Doug North

Doug North is a Nobel-prize winning economist who looks at the International Political Economy primarily on a domestic level. Closely paralleling the classical political thinker John Locke, North is a firm believer in the power of domestic institutions in IPE. Locke cited a perceived lack of currency in his explanation of the absence of intricate political structure in Native American societies. North defines institutions as "rules, enforcement characteristics of rules, and norms of behavior that structure repeated human interaction." (50) Just as Locke asserted a direct link between institutions such as currency and elaborate political forms, North argues that institutions are essential to promoting and facilitating advanced economies, emphasizing their role in providing third-party enforcement for the critical next step in developing economies: impersonal interchange.

Impersonal trading is a fundamental foundation in any efficient economy because it opens up for producers a much broader base of consumers, particularly in the international market. According to North, however, impersonal interchange comes with high transactions costs. In personal interchange, where individuals are part of a tight social network, cheating, shirking, and opportunism are limited because engaging in those activities would avert others from trading with you in the future. However, production costs in this society are high because there is limited opportunity for specialization and the division of labor. Impersonal exchange may lower production costs because of specialization, but transaction costs are high because it is beneficial to engage in cheating, shirking, and opportunism. These high transaction costs necessitate the development of institutions to constrain individuals from partaking in such activities. According to North, “institutional reliability is essential, because it means that even as the network of interdependence caused by the growth of specialization widens we can have confidence in outcomes that are necessarily increasingly remote form our personal knowledge” (49). This “medium of exchange with reliable features” must include a third party to exchanges which “specifies property rights and enforces contracts” and “norms of behavior to constrain the parties in interaction" (49-50)¹. Indeed, for North, one of the main "functions of institutions is to provide certainty in human interaction." (53)

To support his case empirically, North uses the contrasting development of political institutions in Spain and Britain and the effects that he believes these developments had on North and South America. Spain saw an increase in the power of the King and decline in the power of the Cortes (or parliament), meanwhile Britain saw the inverse; an increase in the power of parliament and a decline in the power of the crown. The stability of property rights in Britain increased as they escaped from the Crown's control while that of Spain decreased as property rights could easily be redefined by the King. Creditors, merchants and manufacturers perceived this instability in Spain and were hesitant to both lend the empire money and operate within its borders. Britain experienced the opposite trajectory. Corresponding institutions established themselves in North and South America, leading to the economic prosperity of the North and an overwhelming, inefficient bureaucratic machine in South America.

¹The rules and norms associated with institutions influence the choices individuals make. Rules are often imperfectly enforced because of costly measurement and the divergence of the interests of principals and agents. Norms, on the other hand, constrain the choices an individual can make at ta certain moment depending on the degree that the individual believes in the rules and the level of rule enforcement perfection.

North, Douglass C. "Institutions and Economic Growth: A Historical Introduction." International Political Economy Perspectives on Global Power and Wealth. By Jeffry Frieden and David A. Lake. New York: Routledge, 2000. 47-59. Print.