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Institutions, Contracts and Organizations

Institutions, Contracts and Organizations

Perspectives from New Institutional Economics

Edited by Claude Ménard

This outstanding book presents new original contributions from some of the world’s leading economists including Ronald Coase, Douglass C. North, Masahiko Aoki, Oliver E. Williamson and Harold Demsetz. It demonstrates the extent and depth of the New Institutional Economics research programme which is having a worldwide impact on the economics profession.

Chapter 19: A cognitive science perspective on legal incentives

John N. Drobak

Subjects: economics and finance, industrial organisation, institutional economics


279 19. A cognitive science perspective on legal incentives John N. Drobak* Douglass North has explained that sailors will become pirates if society creates incentives for piracy and that pirates will become traders when society creates incentives for trade. It goes without saying that incentives are one of the cornerstones of new institutional economics, as well as of neoclassical price theory itself. Legal rules are vitally important to new institutional economics because they can create incentives for socially and economically productive conduct. In judging the incentives created by legal rules, scholars frequently assume that people respond rationally, as prescribed by the theory of rational choice. Philosophers since the age of Enlightenment have equated human reason with the laws of probability and logic (Chase et al. 1998, p. 206.). This has been refined and formalized over the years so that the modern view of human behavior incorporates two complementary models: expected utility theory and Bayes’s theorem.1 These models view human decision making to be like that of a computer – knowing, ordered, logical and calculating. The two models, usually lumped together as rational choice theory, play a central role in much of modern social science, including both economics and law. (Jolls et al. 1998, p. 1488; Knight and North 1997, p. 211; Satz and Ferejohn 1994, p. 71). The models have become so powerful to some social scientists that they see the models ‘as norms against which human reasoning can be evaluated rather than as a codification of it: when...

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