Theory and Evidence
Chapter 1: Introduction
This study is about economic performance – both the long-run performance of developing countries, as well as short-run fluctuations in the advanced market economies. The neoclassical view, which continues to dominate mainstream economic theory, postulates that the problems of growth and development can be solved without reference to the institutional dimension of markets. Reflecting on this issue, Furubotn and Richter (2005: 1) state that ‘as the technical development of neoclassical theory has progressed and economic models have become increasingly abstract, institutional phenomena have received less and less attention’. The standard free market paradigm of this theory holds that unfettered markets are efficient and self-adjusting. Further, it is argued that given the natural ability of the market mechanism, under certain conditions which enable competitive markets to be established and optimality conditions to be achieved, interfering with its functioning will reduce the impact of existing resources on incomes and welfare. It is of course accepted that there are caveats to this paradigm. The existence of public goods or externalities can cause free markets to be sub-optimal. Unfettered markets can also be characterised by persistent unemployment. But as Stiglitz (2010: 17) indicates, although a considerable body of economic theory now exists which shows that unfettered markets do not yield efficient solutions even when small and realistic changes are made to the model – e.g. when there are information imperfections or asymmetries (Greenwald and Stiglitz 1986, Grossman and Stiglitz 1980) – this view continues to be the ‘ruling’ or ‘standard’ paradigm in economics. Thus, until very recently,...