186 QUARTERLY JOURNAL OF ECONOMICS torted as it moves up through the organization, Bargaining costs are created as people try to use any information they have to influence the decisions that will be based on that information(as Milgrom and Roberts [1988, 1990] noted in their theory of influence costs ). Costs of hierarchy arise from the fact that information becomes distorted within the firm as it is transmitted from production floor to management, and in the case of firms subject to central planning, the information is further distorted in the communications between the firm and state agencies, as has been noted by observers of Chinese enterprises. "The basic prob- lem is that the narrow channels connecting subordinates to superiors become clogged with pseudo-information, which is often intentionally distorted. While the system continues to report thousands of bits,of data, the actual information content is quite limited"[Naughton 1991]. " In their dealings with industrial bureaus and government agencies, managers engage in continual face-to-face bargaining over the setting of mandatory production lans., and in procuring low priced supplies, subsidized credit and tax breaks. The bargaining, invariably including a measure of deception, and sometimes the cultivation of official favor, has several goals"[Walder 1987, p. 36 People' s proclivity to exploit any information they have affects the incentive system offered within a firm. In the McAfee -McMillan [1991] model of the interaction of hierarchy and incentives, informational asymmetries and the rents they create result in workers being given incomplete performance incentives. The incen tives imposed on production workers will be more stringent according to this analysis, the shorter the hierarchical distance between the production floor and the ultimate decision-maker. The logic of this result is that informational distortions increase cumulatively as information moves up a hierarchy, as each person through whose hands the information passes uses the information to gain some bargaining advantage The shorter the hierarchy therefore, the less concerned the top decision-maker need be about giving incentives for information transmission, so the more the decision-maker can focus on providing performance incentives The mere fact that the right to make output decisions is shifted from the state to the enterprise ought by itself to result in stronger worker incentives and consequently improved productivity. 2In he McAfee- McMillan [1991] model w the watk er'i htp xt depsenTheothaoages