An Erratum has been published for this article in Strategic Management Journal 25(3) 2004, 307.
How does organizational slack affect firm performance? Organization theory posits that slack, despite its costs, has a positive impact on firm performance. In contrast, agency theory suggests that slack breeds inefficiency and inhibits performance. The empirical evidence, largely from developed economies, has been inconclusive. Moreover, little effort has been made to empirically test whether such an impact (positive or negative) is linear or curvilinear. This article joins the debate by extending empirical work to the largely unexplored context of economic transitions. Specifically, two studies, based on survey and archival data (N = 57 and 1532 firms, respectively), are undertaken in China's emerging economy. Our results suggest (1) that organization theory generates stronger predictions when dealing with unabsorbed slack, and (2) that agency theory yields stronger validity when focusing on absorbed slack. Furthermore, we also find that the impact of slack on performance is curvilinear, which resembles inverse U-shaped curves. Overall, our findings call for a contingency perspective to specify the nature of slack when discussing its impact on firm performance. Copyright © 2003 John Wiley & Sons, Ltd.