Part XI. The Institution of Douglass North

Chapter 26:
Institutions Cannot be Viewed Merely as Incentive-Providing Constraints

Douglass North (b. 1920) is an astonishing economist who has repeatedly reinvented himself. The heir to an insurance fortune, merchant seaman during the War, apprentice photographer to Dorothea Lange, fishing buddy of Perry Como, in his youth he was a Marxist — as were many of us of a certain age — but became from the study of economics an advocate of markets and their innovation. As a young professor at the University of Washington in the 1950s he was one of the chief entrepreneurs of the so-called “new” economic history, that is, the application of economic theory and statistics to historical questions, such as how regional growth happened in the United States before the Civil War. For this he was in 1993 awarded with Robert Fogel the Nobel Memorial Prize in Economic Science.

North’s pioneering study of ocean freight rates from the seventeenth to the eighteenth century (North 1968) led him in the 1970s to ponder the evolution of what had in an economics influenced by Ronald Coase come to be called “transaction costs,” that is, the costs of doing business. Moving cotton from Savannah to Liverpool entails transportation costs, obviously. Less obviously — the point was made by Coase in all his work from the 1930s on — moving a piece of property from Mr. Jones to Ms. Brown entails transaction costs, such as the cost of arriving at a satisfactory contract to do so and the cost of insuring against its failure. By North’s own account, in 1966 he had decided to switch from American to European economic history. With collaborators at Washington like Robert Paul Thomas, S. N. S. Cheung, Yoram Barzel, Barry Weingast, and John Wallis, North developed a story of the “rise of West” focusing on the gradual fall in such transaction costs. Since the 1980s, now at Washington University of St. Louis (he favors places named after the first president of the United States), North has argued that Western Europe in the eighteenth and nineteenth centuries benefited uniquely from good institutions that held transaction costs in check, such as Britain’s unwritten constitution of 1689 and the United States’ written one of 1789.

North defines institutions as “the humanly devised constraints that structure political, economic and social interaction.”1 The economist Depak Lal says in similar terms that the “institutional infrastructure . . . consists of informal constraints like cultural norms . . . and the more formal ones.”2 The word “constraints” here matters a lot, because North and Lal mean what all Samuelsonian economists mean by it. (North and Lal are Samuelsonian economists right down to their wing-tipped shoes.) Consumers and producers, economists say, maximize utility “subject to constraints,” such as the laws against murder and theft, or the regulations of the Internal Revenue Service, or the customs of Bedouin hospitality, or the Ford Way of doing business. In other words, the main character in North’s story is always Max U, that unlovely maximizer of Utility, Homo prudens — never Homo ludens or Homo faber or Homo hierarchus or, as I and most non-economist social scientists would claim, Homo loquens, the speaking humanoid.

“Max U,” you see, is a man with the last name “U” who has peopled the arguments of economists since Paul Samuelson in the late 1930s elevated him to a leading role. The joke is that the only way that an economist knows how to think about life after Samuelson is to watch Mr. Max U Max-imizing a Utility function, U(X,Y). Ha, ha. Max U cares only for the virtue of prudence, and even “prudence” defined in an especially narrow way, that is, “knowing what your appetites are and knowing how to satisfy them.” Never mind what the novelist Samuel Butler truly wrote around 1880: “There is no greater sign of a fool than the thinking that he can tell at once and easily what it is that pleases him.”3 In Yiddish such a fool would be a goyisher kop, a gentile jerk, by which is meant a man without learning or reflection or prayer. He just “chooses” to eat or drink or fight or whatever, intemperately, without consulting the impartial spectator of his conscience or of his education or of the Torah or the Mishnah or the Talmud. He has “tastes,” as the economists put it in their Samuelsonian way, about which one should not dispute. (Note by the way the contradiction in “caring for,” that is, loving prudence, that is, loving the hypothesis of non-love. But rhetorical consistency is not a strong point of Samuelsonian economics.)

The “institutions” stop a person, or at any rate a goyisher kop, from doing certain things, such as shoplifting from the local grocery store or turning away hungry travelers. “As soon as we talk about constraining human behavior,” Lal notes, “we are implicitly acknowledging that there is some basic ‘human nature’ to be constrained. . . . As a first cut we can accept the economists’ model of ‘Homo economicus’ which assumes that people are self-interested and rational.”4 And as a second cut, and a third, and an Nth. The constraints are like money budgets. Then we can get on with prudent exchange. They are fences, good or bad, “limiting self-seeking behavior,” as Lal puts it. From the individual’s point of view the fences fall from the sky.

North and Lal and other economists do not usually notice that other observers of society do not agree with their metaphor of “constraint.” The non-economists on the contrary think of culture, like language, as simultaneously constraint and creation, as a negotiation and an art, as a community and a conversation. Institutions do not merely constrain human behavior. They express it, giving it meaning. Thus for example the “distinction” that Pierre Bourdieu examined in his dissection of the bourgeois and working classes in France is not merely an external constraint.5 You don’t merely get to a higher level of utility if you can identify the composer of “the Well-Tempered Clavier.” You actively distinguish yourself from people with fewer academic qualifications, in a qualification-obsessed France. You are playing a social game in which each move has meaning.

The historian Margaret Jacob has characterized the “instrumental” view, by contrast, as imagining “de-cultured free and free-willed agents [who] naturally pursue their self-interest.” The recent economist’s “institution” understood in the language of the asylum as “constraints” is what the sociologist Erving Goffman studied — “the social situation of mental patients and other inmates, “under an order “imposed from above by a system of explicit formal rulings and a body of officials.”6 Institutional budget lines, like rules of the asylum in the movie “One Flew Over the Cuckoo’s Nest,” are not negotiable, not at least according to Nurse Ratched. North’s asylum talk, and the talk of the Samuelsonian economists about “institutions,” puts one in mind of the American comedienne Mae West: “I admire the institution of marriage. But I’m not ready for an institution.”

North adopts unawares a liberal, as against what the intellectual historian Quentin Skinner calls a neo-Roman, theory of constraints, namely, the liberal notion of unfreedom as being only the actually exercised external impediments to action, such as a prohibition on slave marriage or the demand by a landlord to vote for him for Parliament.7 By contrast the neo-Roman English theorists of government just before Locke such as John Milton, James Harrington, and Algernon Sidney, with echoes and restorations later (Thomas Jefferson, the driver of slaves, for example), noted that mere dependency itself was a scandal — even though a potential rather than an exercised impediment. An actual impediment is a constraint; a potential impediment is a symbol and a shame, not captured by the notion of a constraint. It would often show itself through internalized self-contempt. It would show itself as self-censorship in a court, or in the dependency of a democratic mob on employers or advertisers. “Nothing denotes a slave,” wrote Sidney in reply to advocacy of absolute monarchy, “but a dependency on the will of another.” Dependency such as employment in a corporation, then, or an assistant professorship without tenure, would be slavery of a sort. What matters to a free person in the neo-Roman theory is the potential for damage (not the actual damages emphasized in liberal utilitarianism). It is a matter of meaning, not budget constraints. Robert Burns sang, “The coward slave we pass him by:/ We dare be poor for a’ that.” So likewise Sidney dared to refuse to plead when faced with charges of treason before Charles II’s pet judges, and died for it.

North much admires the anthropologist the late Clifford Geertz. It is hard not to. But North reads Geertz and his co-authors as supporting the economistic notion that in caravan trade, such as in Morocco around 1900, in North’s formulation, “informal constraints [on, say, robbing the next caravan to pass by]. . . made trade possible in a world where protection was essential and no organized state existed.” He misses the non-instrumental, shame-and-honor, non-Max-U language in which Geertz in fact specialized, and misses therefore the dance between internal motives and external impediments to action, between the dignity of a self-shaping Roman citizen and the merely utilitarian “constraints.” The toll for safe passage in the deserts of Morocco, Geertz and his co-authors actually wrote, in explicit rejection of Max U, was “rather more than a mere payment,” that is, a mere monetary constraint, a budget line, a fence, an “institution” in North’s reduced definition. “It was part of a whole complex,” they wrote, “of moral rituals, customs with the force of law and the weight of sanctity.”8

“Sanctity” doesn’t mean anything to North the economist, who for example in a 2005 book treats religion with a contempt worthy of Richard Dawkins or Christopher Hitchens (“Ditchens”).9 Religion to North means just another “institution” in his utilitarian, subject-to-constraints sense, that is, rules for an asylum. Religion to him is not about sanctity or the transcendent, not about faithful identity, not about giving lives a meaning through moral rituals. It is certainly not an on-going conversation about God’s love, not to speak of an on-going conversation withGod. Religion is just another set of constraints on doing business, whether the business is in the market or in the temple or in the desert. In this he agrees with the economist Gary Becker’s followers when they come to study religion — religion to them is a mere social club, with costs and benefits, not an identity or a conversation. (Anyone who has actually belonged to a social club, by the way, knows that it soon develops into “moral rituals, customs with the force of law and the weight of sanctity.”) North asserts, for example, that in a pre-legal stage “religious precepts . . . imposed standards of conduct on the [business] players.”10 The world-view that goes with faith is not his concern. (His own religion of Science, of course, is in fact nothing like a mere constraint. It is North’s identity, his moral ritual, his sanctity — in short, the meaning of his life, negotiated continuously over its extraordinary course. But ethical consistency is not a strong point of Samuelsonian economics.)

Avner Greif, North’s ally in the New Institutionalism, calls culture “informal institutions,” and North tries to talk this way as well. But the “informality” would make such “institutions” very different from asylum-type “rules of the game.” Informality is continuously negotiated. Just how far can a man go in teasing his mates? Just how intimate can a woman be with her girlfriends? The rules are constructed and reconstructed on the spot, which makes the Samuelsonian metaphor of constraints inapt. The Geertzian metaphor of negotiation and ritual makes more sense. “O body swayed to music, o brightening glance,/ How can we know the dancer from the dance?”

Some economists grasp that institutions have to do with human meaning, not merely Northian “constraints.” The Austrians or the old institutionalists have managed to escape, Houdini-like, from the straight-jacket in which Douglass North, Depak Lal, Avner Greif, Max U, and their friends happily gurgle. The Austrian economist Ludwig Lachmann (1906-1990), for example, spoke of “certain super-individual schemes of thought, namely, institutions, to which schemes of thought of the first order [notice that to the Austrians the economy is thought, all the way down], the plans, must be oriented, and which serve therefore, to some extent, the coordination of individual plans.”11 Thus a language is a scheme of thought, backed by social approval and conversational implicatures. Thus too is a courtroom of the common law a scheme of thought, backed by bailiffs and law books.

North, like the numerous economists who have settled into the straight-jacket, talks a good deal about meaning-free “incentives” because that is what Samuelsonian economics can deal with. The constraints. The budget lines. But one can agree that when the price of crime goes up (that is, the incentives change) less of it will be supplied, yet nonetheless affirm that crime is more than a passionless business proposition. (If you don’t believe so, tune into one of the numerous prison reality shows, and watch the inmates struggling utterly irrationally with the guards.) The Broken Windows Effect is that major crime goes up if you ignore minor crimes like breaking windows or painting graffiti. The Effect has little to do with price and a lot to do with shame and social imitation.12 If crime is more than utterly passionless calculations by Max U, then changing ethics can affect it — ethics that do change, sometimes quickly (crime rates fall dramatically during a big war, for example, at any rate on the home front). The metaphors of crime as being “like” employment as a taxi driver, or of a marriage as being “like” a trade between husband and wife, or of children being “like” refrigerators have been useful. But they don’t do the whole job.

Prudence is a virtue, and is one characteristic of a human seeking profit — and of a rat seeking cheese and of a blade of grass seeking light. But so are temperance and love and courage and justice and hope and faith, and these other virtues are defining of humans. Unlike prudence they are characteristic of humans uniquely, and of human languages and meanings. In no sense is a blade of grass “courageous,” or a rat “faithful” (outside of the movie Ratatouille, whose humor turns on the paradox of the rats being more faithful than many of the humans). North will have none of human languages and meanings. His positivistic talk about “constraints” and “rules of the game” misses what he could have learned from Geertz, Weber, Smith, Aquinas, Cicero, Confucius, or Moses, or his mother (Moses’ or North’s) — that social rules expressed in human languages have human meanings. They are instruments as well as constraints, as Lachmann says, playthings as well as fences, communities as much as ward rules.13

Take for example so obvious an institution for providing incentives as a traffic light. When it turns red it surely does create incentives to stop. For one thing, the rule is self-enforcing, because the cross traffic has the green. (In the old joke a New York City taxi driver drives at high speed through every red light but screeches to a halt at every green. His terrified passenger asks why. “Today my brother is driving, too, and he always

goes through red lights!”) For another, the police may be watching, or the automatic camera may capture ones license plate. The red light is a fence, a constraint, a rule of the game, or of the asylum. So far goes North, and with him most economists.

But among other things the red light also signals — that is, has meaning to humans, who are more than rats in a prudence-only experiment facing food incentives — the meaning of state dominance over drivers. It signals the presence of civilization, and the legitimacy granted to the state that a civilization entails. It signals, too, the rise of mechanical means of regulation, in contrast to a human traffic officer on a raised stand with white gloves. The red light is in Lachmann’s terms a system of thought. It is a system that some drivers find comforting and others find irritating, depending on their attitudes towards the state, towards mechanical inventions, towards traffic officers. For a responsible citizen, or an Iowan, or indeed for a fascist conformist, the red light means the keeping of rules. She will wait for the green even at 3 a.m. at an intersection obviously clear in all directions, an intersection lacking a license-plate camera or police person in attendance, or a reliably irresponsible brother on the road, even when she’s in a bit of a hurry. Incentives be damned. But for a principled social rebel, or a Bostonian, or indeed for a sociopath, the red light is a challenge to his autonomy, a state-sponsored insult. Again, incentives be damned. If the Broken-Window policy is applied too vigorously it could well evoke an angry reaction from potential criminals, and could result in more, not less, crime, or at any rate widespread resentment of the police.

Meaning matters. A cyclist in Chicago writing to the newspaper in 2008 about a fellow cyclist killed when he ran a red light declared that “when the traffic light changes color, the streets of our cities become an every-man-for-himself, anything-goes killing zone, where anyone who dares enter will be caught in a stream of intentionally more-deadly, high-mass projectiles, controlled by operators who are given a license to kill when the light turns green.”14 The motorist who unintentionally hit the cyclist probably gave a different meaning to the event. A good deal of life and politics and exchange takes place in the damning of incentives and the assertion of meaning — the mother’s love or the politician’s integrity or the teacher’s enthusiasm, what Keynes called “animal spirits” and what Sen calls “commitment” and what I call “virtues and corresponding vices other than Prudence Only.”

Or take a more elevated issue, that of liberty. The neo-Roman theory that Skinner identifies can be thought of as turning on status, not contract. The neo-Roman theory is old fashioned in one sense, dating in Continental legal theory back to Justinian. But in another sense, as the liberal theorists Montesquieu and Tocqueville insisted, gazing with envy at the common law of England, the neo-Roman theory was a novelty implied by the reception on the Continent from the twelfth century on of Roman law (and not in England). Macfarlane notes that on the Continent down to the French Revolution “civilization moved away from a ‘feudal’ one based on the flexibility of ‘contract,’ to an ancien régime one based on ‘status’.”15 “The Roman law,” wrote Tocqueville bitterly, “was a slave law.”16 That a person was a slave in Roman law was itself an insult, no matter how cleverly he could manipulate his master, in the style of Roman comedies down to The Comedy of Errors, The Marriage of Figaro, and Guess What Happened on the Way to the Forum. Liberty in a sense that, say, John Milton would have understood is not about how much stuff you get, or where you are on your budget line, or how far out the “constraints” are. It is about whether you are under the orders of some other mortal, for example a husband or wife in a marriage. By contrast, the economist Gary Becker’s theory of marriage takes the benevolent husband as absorbing the welfare of his wife, and thinks it no slavery. After all, she gets all the diamonds she wants. A feminist would object, as did Milton in his first treatise on divorce.

* * * *

In any event, with the Max U Only character in mind North believes he has equipped himself to explain the modern world. The axiom is that “economic actors have an incentive to invest their time, resources [in the economist's broad sense as means for achieving ends], and [personal] energy in knowledge and skills that will improve their material status.”17 The question, North observes, is whether Max U’s “investment” will be in swords with which to steal money, or in machines with which to spin cotton. Both investments improve Max U’s material status.

Which path for our goyisher kop Max U? North puts his finger on a major problem facing political economy from the caves to the highest of civilizations, namely, the solidity of property rights. But he commits a logical error, known as begging the question. “Economic history,” he declares, “is overwhelmingly a story of economies that failed to produce a set of economic rules of the game (with enforcement) that induce sustained economic growth.”18 The phrase “that induce sustained economic growth” transforms the argument into a circle (which is what “begging the question” means, not as most people seem to think nowadays “suggests the further question”). An institution is not the institution he has in mind until it does cause the Industrial Revolution. He has assumed his conclusion, namely, that a change in property rights — his “institutions” — made the Industrial Revolution. The argument is immune to refutation, because he is only concerned with changes in property rights that (he assumes without evidence) caused the Industrial Revolution.19 North is assuming changes in rules induced sustained economic growth, rather than investment or foreign trade or, more plausibly, ideological development. Making his statement into a meaningful hypothesis requires splitting it in two. Make part one into an empirical statement that “many economies failed to make rules.” Then one could ask whether “the change in rules in, say, seventeenth-century England was large enough to actually induce sustained economic growth.”

But of course numerous societies have produced rules of property. English kings, for example, asserted in the Middle Ages the primacy of royal courts over local and sometimes arbitrary authority. Indeed, no society does well if it does not have such rules. As the prophet Micah (7.2,3) said in the late eighth century B.C.E, “The good man is perished out of the earth: and there is none upright among men: they all lie in wait for blood; they hunt every man his brother with a net. That they may do evil with both hands earnestly, the prince asketh and the judge asketh for a reward.” One is reminded of the anarchic and pre-Christian Norsemen, who when they approached a coast had to decide whether to kill the natives or to trade with them. They were, a Samuelsonian economist might suppose, Max U characters, largely indifferent between the options — whatever maximized material utility. Thus A. A. Milne’s “Bad Sir Brian Botany” who “went among the villagers and blipped them on the head,” but received his comeuppance, and became “quite a different person now he hasn’t got his spurs on,/ And he goes about the village as B. Botany, Esquire,” not blipping on the head. The move from bad to good Sir Botany is what North has in mind as the alleged cause of the Industrial Revolution.

But the trouble is that it had already happened — that shift to Good Sir Botany. Likewise the wild Norsemen of Bergen became Hansa merchants, or at any rate welcomed German and Frisian merchants into the wooden warehouses of the Hansa, many hundreds of years before the final end of blipping on the head and violent rent-seeking in North’s unhistorical account is supposed to have happened in, of all places, England. As late as the seventeenth century in England, North is claiming, Max U saw his best chance in violence or influence, not in voluntary exchange. The claim is factually mistaken. Violence had been blocked by law and politics in England for centuries. Even the barons had at length been denied their independent armies, by the early Tudor kings. Ordinary violence and theft was pursued by the hue and cry. England was drenched in laws, of property and tort and merchants and what you will, in manorial courts and the King’s courts. And of course every ordered community since Moses or Solon or Sargon the Great or the First Emperor of China has enforced property rights and prevented people from hunting their brothers with nets. A lack of defined property perhaps characterizes some parts of Europe during the ninth century — though consider Charlemagne or Alfred the Great — but certainly not England in the seventeenth century, as North to the contrary suggests. England was a nation of ordinary property laws even when the Stuart kings were undermining the independence of the judiciary in order to extract the odd pound with which to have a foreign policy.

And influence in Parliament replaced influence at Court. After North’s favored date of 1688 there is a case to be made that the opportunities for rent-seeking increased rather than decreased, if not by violence (though tell that one to the citizens of York in 1745, or for that matter to the citizens of New York in 1776). In the early eighteenth century the cash value of influence at a Court now able to borrow from Dutchmen, or the gains from a transcendently powerful Parliament from stealing the goose from an enriching population, were greater than they had been under Charles I. The pioneers of analytic studies of such matters, Robert Ekelund and Robert Tollison, have persuasively argued that when the power to protect domestic interests shifted from the King — and grants of monopoly — to Parliament — and protective tariffs — mercantilism became more expensive.20 Yet the King still had extensive powers of appointment (Adam Smith himself was in his maturity appointed inspector of the very customs duties that he excoriated in The Wealth of Nations). The relative price of protection against foreign competition may have risen, but the total to be gained by corrupting King or Parliament together does not appear to have markedly fallen. Private bills, increasingly common in the eighteenth century, were ideally suited for extracting rents from ones fellow citizens directly — never mind the new abilities of Parliament to “protect” from foreigners like the French, in order to enrich West Indian landlords with a higher price for Jamaican sugar. In acts for agricultural enclosure the Parliamentary officials to be bribed with large sums were named in the very acts. Politics in eighteenth-century Britain was not called by William Cobbett “the old corruption” for nothing. Rent-seeking continued after industrialization, right down to Boeing’s bid in 2008 to build tanker aircraft for the U.S. government, and the exemption of chicken and hog farms from responsibility for their animals’ waste. Yet economic growth took place.

The long perspective is why North’s is an exceptionally poor argument for explaining the Industrial Revolution or the modern world. The choice to escape from growth-killing investing in swords or in influence at Court rather than investing in good textile machinery to make good woolen cloth, and in good organizations to administer the good machinery, has happened repeatedly in history — in China for whole centuries at a time, in Rome in the second century C.E., in much of Europe after the eleventh century. Something was radically different about the case of eighteenth-century Britain. But the difference was not the rearrangement of incentives beloved of economists, those rules of the game. The incentives had already been rearranged, long before, and in many places.

One thought on “Part XI. The Institution of Douglass North

  1. don’t mistake a free and frank ehgaxnce of ideas and information with anger It is possible to disagree vehemently without malice intended. For example, consider our to-do from a week or two back where we ended was what’s the difference between reporters, journalists, and presenters?! Then this week you tee off on Glen Milne ’nuff said. At least he’s a lot more subtle than say, Greg Sheridan. But where do you draw the line and why do they all get to hide behind journalistic privilege’?@Deirdra says: it’s hardly just British shows that get ignored by Boxcutters Josh has said on numerous epidodes he’s not as interested in reviewing comedies as compared to drama, for example.(though anyone who’s read the *ahem* official GAT list could confirm that). Likewise sci fi get short shrift vs cop-shows, interview shows get reviewed not-at-all, and sitcoms get an automatic 3-star penalty. Australian shows get an automatic four-star bonus.Meh it’s their podcast, and they can do as they like with it. If we weren’t prepared to put up with their eccentricities, we wouldn’t listen. nd likewise, if we could deal with criticism, we wouldn’t actively post on the board

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