The International Journal
of Not-for-Profit Law

Volume 6, Issue 3, June 2004

Edited by Edward L. Glaeser
Reviewed by Peter Frumkin

A growing number of studies examine the policy and management issues facing nonprofit organizations, those distinctive organizations operating between the market and the government. While we know a great deal about the traits of effective nonprofit managers and the regulations and policies that shape the sector, a fairly large gap remains in our understanding of the economics of the organizations. This is due in part to the fact that economists have long viewed the nonprofit sector as a secondary concern compared to the vast world of for-profit enterprises. That is starting to change, though, and this new volume represents an intriguing attempt to bring some of the principles, assumptions, and techniques of economics to bear on nonprofit organizations. The book is the product of a research initiative on nonprofit organizations sponsored by the National Bureau of Economic Research, which seeks new perspectives on how and why nonprofits behave as they do.

The Governance of Not-for-Profit Organizations covers a range of theoretical and empirical questions pertaining to large nonprofit institutions and examines decision-making in the nonprofit context more broadly. Although some chapters contain a fair amount of mathematics that will primarily interest researchers, generalists will easily grasp a number of other chapters. To help guide the reader, the book’s editor, Edward L. Glaeser, a Harvard University economist and the editor of the Quarterly Journal of Economics, provides a clear and helpful introduction that sets up some of the key issues and themes in the book.

At the start, a critical distinction emerges between nonprofits and business firms. While businesses have managers, workers, shareholders, and customers, nonprofits have managers and workers but, as essentially ownerless organizations, no shareholders. Moreover, the customers of nonprofits differ from those in the business context: often the payment for the good or service comes not from the customer (or client) but from a donor. This complicates the task of explaining how nonprofits decide what to produce, how much to produce, and what price to charge.

The book contains a number of interesting chapters focusing on hospitals. Henry Hansmann, Daniel Kessler, and Mark McClellan examine hospitals’ responses to changes in demand for their services, focusing on how nonprofit and for-profit hospitals adapt to shifts in the size of the local Medicare-eligible population. They are able to show that for-profit and nonprofit hospitals ramp up similarly to meet rising demand, but that for-profits are quicker than nonprofits to cut back when demand decreases. In another chapter, Jason R. Barro and Michael Chu find an increase in hospital advertising and commercialism in recent years, but they demonstrate that it did not result from financial difficulties; in fact, the more successful teaching hospitals were the ones engaging in this behavior. Barro and Chu suggest that successful hospitals may have used advertising and commercialism in hopes of increasing their bargaining power with HMOs. Finally, Burcay Erus and Burton A. Weisbrod look at hospitals’ compensation practices and the use of bonuses as managerial incentives. They find that bonuses are on the rise and that they can focus managers’ attention on the bottom-line profitability of the hospital.

The book covers a range of other topics, applying economic analysis to such things as the use of endowments, the management of art museums, and the sale of Renaissance chapels. Each chapter looks at distinctive issues that arise within nonprofits, often touching on the non-distribution constraint, which requires nonprofits to retain excess revenue for mission-related uses rather than disbursing it. One of the most useful chapters is a broad attempt at theoretical synthesis by Anup Malani, Tomas Philipson, and Guy David, which examines three very different explanations of nonprofit behavior, each built on a particular model: an altruism model, a worker cooperative model, and an early “contract failure” model. The authors bring these disparate approaches together in a fresh way that combines theory and examples.

While this book contains interesting perspectives and clear thinking about important issues, there are limits to what economists can explain when it comes to the behavior of nonprofit organizations. The formal models and rationality assumptions do not always capture the cultural aspect of nonprofit behavior. Unlike business firms that exist to make products efficiently and to earn a profit for shareholders, nonprofits are driven by a range of complex motives and considerations. Personal values, commitment to cause, and community attachment drive many nonprofit workers to make sacrifices in order to be part of an organization that is about more than efficient production. Because this book focuses principally on the biggest, most complex, and most financially viable organizations, it does not always fully address the broader, enduring characteristics of the nonprofit sector, which, after all, comprises more than a million organizations, many of them small and struggling.

This focused analysis by leading economists ultimately challenges the reader to think about just how much nonprofit behavior can be explained by formal models, equations, and the utility-maximizing assumptions of economics. Important parts do come into sharper focus thanks to this fine and precise work. However, there can be little doubt that other aspects of the nonprofit phenomenon demand psychological, political, and cultural explanations, which lie well outside the boundaries of economics.

Notes

Peter Frumkin is associate professor of public policy at Harvard University’s John F. Kennedy School of Government, where he is affiliated with the Hauser Center for Nonprofit Organizations. He is the author of On Being Nonprofit (2002).