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Joanna Tyrowicz Game-theoretic approach

Joanna Tyrowicz Game-theoretic approach. Institutional Economics. Questions. People say：“institutions matter.” Great! 

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Joanna Tyrowicz Game-theoretic approach

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  1. Joanna Tyrowicz Game-theoretic approach Institutional Economics

  2. Questions • People say：“institutions matter.” • Great!  • But, if institutions are nothing more than codified laws, organizations and other such explicit, intentional devices, why can’t badly-performing economies design (emulate) “good” institutions and implement them? • Cause they do not change so easily ... • How do institutions change? Or, why do they not change as people might like? An answer depends on what institutions are. • The sense in which “history matters” for development.

  3. In what sense can “history matter”? • Specification of institution-free rule of the game is not possible • Where do the rules of the game come from? • Inevitable infinite regression toward historical past...

  4. In what sense can “history matter”? • A domain is conditioned by • mental states and • acquired competences of players • may comprise organizations as players. • The „function of consequence” is conditioned by • technology, • statutory laws, • and institutions in other domains. • History matters in all these. • Statutory law is not by itself an institution, unless the enforcer of the rule of law is believed to have the ability and motivation to enforce it. /North and alike would call this dichotomy formal/informal/

  5. In what sense can “history matter”? • The selection of an equilibrium (an institution) out of possible many may be conditioned by dynamic linkages of various domains /path dependence/ • Overall institutional arrangement may be • coherent, • reinforcing, • diverse across economies, • Pareto-suboptimal (not Pareto-rankable).

  6. Conceptualising institutions somewhat differently... • We would typically call the institutions… • the humanly devised constraints that structure political, economicand social interaction • informal constraints (sanctions, taboos, customs, traditions, andcodes of conduct), and formal rules (constitutions, laws, property rights) • rules of the game • …but the question is, where do these rules come from??? • Face it: anthropology, sociology, history, religious studies, etc. do not take us anywhere within economics! • Can we have any ECONOMIC idea for understanding it? • Schedule for today:Game-theoretic approach

  7. Recent Literature • Douglass North, Understanding the Process of Economic Change, CUP, 2005. • Avner Greif, Institutions: Theory and History, CUP • Gerald Roland, Fast-changing and Slow-changing Institutions, (mimeo) • M. Aoki, Towards a Comparative Institutional Analysis, MIT Press, 2001 => TCIA

  8. Alternative game-theoretic concepts of institutions • Game form: • The unit of analysis: Set of players & activated sets of action choices = the domain; • The rule of the game: the consequence function which maps the domain to the range of physical consequences (its composite with the utility functions = pay-off functions) • What are institutions? • Players (=organizations)? Nelson (ICC 1994) • Rule of the game (exogenous constraints on the domain/consequence function: law, social norms, etc.)? North, Williamson • Equilibrium outcome? Young (1998), Aoki, Dixit (2004) • Synthesis of all plus values? Greif (2005)

  9. Institution as a Nash Institution is a summary representation of invariant and salient features of a (Nash) equilibrium path, held as shared beliefs of the players about how the game is being repeatedly played.

  10. Why so? Criticism and defense • Who specifies the game? • No game has been specified yet! Anything’s possible! • Why impose Nash equilibrium? • Well, it’s not particularly demanding… • …plus it allows self-enforceability! • How do you know if it’s efficient? • Who said the rule was “efficiency”? • Nash equilibrium doesn’t necessarily imply Pareto optimality, which is not efficiency yet!

  11. Why so? Criticism and defense • People may believe about many things and be unable to communicate clearly, what is it exactly that they believe • Word “beliefs” stands more for expectations and these do not need to be communicated, while they can be updated! • If it’s equilibrium, why would it change? • Well, most equilibria are not everlasting • It’s the transition that exhibits equilibrium properties and not the end point!

  12. JOINTLY CONSTRUCT ENABLE LIMIT SUMMARISEDCONFIRMS COORDINATE DOMAIN OF THE PLAYER DOMAIN OF THE GAME MASAHIKO AOKI - INSTITUTIONS GAME STRATEGIES EQUILIBRIUM INSTITUTIONS BELIEFS ENDOGENOUS RULES OF THE GAME

  13. Dualities in this formulation • Endogenous  exogenous? • Objective  subjective? • Enabling  constraining? • Examples to understand better  • Observing the speed limit • Being faithful to your partner

  14. Institutional arrangements as equilibrium linkages • Complex over-all institutional arrangements evolve, as various domains • economic, • social, • political and • organizational => They become linked/inter-related in an equilibrating manner • There are two types of equilibrium linkages: • complementarities • linked games

  15. Primitive domain and proto-institutions • Repeated economic exchanges • Trust, gift exchange (Carmichael & MacLeod) • The commons • Customary rights, tragedy • Asymmetric cooperation • Asymmetry in complementarity between residual rights of control and effort →　integration of property rights in physical assets and hierarchy (Grossman & Hart). • Symmetric cooperation • Free-riding?

  16. Social exchange domains • Non-economic goods/bads • social symbols, languages, etc. that would directly affect the payoffs of recipient agents, such as esteem, sympathy, approval, accusation and so on, • they are unilaterally delivered and/or traded with “unspecified obligations to reciprocate” • are sometimes accompanied by gift-exchanges. • Expected surplus from repeated exchanges may be conceptualized as “social capital”.

  17. Social-embeddedness and bundling • Social-embeddedness • On one hand, values and norms may be perceived as exogenously given by individuals but actually they are endogenously shaped by them, “in part for their own strategicreasons.” • On the other hand, agents in markets and organizations in modern society generate trust and discourage malfeasance by being embedded in “concrete personal relations and structures (networks).” (Granovetter) • Examples: • Community of traders • Community norms in the use of commons, professional reputation in open software development, etc.

  18. Social-embeddedness and bundling • Bundling • Bundling by an internal player /REMEMBER TCE …/ • Bundling of multiple contracts → factory, multi-vendor subcontracting system, venture capital, linked contracts. • Bundling by a third party player. • The Law Merchant, markets under the rules of law, contingent governance of (symmetric) cooperation (team) by the third party as the budget-breaker • Note that the third party itself is a strategic player.

  19. The state in political domain • What is the political domain? • Elections or policies? How are they interrelated? • The state as an equilibrium with the government (a third party) as the property rights enforcer cum tax collector →　“the fundamental dilemma of the political economy” (Weingast). • What kind of political domain? • Democratic, corporatist, collusive, developmental, delegated bargaining states • Recall Polish land reforms – discussion about the institutional change, was it pro-efficiency or was it through bargaining? Does it really matter for policy implications?

  20. Institutional linkage of domains (1): linked games • Games are „linked” if one or more players choose strategies across more than one domain in a coordinating manner • Because of possible externalities created by such linkage, a behavioural pattern that would be unsustainable in a single domain may become sustainable across many and becomes a viable institution • For example punishment mechanism may become self-enforcing even if players are short-sighted and/or nonexcludable in a single domain

  21. Institutional linkage of domains (2): institutional complementarities • U(x’) - U(x”) increases on domain X for all the players when z’ rather than z” prevails in domain Z Note that it does not require that U(x’) - U(x”)>0 • Then x’ and z’ (alt. x” and z”) complement each other → institutional complementarities • Codetermination + corporatist state, • life-time employment + main bank system

  22. Institutional change • Internal dynamics of game induces changes in parameters of the domain (skills, technology, etc.). • With environmental changes, sub-optimal mutant strategy becomes viable and/or the experiments of new strategies are triggered. The sets of activated choices expand. • When new strategic choices converge to a new equilibrium, a new institution emerges. Its characteristics are conditioned by the dynamic linkages of domains. • The selection of an equilibrium out of possible many may also be influenced by predictive beliefs by “entrepreneurs” and/or normative beliefs of charismatic leader (as distinguished from “share beliefs), as well as the enactment of statutory law.

  23. Reconfiguration of linkage • The same social norm embeds different domains of economic transactions over time. • Integrated firms →　industrial districts. • Community norm in the transition to market (Aoki and Hayami) • Slow-changing institutions and fast-changing institutions (Roland) • Schumpeterian dis-bundling and bundling • Dis-integration of large firms and emergence of supply-chain, modular entrepreneurial firms

  24. Dynamic institutional complementarities • Momentum theorem (Milgrom, Roberts and Qian): Even if the initial level of human resources supporting institution A is low, the presence of complementary institution B may amplify the impact of a policy to induce A. • Role of Hong Kong in the China’s market transition • Conversely, even if a law is introduced to induce institution A, the absence of complementary institutions B may make its realization difficult. • Difficulty of enforcing the market-oriented corporate governance when the rule of law does not prevail.

  25. Path-dependence and novelty in institutional change • What is the role of path dependence? • We are “sticky” by nature (social embededdness)– people like repeating games, so equillibria may be stable • What we know limits our ideas of the set of available alternatives (beliefs included), so difficult to come up with a NEW strategy • However, innovation (Schumpeterian again!) may come for a number of fairly uncontrollable reasons, changing the dynamics of the game! => NEW INSTITUTION

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