North describes institutions, and their importance to understanding historical economic performance as:
Institutions are the humanly devised constraints that structure political, economic and social interaction. They consist of both informal constraints (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 and reduce uncertainty in exchange. Together with the standard constraints of economics they define the choice set and therefore determine transaction and production costs and hence the profitability and feasibility of engaging in economic activity. They evolve incrementally, connecting the past with the present and the future; history in consequence is largely a story of institutional evolution in which the historical performance of economies can only be understood as a part of a sequential story. (North 1991, 97)10
While some of these constraints are embedded in individual behaviour and belief structures, these in turn are frequently shaped by wider community values and expectations. In other cases the institutions take on a much more concrete form – such as the bodies tasked with the enforcement of the formal
10 A somewhat simpler definition is given by Commons in defining ‘Institutional
Economics’: “An institution is defined as collective action in control, liberation and expansion of individual action. Its forms are unorganized custom and organized going concerns. The individual action is participation in bargaining, managing and rationing transactions, which are the ultimate units of economic activity. The control by custom or concerns consists in working rules which govern more or less what the individual can, must, or may do or not do” (1931, 648).
rules. Others, such as the minimum wage itself, take on both a concrete existence, as well as being an ethical symbol.
North’s definition here focuses on the role of these institutions in minimising transaction costs. That is, greater efficiency can be derived from the existence of the institution. A particular case, important to the subjects under discussion here, are the transaction costs of collective action. This question of efficiency also has both a long-term and short-term dimensions. Given the nature of the markets considered here, in particular the labour market, institutions need not just resolve an individual exchange at a point in time, but also enable longer-term relationships. Equally, the reduction of uncertainty with respect to family formation and reproduction requires institutional responses with a long-term focus.
In focusing on the efficiency of institutions, care needs to be taken in recognising that preference sets cover not just aspects of material wellbeing but also preferences as to the nature of relationships at the individual and societal level. North opens this scope, cautioning “however concerns about equity as well as the distribution of gains from trade, influence people’s views about the fairness and justness of contracts” (1986, 233). This is important to the subject here not just because of the existence of different preference sets, but because the question of ‘fairness’ is one, which in Sen’s terminology, is dependent upon the space in which it is considered. This question is explored further in section 2.7.
North argues that change arises from “fundamental and persistent changes in relative prices, which lead one or both parties to contracts to perceive they could be better off by alterations in the contract” (234). While this can be seen as one potential cause, some caution needs to be given to any assumption that an outcome, or institution, at any one time represents a stable equilibrium.11
While institutions can be seen as a means of coordination and improving efficiency, they can also provide opportunities for rent-seeking behaviour, and to the extent they seek to encapsulate some norms, these do not necessarily reflect the diversity of individual preferences or circumstances, and hence provide some with greater benefits than others. 12 Under more extreme
circumstances they can lose focus on their initial rationale, and become self- interested, or their purpose becomes poorly understood, and rather than just creating order to minimise transaction costs, they seek to preserve a particular form of order.13 In time however this conduct becomes costly and may
generate pressure for change.
11 This stability can be seen both in terms of classical interpretation of an equilibrium
to which a market may return after an exogenous shock, and in a political sense, of the extent of commitment to the achieved outcome or institution.
12 That is while they may reduce transaction costs and reduce uncertainty for some,
they may increase it for others.
13 Olson in his book The Rise and Decline of Nations describes this type of process in
terms of the emergence of “distributional coalitions” which “interfere with an economy’s capacity to adapt and change and to generate new innovations and therefore do reduce the rate of growth” (1982, 62). Hence, while there may be pressure for change, this can be distorted and thwarted.
Institutional change can, and indeed in most cases tends to, be incremental, rather than revolutionary. A number of factors contribute to this. The first is the sunk-cost associated with the establishment of an institution, and the high transaction, including coordinating, costs of change. This is exacerbated by the extent to which there is risk attached to the change. Secondly are the issues associated with rent seeking, including the degree these institutions will seek to minimise change to maximise the preservation of rents. Thirdly are constraints because of the interrelationships with other institutions as part of a wider system. To the extent change is incremental, and the development of new institutions costly, change can often be seen as being path dependent. That is, to the extent it occurs and new institutions are developed, the set of options can be constrained by what has gone before. Such path dependence however should not be construed to mean that change is path determined. Rather, within a set of constraints, a range of options are available for change. Nor should it be seen as being limited to mere incrementalism. That is where the gains are high, new institutions can be established, whether of a formal or informal nature, which can be radically at odds with what went before.14
A further challenge for institutions is that in their role of codifying a particular structure they can face difficulties in coping with major paradigm shifts, or the coexistence of, and or transition between, two opposed paradigms or sets of constrained preference sets.15
Richter (2005) suggests that North’s concept of a ‘New Institutional Economic History’ relates to the interaction between the “polity and the economy” (177) before stating “North assumes imperfect individual rationality and emphasizes the role of ideology”, although Zimbauer’s characterisation of “imperfect information and bounded rationality” (2001, 10) is probably a more useful expression.
Coase, in reference to ‘New Institutional Economics’ emphasises that “modern institutional economics should study man as he is, acting within the constraints imposed by real institutions. Modern institutional economics is economics as it ought to be” (1984, 231). This is not to omit however the fundamental economic drivers, and their basis. Here he observes, with respect to earlier American institutionalists, that they “were not theoretical but anti- theoretical … without a theory they had nothing to pass on except a mass of descriptive material waiting for a theory, or a fire” (230).
While these theoretical considerations around institutions are important, they are not the focus here. As discussed by Steinmo (2008, 118), although the terminology of ‘Historical Institutionalism’ was not coined until the 1990s, this
14 It is in this sense that the sequential nature of history and institutions to which
North alludes can be understood. Such sequences are not just independent episodes occurring one after another, but rather are processes, or a series of outcomes and institutions, that can be related to what has come before.
15 This as will be seen later can be viewed as the challenge Australian institutions
faced in the transition of married women from being engaged in domestic production to being participants in the paid workforce.
post-dated the application of this approach by at least several decades, if not half a century.16