NEW INSTITUTIONAL ECONOMICS FOR PUBLIC POLICY:
AN OVERVIEW
PROF WIHANA KIRANA JAYA
INSTITUTIONS
Institutions are the humanly devised constraints that structure political, economical
and social interaction.
They consists of both informal constraints (idioelogy, sanctions, taboos, customs,
traditions, and codes of conduct), and formal rules (constitutions, laws, property
rights)
Throughout history, institutions have been devised by human beings to create order
NEW INSTITUTIONAL ECONOMICS
New Institutional Economics
incorporates a
theory of
institutions
- laws, rules, customs,
and norms - into economics. It
builds on, modifies, and
extends neoclassical theory
.
New Institutional Economics objects to the
notion that the "laws" constructed by
Neoclassical
economists were timeless
generalizations
and contended instead that
the
economic behavior of men
, like any
other human activity, had to be analyzed in
terms of the social context in which it was
imbedded.
Neoclassical
Economics
New
Institutional
Economics
allocation of scarce
resources among
alternative uses
how the institutional structure
evolved and how institutions
reflected the prevailing
social/political/economic
THEORETICAL BUILDING BLOCKS
Principal-Agent Theory
Formal-Informal Institutions Theory
Transaction Cost Theory
Property Right Theory
THE INDIVIDUAL AND THE INSTITUTIONAL STRUCTURE
TYPES OF INSTITUTIONS
Rules
Enforcement mechanism Example
1. Convention
Self enforcement
Language
2. Ethics
Imperative self binding
Being a veterinatian
3. Norms
Social enforcement
Social codes of conduct
4. Formal private rules
Organized private
enforcement
Self imposed rules inside
organisations
5. Law
Organized state
enforcement
Business Law
ECONOMIC ANALYSIS OF INSTITUTIONS
Institutions
Formal and informal rules at different levels
Emergence, causes, effects, evolution
Economic Analysis
Methodological Individualism
Utility maximization (benefits and costs)
Incomplete and costly information
Bounded rationality
Opportunism
BOUNDED RATIONALITY AND OPPORTUNISM
Bounded Rationality
Incomplete information
Incomplete processing of information
All complex institutions are incomplete
Opportunism
Taking advantage of information asymmetries
Following self interest with the help of guile (lying, cheating)
FOUNDATIONS OF NIE
Ronald Coase (Law and Economics)
1937
–
The Nature of the Firm
1960
–
The Problem of Social Costs
1974
–
The Lighthouse in Economics
Douglass North (Economic History)
1973
–
The Rise of the Western World
1981
–
Structure and Change in Economic History
1992
–
Institutional Change and Economic Performance
Oliver E. Williamson (Economics and Organization)
1975
–
Markets and Hierarchies
1985
–
Economic Institutions of Capitalism
ANALYTICAL LEVELS OF NIE
L1 L2 L3 L4 often noncalculative, spontaneous10² to 10³
Embeddedness: Informal Institutions, Customs,
Tradition,Norms, Religion Social Theory FREQUENCY (YEARS) PURPOSE LEVEL THEORY
10 to 10²
get the Institutional Environment right, 1st order economizing Institutional Environment:
Formal Rules of the Game –esp. Property (Polity, Judiciary,
Bureaucracy)
Economics of Property Rights, Positive Political Economy
1 to 10 get the Governance structure right, 2ndorder economizing
Governance:
Play of the Game –esp. Contract (aligning Governance Structures
with Transactions Transaction Cost Economics
Resource
Allocation and Employment (Prices and Quantities, Incentive
Alignment) continuous
get the marginal conditions right, 3rdorder
economizing
Neoclassical Economics/Agency Theory
BRANCHES OF NIE
Transaction Cost Economics (Coase, Williamson, North)
Property Rights Theory (Alchian, Demsetz, Furubotn, Bromley, Barzel)
Contract Theory
Principal Agent Theory (Stiglitz, Tirole)
Incomplete Contract Theory (Hart, Moore)
New Economic History
QUESTIONS ADDRESSED BY NIE
Effects of institutions, e.g. property rights, on
Resource allocation
Income distribution
Incentives (efforts, investments, innovation)
Transaction costs
Choice and change (evolution) of institutions
Designed or spontaneous development?
Efficiency or distribution oriented
RESEARCH QUESTIONS FOR UU SJSN DAN JKN ???
L1 L2 L3 L4 EFFECTS Embeddedness: Informal Institutions, Customs,Tradition,Norms, Religion
Institutional Environment: Formal Rules of the Game –esp.
Property (Polity, Judiciary, Bureaucracy)
Governance:
Play of the Game –esp. Contract (aligning Governance Structures with
Transactions
Resource
Allocation and Employment (Prices and Quantities, Incentive
Alignment)
Econometrics/Experiments
CAUSES
Embeddedness: Informal Institutions, Customs,
Tradition,Norms, Religion
Institutional Environment: Formal Rules of the Game –esp.
Property (Polity, Judiciary, Bureaucracy)
Governance:
Play of the Game –esp. Contract (aligning Governance Structures with
Transactions
Resource
Allocation and Employment (Prices and Quantities, Incentive
Alignment)
Econometrics/Case studies
PROCESSES
Embeddedness: Informal Institutions, Customs,
Tradition,Norms, Religion
Institutional Environment: Formal Rules of the Game –esp.
Property (Polity, Judiciary, Bureaucracy)
Governance:
Play of the Game –esp. Contract (aligning Governance Structures with
Transactions
Resource Allocation and Employment (Prices and Quantities, Incentive
Alignment)
Case studies/Historical narratives
DATA CONSTRAINTS
L1
L2
L3
L4
Simple discrete to complex often intangible
(e.g. religion, belief system)
MEASURMENT
Simple discrete to very complex
(e.g. parliamentary vs. presidential system, proposal for EU constitution)
Simple discrete to complex:
(e.g. make or buy, complex contracting, modern corporations)
Simple continuous
(e.g. compensation rules, prices and quantities)
Small to medium
(e.g.. 12 main religions, 6.800 main
languages)
VARIANCE
Small to medium
(e.g. 5 legal origins, 192 states, 2005)
Large
(e.g. 2 915 482 firms in Germany, 2003)
Large to very large
(e.g. annual GDP, daily prices and quantities at the stock
market)
DATA SOURCES Poorly developed
GETTING PUBLIC POLICY EXAMPLE:
TAX AMNESTY INTO NIE PERSPECTIVE
The Four Levels of Institutional Analysis
These rules, norms and customs take a long time to change and are generally
found to have a strong underpinning in the religion, culture, and tradition of
society
sense of belonging towards nation through tax payment
This level is concerned with the contractual relations (contract
laws and enforcement)
transaction cost of tax amnesty
It deals with the lack of well-defined and secure property rights
property right conflict over tax amnesty
CONT’D
Transaction Cost
Andreoni (1991): the possibility of a tax
amnesty actually decreasing, rather than
increasing, the efficiency and equity of the tax
system.
Property Right
As the probability of an amnesty rises, and thus
the future opportunity to declare any
dishonesty free of penalty, people report less
income.
Contract
Stella (1991): if taxpayers
are in expectation
for
an amnesty, this situation may risk tax
CONT’D
Distributive
Justice
Social
Contract
CRITICAL ASPECT
Incentive Compatible
Contract
Costly State
Verification
CONT’D
On Distributive Justice
…
John Rawls
A Theory of Justice
(1971)
The distribution of economic benefits
and burdens could be affected by
government.
Governments continuously make
and change laws and policies
affecting the distribution of
economic benefits and burdens in
their societies.
Distributive justice is concerned with
the fair allocation of resources among
diverse members of a community.
Tax as a means of resource reallocation in society.
CONT’D
On Social Contract
…
Jean-Jacques Rousseau
Du contrat social ou
Principes du droit politique
(1750)
While each individual has a
particular will that aims for his
own best interest, the
sovereign expresses the
general will that aims for the
common good.
Man is born free, but he is
everywhere in chains.
John Locke
Second Treatise of Government (1689)
Social contract occurred
when men would transfer
some or all of their rights
to the government in
order to ensure a
comfortable living.
CONT’D
Taxpayers are encountered with
various factors that cause tax
incompliance:
Educational level
Age intervals
Income level
Religious perspective
What affects tax paying culture?
appropriate conditions for tax evasion and tax
avoidance
existence of policies designed with short-term
approaches
regulations for satisfying some certain groups
belief that tax systems are unfair and unequal,
psychological factors
inadequacy of inspection and audits by tax authorities,
immature moral obligation
inefficiency of coercion and deterrence mechanisms
