most open OECD countries have relatively open economies and yet small government sizes (as defined by the proportion of government consumption in overall national consumption). Yet, several of the most closed econo- mies also have relatively small government sizes. The timing of government responses to changes in its (macroeconomic) organisational environment plays an important part in the story.

Yet, the data suggest that some governments time their changes in organisational size much better (or at least differently) than others. Molina et al. (2004)—using time series analysis – test whether changes in government size follow or precede changes in trade openness (and thus possibly the complexity and uncertainty of the overall macroeconomic environment). We show in Fig. 10 the correlation coefficients reported by Molina and co-authors between government size (as measured by government consumption) and the complexity-uncertainty of the government’s macroeconomic environment. We note two trends in both figures. First, some countries’ change in government size “fits” changes in trade openness better if we assume that that such changes occur due to strategic organisational adaptation (where government size changes precede changes in trade openness) or reactive adaptation (where government size changes follow changes in trade openness). Second, some countries respond (or at least change) to more trade openness by expanding government size while other countries’ government sizes shrink. Why one government would grow in response to increased macroeconomic uncertainty, while another government contracts, remains one of the unsolved puzzles of public sector organisational theory.

These data suggest that when governments adapt organisational size to environment factors tells us as much as how they respond to these factors. Governments such as Japan and Australia (at least in Molina et al.’s study) seem to have reactive organisational adaptation to environment factors whereas Belgium and the UK seem to have more strategic organisational responses. Countries such as Germany and Iceland seem to react to changes in the macroeconomic environment by shrinking

23 We put the word adjust in quotes because if OECD government policymakers chose organisational buffering as an optimal adaptation to a more complex and uncertain organisational environment, then the lack of a relationship in the data shown in the figure reflects the optimal (or at least equilibrium) organisational response.

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Fig. 9 Among OECD member countries, weak relation between prior exposure to external shocks and government size

66 B. Michael, M. Popov

government size whereas Italy and the Netherlands seem to pro-actively (or strategi- cally in our terminology) contract.

Yet, not all countries’ governments seem to respond much to changes in their external environments. Figure 11 shows the results of time series analyses assessing whether current government expenditure depends on previous government spending or on other factors.24 The figure shows—marked in red or yellow – countries where past government expenditure very well explains current government expenditure. For most

24 The authors used a procedure known as Auto-Regressive Integrated Moving Average (or ARIMA) techniques. These techniques test the extent to which the value of a variable depends on previous levels of that variable. While a discussion of time series analysis extends beyond the scope of our paper, the reader should know that this test assesses whether past values of a variable explain that variable better than other variables.

Reactive Organisational Responses: Governments Like Japan and Australia Expand Government After Trade Openness While Germany and Canada Contract

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The bars in the figure show the correlation coefficient between this year's change in trade openness (as defined as imports plus exports divided by the value of GDP for that year) and the next year's level of government consumption (again expressed as a percent of GDP). For example, changes in Japan's trade openness in any year "explain" about 40% of increases in the Japanese government's overall consumption of GDP in the following year. Similarly, increases in Ireland's trading openness in any year explain about 20% of decreases in the amount of Irish government consumption during the time period the authors explore. We interpret high correlations between this year's change in trade openness the next year's change in government consumption as a reactive organisational response. Source: Molina et al. (2004).

Strategic Organisational Responses: Governments Like Belgium and the UK Increase their Size before Openness Comes while Italy and Netherlands Contract

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governments increasing size before more openness happens

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The bars in the figure show the correlation coefficient between this year's change in trade openness (as defined as imports plus exports divided by the value of GDP for that year) and the previous year's level of government consumption (again expressed as a percent of GDP). For example, changes in Belgium's trade openness in any year "explain" about 20% of increases in the Belgian government's overall consumption of GDP in the following year. Similarly, increases in Italy's trading openness in any year explain about 20% of decreases in the amount of Irish government consumption during the time period the authors explore. We interpret high correlations between this year's change in trade openness the previous year's change in government consumption as a strategic organisational response. Source: Molina et al. (2004).

Fig. 10 Reactive and strategic organisational responses to increased exposure to external shocks

A Mosaic-Theory Approach to Public Sector Organisational Theory 67

of the countries in Akitoby and co-authors’ study, past government expenditure ex- plains rather well current expenditure. The authors also test the extent to which changes in government expenditure correlate with changes in output in the current period and in the past.25 Countries marked in red show countries where past changes in output best explain current changes in government expenditure. For a few countries—Colombia, Peru, India, Sri Lanka, Thailand, and Ghana – current changes in output best explained changes in current government expenditure. For authors like Walton (2005), such differences may reflect the degree of bureaucratisation of these governments more than anything else. For authors like Grossman, Herschel (1980), they likely reflect differ- ences in where these countries are in the business cycle.

As with our previous case, any rational expectations about the extent to which governments adapt to their organisational environment depend on the country. Some countries like the Belgium, the UK, the Netherlands and the UK seem to react strategically. Yet, whereas Belgium and the UK have expanded government sizes in anticipation of output variability, the Netherlands and Italy have shank them. Other countries’ governments—like Japan, Australia, Germany and Iceland – seem to adopt reactive organisational change strategies to changes in macroeconomic output. Yet, while Japan and Australia expand their government sizes, Germany and Iceland

25 The reader familiar with time series analysis will recognize this as a co-integration test – using a error- correction model. The authors tested three independent variables to find their impact on differenced govern- ment expenditure – differenced past government expenditure, differenced output and the lag value for differenced output. We chose the most important factor for each country based on the size of the corresponding coefficient. For example, if the regression coefficient for past changes in output exceeded the value (either positive or negative) of the other regression coefficients, we classified that country having reactive organisational adaptation.

The figure shows the results of an error correction model for changes in government expenditure for a sample of 51 countries. For countries marked in red, past changes in output best explain (have the largest regression coefficient for) changes in government expenditure. For countries marked in yellow, contemporary differences in output best explain (have the largest regression coefficients for) changes in government expenditure. The authors did not provide data for countries marked in white. Source: Akitoby et al. (2006).

Fig. 11 For some countries, the size of government this year depends on what that size was last year

68 B. Michael, M. Popov

contract them. Rational expectations cannot completely explain the universe of coun- tries.26

Does Government Size Really Depend on the Resources Available to it?

The data also shows some validity for the resource-based view of organisational structure—that government size responds more to tax and other resources available than to changes in government’s organisational environment.27 Figure 12 shows that such an explanation seems most plausible for medium-income countries – at least when looking at contemporaneous changes in government expenditure and revenue. 28

Between 2000 and 2009, the sum of each year’s differences between low-income country governments’ expenditure and revenue resulted in an “error” (as we have previously defined such error) of 43 %. 29 Adjustment in high-income economies’ government expenditure showed an “error” of 47 %. Medium-income country govern- ments’ expenditure mismatch between expenditure and revenue over the period summed to 36 %. Contradicting Moore and Zarandi’s (2011) findings, the resource- based explanation of government organisation clearly provides some explanatory power—depending on the particular country and time.

Different countries’ governments adapt their organisational sizes at different speeds in response to changes in their organisational environments. Figure 13 shows the best fitting (possessing the least amount of “error”) adaptive orientation for various coun- tries’ government sizes among strategic, contemporaneous, reactive and resource-based models of organisational adaptation to changes in the macroeconomic environment (as measured by the change in industrial GDP relative to other sectors). In general, the changes in the size of governments like those of the USA, China and Finland correlated more closely with changes in the sectoral distribution of output before such changes in output occurred. Changes in government sizes for countries like India, Australia, Kazakhstan and Argentina tended to correlate with changes in sector output as such changes in sectoral output occurred. Changes in government size for countries like Russia, Algeria, Germany and the UK tended to correlate with changes in industrial

26 Nsouli and co-authors (2002) describe why we might observe differences in government organisational responses even for similar governments and external environmental changes. Government leaders, acting rationally, may wish to time and sequence changes in the size and structure of government to long-run (inter- generational) objectives. 27 Interestingly, Gali (1994) finds that additional resources (in the form of higher tax revenues) may actually cause increased macroeconomic volatility. As such, governments may find themselves in a trade-off between pursuing a resource-based approach to sizing and a contingency-based one. As the government collects more taxes (resources), it may need to put those resources to work to deal with increased uncertainty in the macroeconomic environment! 28 These data show that universal admonitions to “put the resource-based view to work” do not apply equally to various governments (Bryson and co-authors, 2007). 29 Just like with our measure of adaptation to changes in government’s organisational environment, our measure of government’s “error” in responding to changes in resources only looks at the extent to which changes in government size contemporaneously adjusts to changes in revenues. Policymakers may wish to break the link between revenues and expenditure in any year in order to build up budget surpluses (in anticipation of future economic shocks), pay down previously acquired debts, or engage in fiscal policy to stimulate (or dis-stimulate) the macroeconomy. Given this wide range of organisational objectives, we only report the positive aspects of organisational adaptation – ignoring the normative aspects (dealing with the desirability and/or optimality) of such changes.

A Mosaic-Theory Approach to Public Sector Organisational Theory 69

output (relative to other sectors) only after such changes in industrial output occurred. Finally, for countries like Canada, Iran, and Sweden, changes in government sizes correlated most closely with the revenue these governments had at their disposal in any given year. The figure illustrates the “mosaic” we have described in this article. Some countries’ governments’ organisational response appears to conform more closely to one organisational theory (like contingency theory) while others to a resource-based view.

Each theory of government organisation provides a partial explanation for these data. Even the most die-hard critics of the contingency theory of govern- ment organisation must acknowledge that government size should respond (at least in part) to changes in the macroeconomic environment. Fiscal policy (namely government expenditure on goods, staff and assets like office desks) – by law if not by practice in many countries—smoothes out the effects of general and asymmetric macroeconomic shocks (which would be seen in rela- tively low correlations between changes in government sizes and macroeco- nomic changes in some countries). Critics of the resource-based theorists can not argue that governments can not expand beyond their means in the long-run (namely their revenue and borrowing power). Critics of rational-choice theorists can not argue that government can anticipate many kinds of shocks – rising grain or oil prices, demographic changes and so forth. Some of the “strategic” organisational adaptation we observe in the data probably does reflect actual strategic policymaking. Yet, some of the “reactive” organisational adaptation we observe in the data may reflect rational organisational buffering or anti-cyclical spending. Relatively little in the literature helps us understand these relation- ships. A number of authors ask whether government size responds more strongly to external shocks or to internal political economy pressures – clearly mimicking the debate in the organisational theory between contingency theory and organisational politics (Rodrik, Dani 1996; Alesina and Wacziarg 1998 and Kimakova 2009 for a much more recent revision of the debate).

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The figure shows the difference between changes in government expenditure and revenue for each of the three categories of countries shown. The difference between changes in contemporaneous government expenditure and revenue (with changes occuring in the same year) is lowest across the entire period for medium-income countries -- which we interpret as most strongly supporting the resource-based view of government (that government revenue determines expenditure rather than other considerations). To derive these indicators, we took the weighted average of changes in US dollar valued expenditure and revenue. Weights for changes in government revenues consisted of the country's 2004 government revenue (in US dollars) as a percent of the total revenue (also expressed in US dollars) for that country's income group. Weights for government expenditure consisted of that country's 2004 expenditure (expressed in US dollars) as a percent of that country's income group's total expenditure (again expressed in US dollars). Source: World Development Indicators (2010).

High-income countries Low-income countries

Fig. 12 Resource-based view of government organisation most valid for middle income countries in the short-run

70 B. Michael, M. Popov

The Failure of Public Sector Organisational Theory

Despite decades of theorising, we know relatively little about when and how to apply organisational theory in a public sector context. Both Hatch’s (2006) classic textbook and Christensen et al. (2007) more recent rehash of organisational theory in a public sector context, include an entire chapter on the relationship between the organisational environ- ment and organisation structure. These works leave three questions unanswered. First, how can we quantify the extent to which organisational change reacts contingently on quantifi- able changes in the organisational environment? Most of the studies from organisational theory rely on surveys and qualitative data from case studies (Melchor, Huerta 2008). Few - if any - provide objective and quantifiable data needed to resolve the on-going debates we have reviewed in this article.30 Second, to what extent does government’s organisational adaptation to its macroeconomic environment follow the tenants of rational expectations? Theorising, model-building and prediction become easier with rational, rather than sym- bolic/interpretative, organisational strategising (Hitt et al. 2007). Do public officials actually adjust government size and structure rationally? Third, to what extent can we discriminate between countries which place greater emphasis on changing government size and structure in response to resources rather than other factors? Resources not only determine government size and structure, they also determine the extent to which resources help support contingent responses to changes in the macroeconomic environment (Romer and Romer 2007).31

30 Reverse causality (or government changing its macroeconomic environment rather than adapting to it) will always constrain what organisational theorists can say about government’s organisational adaptation to its environment. Yet, even observing objective correlations between organisational change and macroeconomic change in government’s organisational environment would already represent a great theoretical and empirical leap forward. 31 Indeed, Romer and Romer illustrate how the lack of a “mosaic view” of organisational theory can lead to wrong conclusions. They categorically assert that, “the results provide no support for the hypothesis that tax cuts restrain government spending; indeed, they suggest that tax cuts may actually increase spending” (1). We already showed that such a conclusion would not hold for many countries at many times.

Fig. 13 Countries form a mosaic – with some fitting a rational expectations contingency-based view of organisation – and others a resource-based one

A Mosaic-Theory Approach to Public Sector Organisational Theory 71

Some of the most recent studies show why leaving these questions unanswered poses problems for organisational theorists. In one of the most relevant studies for our own research, Andres et al. (2008) uncover several statistically significant correlations between UK managers’ perceptions of their agency’s organisational environment and the type of organisational strategy their agency managers pursued.32 As shown in Fig. 14, these managers thought that highly centralised agencies followed a reactive as well as strategic organisational adaptation. Agencies highly involved in planning corresponded with reactive organisational adaptation (using our labels instead of theirs). Agencies following incrementalist policies tended to follow reactive and strategic organisational adaptation to changes ii their organisational environments. Agencies with a high amount of environmental uncertainty tended to adapt their agencies reactively.

Yet, the questions we posed above show why studies like this fail to advance the discipline. First, the study relies on subjective data, which can neither be independently confirmed through further studies, nor compared across departments and/or countries. Second, we do not know to what extent adaptation comes from contingent reactions to organisational environment, to the resources available to these officials or as the result of rational planning for the future. Each of these theoretical perspectives plays a role in UK government agencies—and thousands of others world-wide. We need tools to discriminate between agencies – allowing us to empirically know which theories play a stronger or weaker role in explaining organisational responses.

These studies illustrate the need for a mosaic-view of organisational theory. As we have illustrated in this paper, we can characterise such a view by three major charac- teristics. First, a mosaic-view of organisational theory accepts that a contingency-based view, a rational expectations approach and resource-based approach hold explanatory power—to greater or lesser extents in each case. Second, such a view accepts that objective, empirical data can help discriminate (differentiate) between organisations adapting contingently to its organisational environment versus those driven by avail- able resources. Third, a mosaic-view of organisational theory takes time into account— accepting that organisational environments may adapt strategically in some cases and reactively in others. Such a mosaic-based approach to theory helps us understand government organisational change without resorting to increasingly complex models like Damanpour (1996).

The mosaic-view of government’s organisational adaptation to its organisational environment provides for testable hypotheses which provide explanatory and predictive power to these basic views of organisational change. Figure 15 shows the 6 hypotheses which come from a mosaic view of theories of government organisational adaptation to its macroeconomic environment. A mosaic view of the theory driving (or at least explaining) government’s organisational change means the size and structure of gov- ernment reacts in particular ways to changes in the uncertainty and complexity of the

32 One study hardly seems like the basis for a valid literature review. In our defence, we searched all the major search engines for papers dealing with “organizational environment” and variations of government, structure, public sector, strategy, “strategic adaptation” and so forth. The paucity of papers in this area reflects deeper epistemological problems around the definition of government structure and the organisational environment of the public sector – as well as the lack of data from which to evaluate various theories. We rather blithely gloss over all these serious considerations in our study in order to arrive at some empirically-derived conclusions (however tenuous they might be).

72 B. Michael, M. Popov

macroeconomic environment. Statistical methods can measure and correlate these reactions. Such empirical work would take organisation theory a long way from “proving or disproving” a particular view. As we have shown in figures in this paper, we can literally see a mosaic of responses, coloured by groups of countries and by time.

Conclusions

What does organisational theory teach us about public sector organisational adaptation to its organisational environment? Do the main theories covered in most organisational theory classes actually apply to governments? In this paper, we review the literature— using data to guide our discussion. We find that governments change their organisational structure concomitantly with changes in their organisational environ- ment (as we define it). Yet, theory provides little basis for predicting the size,

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The data in the figure show the extent to which several variables correlate with the organisational strategy of UK government agencies. For example, the perception that an agency follows a decentralising strategy correlates with UK's managers' perceptions that their agency adapts reactive (and strategically) to its organisational environment. Agencies whose managers foillow incrementalist strategy correlate with managers' perceptions that those agencies engage in reactive and contemporanous organisational adaptation. We have relabelled the authors' labels for the dependent variables from prospective to "strategic," low cost and differentiated defending as "contemporanous" adaptation and reacting as "reactive" organisational structure. Source: Andrews et al. (208).

Fig. 14 Decentralising and incrementally changing agencies engage in strategic and reactive organisational adaptation – those in highly uncertain environments adapt reactively

Hypothesis 1: The size of government depends on the uncertainty and complexity of government’s organisational environment

Hypothesis 2: Different governments will have different preferences for responding to the uncertainty and complexity of the macroeconomic environment

Hypothesis 3: Different countries will adapt reactively, strategically or contemporaneously to changes in the macroeconomic environment.

Hypothesis 4: Government structure changes in response to changing uncertainty and complexity of the macroeconomic environment

Hypothesis 5: Differences in the uncertainty and complexity of various countries’ macroeconomic environments significantly explain changes in government structures.

Hypothesis 6: Different governments’ structures can respond strategically, contemporaneously or reactively to changes in their macroeconomic environments

Fig. 15 Six hypotheses deriving from a mosaic-view of organisational theory

A Mosaic-Theory Approach to Public Sector Organisational Theory 73

magnitude and even direction (expansion or contraction) of such change. Different governments respond differently, and no over-arching theory can explain or predict their organisational responses. We thus argue for a mosaic-view of organisational theory—one which allows for contingency-based view, resource-based view and the rational expectations view of organisational adaptation to varying degrees at varying times. Data – not theory – can point to the cases when each theory helps us explain government’s size and structure.

These results imply two research directions, which we take up in future papers. First, theorists need a micro-model of organisational change – a generalisable model testable for a range of countries (rather than all countries universally). Second, we need further empirical analysis, to identify which sets of countries respond with similar organisational changes to changes in their organisational environment. By knowing this, we can decide which theory—contingency-based view, resource-based view, rational expectations-based view or none of them – best fit each particular case. We provide 6 hypotheses which test the mosaic-based view of organisation theory we present in this paper. The question lies not in which theory of organisational theory is right—but instead which theory is right for which country, during which time period, and to what extent. Further empirical work will help to answer these questions.

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