Mod-01 Lec-31 Economics of Institutions

Mod-01 Lec-31 Economics of Institutions

September 11, 2019 1 By Kody Olson


We shall be addressing ourselves to a consideration
of the relationship between economic activities and the institutional backdrop to these activities
that exist in any society. Let us first ask, what the word institution refers to? The simplest
way of looking at institutions is that they are instituted, but that is getting away from
having to face the problem by simply rephrasing the whole thing, what do we mean anyway when
something is instituted, something that is been established.
They seems to be a general consensus among everybody who talks about institutions that
they constitute things that exist in a society at any point of time. Their structures, visible
and invisible, their norms, their codes of conduct, their physical things, non physical
things, but all sorts of things that exist in a society; almost as if they constitute
the boundaries or the pathways through which economic conduct happens.
The thing about is is that, at any point of time for any set of economic activities to
exist, there will always be a set of institutions constituting their backdrop. In order to understand
this better, it might be better to break up the idea of institutions into the components,
there are social institutions, there are political institutions, there are economic institutions,
there are monitory institutions, there are ideological institutions, there are institutions
serving all kinds of purposes. What is important is that the institutions
constitute what we usually called the establishment? Everything in the society constitutes itself
within the backdrop of the establishments that exist in the society. Economic activities,
for example happen, because, there are institutions and within institutions. I want to purchase
something in the market, so I go to the market. In order in order to go to the market, I take
a bus and the bus is organized by an institution by the government which operates transportation.
And once I am in the market, there is an institutional structure within, which the shops and stalls
of sellers in the market are organized; there is an institutional structure which invisibly
regulates the behaviour of myself and the sellers ways away each other. There is an
institutional norm which is adopted by the buyers and sellers in the market, invisibly
as it were, non tangibly as it were, in regard to the way they negotiate; in regard to the
way they arrive at a conclusion to negotiations, and in regard to the way they conclude the
transaction. Having concluded my transaction from the market,
I returned back to where I live. And when I come back, I come back to a home, a home
is different from house. A house is a structure, but a home is where my people live, in other
words, I come back to my family, my family is an institution too. And my family members
are connected to other families through a relationship of kinship, which is another
institution. Then, they are related to others who speak the same language which is the linguistic
group and so on and so forth. Members of families might belong to different
political parties with different ideologies, another set of institutions, then my family
members might go to a temple periodically; those are religious institutions, and they
might subscribe to particular forms of belief, particular forms of worship which again are
ideological institutions. So, as it were, we are surrounded we are surrounded by institutions
in whatever we do, they constitute virtually the spaces within which we constitute our
own movement in society, in economy, in our activities; more important, while institutions
preexist for any set of actors to perform their economic activity.
It is also a fact that, economic activity itself has a strong bearing on the nature
and structure of institutions over a period of time, institutions can change due to the
conduct of economic activity. For example, a particular food item food item or food particles
becomes very popular, may be it is because it is a cheap, easy food available to people,
they start consuming it. But having started consuming this food, they find that it becomes
a habit and having become a habit, it becomes an institution of culture. A few years down
the line then, I might be thinking of consuming this particular thing, not because it is cheap
or costly or because of any other economic reason; but simply because it is a practice,
it is become my culture, here is a situation then where economic activity institutions.
So, we have a symbiotic relationship between economic activities and institutions, institutions
constitute the backdrop to economic activity and at the same time; economic activity through
time tends to alter, modify and get to adapt institutions that exist around these activities. We can classify institutions into the kind
of preoccupations with which these institutions are concerned, we can think of economic institutions;
we can think of political institutions, we can think of cultural institutions and we
can think of ideological institutions, we have seen these things briefly.
Economic institutions are any number which you can think around you, the banks are economic
institutions, the financial organizations which help you invest your money and transact
in your investing; investment activities are financial institutions, you have employment
which is an economic institution; you have jobs which are economic institutions; anything
to do with money. Anything to do with your making a living, anything to do with your
spending or what you earn is a living, they are all economic institutions, we do not need
to go into the detail. But all these economic institutions need institutions
which guarantee that economic activities can go on uninterrupted without being threatened.
For example, all contracts which assigned as a part of economic transaction must have
a sanctity given to them by law, they should be legitimate. Now, the legitimacy to economic
conduct is given by laws and the agencies which enforce these laws on behalf of the
government. So, these are political institutions, principle are institutions of property, the
constitution of a country is a major institution and amongst the things which are enshrined
in the constitution is a right to property. In most democracies, the right to property
is a very central right that is guaranteed to its citizens.
Now, property is a major institution under which all kinds of, under the rubric which
all kinds of other rights are encompassed, these are political institutions. Cultural
institutions are institutions that are significant in their influence on tastes, habits, consumption
patterns, behaviour patterns, thought patterns and so forth.
In the early days, when Kellogg breakfast foods wanted to set up its business in Japan,
it was found that the Japanese did not have a habit at all of eating cereals for breakfast.
But the management for Kellogg’s said, it s fine, we will be there in the market we
will be there in the market till such time as breakfast cereals become a habit with the
Japanese. And it took 7 years, Kellogg was in the Japanese
market, tirelessly present, just waiting waiting waiting with their stock of breakfast foods
on all the shop stores in inventories till such time as a Japanese slowly switch to breakfast
foods and Kellogg’s; became a big selling brand, this is one thing. Kellogg understood
the culture of the Japanese, awaited a transformation in culture, till such time as breakfast food
became a culture of the Japanese and the market for Kellogg products became established, this
is a cultural institution. Another cultural institution is the institution
very common in India of caste, caste is a group of people were said to be endogamous
that is, who marry among themselves and observe rules which are shared by other caste members.
But, the very powerful institution, the powerful role of this institutions caste through history
has been to conserve and concentrate the holding of property within the group. For example,
the idea of cross cousin marriages within the caste in south India historically as engendered
the holding of the property within the same family groups, no matter how marriages took
place. So, once again, cultural institutions have
a strong bearing on the economy, ideological institutions are many; let us consider some
which are absolutely unique to India, religion. The big temples which are visited by hundreds
of thousands of people each day; like the one in Tirupathi for instance, the Balaji
temple are are religious institutions which cater to the ideological needs of the people,
which cater to the needs of the people to believe in specific ideas about the universe,
about the nature of the world, about the nature of life, nature of existence and so forth
and these temples occupy a central role in those such of beliefs and in that ideological
universe. Why do hundreds of thousands of people go
to Balaji each day? They go there, because Balaji has a central role in the ideological
universe of the people who go there. Now, Balaji therefore, and the temples connected
with Balaji, not only in Tirupathi, but else where in India and abroad are all institutions,
which cater to the ideological requirements of people. But it is not as if they exist
isolation, there are lakhs and lakhs of rupees which circulate, which are exchanged, which
are utilized in and around the Balaji temple day after day after day after day.
In short, there is a strong economy which surrounds all the temples, vast number of
goods and services services are bought and sold. And vast quantities of money is exchanged
in transacting these goods and services; through history, temples have been major sources of
generation of economic activity. So, ideological institutions again have a strong bearing on
economic activity. Now, the reason why standard economic theory
has not bothered much about institutions? The reason why we do not talk of the role
of institutions for instance in the theory of the firm? Why we do not talk of the role
of institutions for instance in consumer behaviour? Or why we do not talk of institutions for
instance while talking about money illusion? Or any such economic concept, the reason we,
why we do not talk about institutions is that, economic theory has in a major shielded itself
by making certain postulates about the state of the world within which the theory functions. For instance, the postulate of hedonism, economic
theory rusts on the assumption that people are all pleasure seekers and pain avoiders.
It is an old utilitarian postulate which goes back to early 19 th century and it starts
with the belief that everybody is fundamentally trying to avoid pain and seek pleasure.
Now, this definition of human beings considerably restricts the number of things which you can
assume the human being to be concerned with. Can we ask are there not large number of things
which are not simply pleasure seeking activities which the human being is associated with?
The answer would be yes, of course, but you can always find out that every activity even
if it is not apparently a pleasure seeking activity actually ends up to be a pleasure
seeking activity. The other face the other face of this assumption,
other face of this postulate is the assumption that people are maximizing utility, seeking
pleasure is another way of saying and more technically in economics, we say people are
maximizing utility. So, when I am saying I am helping somebody, I am being altruistic,
the hedonist can always turn around then say, of course I am helping people, because it
maximizes utility, I get a kick out of helping people. So, the fundamental assumption is
whatever you do, even if you are not hedonistic, you are being hedonistic that is central in
economics. That is the one way the subject shields itself
from non essentials, at least non essentials from theoretical point of view. The second
assumption which is central to this which is corollary of this hedonistic argument is
that people are rational. In other words, there is not much of an unconscious or a subconscious
aspect of the mind which enters people’s activity. If they are not only hedonistic,
but they calculate the odds, each time they undertake a hedonistic activity; in other
words, they look at the constraints within which the activity is possible and they tried
to maximize the gain of pleasure or utility, or whatever it is that they are seeking to
maximize within the constraints. Now, this working within constraints and maximizing
the results is a standard definition of what is economic rationality.
The third which is central postulate of economics is that, most economic situations are predictable,
most economic situations are predictable in the sense that you can anticipate that they
are going to happen. There is fairly considerable repetitiveness about economic situations and
therefore, it is possible to anticipate economic situations with a fair amount of ease.
Now, this predictability of economic situations is one which enables the economist to pronounce
the laws in in economics. All the laws in economics assume that human human behaviour
is predictable; the law of diminishing utility for instance, assumes very centrally or even
postulates that there is predictability about human behaviour which enables you to identify
enough evidence for this law. So, the predictability of human conduct is a very central postulate
within economics which is not very visible, but it is there and finally, almost all of
economic theory starts with a very perfect word where people know everything.
In fact, the finest economical ideal is a ideal of a Walrassian market in which people
come in the thousands to a country market with perfect knowledge, each person knows
exactly everything about the market and everything about the goods and the terms and conditions
under which transactions are being held so that there is no uncertainty. And we know
that perfect knowledge which is the same as the perfect certainty is the other face of
the Walrassian economy. Now, it is because of these central postulates that we find that
economic theory shields itself as it were among a wall of postulates. However, this does not mean that institutions
can be overlooked, our purpose here is to show that there are all kinds of institutions,
institutions which are constantly not only circumscribing economic activity, but are
also constantly providing directors and markers for economic conduct. As a result of this,
we cannot simply assume that profit is maximized by firms, what is important is to know the
manner in which they behave in order to maximize profits and the manner in which they behave
is always circumscribed by institutions. There are political and economical institutions,
there are cultural institutions which every firm faces all the time in the business of
maximizing profit. So, the simple business of equating marginal
cost with marginal revenue to maximize profits is really not all, there is a whole lot of
behaviour, there is whole economic conduct within institutions that lies behind this.
There are basically three approaches, which we find that study institutions, one approach
which studies institutions is a Marxian approach. The other approach which studied institutions
is the transaction cost approach used usually by, what are these rays called institutional
economists. The third approach is a social or cultural or economic anthropological argument
which talks of the interrelatedness between social institutions and economic conduct.
Let us look at these in some detail, Marxian approach in a sense can be said to be deterministic.
When we say determinism, we mean that there is a logic behind economic processes which
pushes the economy in particular directions which are predictable. In Marx, the determinism
comes from a particular type of history with which he is preoccupied and it also comes
from a certain type of materialism which is unique to Marx. We all know that Marx uses
the method which we know as historical materialism, it is a historical approach, it assumes that
human conduct evolves through history or transforms through history.
And the compulsions underlying the transformation of human activity are material compulsions
and therefore, it is historical materialism. In the case of Marx, historical materialism
involved a combination of two different types of approaches that existed in the 19 th century.
One was materialism which had become significant in the first half of 19 th century as a major
preoccupation among European thinkers, the other was the idea of dialectics which was
part of Hegelianism as a philosophy at the same time as Marx.
Let us look at these two things in a little bit of detail so that we may be able to understand
Marx and his institutionalism in some depth. Materialists believe that everything can be
tracked down to the material origins of the thing. In other words, materialist do not
accept any other universe of discourse than the material universe of discourse, there
is no metaphysics within materialism, there is no spiritualism within materialism, there
is no concerned with religion in materialism. If it, if there is, then the concern of materialists
with religion is a materialistic concern of religion.
In short, if materialists are concerned with religion, we are concerned not with the metaphysical
speculative aspect of religion, with their concerned with, how people spend money? How
people create employment? How people conduct economic activities in the name of religion?
In short, materialism is a form of belief which assumes that everything has material
causes and everything has a material function to perform in this world. So, Marxian materialism
goes back to this tradition of materialism, where by nothing non material is assumed to
exist as a basic cause and effect of consequence of human action.
The other face of Marx Marx as we saw was dialectics, dialectics as we know is Hegelian
in origin, it is different from dialectics in the Greek sense. Dialectics at the time
of Aristotle, for instance meant debate, a dialectician among the Greeks was a man who
indulge in debates on various matters, whereas a dialectician post Hegel was a person who
believed in the philosophy of the unity of the opposites. In Hegelian philosophy, the
universe is constituted of a large number of unities of opposites, each thing, each
situation, each historical epoch in Hegelian thinking was assumed to consists of seeds
of its own destruction. In short, if in an epoch, there were forces
which constitute the dominant leadership of that epoch, there were forces which tended
to resent that epoch; they tended to work against the interest of epoch. But together,
the two forces, those which tended to perpetuate the epoch and those which tended to oppose
it are a unity, together they constitute the epoch and which is why, Hegelian arguments
talks of unity of the opposites. Now, forces which constitute the defense of
the epoch are usually referred to as a thesis, forces which constitute the opposition to
the epoch are usually those factors which are referred to as antithesis and together
they constitute a thesis consisting of an antithesis and a thesis I am sorry they constitute
a synthesis together constituting a thesis and an antitheses. But this is not a static
situation, because when there is contradiction, there is dynamics, when there is contradiction,
there is tension. So, the contradiction and tension among these opposed forces within
the society over a period of time develops into a conflict and eventually, one of the
forces usually the antitheses over throws the theses and results in a new epoch and
new synthesis. So, human history is concede of by a Hegelians
as a series of leapfrogging movements from a synthesis to synthesis to synthesis to synthesis.
And in each epoch, there is a unity of opposites, there is a contradiction between thesis and
antithesis and this history. Now, this Hegelian version of history is taken in by Marx and
combined with materialism. Marx, for instance combines the idea that material forces constitute
everything in human life with the idea that there is a unity of opposites, the genius
of Marx lay in framing dialectics within material confines.
And in order to do this, Marx develops his own concepts, the central concept in Marx
then is a concept of mode of production. A mode of production is the way the production
process and the material resources involved in the production process, the material relationships
involved in the production process or organized at any point in time during any epoch. The
mood of production is the way whole society is organized around its productive resources,
central to this mode of production is the economic part of it where production happens
with there are conditions of technology, conditions of resources, conditions of nature within
which production happens, which are production conditions and there are there are relationships
among people who are involved in this production process which are production relations.
So, there is an economic base to every mode of production which is nothing but, a combination
of production conditions and production relations, this economic base is the one which is responsible
for the organization of the resources of the economy into output, into earnings, into income,
into spending, in expenditure and growth. Around this economic base are organized institutions
of property, institutions of marriage and family, which in many Marxian writings he
said to be institution of property itself, because family is said to be a property, marriage
is said to be property relationship, among many Marxists writings.
So, the fact of the matter is social institutions, political institutions and cultural institutions
are owen in an around the economic base, they are not independent of the economic base in
Marxian argument, they are very much part and parcel of the way the economy is organized,
For example, if you have a capitalist system, then you have a dominant production relation
which is the relationship of workers with the employers of workers.
This is a dominant production relationship and this happens within the conditions of
production possible which is the technologies, which is also the resource constraints facing
the capitalist producers. But more importantly, surrounding this production relationships
are a whole lot of social and political relationships and economical relationships which are not
just in production which lie, seem to lie outside of the production.
For example, institutions or property are not directly concerned with production, but,
institutions or property are very much at the back drop of all production relations.
A capitalist is a capitalist, because the institutions of property legitimize his position
in the society. A worker is a worker, precisely because, his his sale, his marketing of his
working power, his labour power as a commodity in the system is legitimized by the laws of
capitalism. In short, all the political institutions surrounding
production relations of capitalism, all the social relationships surrounding the production
relations of capitalism constitute virtually the super structure of society which is constructed
on the economic base. In short, this is the reason why Marxism is considered a deterministic
school of thought, for the simple reason that everything here pushed in one direction by
the centrality of production relations in Marx, be that as it may.
It is important to note at this point that the role of institutions in Marxism becomes
clearly explained in terms of the role of production relations which lead to these institutions.
For example, many social institutions in India are analyzed and studied by Marxist in very
typically Marxian class contradiction terms. The relationship between the landowner and
worker in rural areas is often interpreted by sociologist and anthropologist in terms
of the caste relationship, the dominant members of the group of workers are said to constitute
a particular caste in the village. The dominant members of the employers are said to constitute
another caste in the village. So, while the social anthropologists would look at the villages
a caste society, the Marx’s would look upon the village as a class society, he would look
upon the formation of castes as a settled and concealed form of formation of classes
in the village. So, much, so that the analysis of relationships
among castes would in Marx systems be the same as analysis of relationship among classes.
In short, caste relationship are part and parcel or production relations within the
Marxian framework of analysis, this is crucial because Marxist tends to believe, I repeat
that material forces are central and dominant and they are deterministic. So, institutional
explanations or explanations of institutions by Marx and Marxist are centrally through
production processes and production relationship. For a long time, there was a dispute about
whether super structure was really a super structure, whether there was autonomy at all
to social institutions and so forth. Now, one of the persons who questioned this was
a great sociologist Max Weber. Max Weber said that, power that people exercise to others
was a domain of its own, it had nothing to do with fact that the power was related to
money or wealth or assets or resources. Weber argued that power was exercised, because
it mattered on its own, power was not exercised in order to capture resources. So, the Marxian
argument that everything was tied to ownership of means of production was not accepted by
Weber, Weber said power was a discoursed of its own in society and a lot of Weberian writings
enforce this position. But to the Marxist, Weberian arguments were not acceptable; to
the Marxist, the centrality of material forces even in power and domination was unquestionable.
So, the Marxian approach to the institutions is a dialectical approach, it is a materialist
approach. The Marxist would argue that the whole of democracy in a capitalist sense was
nothing but, the organization of a political system to suit the interest of the profited
class which constitutes the capitalist. For example, all of modern democracies according
to Marxists guarantee the ownership of property, the right to property. According to Marxist,
this is because these societies are also capitalist societies, there is no right to property to
the workers who have sold everything that they have. In other words, the societies clearly
demarcated into those who own property and most of others who do not own property.
In short, the political organization of society and its laws, not just the laws of the property,
but the laws surrounding the upholding property, the laws surrounding the enforce of enforcement
of property rights, the laws surrounding the institutions of law making, the laws surrounding
the institutions of law enforcement. In short, virtually every political institutions within
the societies according to Marx’s centers around the fact that it is a capitalist production
relation, which is the reason many socialist society, socialist countries in the 1950’s
and 60’s declared themselves as true democracies. Many socialist countries, for instance would
said democratic republic of x, y or z; they would say this, because in the Marxian argument
true democracy is one where property rights did not come in the way of the rights of people
with each other. So, they believe that in a society which is socialist where property
rights were not legal, where property rights were not permitted, where property rights
were not own, it is these societies which were true democracies. In other words, where
the dictatorship h, the rule of the communist party was guaranteeing equality of everybody
within the legal system irrespective of whether they own property or not, this is a true democracy
according to many socialistic societies. So, in Marxian system, the law making and
the legal institutions are always considered as a secondary, because there caused influence
and directed by the way production is organized in these societies. So, all arguments of liberalism
is considered by Marxists as arguments upholding capitalism, individual rights, individualism,
all these things are acceptable only because the individual is considered an isolated isolated
member of the society and has nothing to do organically with other members of the society.
And therefore, according to Marxists, a society which guarantees individualism is also society
which guarantees property which also guarantees production relationships of the capitalist
type. So, there is no difference in the eyes of a Marxists between and so called liberal
institutions and capitalist institutions, it is a matter of degrees, it is a matter
of grades. Somewhere in his famous writing called German
ideology, Marx says, I am paraphrasing. During the development of capitalism, there emerges
a group of capitalists who pretend that they are not capitalists, who pretend that they
are very different and who pretend, in fact, they have nothing to do with capitalism. But
when the capitalist society itself is endanger, all such artificial drifts among capitalist
quickly vanished. In short, Marx is probably referring at this point in time to the liberals
who tend to believe that, they believe in rights of the individual as superior to any
other rights including property rights. Marx was probably arguing that the rights to individual
are significant as long as a individuals have property. If the individuals do not have the
property, then there is probably a question of whether the rights of individuals mattered
at all. So, all political situations, all ideological
institutions are part of superstructure and therefore, cause an engendered by production
relations within the society, what about religion? What about religious institutions? As Marx
studied religious institutions, he felt that very often religious institutions were used
as a cover to conceal the fact that there is exploitation going on within the society,
very often Marx’s is argued that religious arguments were used to pacify people so that
they may not perceive they were being exploited by others in the society. It is from these
beliefs that the famous statement attributed to Marx comes, religion is opiate of the masters.
To sum up the Marxian view, to sum up the Marxian view, it could be argued that all
institutions constitute the super structure of the mode of production.
The mode of production itself consists of two components, the superstructure and the
economic base. And the economic base consisting of production conditions and production relations
plays the dominant role within the mode of production, all institutions within the superstructure
are institutions which arise or which exist in order to support, perpetuate a particular
mode of production so that you have whole lot of political institutions which are capitalist
within the capitalistic society, you have you have a whole lot of political situations
which are feudal within the feudal society, monarchy for instance is a part of feudalism.
You have a whole lot of social relationships which are part of particular modes of production,
which confirm to particular production relations. Indian caste system and the rural hierarchies
that a result out of caste are considered by Marxist as a part of feudal or semi feudal
organization of rural India, as a result of which societies organized into, exploitative
castes and exploited castes. In the 1960’s, there was a considerable
debate among Marxist in India about the categorization of Indian rural society, while some members
of the Marxist thinkers attributed to feudalism, a lot of things that was found in rural in
India including caste. Others like great economist Amit Bhaduri attributed to a phenomenon called
semi feudalism, all institutions of caste in caste relationships.
In short, Marxian association with rural India, Marxian association with rural indian society
a strongly again lain within the boundaries and limits of materialism, boundaries and
limits of their preoccupation with modes of production within which are central the production
relations. While this is the Marxist view of institutions,
there are other views of institutions, which lie and diametric contrast to the Marxist
view. Two of which we shall examine a a short while later, one is a transaction cost approach,
which is the approach of modern institutional economist, like Douglas North. And then there
are the economical and social anthropological approaches which in which we find prominent,
the approaches were Max Weber, the approaches by Emile Durkheim and in India, in the writings
of the great sociologist M. N. Srinivas. We shall consider these options after the break.