Institutional and Behavioral Economics

Peter Boettke

Econ 881/Spring 2005

25 April

Another Look at EconomicsNarrowing of economics from classical political economy to mathematical formalism --- 1940-1970.

Broadening of economics from mathematical formalism to post-classical political economy – 1990---

Institutions as Constraints

Property Rights Control Rights Cash Flow Rights

Transaction Costs Information contracting

Choice, Constraints, and Predictable Behavior

All other goods

Candy Bars

Utility

As the relative price of candy bars falls, the budget constraint will rotate and the utility maximizing position will change.

Q1 Q2

Choice, Constraints and Predictable Behavior in Economic History Institutions work their impact through

changes in the relative price of a particular behavior and then lead to changes in the general pattern of behavior Plague’s impact on the relative price of labor and

the rise of free labor Women entering the work force after WWII and

the change in workplace norms, etc.

What Exactly Are Institutions? Rules of the Game

Formal Informal

Enforcement of the Rules Contractual monitoring Third-party enforcement Self-policing through norms and conventions

From Constraints to Frames of Reference North’s change of perspective

Institutions are important because they structure the incentives that are in operation in any society E.g., Marginal Revolution cite to the FT article on Levitt

Saying that people respond to incentives doesn’t say anything until you can address how individuals represent those incentives in their own mind E.g., meanings that individuals attribute to belief

systems

Cognitive Dimension in Institutional Analysis Economizers on information processessing --- rules

of thumb H. Simon and satisficing

Predictability in a world of uncertainty Uncertainty of the world is minimized so that reasonable

action can be predicted Heiner on behavior rules, and Rizzo on law

Embodiment of ideology Belief systems

Denzau and North The move from constraint to inside the utility curve

Cognition, Economy and Society The contributions of Timur Kuran

Private Truths and Public Lies --- the dilemma of social action Homo-economicus

Max utility subject to constraints Homo-sociologicus

Max reputation with peers Homo-psychologicus

Max self-satisfaction with choices

The Contributions of Mark Granovetter Embedded nature of individual action and market exchange

Markets are omnipresent but come in a variety of forms

Vernon Smith and the economics as an experimental science Efficiency

Model of perfect and imperfect competition Market failure theory

Cooperation Das Adam Smith problem Prisoners’ Dilemma

Where Do Institutions and Cognition Fit In Austrian Economics? The point to stress is that institutions and cognition

permeate the school of thought from Menger to today Menger – designed and undesigned institutions Bohm-Bawerk – applied microeconomics Mises – institutional prerequisites of monetary calculation Hayek – spontaneous order and the legal/political

framework of a liberal order The sensory order

Rothbard – the institutional framework of libertarian society Kirzner – channeling entrepreneurship

Conclusion

The hour-glass metaphor is highlighted by the changing status of institutions in economic analysis Bator – institutionally antiseptic Hayek, Buchanan, Coase, North, Smith, Shleifer, Glaeser,

Acemoglu, etc. The mind is the filter through which all human action takes place

Interpretation, judgment, action Imperfection in our knowledge

Cognition, Economy and Society Broadening economic science to accommodate a changing

intellectual universe Boulding --- there is no such thing as economic science only social

science applied to economic questions