Chapter 2: Formal Institutions

Question 1

Difference between formal and informal institutions

Answer 1

Formal Institutions:
Examples: Laws/Regulation/ Rules
Supporting Pillars: Regulatory (Coercive)

Informal Institutions:
Example. Norms/Culture/Ethics
Supporting Pillars: Normative/ Cognitive

Question 2

Political Systems

Answer 2

• A political system refers to the rules of the game on how a country is governed politically.
– Political risk is the risk associated with political changes that may negatively impact
domestic and foreign firms.
• Types of Political System
− Democracy
– System in which citizens elect representatives to govern the country on their behalf.
− Totalitarianism (dictatorship)
– System in which one person or party exercises absolute political control over the
population.

Question 3

Economic Systems
Rules of the game on how a country is governed
economically

Answer 3

Market economy
– Characterized by the “invisible hand” of market forces.
– Government takes a hands-off, or laissez faire, approach.
– All factors of production are privately owned.
• Command economy
– Government taking the “commanding height” in the economy.
– All factors of production are government- or state owned and controlled.
– All supply, demand, and pricing are planned by the government.
• Pure market economy and pure command economy are theoretical ideas, in practice “mixed
forms”

Question 4

Legal Systems
Rules of the game on how a country’s laws are enacted and
enforced

Answer 4

Civil law
− A legal tradition that uses comprehensive statutes and codes as a primary means to form legal judgments.

Common law
− A legal tradition that is shaped by precedents and traditions from previous judicial decisions.
– Case law
− Rules of law that have been created by precedents of cases in court.

Question 5

Property Rights

Answer 5

Property rights
– Legal rights to use an economic property resource and to derive income and benefits from
it.
• Intellectual property rights
– Rights associated with the ownership of intellectual property.
• Patents
– Legal rights awarded by government authorities to inventors of new technological ideas,
who are given exclusive (monopoly) rights to derive income from such inventions through
activities such as manufacturing, licensing or selling.
• Copyrights
– The exclusive legal rights of authors and publishers to publish and disseminate their work
(such as this lecture, a photo or a piece of software).
• Trademarks
– Exclusive legal rights of firms to use specific names, brands and designs to differentiate
their products from others.