An equilibrium model of how regulative and normative institutions influence micro-economic and organizational behavior

This paper investigates how pre-existing institutions foster economic development through trade. A non-cooperative game-theoretic model is proposed that combines three strands of social science: economics, political science, and sociology. Idealized market participants follow rational decision theory within a reward structure that embodies two types of institutions. Regulative institutions operate on threat of punishment, and normative institutions on perceptions of what is good and right. This composite model allows a more quantitative analysis of the question, raised by Douglas North, of how societies diverge from the efficient state predicted by classical micro-economics. The main finding is that value can be created by different types of institution even when they are imperfect, and the range of minimum–maximum effectiveness varies with the types of economic transactions that are technologically possible. It is hoped that further refinements of the model will yield greater understanding of how the success of societies and organizations can be predicted by a few simple rules.