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Market and non-market hierarchies: Theory of institutional failure
JOURNAL OF ECONOMIC
BEHAVIOR AND ORGANIZATION
Book Reviews
Journal
of Economic
Behavior
Christos Pitelis, Market nal Failure (Blackwells,
and Organization
24 (1994) 233-250.
and Non-Market 1993) pp. 254.
Hierarchies:
North-Holland
Theory
of Institutio-
1. The aim of the book Macro-level theories of economic and institutional changes generally suffer from weak micro-foundations. To take just a few examples, both Keynesian macroeconomics and Marxian accounts of the evolution of ‘capitalist’ economies depend critically on some very specific and often dubious assumptions about the forms of ‘market failure’ that exist in an economy. Pitelis provides an account of the development and evolution of economic systems based on the more promising approach that markets fail due to transaction costs and that alternative institutional structures may arise to reduce these costs. In so doing, he also attempts to expand the now-standard ‘markets versus firms approach to include government as well as private hierarchies. He also attempts to synthesise the Coase-Williamson approach not only with Marxist perspectives but also with those provided by the traditional monetarist and Keynesian schools of macroeconomics. Those are ambitious aims. Pitelis also wishes to convince the reader that ‘capitalism’ is currently experiencing something termed an ‘institutional crisis’, although it is never clear what this crisis is and how it relates to his arguments. The book’s lack of coherence and paucity of new and useful insights is probably an inevitable consequence of the author’s diffuse and ambitious goals. The author nearly confesses as much at the end of Chapter 1: ‘For my part, I am quite happy if this volume contributes to a widening of the debates or even if its plea for a catholic approach to political economics is given some thought. When developments in this direction have been achieved, we will be ready to start thinking about the incorporation of more wide and equally interesting aspects in the analysis: sociological, psychological, and importantly, ecological spring to mind’. The book reaffirms this reader’s view that the more focused and ‘narrow’ approach (consistently advocated by Williamson) is in fact far more ‘interesting’ and valuable. The book also has a haphazard feel, which is exemplified by the repetition of a single (and rather confusing) quote on page 27 and 124. 0167-2681/94/$07.00
0
1994 Elsevier
Science
B.V. All rights
reserved
Book
reviews
235
2. What the author does The middle chapters (2-4) attempt to synthesize Coase-Williamson, Marxist, Keynesian, and monetarist views on the nature of business firms, monopoly versus competition, and the role of the state respectively. The chapter on the state is of some independent interest as a competent and quite wide-ranging survey of both positive and normative theories of the state. The only quibble I have with this chapter is the immense importance and power ascribed to multi-national (or in his terms, Trans-National) corporations. The efficiency attributes of such firms are downplayed, and Pitelis uncritically accepts Kindleberger’s (1984) claim that the transnational corporation tends to suppress local interests and produces congestion, pollution, and bland food. A recent visitor to Moscow convinced this viewer that a comparative analysis of the polluting and dietary effects of various institutional structure is required before any such charges are taken seriously. The chapters on the firm (number 2) and on monopoly versus competition (answer 2) are far less successful than the one on the state. Chapter 3, in particular, could have been deleted without any effect on the arguments in the rest of the book. It is a survey of various debates on the source of abnormal profit and is never referenced in later chapters. Chapter 2 on the nature and objectives of business firms suffers from some rather severe misconceptions about Williamson’s efficiency appproach to the study of economic institutions. In essence, Pitelis makes the common assertion that private hierarchies exist merely to advance the interests of capitalist owners at the expense of workers. The entire point of the efficient approach is to show how hierarchies can advance the interests of all parties by securing a more efficiency work-leisure trade off on the job (in the Alchian-Demsetz version) or by reducing the costs of haggling and adaptation to changed circumstances (in the Willliamson version). The question of whether actual economic structures reflect power or efficiency considerations is clearly an important one. The interested reader is advised to look to Dow (1987) and the exchange between Bowles, Gintis, Williamson, and Stiglitz in the winter 1993 edition of the Journal of Economic Perspectives rather than Pitelis’ chapter 2. These criticisms of the middle chapter do not substantially affect Pitelis’ main thesis about the capitalist economy’s institutional crisis, given in the final chapter number 5. This story is crammed into the last 17 pages of the book and draws very little on the preceding 201 pages of text. The idea seems to be the familiar Keynesian (and Marxian) one that capitalist firms invest only if they expect to receive profits and that this linkage is very fragile. Pitelis’ account is not particularly compelling, nor does his regression of aggregate profit shares on aggregate investment and past profit shares provide much more support or understanding. The author would have done
236
Book
reviews
well to have actively applied the market and institutional failures framework to uncover and test the linkages that are in fact key to his notion of capitalist crises. This line of argument is best summarised on page 213 and seems to be that private hierarchies increase capitalist profit at the expenses of workers. This leads to a reduced demand for the firm’s products, forcing them to go overseas. This expansion is limited and also seems to lead to ‘fiscal crises’. This necessitates a new regulatory regime. I am not exaggerating the discontinuities in Pitelis’ arguments. Trasaction cost analysis, particularly that which focuses on failures of (both internal and external) capital markets, may be able to fill in these gaps. But that will have to be in another book. Reference Dow, Gregory K., 1987, The function of authority in transaction Economic Behaviour and Organization 8, 13-38.
cost economics,
Gerald
Journal
of
T. Garvey
Australian National University, Canberra, ACT 0200, Australia SSDl
0167-2681(93)EOO59-9
Karen Schweers Cook (Cambridge University $49.95, paper $19.95.
and Margaret Levi, eds., The Limits of Rationality Press, Cambridge, 1990) pp. 246, library hardcover
Rational choice is the fundamental principle of economic analysis and of ‘economic imperialism’ in political science and sociology. While the rational choice methodology has been very successful both theoretically and empirically, it also has substantial weaknesses. The papers collected in this volume examine these weaknesses in a constructive spirit aimed at showing how the use of rational choice models could be improved. The editors have collected and commissioned papers from prominent scholars that cover the issues; most are followed by comments written for this volume. The rationality postulate is considered from three perspectives in the three parts of the book: in terms of the individual, social norms, and institutions. Thus it begins with individual utility-maximizing models, moves to the relationship between individual preferences and society’s norms and pressures, and finally to the way in which socially structured institutions themselves influence individual behavior. Margaret Levi, Karen S. Cook, Jodi A. O’Brien, and Howard Faye provide a general introduction to the papers and the subject. The first section deals with individual rational choice. Jon Elster provides a lively overview of ways in which rational models (and sometimes rationality) fail to make sense of behavior, and sketches alternative ways of viewing
BEHAVIOR AND ORGANIZATION
Book Reviews
Journal
of Economic
Behavior
Christos Pitelis, Market nal Failure (Blackwells,
and Organization
24 (1994) 233-250.
and Non-Market 1993) pp. 254.
Hierarchies:
North-Holland
Theory
of Institutio-
1. The aim of the book Macro-level theories of economic and institutional changes generally suffer from weak micro-foundations. To take just a few examples, both Keynesian macroeconomics and Marxian accounts of the evolution of ‘capitalist’ economies depend critically on some very specific and often dubious assumptions about the forms of ‘market failure’ that exist in an economy. Pitelis provides an account of the development and evolution of economic systems based on the more promising approach that markets fail due to transaction costs and that alternative institutional structures may arise to reduce these costs. In so doing, he also attempts to expand the now-standard ‘markets versus firms approach to include government as well as private hierarchies. He also attempts to synthesise the Coase-Williamson approach not only with Marxist perspectives but also with those provided by the traditional monetarist and Keynesian schools of macroeconomics. Those are ambitious aims. Pitelis also wishes to convince the reader that ‘capitalism’ is currently experiencing something termed an ‘institutional crisis’, although it is never clear what this crisis is and how it relates to his arguments. The book’s lack of coherence and paucity of new and useful insights is probably an inevitable consequence of the author’s diffuse and ambitious goals. The author nearly confesses as much at the end of Chapter 1: ‘For my part, I am quite happy if this volume contributes to a widening of the debates or even if its plea for a catholic approach to political economics is given some thought. When developments in this direction have been achieved, we will be ready to start thinking about the incorporation of more wide and equally interesting aspects in the analysis: sociological, psychological, and importantly, ecological spring to mind’. The book reaffirms this reader’s view that the more focused and ‘narrow’ approach (consistently advocated by Williamson) is in fact far more ‘interesting’ and valuable. The book also has a haphazard feel, which is exemplified by the repetition of a single (and rather confusing) quote on page 27 and 124. 0167-2681/94/$07.00
0
1994 Elsevier
Science
B.V. All rights
reserved
Book
reviews
235
2. What the author does The middle chapters (2-4) attempt to synthesize Coase-Williamson, Marxist, Keynesian, and monetarist views on the nature of business firms, monopoly versus competition, and the role of the state respectively. The chapter on the state is of some independent interest as a competent and quite wide-ranging survey of both positive and normative theories of the state. The only quibble I have with this chapter is the immense importance and power ascribed to multi-national (or in his terms, Trans-National) corporations. The efficiency attributes of such firms are downplayed, and Pitelis uncritically accepts Kindleberger’s (1984) claim that the transnational corporation tends to suppress local interests and produces congestion, pollution, and bland food. A recent visitor to Moscow convinced this viewer that a comparative analysis of the polluting and dietary effects of various institutional structure is required before any such charges are taken seriously. The chapters on the firm (number 2) and on monopoly versus competition (answer 2) are far less successful than the one on the state. Chapter 3, in particular, could have been deleted without any effect on the arguments in the rest of the book. It is a survey of various debates on the source of abnormal profit and is never referenced in later chapters. Chapter 2 on the nature and objectives of business firms suffers from some rather severe misconceptions about Williamson’s efficiency appproach to the study of economic institutions. In essence, Pitelis makes the common assertion that private hierarchies exist merely to advance the interests of capitalist owners at the expense of workers. The entire point of the efficient approach is to show how hierarchies can advance the interests of all parties by securing a more efficiency work-leisure trade off on the job (in the Alchian-Demsetz version) or by reducing the costs of haggling and adaptation to changed circumstances (in the Willliamson version). The question of whether actual economic structures reflect power or efficiency considerations is clearly an important one. The interested reader is advised to look to Dow (1987) and the exchange between Bowles, Gintis, Williamson, and Stiglitz in the winter 1993 edition of the Journal of Economic Perspectives rather than Pitelis’ chapter 2. These criticisms of the middle chapter do not substantially affect Pitelis’ main thesis about the capitalist economy’s institutional crisis, given in the final chapter number 5. This story is crammed into the last 17 pages of the book and draws very little on the preceding 201 pages of text. The idea seems to be the familiar Keynesian (and Marxian) one that capitalist firms invest only if they expect to receive profits and that this linkage is very fragile. Pitelis’ account is not particularly compelling, nor does his regression of aggregate profit shares on aggregate investment and past profit shares provide much more support or understanding. The author would have done
236
Book
reviews
well to have actively applied the market and institutional failures framework to uncover and test the linkages that are in fact key to his notion of capitalist crises. This line of argument is best summarised on page 213 and seems to be that private hierarchies increase capitalist profit at the expenses of workers. This leads to a reduced demand for the firm’s products, forcing them to go overseas. This expansion is limited and also seems to lead to ‘fiscal crises’. This necessitates a new regulatory regime. I am not exaggerating the discontinuities in Pitelis’ arguments. Trasaction cost analysis, particularly that which focuses on failures of (both internal and external) capital markets, may be able to fill in these gaps. But that will have to be in another book. Reference Dow, Gregory K., 1987, The function of authority in transaction Economic Behaviour and Organization 8, 13-38.
cost economics,
Gerald
Journal
of
T. Garvey
Australian National University, Canberra, ACT 0200, Australia SSDl
0167-2681(93)EOO59-9
Karen Schweers Cook (Cambridge University $49.95, paper $19.95.
and Margaret Levi, eds., The Limits of Rationality Press, Cambridge, 1990) pp. 246, library hardcover
Rational choice is the fundamental principle of economic analysis and of ‘economic imperialism’ in political science and sociology. While the rational choice methodology has been very successful both theoretically and empirically, it also has substantial weaknesses. The papers collected in this volume examine these weaknesses in a constructive spirit aimed at showing how the use of rational choice models could be improved. The editors have collected and commissioned papers from prominent scholars that cover the issues; most are followed by comments written for this volume. The rationality postulate is considered from three perspectives in the three parts of the book: in terms of the individual, social norms, and institutions. Thus it begins with individual utility-maximizing models, moves to the relationship between individual preferences and society’s norms and pressures, and finally to the way in which socially structured institutions themselves influence individual behavior. Margaret Levi, Karen S. Cook, Jodi A. O’Brien, and Howard Faye provide a general introduction to the papers and the subject. The first section deals with individual rational choice. Jon Elster provides a lively overview of ways in which rational models (and sometimes rationality) fail to make sense of behavior, and sketches alternative ways of viewing