I’ve thoroughly enjoyed The Institutional Revolution by Douglas W Allen, although it wasn’t what I had been expecting. The book combines a fascinating institutional economics descriptive approach to some specific historical institutions, in Britain of the 17th to 19th centuries with some highly thought-provoking analysis of the way technology changes social and economic institutions. As noted in my curtain raiser, the book analyses some specific institutions that on the face of it look inefficient or even irrational from the perspective of transactions costs. So much of life was subject to the vagaries of nature that measuring a person’s effort was impossible. Meritocracy was therefore impractical – the measurement/transactions costs were too high. Instead, the ruler – the king in this case – exerted power through institutions that forced people to demonstrate loyalty in order to access wealth, or institutions that in some way aligned private incentives with those of the monarch.
For example, the very existence of the aristocracy as a ruling class – small and immensely wealthy – was due to this need to demonstrate loyalty. People who would enter from the lesser gentry or climb the aristocratic ranks had to make large investments in social capital such as building a large and fairly isolated country estate, taking part in the right dances and teaching the daughters of the house music and needlework, mingling only with the right sort of people. All very Jane Austen. The reward would be offices handed out by patronage, giving access to what we might see as bribes but were then simply the income for the job. Disloyalty resulted in social ostracism. All that ‘sunk’ social capital would go to waste and the source of income gone. It was, he argues, an economically efficient system: “Britain, by becoming the most aristocratic of societies, also became the wealthiest and most powerful.” (p79)
Allen sees duelling in the same light. It would be social death not to challenge to a duel somebody who accused one of lying or dishonourable behaviour, but there were strict conventions about the weapons and format. It had to be impossible not to take the risk of a duel if one wanted to hang on to that social capital, with enough danger of death to discourage pretenders but not enough danger of death that duels were frequently fatal. Drawing blood was usually enough to win.
He goes on to look at other institutions from the same transactions cost perspective, from the rules for joining and promotion as an officer in the army and navy, to the justice system and policing, to lighthouses.
Technology changed everything. “In modern times, our ability to measure service performance allowed for the development of bureaucratic institutions.” For instance, until the 19th century, lighthouses were all privately run because all ships sailed close to shore for much of the time, so poor was navigation and control over sailing ships. Every vessel used the lighthouses, so every one paid lighthouse dues to the company when they put in to harbour. The combination of measuring longitude and steam power changed sailing in such a way that many ships did not have to put into harbour, and it was not possible to tell who was and who was not using the lighthouse services. Therefore a free rider problem emerged, and lighthouses became public goods as we conventionally think about them.
The changing technology of the Industrial Revolution – reliable timekeeping, rail travel, steam power – changed the economically efficient shape of the institutional landscape across the board. “The problem was that the evolution of institutional responses, which allowed for the full exploitation of technological advances, took time to develop.” (p222) The economic benefits of technological change were therefore slow – something we have seen in our own times with the full impact of the information and communications revolution. But when they do come along, they have spillover effects, and economic change is rapid.
Allen doesn’t speculate about today, but I found it impossible to resist. Bureaucratic administration, which we still have, was ideal for the mass production economy in which goods and services are standardised and an individual’s effort easy to monitor. Increasingly, though, the new technologies mean computers are doing the things that are standardised and measurable, and people are once again doing work where their effort is hard to monitor, whether that is writing large computer programmes or devising an advertising campaign or caring for an elderly person. I’ve argued before that we have institutions that lag behind our technologies. This book really helped me understand the shapes institutions can take when there are specific kinds of measurement and transactions costs. The emerging high trust economy will end up being governed in ways that look revolutionary from today’s perspective.
Institutional Revolution: Measurement and the Economic Emergence of the Modern World (Markets and Governments in Economic History)