Why law associates work so hard

I have learned a new mechanism to explain the organization of knowledge-based, client-intensive partnerships:

From the property rights perspective, large law firms are poorly suited to sustaining employment relationships because they have no enforceable means of controlling the firm’s key knowledge asset–client relationships.  The up-or-out partnership systems that have evolved over time in these firms offer an awkward but workable resolution to this problem.  By restricting partnership size to maximize surplus per partner and by making senior attorneys residual claimants, law firms limit the opportunity for sub-groups of partners to grab and leave with the firm’s clients.  This action, however, creates additional demand for inexperienced associates who serve as (imperfect) substitutes for their more experienced counterparts.  The result is that more associates are hired than can be promoted into a stable partnership.  Those associates who do not succeed outgoing partners will be dismissed before they acquire sufficient client knowledge to themselves pose a threat of grabbing and leaving.  That law firms find it worthwhile to commit to the costly practice of firing qualified attorneys in order to retain control over client relationships points to the general importance of control over assets in more conventional employment relationships.

The property rights model, in contrast to other explanations, can explain the coincidence of up-or-out promotion rules and partnerships in large law firms.  At the root of our model is the claim that law firms cannot rely upon legal mechanisms to establish control over client relationships.  We demonstrate that this is, in fact, the case under U.S. law.  In addition, the property rights model suggests two propositions that are supported by the available historical, institutional and econometric evidence: (1) up-or-out appeared first in large corporate law firms who specialized in delivering large scale, complex legal services to valuable, long-term clients, and (2) large law firms practice a style of law that limits contact between associates and clients.  Finally, the property rights model can account for the otherwise anomalous absence of up-or-out personnel policies in government agencies and large corporate litigation departments [TC: I like this latter point].

Here is the paper.  Here is another version with abstract.

Comments

For the question of why associates work hard, there old '96 paper is quite compelling. Essentially firms select for the kind of employees that work hard.

On the up-or-out in professions in which outcome contingent contracts are hard to write, reputation can play a pivotal role and that can lead to up-or-out forms. At least such is argued by
http://pages.stern.nyu.edu/%7Ehbar-isa/hbirepnteams.pdf

Here is the abstract:

Agents work for their own reputations when young but for their firms when old. An individual with an established reputation cannot credibly commit to exerting effort when working alone. However, by hiring and working with juniors of uncertain reputation, seniors will have incentives to exert effort. Incentives for young agents arise from a concern for their own reputation (and the opportunity to take over the firm) but older agents work for the reputation of their firms (and the opportunity to sell out to juniors). An important theoretical contribution is an example of a mechanism that endogenously introduces type uncertainty.

The military, of course, practices up-or-out personnel policies. This is not explained by the property rights model.

Do you know of a model that explains up or out in academia?

Lorne Carmichael has a nice model of tenure in academia. The story is that the dean cannot assess who is likely to make for a good economist - other economists are in the best position to judge that but are unlikely to be honest in doing so if they feel the person in question is a rivel. Tenure should lead to better decisions therefore.

The key here is that the authors are not just explaining up-or-out promotions but the combination of up-or-out promotions and the small size of most legal partnerships. Investment banks, consulting firms, and academic departments may use up-or-out incentives to enhance their own reputations, making sure the organization is managed by the best of the best and to free up space for those more likely to have real potential.

Investment banks and consulting firms weed out a lot of analysts in the first few years but poaching of clients can and does happen all the time in large firms. Paying exponentially growing salaries to large numbers of senior employees is the way some firms cope. As for academic departments, they will usually only hire someone if they think there is a good chance that the candidate will get tenure in a few years. If a professor works hard but leaves in a few years, that doesn't help the department's reputation very much.

Herr Cowen,

I haven't read the paper. Does it mention where the fired assocites end up?

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