The ties that bind, through thick and thin

The Kanoo Group, or the House of Kanoo, is a highly successful Arabian family business. No doubt the success of its business model has to do with how it has made family work in its favor.

Mishal Kanoo writes recently in ITP Business about one of the downsides of family business:

Here is the moral dilemma. My family member doesn’t do anything yet gets the same benefits as I do. What do I do? This is a serious problem many family businesses face at one time or another.

The question that imposes itself on our morality and ethical behavior is how does one approach this delicate subject without causing ripples that could have far reaching consequences within a family and community? What about the cultural and social repercussions of this action? How about the psychological ones? How does a senior member of the family even take such an action?

It is revealing that he so emphatically frames the question as a moral or ethical question when through my economist's lenses I see the dilemma as one of efficiency for the organization. Why do I say revealing?

A successful family business leverages the opportunity that only families have to mold their future employees, to raise them up with preferences which are family-oriented rather than self-centered. With family-oriented preferences your incentives are aligned with the organization's goal: maximize the joint profit of the group.

Not everyone is the same by nature, and some are born resistant to the family's nurture. The lesson these members of the family take from their upbringing is that the family is ripe for plucking. A family that places a high value on taking care of each other creates a moral hazard that invites the bad eggs to take advantage by free-riding on the efforts of the rest of the family.

Notice that the bad egg need not even reveal his selfish intent. By feigning incompetence he will be assigned less and less work to do. Legions of husbands have demonstrated that this is an effective strategy for dodging housework. Feigning incompetence also has proved effective in group projects at school, and in all sorts of organizations, not just families.

See also:
Taxing Families - Marginal Revolution
Rhodesian family ties - Fish, bananas, old pajamas

So why do family businesses survive, and indeed thrive in some places like Arabia? Part of the reason, I think, is that they substitute for contracts. Contracts can be difficult to enforce. This may be especially true in countries with weak legal systems, or systems that are not good at respecting and enforcing voluntary agreements between employee and employer.