Institutional Frameworks Flashcards
What are Institutions（制度）?
Institutional Framework: formal and informal institutions governing individual and firm behaviour
Institution-based view: theoretical perspective suggesting that firm performance is partially determined by the institutional frameworks governing firms
Institutions: are the rules of the game, they determine what is or is not allowed, rules that shape the game and make it possible
Douglas North states that institutions are the humanly devised constraints that structure political, economic, and social interaction
- institutions can seem superhuman like the 2nd amendment
- institution work is at different levels such as politicians, social movements, entrepreneurs, influencers, experts
3 Institutional Pillars (Richard Scott)
Formal institutions
1. Regulatory pillar
- explicit purpose to regulate behaviour (e.g. formal rules, laws)
- the firm must report intent to require another firm
Informal institutions
2. Normative pillar
- shared expectations (e.g. norms in society, informal expectations)
- how companies should behave
- adopt a bonus system that si what they believe they should do in their industries
- Cognitive pillar
- deeply engrained world views shared by others (e.g. cognitive structures, how we look at the world)
- cognitive schemas
- taken for granted values and beliefs that guide individual and firm behaviour
What do Institutions do?
Institutions aim to reduce uncertainty.
- about what is acceptable and legitimate
- important to remove uncertainty as this builds trust
Economists view: Institutions structure interactions (Douglas North)
- institutions aim to reduce uncertainty
- the rules tell us how to transact
- the rules tell us what transactions and production costs will be
- the rules give meaning to the transactions
- given the rules we can calculate the profits and determine the feasibility of transactions
Function of institutions: reduce uncertainty and make transactions feasible
The business will take extra precautions if they believe others will show opportunistic behaviour, seeking self-interest with guile.
- institutions can prevent this by establishing the rules of the game and punishing people if not followed them or by creating trust
Sociologist view: Institutions shape behaviour (Richard Scott)
- institutions give legitimacy to people and firms, and to their actions and activities
- isomorphism: refers to processes that make people and organise behaviour in a certain way and as a result, groups of people or firms become more similar in an institutional context
1. Coercive isomorphism: through regulation
2. Mimetic isomorphism: through imitation
3. Normative isomorphism: through shared norms
Institutions are not static, especially in emerging economies
- institutional transition: fundamental and comprehensive changes introduced to the formal and informal rules of the game that affect organisations as players
- 2 approaches to transition:
1. Shock Therapy (Big Bang)
- rapid replacement and all at once (e.g. Poland, Russia)
2. Gradual Approach
- Organised
- Emphasises learning and slow adaptation (e.g. China, Vietnam)
Two Core Propositions
Firm behaviours are often a reflection of the formal and informal constraints of a particular institutional framework. Why? The institution-based view suggests two core propositions.
- Managers and firms rationally pursue their interests and make choices within a given institutional framework’s formal and informal contrasts.
- Although formal and informal institutions combine to govern firm behaviour, in situations where formal constraints are unclear or fail, informal constraints will play a larger role in reducing uncertainty and providing constancy to managers and firms.
Violating Institutions
It is difficult to see institutions in a familiar, stable context. They come to the forefront in an unfamiliar or changing or foreign context, but also when different rule systems clash or when people or firms violate institutions.
Violating institutions can be:
- illegal when violating regulatory institutions
- awkward when violating normative institutions
- sacrilege（冒涜）when violating cognitive institutions
Institutions Shape Economies
Another important effect of institutions is that institutions shape economies.
- examples of formal institutions that shape economies are organisations that can create and enforce these institutions (e.g. police court, university etc)
- a formal institution of money is probably the most impressive because it is widely accepted, money is so powerful
- a formal institution of physical property rights: legal rights to use an economic property and to derive income and benefits from it
- intellectual property rights: rights associated with the ownership of intellectual property such as patents, copyrights, and trademarks, often issued and protected on a country-by-country basis
- corporate governance: rules of the game to align manager’s interests with the interests of shareholders and other stakeholders
- without proper corporate governance, people would be unlikely to put their money into someone else’s business
Tripartite Division of Society
Refers to the division of society into three institutional spheres. These have different levels that live by the rules and shape the rules
- State: iron hand
- with a corrective approach and rules that result from the rationalisation and regulation of human activities
- tend to rationalise interactions, by which informal institutions are replaced by formal institutions such as laws, regulations, and formal agreement
- structures interactions through hierarchical, bureaucratic processes
- enforce rules through regulations and sanctions
- government, ministries, counties, provinces - Civil Society: intangible hand
- with a cooperative approach and rules that result from respect and esteem for, connectedness with, loyalty to the group
- non-governmental groups that avoid disrespect
- protect and develop communities, which is reflected through loyalty to the other members of the community and their welfare
- primarily tries to influence the institutional context by shaping social norms
- non-profit organisations, volunteering-organisations - Market: invisible hand
- with a competitive approach and rules the result of a free market of supply and demand
- the logic of the market is to find the balance between supply and demand
- the personal interest of the buyers and sellers without knowing them themselves determine how interactions are structured and serve the collective interest of the market
- profit, BVs, NVs, Ltd
- together these spheres determine the national institutions of a country
- shaping the institutional context also becomes a struggle between the spheres, as there is conflict as to what activities should be regulated by which sphere
- the state and civil society have a role in ensuring that there is justice among people in the market and that everyone gets an equal chance
- Civil Society + State = hospitals, universities
- State + Market = state-owned corporations, public-private partnership
- Market + Civil Society = cooperatives, family businesses
Political Systems: State (Iron Hand)
Rationalise interactions in which formal institutions are replaced with formal regulations.
At a broad level, there are two primary political systems.
1. Democracy
2. Autocracy
Democracy: a political system in which governments derive their legitimacy from elections by citizens
- democracies vary in the way they translate the votes of the public into legislation, taxation and other government actions
Proportional Representation
- all the votes are added up and seats are allocated to political parties proportionately to the number of their votes
- most countries have this form
- comes closest to the ideal that all voters are equally important in choosing a country’s leaders
First-Past-The-Post System
- each constituency elects one representative only
- many Anglo-Saxon countries including the UK, the USA and India
- tends to favour the relatively strongest political parties and gives less influence to smaller parties
Direct Selection and Indirect Selection System
- Indirect: voters elect their representatives in parliament who on their behalf elect and monitor the government and the most powerful official figure
- Direct: voters directly elect their president with executive power who then appoints government ministers
Representative vs Direct Democracy
- Representative: some countries elect representatives who act on their behalf and decide on new laws
- Direct: other countries give citizens the power to directly vote for certain laws
Centralisation of Power
- normally the national government is the centre of power, but people also elect local representations and regional assemblies
Authoritarianism
- a political system in which power is concentrated in the hands of one person or a small elite
- small individual freedom
- submission to the authority of the leader is expected
- usually combine strong ideology with control over military and police forces
- declined since 1980s
- the distinction between democracy and authoritarianism is not always clear
- many countries hold elections to select or confirm their political leaders without offering realistic opportunities to opposition parties
Business and Politics
Why are political systems important for businesses?
- Political systems determine who sets the rules and whose interests may be reflected in the rules.
- Political systems determine where and how businesses may be able to influence legislative processes through:
- lobbying: making your views known to decision-makers to influence political processes, mostly legal
- corruption: the abuse of public power for private benefits, usually illegal - Political systems vary in how frequently the rules of the game for businesses are changed, a major source of political risk: risk associated with political changes that may negatively impact domestic and foreign firms
- the more stable a political system and more entities required to approve of changes, the more attractive it is to foreign investors
Economic Systems: Market (Invisible Hand)
Rules of the game on how a country is governed economically.
Theoretical prototypes:
1. Market economy
2. Command economy
Market Economy
- an economy that is characterised by the invisible hand of market forces
- production privately owned and individuals free to engage in all kinds of contracts
- the government performs functions that the private sector cannot perform (e.g. providing roads and defence)
Command Economy
- an economy in which all factors of production are government or state-owned and controlled, and all supply, demand, and pricing are planned by the government
Capitalism
Institutional framework with an economic and political system that private owners rather than the state structure economic interactions.
- aims to give room to the invisible hand of the market
- most developed countries
Varieties of Capitalism
1. Liberal Market Model (LME)
- there is a system of coordination primarily through market signals
- little protections and firms are financed through shares
- dominated anglo-saxon countries
- large market and small state sphere with little overlap
- the value of the free market is emphasised
- model prioritises shareholder value creations, few state-owned enterprises
- individual freedom
- critics believe this is a short-term focus and disregards members of society that have a weaker position in the market
- Coordinated Market Model (CME)
- there is a system of coordinating through a variety of other means in addition to market signals
- more job protection and more difficulty in raising capital through shares
- dominated continental Europe
- power distributed more or less equally over spheres and overlap
- stakeholder’s interests are emphasised
- critics stress that the welfare state comes with high income tax and due to empathised stakeholders slows down decision-making processes - The Asian Model
- highly values network and long-term collaboration
- mixes a free market ideology with the command
- close cooperation between market and state, making networks/relationships important
- more collectivistic culture
- many state-owned enterprises
- civil society has less power
Many countries have different combinations of LMEs and CMEs
Legal System: Civil Society (Intangible Hand)
Rules of the game on how a country’s laws are enacted and enforced.
2 main legal traditions:
1. Civil Law: uses comprehensive statutes and codes as primary means to form legal judgements
- judges base their reasoning primarily on the law and rulings of a higher court
- contracts are primarily brief and there is more protection for employees and consumers
- businesses appreciate this as it provides clarity of rules and reduces the need to negotiate contracts
- Common Law: shaped by precedents and traditions for previous judge decisions
- common law continuously evolves and provides businesses with greater freedom to set their own rules
- requires corporate lawyers as contracts need to be more extensive because a judge will base his/her decision on this
Path Dependency
Past decisions affect the rules we have now and the choices of which rules we will have in the future. Options for change are constrained by what happened in the past. Institutions mostly emerge from within pre-existing institutional frameworks.
Changing institutions is costly financially and emotionally and in terms of effort and time
- switching cost
It also comes with costs that have been incurred as a result of past decisions, and cannot be recovered
- sunk cost
How Do Institutions Develop
Economic Development Stages
- Trade within the village
- informal institutions allow for local exchange
- no state of government influence - Trade beyond the village
- moves to regional markets
- starts to specialise
- conflict can occur as there are only some rules that are not formal and open to interpretation
- no monitor or state regulation
- the effectiveness of informal institutions depends on religious presets - Long distance trade
- bring together buyers and sellers from distant places
- gathering placed along this trade route
- more complex set of institutions
- need for contracts and organisations to enforce these contracts
- a mixture of informal and semi-formal bodies enabled this long-distance trade - Further expansion of trade
- urbanisation towns became more important
- markets expand and factories have more economies of scale
- Weber’s specialist function for workers
- effective in personal contracts
- more trade with more institutional development
- allowed for investment in technological advancements - Modern trade
- specialisation is optimised
- relies on a worldwide network with intercontact players
- requires institutional organisation
This is a process from Autarky. Starts with being self-sufficient, to increasing reliance on specialisation and division of labour.
How do institutions not develop?
- due to path dependencies
- lack of formal institutions in early stages
How Do Institutions Develop Rapidly
Rapidly developing institutions: emerging economies
- Eagles such as BRIC countries (Brazil, Russia, India, China)
- over the last decade they had a large economic growth, yet there are still critical gaps in their institutional framework: Institutional Voids
Institutional Voids:
- there is an absence of intermediaries that can efficiently connect buyers and sellers
- two examples:
1. lack of specialised intermediary firms
- e.g. market research companies
2. lack of regulatory systems on which MNEs depend
- e.g. contract enforcement mechanisms, legal systems
Institutional Transition
Institutional development: process of turning a less complex system into a more complex one
Institutional transition: process of changing the system from one type to another
- protests regarding the current system can trigger institutional transition
2 approaches to transition:
1. Shock Therapy (Big Bang)
- rapid replacement and all at once (e.g. Poland, Russia)
2. Gradual Approach
- Organised
- Emphasises learning and slow adaptation (e.g. China, Vietnam)
