Institutional economics
Lecture 1:
Neoclassical Economics is an approach to economics that focuses on
how individuals and firms make rational choices to maximize utility and
profit under conditions of scarcity. It emphasizes supply and demand,
marginal analysis, and equilibrium in markets, assuming that agents have
rational expectations and that prices adjust to balance markets efficiently.
So, aiming for Pareto optimal outcomes where no one can be made better
off without making someone else worse off.
Institutional Economics is defined as a field of economics that studies
how institutions influence the capabilities and behavior of economic
actors, impacting economic productivity and innovation. It examines
various institutional aspects such as market economies, business
structures, and innovation systems to understand their effects on
productivity and growth.
Why do we have institutional economics?
Institutional economics exists because of the limits of the
neoclassical economics. Institutional economics is all about trying to
complement neoclassical economics to overcome the failure and
limits of neoclassical economics.
- Methodological individualism and reductionism say that
the relevant object of the study can only be the individual.
Collective entities can be understood by analyzing the actions
of the individuals, since ‘the whole is the sum of its parts’.
- Exogenous individual preferences that are static and do
not change over time. According to the institutional
economists, preferences can change and are influenced by
political, social or cultural circumstances. So, institutions are
endogenous.
- Instrumental (perfect) rationality in which the individual
always chooses the strategy that maximizes its expected
utility. According to the institutional economists, there is
bounded rationality, since economic actors are embedded in
different cultures and contexts.
- Perfect information when each player, when deciding, is
perfectly informed of all the events that have previously
occurred, including the initialization event of the game.
According to the institutional economists, there is imperfect
information.
,Summary of the differences between neo-classical economics and new
institutional economics:
According to Douglass North, institutions are the ‘Rules of the game’,
more formally, the humanly devised constraints that structure human
interaction. They are composed of formal rules (statute law, common law,
regulations), informal constraints (conventions, norms of behavior and self-
imposed codes of conduct), and the enforcement characteristics of both.
Institutions are systems of man-made rules that structure behavior
and social interaction.
- Formal institutions: everything that is cultivated
(government/firm/religious etc.)
Left side of the square
State-order institutions
- Informal institutions: everything about
culture/different norms etc.
Right side of the square
Private-order institutions
Economic institutions:
1. Specific agencies or foundations,
both government and private, devoted
to collecting or studying economic
data, or commissioned with the job of
supplying a good/service that is
important to the economy (CBS, EU
Central Bank)
2. Well-established arrangements
and structures that establish rules of the game, e.g., competitive
, markets, the banking system, kids’ allowances, customary tipping,
and a system of property rights are examples of economic
institutions.
Lecture 2:
Old institutional economics:
It appeared as a reaction to Neoclassical Economics, and it
developed quickly in the beginning of the 20th century.
The central goal was to understand the transforming actions of
institutions and market mechanisms over time.
Veblen, Commons, Mitchell, Ayres, Polanyi, etc.
They criticized Neoclassical economics’ static view of the economy. The
Old institutional economists considered the economy as dynamic and
evolutionary. We need to understand the historical evolution of
institutions and systems of economic exchanges.
Imperfections are part of free markets, that is why we need
institutions to govern exchanges.
We need empirical studies to understand complex realities (a
diversity of methodologies and a focus on multidisciplinarity).
In institutional economics we consider that there is a dual direction
between human action and institutions:
Institutions are the result of human action (it is construct by
individuals). Once they are instituted, these institutions influence the
way we individually behave.
The whole is greater than the sum of its parts (holistic
perspective); institutions play a role in going from individual levels
to aggregate ones.
Markets result from historical progress, just like other institutions (they are
not natural laws that are the same everywhere). A market is a
fundamental institution for the capitalist system to function. We need state
intervention to turn this market process towards the public purpose
because markets were focused on self-interest.
This dynamic approach resulted in two perspectives of economics:
Substantive view of the economy: an instituted process of
interaction between human beings and their natural and social
environment. (OIE)
Lecture 1:
Neoclassical Economics is an approach to economics that focuses on
how individuals and firms make rational choices to maximize utility and
profit under conditions of scarcity. It emphasizes supply and demand,
marginal analysis, and equilibrium in markets, assuming that agents have
rational expectations and that prices adjust to balance markets efficiently.
So, aiming for Pareto optimal outcomes where no one can be made better
off without making someone else worse off.
Institutional Economics is defined as a field of economics that studies
how institutions influence the capabilities and behavior of economic
actors, impacting economic productivity and innovation. It examines
various institutional aspects such as market economies, business
structures, and innovation systems to understand their effects on
productivity and growth.
Why do we have institutional economics?
Institutional economics exists because of the limits of the
neoclassical economics. Institutional economics is all about trying to
complement neoclassical economics to overcome the failure and
limits of neoclassical economics.
- Methodological individualism and reductionism say that
the relevant object of the study can only be the individual.
Collective entities can be understood by analyzing the actions
of the individuals, since ‘the whole is the sum of its parts’.
- Exogenous individual preferences that are static and do
not change over time. According to the institutional
economists, preferences can change and are influenced by
political, social or cultural circumstances. So, institutions are
endogenous.
- Instrumental (perfect) rationality in which the individual
always chooses the strategy that maximizes its expected
utility. According to the institutional economists, there is
bounded rationality, since economic actors are embedded in
different cultures and contexts.
- Perfect information when each player, when deciding, is
perfectly informed of all the events that have previously
occurred, including the initialization event of the game.
According to the institutional economists, there is imperfect
information.
,Summary of the differences between neo-classical economics and new
institutional economics:
According to Douglass North, institutions are the ‘Rules of the game’,
more formally, the humanly devised constraints that structure human
interaction. They are composed of formal rules (statute law, common law,
regulations), informal constraints (conventions, norms of behavior and self-
imposed codes of conduct), and the enforcement characteristics of both.
Institutions are systems of man-made rules that structure behavior
and social interaction.
- Formal institutions: everything that is cultivated
(government/firm/religious etc.)
Left side of the square
State-order institutions
- Informal institutions: everything about
culture/different norms etc.
Right side of the square
Private-order institutions
Economic institutions:
1. Specific agencies or foundations,
both government and private, devoted
to collecting or studying economic
data, or commissioned with the job of
supplying a good/service that is
important to the economy (CBS, EU
Central Bank)
2. Well-established arrangements
and structures that establish rules of the game, e.g., competitive
, markets, the banking system, kids’ allowances, customary tipping,
and a system of property rights are examples of economic
institutions.
Lecture 2:
Old institutional economics:
It appeared as a reaction to Neoclassical Economics, and it
developed quickly in the beginning of the 20th century.
The central goal was to understand the transforming actions of
institutions and market mechanisms over time.
Veblen, Commons, Mitchell, Ayres, Polanyi, etc.
They criticized Neoclassical economics’ static view of the economy. The
Old institutional economists considered the economy as dynamic and
evolutionary. We need to understand the historical evolution of
institutions and systems of economic exchanges.
Imperfections are part of free markets, that is why we need
institutions to govern exchanges.
We need empirical studies to understand complex realities (a
diversity of methodologies and a focus on multidisciplinarity).
In institutional economics we consider that there is a dual direction
between human action and institutions:
Institutions are the result of human action (it is construct by
individuals). Once they are instituted, these institutions influence the
way we individually behave.
The whole is greater than the sum of its parts (holistic
perspective); institutions play a role in going from individual levels
to aggregate ones.
Markets result from historical progress, just like other institutions (they are
not natural laws that are the same everywhere). A market is a
fundamental institution for the capitalist system to function. We need state
intervention to turn this market process towards the public purpose
because markets were focused on self-interest.
This dynamic approach resulted in two perspectives of economics:
Substantive view of the economy: an instituted process of
interaction between human beings and their natural and social
environment. (OIE)
