Contemporary Original Institutional Economics: Principles, Status, and Relationship with Other Heterodox Schools of Thought

Geoffrey E. Schneider
Geoff.Schneider@Bucknell.edu

This short paper attempts to capture some of the key principles of contemporary Original Institutional Economics (OIE), including the methods and theoretical approaches used by modern practitioners. The paper also takes up the state of Original Institutional Economics within the economics discipline, and the relationship of OIE with other heterodox schools of thought.

  1. To original institutional economists, the focus of economics analysis should be on institutions, power, and evolution.

The essence of contemporary Original Institutional Political Economy is the sophisticated and multifaceted analysis of institutions, along with how tendrils of power are manifested in institutional structures and relationships between institutions. Institutions in OIE are defined as “the organizations, social structures, rules, and habits that structure human interactions and the economy” (Schneider, 2019).

With the institutions that structure society, power can come in many forms. A significant amount of power in the modern world derives from ownership and control of society’s resources. This is akin to the concept of class power that Marx analyzed so thoroughly. However, Institutionalists do not stop with a simple definition of class power. To institutionalists, the capitalist class is not monolithic, and capitalism itself is subject to so many variations that it would be inappropriate to view capitalism as a single system with near-universal attributes. Interestingly, one can find a similar analysis of the varieties of capitalism in sophisticated Marxian analysis, as well as in the work of other heterodox scholars, implying that a rigidly deterministic analysis of capitalism is not the defining characteristic of contemporary heterodox economics.

To institutionalists, status is another major source of economic power. In particular, enabling myths loom large in perpetuating policies that benefit the vested interests in developed countries. For example, the belief that people are poor because they are lazy, and that people are rich because they work hard, is crucial in the ongoing support for supply-side economic policies in the United States.

In addition to the focus on institutions and power, OIE focuses on the evolution of the economy. True knowledge in economics stems from an understanding of how economies evolve and change. This focus is why OIE is often referred to as “Evolutionary Economics.”

Studying economic evolution requires an understanding of the powerful, past-binding, ceremonial forces that tend to resist change, the instrumental, technological forces the prompt change, and the dynamics between ceremonial and instrumental forces. As Adkisson (2010, p. 361) observes,

original institutionalists often discuss values as being either instrumental values or ceremonial values. Instrumental values favor the incorporation of new tools, knowledge, and skills into the problem-solving process while ceremonial values would oppose the incorporation of new technologies that could threaten existing social relations with respect to power, wealth, position, etc. As technological, environmental, or other criteria change tension is created between the old values and the new reality.

Through this mechanism, changes in values and technology result in changes in social and economic institutions and systems. “Just as flora and fauna must adapt to changing environmental conditions to survive, so must social institutions” (Adkisson 2010, p. 366).

However, one must be careful not to oversimplify the ceremonial and instrumental dichotomy. Structures contain both ceremonial and instrumental aspects, and the key to good institutional analysis is an understanding of the dynamics of those forces.[1]

Thus, the goal is to understand the evolution of institutions via an examination of the power structures manifest within institutional structures and the manner in which these structures respond to changes in technology and value systems. While this is the most important principle of institutional economics, a number of additional factors are also crucial.

  1. Technological change is the most important driver of social change.

As Wendell Gordon (1980, p.39) observed, “technology is the dynamic force which, over time, is overwhelmingly influential in determining the nature of society, the behavior norms of institutions, and the values of individuals.” Institutionalists share with Marxists the emphasis on the importance of technology in reshaping the institutions and relations of society.

 

3. Humans are inherently social and cooperative beings who are very unlike “rational economic man.” Therefore, group behavior is the basic unit of OIE analysis (Mayhew 2018, 5).

Family, kinship groups, communities and/or countries have been the essential form of human organization for millennia. Human beings evolved in groups, we are group animals who care deeply about fitting into our societies, and group values and dynamics affect all human decisions. Group behavior is best understood by the analysis of institutions, especially culture.

  1. Cultural processes are among the most important institutional structures for analyzing how economies work.

Culture shapes tastes and preferences, determines attitudes towards fairness, and sanctions culturally appropriate behavior while discouraging other behaviors. Human behavior is primarily learned. The anthropological notion of behaving rationally within a cultural context is a much more useful way to understand economic behavior than the rational economic man of neoclassical economics. This can help to understand, for example, why so many U.S. citizens value material possessions while many French citizens prioritize leisure.

  1. The proper focus of economics is the study of the pragmatic, instrumental solutions that can be implemented to best provide for and improve human well-being.

The goal of an economic system should be to establish social provisioning for all in the most effective manner (Adkisson 2010, p. 360). Veblen distinguished between predatory, destructive activities focused on making money, such as marketing, monopolization and planned obsolescence, and constructive activities focused on improving the social provisioning of society, such as increasing the output of useful commodities or reducing the amount of resources needed to produce them.

Many institutionalists care less about what economic system is used as long as it is truly democratic and that it benefits the “common” people, to use Veblen’s (1919) label. Nonetheless, there is an emphasis on planning throughout institutionalist work.

  1. Economic planning via democratic means is crucial to achieving good economic outcomes for the common people.

Institutionalists were among the major architects of the New Deal. The focus on the use of planning to achieve social provisioning for all remains a focus of OIE. This implies, of course, that laissez-faire policies are unlikely to achieve the type of broadly distributed social provisioning that institutionalists envision.

  1. The best method for economists to use is inductive empiricism based on real world observation.

Institutionalists eschew the overly deductive reasoning of neoclassical economics based on unrealistic assumptions. Economic theory should be drawn from observations of real people operating in a particular economic system and culture. All economics involves theory, as well as the selection of which data and phenomena to observe. However, overly deductive theory without grounding in observation is responsible for some of the most egregious failures of mainstream economics.

  1. The economy is an evolutionary (as opposed to an equilibrium) process of blind drift driven by cumulative and circular, path dependent causation.

Large shifts in society tend to be a result of technological changes and the ensuing socioeconomic conflict (Mayhew 2018). Path dependency influences the direction of change, as the past invariably shapes what emerges. An understanding of the endogeneity of change helps economists identify development traps that inhibit economic progress. But, it would be inappropriate to view path dependency as inevitability. Change is also contingent on human actions, which affect the direction of change.

  1. Output is generally a communal product of joint effort not a result of individual effort.

Marginal productivity theory in mainstream economics is inaccurate and misleading. Almost all production involves a sophisticated group effort, rendering it virtually impossible to attribute a specific level of productivity to one particular laborer. Nor can the distribution of income be accurately attributed to such factors.

 

  1. Power deriving from ownership and status allows the vested interests to dominate the common people.

Power in market-dominated capitalist systems derives substantially from ownership of productive resources, although even in such societies social status is a major determinant of power. Power in state-dominated systems derives from status as a member in an elite group, which also largely controls society’s productive resources. Those with power stemming from ownership and status usually work to preserve the quo from which they benefit.

  1. Status driven by enabling myths, patriotism, racism, sexism and emulation serves to legitimate authority and frequently overwhelms the possibility of solidarity of exploited groups (Dugger 1988, pp. 7-8).

Many progressive economists bemoan the lack of solidarity among the members of the working class, and their willingness to vote against their class interests. But institutionalist analysis of the divisions of society around a variety of identities and status markers helps us to understand this phenomenon.

Furthermore, it is crucial to understand that movements and coalitions form around many identities. For example, as Polanyi (2001) pointed out in The Great Transformation, resistance to early capitalism in England stemmed from various groups interested in solving the social problems that accompanied the vagaries of an unfettered capitalist system. Polanyi argues that it was

“not single groups or classes [that] were the source of the … collectivist movement, though the outcome was decisively influenced by the character of the class interests involved.  Ultimately, what made things happen were the interests of society as a whole, though their defense fell primarily to one section of the population in preference to another.  It appears reasonable to group our account of the protective movement not around class interests but around the social substances imperiled by the market (Polanyi 2001, pp. 161-2).”

Class interests were crucial to the movement to reform early capitalism, but they were not the only factor.

  1. The source of poverty and inequality can usually be found in power and status, cultivated by parasitic elites.

In a modern society that produces more than enough food for every person and an unparalleled level of material wealth, the existence of extreme levels of hunger, poverty and inequality are best understood via the analysis of the power and status of contemporary, parasitic elites. These elites, which Veblen termed the “vested interests,” work to gain and maintain control of society’s resources for their own benefit, while preserving their elite status. We see the efforts of the vested interests to monopolize industries, pressure governments for tax cuts for businesses and the wealthy, promote deregulation, and otherwise engage in activities that preserve their lifestyles at the expense of others.

  1. Equality and democracy are instrumental to achieving a good life for all and essential for a healthy economic system.

Social provisioning for all in modern economic systems requires a significant measure of redistribution and efforts to establish equality of opportunity. Constant vigilance is needed to ensure that economic outcomes deliver on the goal of adequate social provisioning for all. Given the unceasing attempts of the vested interests to preserve their power and status, only robust democratic control of the economic system is likely to deliver such egalitarian provisioning.

  1. There is nothing natural about the market system; it is the site of power abuses, and it is a product of class conflict, tradition, legislation and adjudication.

One of Polanyi’s greatest contributions was to point out that the creation of a laissez-faire economic system in England was only possible via the active and extensive intervention of the state. In a famous quotation, Polanyi argues, “While laissez-faire economy was the product of deliberate state action, subsequent restrictions on laissez-faire started in a spontaneous way. Laissez-faire was planned; planning was not” (Polanyi 2001, p. 141).

Given that the market system was a creation of powerful interests, capitalism is no more natural than any other economic system. In addition, it is subject to all of the same human behaviors as other economic systems, featuring class conflicts, ceremonial institutions that resist change, technological changes that cause shifting allegiances, and more. Markets themselves are not monolithic institutions. Their structure and behavior varies significantly within each variety of capitalism.

  1. Due to their focus on pragmatism, institutionalists do not have a preferred economic system. However, in condemning pecuniary interests and extoling the virtues of careful, democratic planning, institutionalists lean away from laissez-faire capitalism and toward social democracies or democratic socialism.

Mainstream economics tends to preach the virtues of capitalism, and either unregulated or lightly regulated markets. Indeed, the whole concept of an externality implies the centrality of efficient  markets and the idea of externalities and exploitative relationships as exceptions. Most institutionalists want, at minimum regulated, managed capitalism. Radical institutionalists believe that the reform of markets will not address the major problems confronting capitalism, especially inequality and environmental devastation, so a more radical transformation to democratic socialism is necessary.

OIE and other schools of thought

Interestingly, there is much synergy between Original Institutional Economics and the major strains of heterodox economic thought in the U.S. today. For example, there is substantial overlap with Social Economics, with its focus on ethics, pragmatism and complex social interactions. Indeed, one finds many of the same set of authors publishing in institutionalist journals such as the Journal of Economic Issues and social economics journals such as The Review of Social Economy and the Forum for Social Economics.

There is also much overlap between OIE and heterodox feminists.[2] Both groups emphasize the role of institutions and culture in shaping society, recognizing the pernicious impacts of patriarchy. Both emphasize economic behavior in the “non-economic” realm of the household, and the importance of care.

Similarly, there are significant connections between OIE and most modern types of Radical Political Economy (including Marxian analysis). Both groups analyze the role of power and institutions, and both study evolution, albeit using a different lens. OIE studies the evolution of institutions while Marxists focus on class conflict utilizing a dialectical method. Both see the dominant groups in society—vested interests in OIE, or the capitalist class in radical political economy—as the major barrier to a decent life for all. There are some key differences regarding the importance of class analysis in OIE and Marxian work. Marxists prioritize class as the most important social category, while institutionalists see a broader array of important forces at work. Nonetheless, the similarities are striking in most areas.

Lastly, there are significant connections between OIE and most strands of Post Keynesian Economics. Institutionalists share with Post Keynesians the view that the macroeconomy does not magically return to full employment, that expansionary fiscal and monetary policies should be used in recessions, and that effective demand is usually the crucial factor in determining output (a demand-side instead of a supply-side view). Similarly, the institutionalists and Post Keynesians share a view that uncertainty is a defining characteristic of modern capitalism. Those Post Keynesians who see institutional configurations as crucial in shaping macroeconomic outcomes are particularly close in method and analysis to OIE and are regularly published in OIE journals.

Interestingly, even mainstream economists are now incorporating institutional analysis to some degree in their work, albeit with an obsessive focus on one institution: property rights. As has been documented extensively elsewhere (e.g., Schneider and Nega 2016), New Institutional Economics tends to lack the depth and sophistication of OIE work. But, the movement in this direction implies that there is now some overlap between OIE and mainstream economics, as well as the major heterodox strands of thought. Thus, the question arises: If OIE is well connected to so many different schools of thought, why is it in decline?

While it is beyond the scope of this paper to go into a detailed examination of this topic, a key set of issues is worth mentioning briefly. First, institutionalists prefer detailed qualitative analysis and descriptive statistics to most forms of quantitative modeling and econometric analysis which tend to obscure the institutional richness that formS the focus of OIE. As the profession has moved to an overwhelming and nearly exclusive focusing on quantitative analysis, OIE has fallen out of favor.

Second, the sociology of the profession looms large. The decline of institutionalist graduate programs, as OIE ideas were steadily pushed out of universities such as the University of Wisconsin, the University of Texas Austin, and the University of Tennessee, has meant that OIE cannot replicate itself in the profession. Even within existing heterodox programs at the University of Massachusetts Amherst. The New School, and the University of Utah, there is usually a lack of exposure to institutionalist ideas.

There is also a lack of differentiation between the OIE variety of institutionalism and all the other approaches that include some institutional analysis. Many people think they are doing institutionalist work, without actually knowing much about the rich tradition of original institutional economics. The result has been a circular and cumulative cycle of decline in OIE.

Conclusion: Towards a unified heterodox economics

Despite the recent decline of OIE, the fact that economists from all heterodox perspectives and even mainstream economics recognize the importance of institutions holds out the possibility of a renewed emphasis on institutional analysis. This leaves OIE economists well poised to offer useful observations and analysis of contemporary issues.

 

The increasing overlap of heterodox approaches also offers the tantalizing promise of the possible unification of heterodox economics under one, pluralistic banner. This, perhaps, is the most exciting prospect presented by an examination of OIE relative to other schools of thought. It is my contention that more unites heterodox approaches than divides us, and that it is possible to develop a “soft” set of methodological concepts and economic principles that would be amenable to each of the major heterodox schools of thought.[3] That, however, is a topic for another paper.

 

 

 

References

Adkisson, Richard V. (2010). “The original institutionalist perspective on economy and its place in a pluralist paradigm.” International Journal of Pluralism and Economics Education, Vol. 1 (4): 356-371.

Dugger, William M. (1988). “Radical Institutionalism: Basic Concepts.” Review of Radical Political Economics, Vol. 20 (1): 1-20.

Gordon, W. (1980). Institutional Economics: The Changing System. University of Texas Press, Austin, TX.

Hodgson, Geoffrey M. (2019). Is There a Future for Heterodox Economics? Institutions, Ideology and a Scientific Community. Cheltenham UK and Northampton MA: Edward Elgar.

Mayhew, Anne (2018). “An Introduction to Institutional Economics: Tools for Understanding Evolving Economies.” The American Economist, Vol. 63 (I): 3-17.

Polanyi, Karl (2001). The Great Transformation: The Political and Economic Origins of Our Time. Boston, MA: Beacon Press.

Schneider, Geoffrey and Berhanu Nega (2016). “Limits of the New Institutional Economics Approach to African Development.” Journal of Economic Issues, 50 (2): 435-443.

Schneider, Geoffrey (2017). “Towards Real Pluralism in Economics.” American Review of Political Economy, 11 (2).

Schneider, Geoffrey (2019). Microeconomic Principles and Problems: A Pluralist Introduction. Abingdon, Oxon: Routledge.

Veblen, Thorstein (1919). The Vested Interests and the Common Man. New York: Huebsch.

Endnotes

[1] For example, within a technology company like Google, we find the development of new technologies which may well reshape the landscape of the internet and the modern economy, while at the same time the company works to cement its position atop the tech hierarchy and resist changes in that hierarchy. Thus, any economic structure can feature both instrumental and ceremonial values.

[2] Note that we must distinguish here between neoclassical economists who consider themselves to be feminists, and heterodox feminists. Neoclassical feminists study gender issues utilizing the techniques of mainstream economics, including methodological individualism, production functions, and other aggregations eschewed by careful institutionalist and heterodox feminist economists.

[3] See Schneider 2017 for an initial attempt at this.