VOL. 7, NO. 2, PGS. 11–19


Culture and Institutions, Both are Important for the Economy
A conversation with Thierry Verdier

Thierry Verdier is Professor of Economics at the Paris School of Economics and the Pontifical Catholic University of Rio de Janeiro.

Culture or institutions: which is more important for economic performance?

I think both are important for economic development. There has been a long debate among economists about which is more important, culture or institutions, how to distinguish one from the other and what their joint and separate effects are. The book by Acemoglu and Robinson, Why Nations Fail, underlines the importance of institutions. They argue that institutions, contrasting extractive with non-extractive ones, are the most important element in stimulating development. The book by economic historian David Landes, The Wealth and Poverty of Nations, emphasises the importance of culture. He explains from a cultural perspective why China did not take off when the West began to develop in the late Middle Ages, in the Renaissance. In their book Culture Matters, Samuel Huntington and Lawrence Harrison analyse whether or not culture matters for development. In general, economists have tried to understand the impact of both aspects but often the focus is on a particular facet of institutions or culture. On the institutional level, for example, Melissa Dell has studied the impact of the MITA system of forced labour introduced by the Spanish in Peru on, among other things, the health and education of the current inhabitants of the villages that were subjected to such a system, compared to the villages that were not. At the cultural level, for example, Joel Mokyr, in his recent book, explores the importance of the Enlightenment for innovation and growth. Nowadays, the consensus seems to be that both are important and that they are likely to interact. Rather than studying them in isolation, economists have begun to look at how they reinforce or mitigate each other in their impact on the economy. Sometimes the effect of a particular set of institutions is enhanced by a particular cultural environment, and sometimes the opposite is the case.

What are institutions? How do they determine economic performance?

Nobel laureate Douglas North defines institutions as humanly devised constraints that structure political, economic and social interaction. In essence, they all refer to the rules, procedures and various human devices that tend to get people to agree, implicitly or explicitly, on how others should behave, thus enabling costly coordination between people. Economically, they structure people’s beliefs so that they can commit to a particular set of economic incentives. For example, if you feel that your property rights are well protected, that is a great incentive to invest, to accumulate capital, to innovate, and that of course stimulate growth and development. If creditors’ property rights are well defined, this will lead to better credit markets, which will facilitate access to funds to finance growth. Institutions, in their role of enforcing certain rules, can also provide various dispute resolution mechanisms that reduce the transaction costs that would be incurred in the absence of such mechanisms when interacting with others in commercial transactions. Institutions can put in place mechanisms for quality assurance. Institutions can promote competition by preventing monopolistic practices, but they can also prevent entry or create barriers to competition or innovation. At the macroeconomic level, fiscal or monetary institutions, which often depend on central banks, provide macroeconomic credibility and stability in the face of various types of shocks, such as inflationary episodes, which is important for long-term growth. So, these are the types of mechanisms that institutions can put in place that have an impact on economic performance.

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