Commitment, Coercion, and Markets: The Nature and Dynamics of Institutions Supporting Exchange

Abstract

Markets rest upon institutions. The development of market-based exchange relies on the support of two institutional pillars that are, in turn, shaped by the development of markets. Research in the field of new institutional economics has largely focused upon one such institutional pillar-'contract-enforcement institutions'-that determine the range of transactions in which individuals can commit to keep their contractual obligations. Yet, markets also require institutions that constrain those with coercive power from abusing others' property rights. These 'coercion-constraining' institutions influence whether individuals will bring their goods to the market in the first place. This chapter's discussion of market-supporting institutions is geared toward the issues we know the least about. First, the dynamics of market-supporting institutions and the implied dynamics of markets; second, the inter-relationships between the dynamics of market-supporting and political institutions where the latter comprise the rules for collective decision-making, political rights, and the legitimate use of coercive power. It argues, in particular, that neither the assertion that liberal political institutions lead to markets nor that markets lead to liberal governance are supported by theory or history. Markets and political institutions co-evolve through a dynamic inter-play between contract-enforcement and coercion-constraining institutions.Many successful market economies have prevailed in the past; there were adequate market-supporting institutions. Early successes, such as those in the Islamic world or China, were not indicators of later development. It was the commercial expansion that began in Europe during the late medieval period that led to the development of markets that support the complex, dynamic modern economy with its wide-scale reliance on impersonal exchange. Why didn't early success lead to subsequent market expansion? More generally, what does determine the dynamics of market expansion? Addressing these questions is a key to understanding the 'Rise of the West,' the operation of market economies, and the factors that still hinder market development.The argument advanced here is that markets can rest on different combinations of contract-enforcement and coercion-constraining institutions.

The First Globalized Economy: Privateers, Joint-Stock Companies, Commerce and the Rise of the United Provinces

“…There is a vast literature that verifies this (Demsetz, 1967;Αlchian & Demsetz, 1973;North & Thomas, 1973;North & Weingast, 1989;Νοrth, 1978, 1981, 1990Williamson, 1975Williamson, , 1991Greif, 2005;Besley & Chatak, 2010;Menard, 2014). This protection of property gave an extra boost to the rise of the Dutch economy.…”

Private ordering, collective action, and the self-enforcing range of contracts

“…This approach departs from the premise of many selfenforcement models that informal deals would be stable only when the long term pay-off associated to cooperative behavior would exceed gains from short term defection (Klein 1992;Lazzarini et al 2004;Greif 2005). Under these conditions, private multilateral reputation mechanisms would provide ex post incentives to not cheat.…”

“…Implementing multilateral reputation-based mechanisms involves much more complex rules (Greif 2005). In multilateral reputation mechanisms, the amount of sanctions must equal the sum of individual penalties defined by the loss of expected future streams of revenue obtainable if the commercial relationships among N members could be maintained.…”

“…However, Klein's model was focusing on bilateral agreements when confronted to the risk of contractual hold up. We extend the analysis to multilateral agreements and to problems of private third party enforcement in the more general context of collective action (Greif 2005). We illustrate with an example from the agricultural sector, the cattle industry.…”

“…These studies have essentially examined situations in which the absence of formal laws or state-enforcing capabilities leads agents to develop private mechanisms for guaranteeing contracts. Greif (2005) tentatively captured the difference between the two approaches through a distinction between intentionally designed private institutions and spontaneous organic institutions. 1 He also noted that we do not yet have a much needed body of knowledge about the respective efficiency of these devices, especially with regards to the functioning of such quasi-private institutions.…”