History contains many examples of the spectacular rise of family firms as well as stories of family businesses brought down by bitter feuds among family members.

However, examples of family businesses are not restricted to history textbooks, as shown in the recent study �The Role of Family in Family Firms� by University of Chicago Graduate School of Business professor Marianne Bertrand and Antoinette Schoar of the Sloan School of Management at Massachusetts Institute of Technology.

A �family firm� is characterized by the concentration of ownership, control, and often key management positions among family members, even after the retirement of the firms� founders.

In the study, Bertrand and Schoar analyzed whether family firms evolve as an efficient response to institutional and market environments or are the product of cultural norms that might be inefficient for corporate decisions and firm performance.

In their study, Bertrand and Schoar first review the efficiency arguments that have been put forward to rationalize family ownership and management of businesses.

Bertrand and Schoar then expand on the cultural explanation that strong family values may inefficiently push business organizations toward family control. In support of the cultural view, the authors present preliminary evidence that stronger family ties are linked to worse economic outcomes.

While the authors caution that there are limitations to their evidence, family values appear quite stable over time across countries and show little adjustment to economic conditions in the short or medium term.

�Given that family firms are the predominant organizational structure for business in emerging markets, understanding how these firms function and why they exist is of primary importance for anyone thinking about investing in emerging markets,� says Bertrand.

Theories of Family Firms
Some theories suggest that family control may allow family firms to achieve superior economic performance over their nonfamily counterparts.

The longevity and success of some prominent family firms has led to the popular perception that family firms embrace a long-term approach to management. For example, family firms may focus on maximizing long-run returns and pursue investment opportunities in order to promote the family legacy.

Also, in countries with weak legal structures, trust between family members may function as a substitute for lackluster corporate governance and contractual enforcement.

Family involvement also may hypothetically give founders access to a better talent pool. However, existing evidence contradicts the idea that families have a comparative advantage at running businesses because of intergenerational transmission of managerial talent.

Finally, political connections can provide large benefits for private firms, especially in economies with high levels of corruption. These connections may result in preferential access to public resources such as subsidized credit, government contracts, or favorable legislation.

In contrast to these efficiency explanations for family firms, cultural theories propose that organizing businesses around families may be the outcome of a partially predetermined set of cultural norms.

In 1904, economist and sociologist Max Weber argued that strong culturally predetermined family values may hinder the development of capitalist economic activities, which require a more individualistic form of entrepreneurship and absence of nepotism.

�If managers are focused on maintaining the family legacy, this can have a distorting effect,� says Bertrand. �Optimally, business decisions should be based on maximizing profit, rather than leaving a good job to each of your sons.�

Family firms may be plagued by inefficiency in part because nepotism can prevent firms from reaching their full growth potential. Firms may hire key managers from within the kinship network rather than more talented professional managers. If promotions are not tied to performance, this can create negative incentives throughout the organization.

Cultural beliefs may create the desire to build a family legacy and ensure the survival of the firm and family control at any cost. This objective may not be aligned with the best longrun strategy, especially if it leads families to display excessive risk aversion or forgo profitable expansion strategies or mergers with other firms.

Outside the United States, the biggest constraint for family firms may be inheritance rules. Norms may vary from strict primogeniture�where the oldest son inherits the whole firm�to equal sharing rules among all sons of a founder. Primogeniture severely restricts founders� ability to select the most talented person to take over the family firm. Breaking away from these rules may also be costly if it destroys expectations of individual family members about their place in family and business.

Recent studies on nepotism, family structure, and inheritance norms have shown that the lower performance of family firms is in large part related to the founder of a firm passing active management responsibilities and control to his/her descendents. Compared to unrelated CEOs, family CEOs are associated with lower return on assets, and a decline in the marketto- book ratio.

Measuring Family Values
Bertrand and Schoar provide preliminary cross-country evidence to support the idea that family culture may be a primary determinant of economic outcomes.

To measure the strength of family ties in a cross-section of countries, Bertrand and Schoar used data from the World Values Survey, specifically four sets of surveys conducted between 1981 and 2001. In addition to standard economic data, the survey includes sociological data on attitudes regarding trust and family.

The authors focused on survey responses to four questions regarding family values. Respondents were asked to choose which of the following two statements they agree with: 1) �Regardless of what the qualities and faults of one�s parents are, one must always love and respect them;� 2) �One does not have the duty to respect and love parents who have not earned it.� Respondents also had to choose between the following statements: 1) �It is parents� duty to do their best for their children even at the expense of their own well-being;� 2) �Parents have a life of their own and should not be asked to sacrifice their own well-being for the sake of their children.�

Using a statistical method called �principal component analysis,� Bertrand and Schoar summarized responses to the four different questions to create a �strength of family� index.

�Our most significant finding is the intriguing correlation between the strength of family index and measures of organizational structure such as firm size and self-employment,� says Bertrand.

The results indicate that countries where family is regarded as more important have lower levels of per capita GDP, smaller firms, a higher fraction of self-employment, fewer publicly traded firms on average, and rely less on external financing.

Breaking down the �strength of family� variable into individual components, the authors find that unconditional respect of parents, a stronger sense of parental duty towards children, a higher general importance of families, and more weight on obedience are all associated with lower GDP.

Prior research has focused on trust as the most important cultural variable from an economic perspective, finding that greater trust leads to greater economic development. The authors therefore wanted to make sure that cross-country differences in family values did not simply reflect different levels of trust.

When both family values and trust were included in the statistical analysis, the correlation between GDP per capita and family values remained strong even after controlling for the influence of trust. In contrast, there was no statistically significant correlation between GDP and trust after taking account of family values. The authors find a better fit between the strength of family index and firm size

than between trust and firm size. �The importance of trust for economic outcomes may work through the strength of family values in a society,� says Bertrand.

Another concern about interpreting the relationship between family values and economic outcomes arises from the possibility that family ties are themselves determined by the quality of formal institutions.However, the authors find only moderate support for the idea that stronger family values are a response to weak formal institutions.

How fast do family values respond to economic change? The authors observed how responses to questions on the World Value Survey have changed over a 20-year time window for 19 countries, and a 10-year window for several developing countries. Several dimensions of family values, including respect for parents and child obedience, proved to be remarkably stable over these two time frames, even among developing countries that experienced rapid growth.

Though family norms appear fairly stable over the short to medium term, even in rapid growth environments and possibly across generations, this does not rule out the possibility of change over the long run. The authors note that it would be optimal to study a more comprehensive set of countries and family dimensions over longer periods of time.

Future Research
Bertrand and Schoar caution that the macroeconomic evidence they present is suggestive at best. It will be important for future research to better understand the relationship between family firms and formal institutions within a country. For example, shocks to the market for corporate control or increased governance pressures could make it more costly to indulge in family-oriented business decisions.

Alternatively, better markets for corporate control could allow families to hire professional managers while maintaining the beneficial elements of family ownership. There is also room for more microeconomic studies that would focus on how the structure of a given family, including its size, age, and gender composition, alters the strategic choices and eventual performance of the firm (or group of firms) this family controls.

�Changes are still occurring across Europe and in emerging markets, so it will be interesting to see if family firms survive as countries take steps to create better functioning product and financial markets,� says Bertrand.

�The Role of Family in Family Firms,� Marianne Bertrand and Antoinette Schoar, Journal of Economic Perspectives, Volume 20, Number 2, Spring 2006, pg. 73�96.