New Institutional Economics and Its Application on Transition and Developing Economies

Introduction In departures from centrally planned economies the threat of financial crisis, breakdown of political order, and re-evaluation of social values cause what Williamson (2000a) has termed “defining moments.” Transition economies share broad similarities with other developing economies with respect to the importance of building institutions that can enable, motivate, and guide economic actors to create private and social wealth. Dismantling centrally planned economies to construct the institutional foundations of a market economy entails far-reaching and rapid institutional transformations. Whilst developing countries seek to optimize economic growth within the context of a relatively stable institutional framework, transition economies face the immense task of replacing socialist planning apparatus with a new economic system (Nee and Opper 2007). The standard economic toolkit does not include guidelines to deal with the intractability of informal constraints in the effort to build new economic institutions. Hence, transition economies offer rare windows of opportunity for economists to examine under conditions of punctuated equilibrium the dynamics of institutional change wherein informal and formal institutional elements collide, interact, and recombine to shape the institutional foundations of an emergent market economy. This chapter reviews the transition economy literature with an emphasis on the two levels – institutional environment and governance – in Williamson's (1994) multi-level model of economic systems. A broader approach, incorporating two or more levels of analysis of Williamson's multi-level model, is needed to cover appropriately the complex interactions between formal and informal institutional elements driving institutional change and economic performance in transition economies.