Chapter 1: A Modified Approach to Development Economics
1. A modified approach to development economics The standard theory of markets . . . is like an otherwise superb stool that has only two legs (Mancur Olson) The institutional approach to economics, coined as new institutional economics (NIE), has come to play an increasingly important role in the past few decades in explaining the economic development phenomena. Though NIE has its roots in firm theory and behavioral theory, it has pronounced implications for, and close interactions with, many other disciplines such as history, political science, game theory, law, sociology, anthropology and psychology. The focus on institutions in explaining economic development has been reinforced with the development of collective action theory and contributions to game theory, which, combined with NIE, have paved the way for new development economics: NDE. This chapter reviews the underlying theories of NDE and explores the fundamental role of institutions in explaining economic development.1 It thus helps build the framework for the analysis of macroeconomic institutions whose roles in development are explored in the remainder of the book. The organization of this chapter is as follows: Section 1.1 reviews the earlier major theories of development and section 1.2 provides a discussion of the essential role of institutions and NDE in understanding economic development. Section 1.3 provides an overview of two central pillars of NDE: the theories of transaction cost and collective action. Finally, section 1.4 discusses the linkage between dialectics and institutional evolution. 1 2 Macroeconomic institutions and development 1.1 THEORIES OF ECONOMIC DEVELOPMENT IN PERSPECTIVE Kuhnen (1987) defines...
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