Page 90 - Azerbaijan State University of Economics

B.N.Babayev: The rise of new institutional economics and assessment its contributions to the
post Washington consensus

neo-classical economics, it seeks to offer solutions to the challenges of the
neoclassical economics. The second argument is that the NIE created a new
theoretical framework which challenged the idea that markets play crucial role in
development, and state must not intervene to markets. The final importance of the
NIE according to Harris is that the NIE stresses that the institutional change can spur
economic development (1995: 1). All these arguments make the NIE an innovative
wave on development agenda. It is important to highlight that another significance
of the NIE can be its domination within the PWC which seeks to find an answer to
the puzzles of neo-liberal economic programs.
As institutions play a central role in the economic performance from the
perspective of the NIE, it is important to identify what refers to as institutions.
According to North, “institutions are the rules of the game in a society or, more
formally, are the humanly devised constrains that shape human interaction” (1990:
3). North mentions two forms of constrains. Formal constrains include political
rules, economic rules, contracts, property rights, and laws. Informal constrains
include traditions, customs etc. (1990: 35-52). North argues (1997: 4) that the
existence of formal rules minimizes ambiguity in human relations and encourages
the market interaction among different actors that positively influence an overall
economic performance. According to North (1990: 6), “the major role of institutions
in a society is to reduce uncertainty by establishing a stable structure to human
interaction”. At the same time, institutional management also requires the role of an
effective organization (state, central structure) in order to manage an effective run of
institutions (North, 1995: 23). Therefore, good political structures are essential in
economic and social development from the perspective of the NIE. The role of
government in terms of effective run of institutions with an aim to achieve better
economic performance is a new wave which the NIE brought to the neo-classical
economic thinking, since the latter has been based on an idea of perfect market
based on a non-intervention of states in economic development (Mosley et al. 1991:
4). These contributions of the NIE about the role of state and institutions are also
dominating within the agenda of the PWC.
Furthermore, North (1995: 8) argues that institutions reduce transaction costs
during economic interactions of agents in order to explain the importance of
institutions in economic growth. According to the findings of North, transaction costs
are high in developing countries because of poor institutional arrangements and these
costs hamper the agricultural growth (Kherallah and Kirsten, 2001: 16-17 quoting by

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