We now get on to talking about, Transaction
Cost approach to institutions.
The idea of transaction costs goes back to
the work of Robert Corse in 1937, towards
a theory of the firm; where he talks about
transaction costs involved in the way the
firm operates on a day to day bases. Much
later, Corse was to write a paper, which was
in 1960’s on again transaction costs.
The underlying principle of talking about
transaction costs is that contrary to the
belief in new classical or standard or orthodox
economics, that collecting collation and verification
of information by firms is costless. And similar,
activity by individuals in the market is costless,
contrary to this belief that it is all costless;
in reality, all these are costly activities
involving expenses. And the bringing in of
these costs considerably transforms the analysis
of the economic activities themselves.
The simplest market that is conceivable of
course is a Walrasian market, where there
are zero transaction costs, underlying the
assumption of perfect knowledge. But in all
non Walrasian situations, which means in all
real life situations, every economic actor
has to spend time, energy, and resources on
acquiring information, with there is a simply
question of how to get from one place to another
or whether is a question of how to invest
some 100’s of 1000’s of rupees.
Every information, every piece of information
is costly; in the sense that it involves a
cost of collection; it involves a cost of
compilation, and a cost of collation, and
cost of elaboration and verification. More
generally therefore, all transactions involved
costs of various types, these transactions
costs vary, but in order to look at in greater
detail, we should know also the transaction
cost not only relative information.
In other words, there are not only information
costs, but the conduct of transactions themselves
involved all kinds of costs. The best example
of such costs is what, later came to be known
as Corsican externalities, Robert Corse discusses
a very interesting scenario of two producers,
occupying two adjacent plants of land.
One of them owned by a confectioner, and another
owned by a man who runs a hospital, the confectioner
has a job of pounding flour everyday, to make
bread and then baking it and making bread.
The man, who runs a hospital of course, has
a job of curing people haling them, treating
them, and getting them well back home as fast
as possible.
However, the confectioner has to pound the
flour, to grind the flour, in order to get
it ready to a bit, and this is a noisy and
disturbing activity. And hospital owner finds
that this is expensive, in terms of the trauma
that it causes in a student I am sorry, in
his patients and in the disturbance that it
causes among the patients and so on, and so
forth, so it is a costly thing.
So, question is either the confectioner has
to relocate, for which the hospital owner
has to compensate or the hospital has to relocate,
and confectioner has to compensate. How expensive
this process of getting, either one of them
to relocate depends upon what kind of legal
and political system exists; ideally if it
were possible to solve this on a face to face
bases, then we they can talk about it with
each other, and one says to the other that
it give so many 100 of 1000’s of rupees.
And then the other agrees, and they seal the
agreement the next is the other man lives;
it is a least transaction cost.
On the other hand, they could go into costly
litigation, one could go into the court against
the other, and sue him for damages, and request
the court to order this other man to be evacuated
from that place, force to leave and relocate,
that is a costly legal process.
Not just in terms of the fees to the lawyer
involved, which is there of course, but the
cost incurred by the court courts, which these
people have to bear.
And then of course, invisibly behind all these
the salaries of the judges and the various
members of the court, and the enforcing authority
the police force, and finally all the senators
and law makers who get paid, in order to make
these laws; in short transaction cost, can
be either very minimal on a face to face negotiation
bases or they could be quiet extensive, in
a complex political legal situation.
Now, here is a simple case which we discussed
where, there was a dispute over the use of
a piece of property by one person, but there
could be a whole lot of other transaction
costs involved, in the process of production,
they could all have a Corsican nature. For
example, the bank workers suddenly decides
to go on a strike, and because of that a businessman
looses out on that day’s transaction, and
looses several 100’s of 1000’s of rupees.
Question is, can he go to the court, and enforce
that the bank employees organization pays
him back the costs, this is another transaction
cost.
So, we have a whole lot of costs associated
with the legal political institutions, connected
with the production process in the economy,
all of which are sources of transaction costs.
Now, Douglass North made a very interesting
study of how, the existence of transaction
costs gave rise to the rise, and fall of institutions
in a society historically.
There are some institutions or rather every
institution has a particular set of transaction
costs, associated with it in the society.
There are certain institutions, which minimize
a transaction cost of the economic processes
in the society, and there are others which
do not do that. According to North, the institutional
history of a society might be perceived, in
terms of whether the institutions minimize
or increase transaction costs, at any particular
point in time.
North says that, institutions which minimize
transaction cost at the ones which come to
stay, an institutions which increased transaction
costs, tend to feed out of existence sooner
or later. Once again, there is a very interesting
study available to us on agrarian systems
in South India, where transaction costs constituted
a salient element, in the very structure of
institutions that society had over a period
of time.
In the Tamil country, which is subject to
this particular study, in the northern part
of Tamil country; it is a paddy growing track,
and highly a highly irrigated paddy growing
track, but irrigated with 100’s of small
and large irrigation tanks, each with its
own command area of paddy cultivation. And
therefore, villages which cultivated this
paddy, now, the logic of irrigating the fields
with the water from tanks, involve some organizational
problems, and some transaction costs.
For one thing, not every field had a direct
access to the water from tanks there were
a set of canals or channels, which went from
the tanks down in the command area, and from
which water had to be taken to the individual
fields. So, first a fall fields which were
closely located to the tank had much greater
access to water; fields which were further
away from the tanks had lower access to water.
So, here was a first transaction cost involved
to the farmer, depending upon where his field
was located.
Second water, had to be blocked as it flows
down the channel, and as it as a level roast
you cut a little channel through somebody
else’s field, so that the water would flow
from there, on to your field. This means,
that you have to (()) the permission of this
man to take water through his field to your
field, and that is it of transaction costs;
you have to be on very good terms with him
for else, you would not get water for your
fields.
The third consideration was not all fields
were of the same quality of soil, some fields
retained water very nicely, some fields had
more porous oil, and water quickly went through
and it was not retained, not good for crops.
So, once again, soil for differences made
a big difference. And in this caste also played
an important role, lands which were closed
to the tank, when usually lands which belong
to the upper castes, lands which were further
down the channels away from the tanks, were
usually lands, which did not belong to upper
caste, but to lower castes.
So, once again where your fields were located,
depended upon the caste (()) the village,
so another set of transaction costs. So, here
is a situation where a large number of issues,
involved in simply taking water to irrigate
the fields. And a large number of things,
had to be resolved among the people, before
a such a complex excuse me complex irrigation
system could be managed.
So, institutions which managed, and distributed
water in the village were the most important
institutions, and around these institutions
grew, other institutions in the village. So,
for instance in the 18th century, the institutions
which was like a local government in the villages
was something called laterally means the village.
Now, how important the was in its functions,
how it could how how much it could enforces
views, and its judgments on a number of issues,
depended very much on, how important irrigation
management was in that village.
If irrigation management was the central,
and the village used lot of water from the
tanks, then the members of were also members
who are regulating the water distribution
in the village, and therefore, anything that
they said was important. On the other hand,
if the village was a dry land village, with
not much irrigation available, not much water
in the tanks, may be the water in the tanks
might last month or so in a year, not much,
and for this is time you have to, either depend
on a well or on rain fed irrigation that sort
of thing. Basically, not very certain agriculture,
in all those villages it was found that the
was not a very powerful institutions.
Because, irrigation management was not central,
why this irrigation management was was central
in this village, because the economics paddy
cultivation was such that, everybody had to
plan a very homogenous cropping pattern, to
optimize on the water used, when the water
did come in the tanks. So, they had to plan
cropping pattern in such a way that, they
all optimized on water used at the same time,
which meant which meant that the crop calendar
was very uniform, moved along with water levels
in the tanks.
When the crop calendar is uniform, then labour
management becomes very uniform, because if
crop calendar is uniform, when the peak season
demands for labour, and off season demand
for labour also became very uniform. There
are particular periods in the village, when
everybody wanted labour; there were particular
periods in the village, when no body wanted
labour, the surplus labour available.
So, management of labour is a crucial issue,
what does we mean here, how does one manage
to keep labourers well fed and happy, when
most of the year they did not have work to
do. And what was the way in which the employers
manage to get workers to do some work, when
everybody everybody wanted the workers. In
other words, peak season was a time when,
there was access demand for labour, and when
access demand for labour existed, and if he
lives the situation to go as it is, wages
would head the sealing.
On the other hand, for the rest of the year,
when there was not peak season, but lean season
no demand, access supply of labour, at that
time a fellow would work for you for a meal,
so virtually zero or negative wages. So, if
we have wages which are following the market,
they would go up and down, let sea saw up
and down; then market cannot regulate labour
market I am sorry, the market cannot regulate
labour relationships; labour relationships
had to be part of the labour management strategy
of the village as a whole.
In large number of South Indian villages therefore,
during the lean season whole lot of rituals,
during which all the landed families would
made rise gruel, and the whole village would
be fed everyday in that; this is one way in
which everybody was fed, and that was lean
season, and there was no work going.
Likewise, they had a wage negotiation system,
where by a person would join a family as a
permanent farm hand on a one year contract,
which was renewable every year. And his wages
would be on a base wages would be fixed, so
much of rise per month, and around that base
wage would be negotiable bargains on bonuses,
which he got during harvest, for extra work
that he did and so forth.
In other words, management was labour was
not just management of supply and demand of
labour, but it was also management of relationship
between labour and employer. Now, therefore,
labour management also had to happen about
the same time, labour management also had
to happen about the same time, as water management,
as crop management, because everything surrounded
everything surrounded the availability of
water.
So, these villages you had all kinds of social
and political institutions developing, minimizing
transaction cost in irrigation, and therefore,
developing implications were rest of the society;
so the whole caste (()) these villages was
found to be organized, around water management.
Whole lot of institutions of moral (()) and
(()), rights and wrongs, institutions of education,
institutions of learning skills, they were
all tied to water management. So, here is
a case where whole societies continued to
live for generations like this.
Now, suddenly in the 1960’s, the government
of India decides that it wants to announce,
a package program in agriculture. So, the
first thing the government does is, it says
we will give you virtually interest free loans
if you want to build, wells and pumps in your
in your fields, because this will help us
promote this new agricultural strategy, new
technology and so on, and so forth. So, districts
for instance like North Arcata in Tamil Nadu,
which had the repetition of being a dry land
district by 1970, three North Arcot they had
15 percents of all the pump sets in India.
So, what happens, the farmers are liberated
over night from the compulsion to be a part
of a water management organization, they have
got their own pump sets, they have got their
own wells. So, the whole system of irrigation
management collapses, around it collapses
the crop management, labour management, in
other words every other institution in the
society. So, here is a situation where it
could be argued, that transaction costs were
minimized by a particular social organization,
which existed for a long period, and suddenly
the introduction of new laws displays the
economic bases of the social organization,
which is irrigation management; the the imperative
of irrigation management. And it liberated
each farmer form hamming to belong to irrigation
management group, and having to listen to
the irrigation managers about crop planning
and so forth.
He could plant any crop that he will wanted,
as a long as he had a well and pump set, he
could grow any crop that he wanted, any time
of the year, it freedom completely from every
other cycle, crop management, irrigation management,
same he could employ workers as an how he
like, because his crops varied. In other words,
the whole organizational of rural society,
which had been for century center around the
transaction costs of water management, broke
down.
Here, is a classic case where transaction
gone cost economist can perceived at actual
work in deciding, the power and role of institutions
in village. So, there is an big argument against
green a revolution, in large number of quarters
which says that, the bringing in a green revolution
certainly save the food economy of the country,
from crisis. It certainly enabled the farmers
to produce enough food for the country, it
certainly enabled famines and scarcities to
be averted, but they led to the breakdown
of the village. The social consequences of
which, they said is something which cannot
be replaced.
The question is not therefore, whether green
revolution is good or bad, what we are saying
is pre green revolution there was a transaction
cost regime; post green revolution there was
another transaction cost regime, but the structure
of transaction cost change completely in the
two periods. What was traditionally manage
as a local law and order situation, now became
law and order subject to the state government.
And therefore, more generalized, and institutions
of the village were now replaced by the governmental
institutions police and courts and so on,
and so forth, which we can regulatory institutions.
So, much for transaction cost as an option
to (()) version, transaction cost economics
argues, that there is not determinism about
any such thing, as a production relations
or economic base. But the institutional argument
north and others, enforce the case for a very
dynamic fluid structure of institutions through
history, as and how they minimize transaction
costs, the institutions come into say. As
and how transaction cost economies vanish,
the institutions all or when, so rise and
fall of institutions in human society historically
is explained through transaction costs; in
this mode of analysis, rather than through
mode of production and superstructure. The
third approach is what might be broadly called,
the approach of economic anthropology.
I am using the word economic anthropology
in a broad sense, because the kind of economist
I am I am sorry, I am going to kind of anthropologist
I am going to discuss here, were certainly
not people who advertised themselves of economic
anthropologist. But their contribution to
explaining economic anthropological phenomenon
is significant.
The assumption in economic anthropology is
that institutions constitute the liminal conditions
to economic conduct in the short run, but
in the long run the institutions themselves
could undergo morphological changes, through
economic transformation, it is a two way relationship.
The greatest debate in economic anthropology
since, the 1950’s in India has been, the
debate of tradition versus modernity.
This is an argument in economic anthropology
that is society, which is traditional could
have a number of advantages as stability of
relationships, and stability of social institutions.
However, the society would also be a society
would be that would be relatively stagnant,
because there is no growth. On the other hand
a growing economy would promote modernity
in society, in culture, which would be much
more dynamic, and moving, and changing. So,
tradition versus modernity itself, became
a major argument, a theme in argument, in
talking about the pros and cons of economic
development; and along with this is owen,
the arguments of great sociologists consider
for instance the argument by Max Weber.
Max Weber argued that protestant religion
grew, in those pockets of Europe, first where
early forms of capitalist industrial or business
organization existed, and that being so Weber
attributed a one on one relationship between
the rise in society of protestant ethic. And
what he called the spirit of capitalism, Weber
was trying to argue, that the emergence of
capitalism in Europe I am sorry, emergence
of Protestantism in Europe, had certainly
something to do with the emergence of capitalism.
Let us look at this in a bit of detail, statistically
Weber found that those centers, were Protestantism
spread in Europe, were also the centers through
in which capitalist form of industry trading
etcetera, were prospering. Putting the two
together Weber argued, that there must be
something in Protestantism, which contributed
to the development of capitalism. And Weber’s
argument ran as follows, Weber said that 
Weber said that there were aspects of protestant
ethic, which propagated behaviour, which was
very much in this spirit of capitalist development.
First of all Weber said, there Protestantism
as suppose to catholicism argued that, the
grace of god might or might not be yours in
the life here after, but certainly the grace
of god is yours, if you look upon your own
trade, and your own vocation, as a service
to god. In short the idea of calling the idea
of calling in protestant religion, where in
your profession, your trade, your vocation,
was your calling or god given thing to do.
And in being sincere in your calling, in being
honest and committed to your work was an act
of worship, in protestant ethic.
Now, according to Weber, the idea of calling
therefore was something which pave the way
towards productivity, pave the way towards
thrifty behaviour, pave the way towards austerity,
which was a crucial in the early faces capitalism.
Secondly, protestants religion argued, that
both heaven and hell are here in the world
with us; they are not to be found in a after
life, as catholic religion advocated.
So, the bringing in of the time frame of human
salvation to the present life, enabled Protestantism
to create conditions were by there was commitment
to work, there was commitment to productivity
and so on, and so forth; this was another
Weber’s argument. Granted these, Weber said
that the ethics of Protestantism, something
was something which promoted this spirit of
capitalism, and the spirit of capitalism thrifty
behaviour, productive behaviour, hard work
all those things.
So, the religion and the rise of capitalism,
coincided in particular pockets in Europe
was what Weber was arguing, but Weber went
one step further, he started doing an analyses
of oriental religions; and he came to the
conclusion, they they did not do the something
as capitalism did in Europe, he thought oriental
religions were tying down people to traditions,
and not creating the conditions conducive
for the development of ethic, the spirit of
capitalism.
So, Weber’s conclusion was that, while Protestantism
lay at the heart of the development of modern
Europe, civiler development did not happen
in the orient for the simple reason, that
oriental religions did not permit this. In
short here is an argument about institutions,
either strangulating economic growth or not,
in the 1960’s an American anthropologist
called Milton singer, studied South Indian
industrialists.
And was considering, whether the Weberian
Weberian approach could be justified at all,
because South South Indian industries were
all the once, he studied where Hindus, very
traditional, very hide bound in their own
way, and very prosperous in growing. So, singer
says well here are very traditional people,
and their having been traditional as nothing
at all to do, with the fact that they grew.
So, there is considerable correction needed
in the thinking of Weber or in Weberian analysis,
it is so singer’s conclusion. Subsequently
it was found, whatever the relationship that
Weber found between Protestantism, and capitalism,
it did not mean a similar relationship should
or should not hold, in respect to other religions
and capitalism; this was Weberian institutionalism.
Let us take a brief look at a Durkheim; Durkheim
could probably described as one of the earliest
founders of modern economic anthropology.
Durkheim studied suicides, and the behaviour
of suicides. statistical behaviour of suicides
over a period of time, he came to the conclusion
that, whenever society was changing rapidly,
economically, there were more suicides. When
there was not such rapid economic change in
the society, the number of suicides fell.
So, Durkheim came to the conclusion, were
brought while bringing in a concept of anomie,
anomie meaning (()), Durkheim had in as an
inference to this statistical information
that he presented, that periods of rapid economic
change are also period of anomie. Periods
of not so rapid economic change are periods
of order and stability.
In short, here is a (()) relationship stated
between the level of peace and harmony in
society, and the rate of economic change in
society, whether Durkheim’s analysis was
verified on a large scale is not is a second
question. But the most important question
is that, Durkheim found a very solid relationship
between peoples peace of mind, peoples orderliness
of behaviour, all described by the world,
(()) behaviour and the existence of rapid
economic change.
When there was a rapid economic change, either
for growth or for collapse it did not matter,
when economy changed very rapidly norms breaks
down, so there is a period of anomie. So,
there is an inverse correlation between social
peace and economic change as Durkheim found
out, this is a very major institutional contribution.
Durkheim also argued that social solidarity
is another factor which is affected with the
economic change; in traditional societies
societies held together, by form of solidarity
which is organic, face to face societies have
an organic form of solidarity. So, he said
these all are form of organic solidarity,
as suppose to these modern western societies
had functional relationships, which characterized
the society much more than kinship, and other
relationships as in traditional societies.
So, where societies, were characterized by
functional relationships across nuclear groups,
Durkheim called it mechanical solidarity.
So, mechanical versus organic solidarity is
something, which characterized modern societies
from, as distinct from traditional societies,
this is Durkheim analysis.
Finally, let us consider a major contribution
by a great Indian sociologist M. N. Srinivas,
according to Srinivas, there were two major
aspects to social change in India. As prosperity
came to particular social groups, these groups
underwent two kinds of changes, as prosperity
came one thing that these groups was they
engaged in westernization, they started using
their money to adopt western styles of living,
to send their children to English medium education,
to get them to acquire western habits of eating,
drinking and so forth, westernization. From
simple things like stitching to western form
of dressing, to adopting western life styles
on a much larger scale, this is one thing.
The other thing which happened, another social
change which happen and prosperity came to
people was Sanskritization, this was more
prevalent in rural India. When a particular
community in a village became affluent or
when particular caste group became affluent,
the members of this caste groups started adopting
the practices, ritual and other practices
of a caste group above this. And slowly they
start adopting, even the nomenclature by the
caste group above this, and gradually their
ritual status moves up in the society from
lower to a higher level.
In other words, social status and social ranking
adopt itself, according to a cultural change
called Sanskritization, after some a some
time after economic status changes. According
to Srinivas, Sanskritization much more than
westernization was the source of social mobility,
in rural in rural India, as suppose to urban
India. In urban India, westernization was
the source of social mobility, in rural areas
Sanskritization.
Now, what is important about Sanskritization
is that, Sanskritization appear to leave the
social structure interact, without fundamentally
changing its structure, a permitted changes
within the social structure, over a period
of time; it seem to ensure both stability
in the society, and change. So, according
to Srinivas, Sanskritization was a major base
of rural social stability, even when there
was economic change. So, we have here, three
sets of opinions among economic anthropologist,
on three sets of issues relating to the relationship
between institutions in the society, and economic
activity.
First we had Weber, who talked about the relationship
between religion and development of the capitalism,
Weber argued to sum up that the development
of capitalism was strongly influenced by the
rise of protestant religion. Not only did
Weber argued that the pockets were capitalism
developed, were also pockets were Protestantism
had come started growing; he also point through
out that pockets in Europe, were catholicism
was predominant were also pockets which were
growing much slowly.
So, he also pointed out that catholicism had
a certain antigrowth impulses anticapitalist
impulses, at least in the early stages in
Europe. Weber also argued that, the existence
of traditional religions, like Hinduism, Confucianism
and so forth. In the east enabled the perpetuation
of a static traditional perspective in minds
of people, which ensured that this spirit
of capitalism did not come about in these
in these places.
So, he was trying to draw a relationship between
eastern refigures, I mean comparison between,
eastern religion and western religion. In
the west he found that Protestantism enabled
capitalist he thoughts to develop, he found
that in the east the existence of traditional
religions blocked, the growth of capitalist
ethos. This was subsequently questioned as
I said by singer, and other sociologist through
their studies.
Following following Weber was Durkheim in
our argument, who showed that there was considerable
correlation, between the existence of social
harmony or harmony within the individual in
the society; and the rate of economic change
in the society. He found that, when there
was rapid economic change, the level of anomie
in the society grows, (()). He also found
conversely, that when economic change was
much lower, anomie was much narrower in his
coverage.
This was because, according to Weber, societies
with economy rapid economic change, which
were all western societies, were characterized
by mechanical solidarity, which was just a
functional solidarity across the society;
has suppose to organic solidarity in traditional
society of the east, which ensured greater
continuity of relationships, than in the west.
Finally, we also considered M. N. Srinivas,
the Indian sociologist who argued that there
were two forces of social mobility in India,
Sanskritization and Westernization; he found
that Sanskritization predominated rural areas
and Westernization was more common in urban
areas. In both cases a first economic movement,
within the group was supported by a movement
of Sanskritization type.
So, you could say that social mobility in
rural areas, constituted the type Sanskritization,
whenever there was growth, whenever there
was development. But when such a development
existed in urban areas, it was more common
for Weber to find I am sorry when more common
for Srinivas to identify this urban areas,
with Westernization rather than Sanskritization.
We have now seen three fundamental approaches,
to the relationship between economic institutions
I am sorry institutions in society and economic
activities, to sum up we found that economic
theory could afford to overlook institutions,
because it made four very central postulates
of perfect knowledge, uncertainty, rationality
and hedonism. However, once these postulates
are removed, the behaviour in economics becomes
far more important then the, theoretical results
regarding equilibrium and behaviour in economic
realm, refine a strongly correlated with the
institutions, that exist in society.
We found that there are three broad approaches,
which relate social institutions, political
institutions with economic activity; the first
we said was a determinist Marxist approach,
which said that the economic base was everything.
And within the economic base, production relations
were central, and this decidedly influenced
the nature of social and political institutions
which merely constitute that superstructure,
over the economic base of the society.
So, by and large Marxian analysis, argued
that there was a one way relationship between
institutions and economic phenomenon. The
one way was from economic change to institutions
, in contrast the transaction cost approach
of north and others clearly showed, that the
relationship between institutions and economic
phenomenon was a lot more varied. On the one
hand there were institutions, which minimize
transaction cost and society, which survived
because they minimize transaction cost.
On the other hand, there were institutions
could not minimize transaction cost, and therefore,
fell on the way side as a society pass through.
So, transaction cost was a major source of
explaining the institutional history of society
itself, this was the second approach. The
third was a economic anthropological approach,
where we found different sociologist have
given, different explanations of the effect
of social institutions on economic processes;
we found Weber clearly identifying a positive
role for the protestant ethic, in the emergence
of capitalist spirit.
And conversely he found that such, a capital
spirit did not emerge in countries, where
traditional society prevailed, Durkheim argued
there was a strong correlation between anomie
and economic change. And finally, Srinivas
argued that there was a rural and urban divide,
in whether Sanskritization was a source of
social mobility with economic change or whether
westernization was a source of social mobility,
with economic change.
We know summed up, a study of relationships
between economic activities on institutions,
we find that in the short run institutions
appeared to be dominating over economic activities.
But in the long run, economic activities themselves
had the propensity to transform and change
institutions. And the study as we found, could
be approached in any number of ways, and we
showed three different ways in which this
relationship could be studied. And in the
next hour that we teach, we shall be studying
evolutionary economics, good evening.
