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MỤC LỤC

Contents
Q1: Compare between firm and market and state under Institutional economics. 2
Q2: Describe the effect/role of institutions on economic growth. Why do we need
new institutions?............................................................................................................5
Q3: Definition, role of institutions and give examples...............................................7
Q4: Under NIE, why do we need firms? (more product and less TC).....................9
Q5: Definition of transaction, Transaction Cost and give examples......................11
Q6: Describe pre and post contractual opportunism in sale contract, lease
contract, employment contract Contract= the legal effects of promise..................13
Q7: Give definition of relational contract. Why do we use relational contracts in
researching in NIE? (Role in IE)
………………………………………………………………………………………15
Q8 Public/private ordering? Under what circumstances can judicial solutions be
substituted for private ordering.................................................................................17
Q9: Compare between barter economy and money economy. Why does the
money economy exist?.................................................................................................19
Q10: Reducing transaction costs is an ultimate goal of the economy. => False.. .22
Q11. Why are the state, firm, and market considered as organization from the
perspective of new institutional economics . r...........................................................23
Q12. Decribe the NIE of the market, Why does the market exist from the
perspective of New Institutional Economics.............................................................24
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Q1: Compare between firm and market and state under Institutional economics
Institutional economics (IE) = Institutions+ Economics
• D1: a school of economics that emphasizes the importance of social institutions in
influencing economic behavior
• D2: Institutional economics views markets as a result of the complex interaction of
various institutions (e.g. individuals, firms, states, social norms)
• D3 (Hodgson 2001, p.345-346): “Institutional economics denotes a variety of
traditions in economics that are concerned with the social institutions linked to the
production, distribution and consumption of goods”
*Some common points:
- The organization “firm” and “market” are special cases of private collective
actions
- Firms and markets are organizations - are generally understood as socially
structured groups of individuals who seek to achieve common goals.
- Individuals cooperate on the basis of freely concluded formal contracts
protected by law
- They also cooperate on the basis of informal, self-enforcing or otherwise
protected relational contracts (given the institutional and the general
operational rules)
- It’s useful for individual to have some trust in each other’s word. In the
absence of trust, many opportunities for mutually beneficial cooperation
would have to be foregone.

To make promises trustworthy, credible commitments need to be established. This

is unproblematic if agreements can be made binding by the courts, but such court-
assured solutions are difficult to bring off in many relational contracts.

→ Judicial solutions have to be substituted for by private ordering

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*Differences:
1.1 Firms
- A firm is understood as a social network of relational contracts between individuals
(the resource owners) with the purpose of efficiently organizing production.
+ what is involved is the giving of orders through managerial or hierarchical
transactions.
- The relational contracts between actors are based largely on freely concluded long-
term contracts protected by law (e.g., employment contracts)
- Relational contracts' governance structure determines the production and transfer
of information and the methods that help to make information credible (firm specific
property-rights assignment of each member
- The (organization) firm deals, in the first place, with the transaction activities of the
postcontractual phase (execution, control, and enforcement).
1.2 Market
- A market is understood as a social network of relational contracts among individuals
who are potential buyers and sellers.
+ The arrangement reached is intended to promote an efficacious institutional
environment for trade.
- The relational contracts between actors are concerned with all types of exchange
contracts (sales, lease, employment, or loan contracts).
- Relational contracts' governance structure determines the production and transfer
of information and the methods that make information credible (the market - specific
property rights of each potential trader).
- Contrary to most of the economics literature, in which markets are simply assumed
to be "there," we argue that not only the firm but also the market is an
organization.
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- In a world of positive transaction costs, there exists a difference between

occasional exchange and exchange through the use of a market as a social
arrangement for repeated exchange among potential market participants.

7.3 State
- Not only firms and markets but also the economy as a whole – the state in general-
can be understood as a network of long-term relational contracts between
individuals.
- A state is understood as a network of relational principal-agent contracts
between the constituents (the principals) and their representatives (their
agents)
+ with the objective of optimizing the public weal through a suitable
organization of the use of force (coercion)
- The governance structure (constitution) determines the flow of information
and the methods that help make information credible (e.g., promises by the
government)
- The constitutional state was certainly an achievement in political life
- But, as in the case of economic relations (firm, market), court ordering alone
does not provide sufficient control of political relations and does not
sufficiently protect the principals against the "bad behavior" of their agents.
- In the end, the political system has to be self-enforcing (i.e., by “private”
ordering): credible commitments, the reputation of individuals and institutions,
play as important a role in political life as they do in economic life.
Điểm chung giữa firm, state và market

- đều được coi là institutions/ organizations . Organizations are generally understood

as socially structured groups of individuals who seek to achieve common goals.

-> Firms, markets, and states are organizations in this sense.

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• Firm: such common goals are, i.e, to secure the parties' transaction
specific investments, to maximize the owners' income. Market a means for increasing
the utility of those who participate in it. State: a major common goal is to supply a
certain level of public goods and to raise enough taxes for this purpose. But in IE
context, an organization is a network of (more or less) relational contracts whose
purpose is to regulate economic transactions (including transactions in formation)
between individual members of the organization.
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Q2: Describe the effect/role of institutions on economic growth. Why do we need

new institutions?
*Institutional economics are the foundation and basis for economic development,
which can create favorable conditions for economic actor to operate:
+ Stable political institutions will help economic development activities to take
place better
+ Balancing economic, social and environmental objectives; solving poverty,
inequality, environmental pollution and protecting national strategic interests
+ Creating a framework for economic actors to operate effectively, encouraging
innovation, competition and cooperation. Institutions for international
economic integration help expand the market for goods and services, attract
foreign investment, access advanced technology and international resources
Good institutions will help economic growth:
1st, The enforcement of contracts helps to reduce the uncertainty and
encourage economic activity. When individuals and businesses know that contracts
will be enforced, they are more likely to engage in economic transactions
2nd, Thanks to good institutions, the protection of property rights rise, assets
are protected. Individuals are willing to invest more assets as well as property rights
that will reduce the hidden costs in transaction costs. Without property rights and
contracts, especially relational contracts, individuals will not have the incentive to
invest in physical or human capital or adopt more efficient technologies.
3rd, A good institutional environment reduce corruption, which helps to create
a level playing field for businesses and individuals. People have confidence in the
state and in the government, the policies proposed by the state will be responded to
by the people and public cooperation between the people and the state will be
guaranteed and create a premise for economic development.
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Institutions affect the performance of the economy by their effect on the costs
of exchange and production. Together with the technology employed, they determine
the transaction and transformation (production) costs that make up total costs.

Economic institutions matter for economic growth because they shape the
incentives of key economic actors in society, in particular, they influence investments
in physical and human capital and technology, and the organization of production.

Institutions can have a significant impact on economic growth by providing a stable

and predictable environment for businesses to operate in. Well-functioning institutions
can reduce transaction costs, promote investment, and encourage innovation, all of
which can lead to faster economic growth.

One example of how institutions can affect economic growth is the case of South
Korea. In the 1960s, South Korea was one of the poorest countries in the world with
a GDP per capita of just $100. However, the government implemented a series of
institutional reforms that helped to create a stable and predictable
business environment. These reforms included the establishment of an independent
judiciary, improved property rights protection, and the deregulation of markets.

As a result of these reforms, South Korea experienced rapid economic growth, with its
GDP per capita increasing to over $30,000 by 2020. The country also became a leader
in industries such as electronics and automobile manufacturing, which helped
to further drive its economic growth.
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Q3: Definition, role of institutions and give examples

*Definition: Institutions are the rules of the game in a society or constraints that
shape human interaction
*The role of institutions:
- Reducing uncertainty by providing a structure to everyday life. Example: Legal
institutions provide clear property rights, ensuring that people know the laws
regarding ownership and inheritance, which reduces uncertainty about
disputes over property.
- Shaping human interaction (when we wish to greet friends on the street, drive
an automobile, buy oranges, borrow money from a business … we know how
to perform these tasks). Example. Social institutions such as etiquette guide
how we greet friends on the street, ensuring we know to shake hands or hug,
creating predictable and smooth social interactions.
- Structuring incentives in human exchange (whether political, social or
economic). Example: Economic institutions, like a central bank, set interest
rates that influence borrowing and saving behaviors. Low-interest rates
incentivize borrowing and investing, while high rates encourage saving.

*Characteristics:

- Institutions are both formal and informal

+ Formal constraints: rules that human beings devise. These are structured rules and
regulations established by organizations or governments.

+ Informal constraints: conventions and codes of behavior. These consist of unwritten

conventions, social norms, and codes of behavior that people follow.

- Institutions may be created, or they may simply evolve over time. As does the
common law.
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- Institutional constraints include:

+Prohibition: What individuals are prohibited from doing and, Specifies actions that
individuals are not allowed to perform.

+ Permission: Under what conditions some individuals are permitted to undertake

certain activities. Defines the conditions under which individuals are allowed to
engage in certain activities.

+Punishment is enacted when the rules and informal codes are violated. Applied
when rules or informal codes are violated to enforce compliance and maintain order.
- Institutional change shapes the way societies evolve through time and hence is the
key to understand historical change
- Essential part of the functioning of insitutiongs is the cosstliness of ascertaining
violations and the severity of punishment.
*Example: Rule of the school is that student must wear uniform, principle of class.
Health Institutions asThe World Health Organization (WHO). A specialized agency of
the United Nations responsible for international public health. The WHO's primary
role is to direct international health within the United Nations' system and to lead
partners in global health responses.
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Q4: Under NIE, why do we need firms? (more product and less TC)
Under NIE, why do we need market
- A firm is understood as a social network of relational contracts between individuals
(the resource owners) with the purpose of efficiently organizing production.
+ what is involved is the giving of orders through managerial or hierarchical
transactions.
- The relational contracts between actors are based largely on freely concluded long-
term contracts protected by law (e.g., employment contracts)
- Relational contracts' governance structure determines the production and transfer
of information and the methods that help to make information credible (firm specific
property-rights assignment of each member
- The (organization) firm deals, in the first place, with the transaction activities of the
postcontractual phase (execution, control, and enforcement).
Why need a firm?

+ From an institutional economic perspective, business plays an important role in the

economy because it creates products and services that are consumed in the market,
bringing benefits to both individuals and society as a whole.

+ Firms exist to reduce these transaction costs. By organizing activities within a single
entity, firms can streamline processes, reduce the need for extensive negotiations
and contract enforcement, and achieve efficiencies that would be more costly in a
market with many independent transactions

+ Firms provide a structure for managing uncertainty and complexity by centralizing

decision-making and creating an internal environment where rules and procedures
can be more easily enforced and adjusted as conditions change.

+ By internalizing transactions, firms can mitigate the risk of opportunistic behavior.

Hierarchical control within firms allows for better monitoring and enforcement of
behavior compared to arm's-length market transactions.
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+ Firms can better manage asset-specific investments by protecting them through

hierarchical governance structures. This reduces the risk of hold-up problems where
one party may exploit the other after the investment has been made.
- Why do firms exist?
- Importance of Firms in Minimizing Transaction Costs: The main reason why it is
profitable to establish a firm would seem to be that there is a cost of using the price
mechanism (or market mechanism)
- Two types of transaction costs may be saved: search costs and contracting costs
- If a firm is formed, the number of contracts that have to be concluded between
parties is greatly reduced.
• The owner of a productive factor is not required to make a separate contract with
others with whom he is cooperating in the firm.
• Rather, he concludes only one contract with the entrepreneur, whose directions he
agrees to obey in exchange for a stipulated reward.

+ By combining in an organization, people can produce relatively greater output than

they could if they operated as independent agents coordinated only by a series of
transactions across markets

+ Individuals have private objectives that are often in conflict with the collective
interests of the firm
+ Thus, a key problem for organizational and institutional economics is to determine
how to motivate individuals so that they will, in fact, work toward collective interests
and make the firm successful
+ “The main reason why it is profitable to establish a firm would seem to be that
there is a cost of using the price mechanism” (or market mechanism)
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Q5: Definition of transaction, Transaction Cost and give examples

*Transaction
- are the alienation and acquisition between individuals of the rights of future
ownership of physical things (commons 1934)
- A transaction occurs a good or service is transferred across a technologically
separable interface. One stage of activity terminates and another begins. (Williamson
1985)
For example, buying a coffee from a cafe is a transaction. You give money to the cafe,
and in return, you receive a cup of coffee.
*Transaction costs
Neoclassical theory: Assumptions of costless transactions (zero transaction costs).
no monetary payments, No formal contracts, no negotiations or agreements
Reality: information asymmetry, uncertainty, negotiation, contracting, enforcement,
transportation, time constraints, etc... => Nonzero transaction costs will be incurred
no matter what sector of an economy
- Transaction cost can be understood in general as the costs of running an economy.
They are expenses incurred when buying or selling a good or service.
- that can be understood in general as the costs of running an economy, or
transaction costs are the cost that arise from establishment, maintenance, use and
change of institutions and change in law (or TC occurs when a good or service is
transferred across a technologically separable interface. One stage of activities
terminates and another begins)
- Transaction cost, the costs of running the economic system (Arrow 1969, 48)
- Transaction costs involve the use of real resources- specifically, the resources
required to carry out the social transactions
- In term of institution: Transaction costs are the costs that arise from the
establishment, use, maintenance, and change of: (1) institutions in the sense of law
and (2) institutions in the sense of rights.
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- in the same example of buying coffee, the transaction costs might include: Time
spent traveling to the cafe

3 types of TC:
+ The cost of using the market (Market TC)
"To carry out a market transaction, it is necessary to discover who it is that one
wishes to deal with, to inform people that one wishes to deal with and to what
terms, to conduct negotiations leading up to a bargain, to draw up the contract, to
undertake the inspection needed to make sure that the terms of the contract are
being observed, and so on" Coase (1960)
+ The cost of exercising the right to give orders within a firm (Managerial TC)
What is of concern here is the costs incurred by a firm due to the managerial
decisions and actions necessary to organize and coordinate economic activities
within the firm and the costs of implementing the labor contracts that exist
between a firm and its employees.
+ The cost associated with the running and adjusting of the institutional
framework of a policy (Political TC)
"The cost of measuring, monitoring, creating and enforcing compliance" Levi
(1988)
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Q6: Describe pre and post contractual opportunism in sale contract, lease contract,
employment contract Contract= the legal effects of promise
6.1. Sales contract

- A sales contract provides for the permanent transfer of property rights in an asset
from 1 party to another by agreement.

- Example: Seller: Ellie Company, Buyer: Nhung. This contract agrees on the sale
of a new bike, model abc, from Ellie Company to Nhung for a purchase price of
$1,500. Ownership of the bike transfers to Nhung upon full payment.
- Pre-contractual opportunism:

+ The result of asymmetric information

+ The seller usually knows more about his product than the buyer does, and as a
result “bad” product may drive out a “good” product
- Post-contractual opportunism:

+ The moral-hazard phenomenon. As in the case of the pơ rincipal-agent problem

(Information of the parties here is asymmetric)
6.2. Lease contract

- The rights are leased for a specified period of time in exchange for periodic
payments of a stipulated price, the rent.

- Example: Lessor: Happiness Apartments, Lessee: Ellie. This contract grants Ellie the
right to lease apartment number 101 at Happiness Apartments for a period of one
year. Rent is $1,200 per month, payable on the first of each month. Ellie is
responsible for utilities but not general maintenance. Ownership of the apartment
remains with Happiness Apartments.
- Pre-contractual and post-contractual opportunism may occur in connection with the
lease contract
- Post-contractual opportunism is likely to be of greater practical importance and will
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tend to arise because of the existence of contract-specific investments or asymmetric

information
+ Contract–specific investments are typically higher for the lease than for the owner
of the apartment (i.e., moving expenses, neighborhood connections, and specifically
designed furnishings) Opportunistic owner → + The asymmetric information problem
normally works to the disadvantage of the apartment owner: the lessee does not
have the incentive to use the property with a car opportunistic lessee.
eg: Contract-specific investments are typically higher for the lessee than for the
owner of the apartment (moving expenses, neighborhood connection and specifically
designed furnishings) => opportunism owner
eg: the asymmetric information problem normally works to the disadvantage of the
apartment owner: the lessee does not have the incentive to use the property with
care => opportunistic lessee
**Employment contract
- The employer has the power or right to control and direct the employee. The
employer in return must grant the agreed wage. The sales and lease contracts
just described are concerned with control over
nonhuman resources. The employment contract deals with control over people. Pre-
contractual and post-contractual opportunism strongly condition behavior in labor
markets à institutional arrangements to avoid opportunism have to be considered.
Pre contractual opportunism (asymmetric information) Workers know their
abilities better than most employers do misrepresent their capabilities to potential
employers→ Solution: signaling devices l.e, the educational level. Post contractual
opportunism. (asymmetric information) Since employee performance/effort on the
job is only
imperfectly observable → Solution to induce labor to supply appropriate levels
of effort: Efficiency wage models deal
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Q7: Give definition of relational contract. Why do we use relational contracts in

researching in NIE? (Role in IE) D1: a school of economics that emphasizes the
importance of social institutions in influencing economic behavior
• D2: Institutional economics views markets as a result of the complex interaction of
various institutions (e.g. individuals, firms, states, social norms)
*Definition:
Relational contract can be understood as contracts that do not try to take account of all
future contingencies but are nevertheless long-term arrangements. Often contracts are
necessarily and intentionally incomplete because of mutual desires for flexible.The
parties are not strangers. Much of their interaction takes place “off the contract”,
mediated not by visible terms enforceable by a court, but by a particular balance of
cooperation and coercion, communication and strategy (“soft” mechanism). Personal
relations among the contractual parties matter. Contract litigation arises in only a
relatively small group of cases

→ The concept of the relational contract is used to explain cooperation

between individuals in a world with unforeseeable events.

- Relational contracts between individuals may be bilateral or multilateral. Bilateral

cooperation between buyer and seller in a market exchange or. Multilateral
cooperation (joint/ collective actions) between two or more individuals forming a firm,
a market or a State.The relational contracts are “administered” or “governed” by
different institutional arrangements: markets and “hierarchies” or anything in
between.
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A relational contract: Why?

- In the actual world with transaction costs and decision makers having
limited cognitive capacity

- Every transaction are carried out within specific organizational structures in which
personal relationships play an important role. In other words, these social structures
are networks of more or less relational contracts between individuals. The concept of
relational contracts is applicable to all relationships of an economy. An organization is
a network of relational contracts whose purpose is to regulate economic transactions
between individual members of the organization.)

*Why do we use relational contracts in researching in NIE?

Relational contracts play a significant role in institutional economics as they provide a

framework for economic transactions and exchanges based on trust and long-term
relationships rather than solely evaluating formal legal contracts. In addition,
relational contract explains the existence of market, firm the and state

- Relational contracts emphasize the importance of these social and

psychological factors in shaping economic behavior.
- Relational contracts are used by flexibility, adaptability, and the ability to
respond to changing circumstances. They are often implicit and based on
shared norms, trust, and previous interactions.
- Relational contracts help to address the inherent limitations of formal
contracts, such as incomplete information, uncertainty, and anticipation
contingencies
- Furthermore, relational contracts foster long-term relationships between
suppliers, customers, and other business partners.
 18

Q8 Public/private ordering? Under what circumstances can judicial solutions be

substituted for private ordering
Private Ordering:
- Private ordering is the process of setting up of social norms by parties involved
in the regulated activity (in some manner), and not by the State. Private
ordering refers to the rules and regulations that are established by private
individuals or organizations to regulate their own affairs. Private ordering is
often used to govern relationships between businesses, such as contracts
between suppliers and customers. Types of Private Ordering: Self-enforcing
agreements, Private third-party-enforced mechanism, (example: arbitration:
trọng tài phân xử), Tit-for-tat strategy or retaliatory behavior, Organizational
culture/rule
- Example of private ordering : The development of information technology and
the Internet, and the rules for standardizing structures and processes in online
affairs. Imagine traffic laws. These are set by the government (public authority)
to ensure order and safety on the roads. They apply to everyone.
+ Government regulation of the financial markets. The government regulates
the financial markets to protect consumers and to ensure fair competition. For
example, the government requires banks to hold a certain amount of capital in
reserve to protect depositors in the event of a bank failure.
Public Ordering:
- Public Order means the state of normality and security that is needed in a
society and that should be pursued by the state in order to exercise its
constitution
- Public ordering refers to the legal rules and regulations that are established by
the government or other public authorities to regulate society. Public ordering
is often used to regulate markets, such as the financial market or the
healthcare market.
 19

- Public ordering can be used to supplement private ordering, such as when

government regulations are used to enforce private contracts.
- Example: Think about a roommate agreement. You and your roommate
negotiate and decide on specific rules for sharing the apartment, like chores or
guest policies. This agreement applies only to the two of you.
The choice between public and private ordering depends on a number of factors,
including the nature of the economic activity, the level of uncertainty, and the cost of
enforcement.
When to use private ordering instead of public ordering? Under what circumstances
can judicial solutions be substituted for private ordering

- The organizations "firm" and "market" are special cases of private collective actions

- Individuals cooperate on the basis of freely concluded formal contracts protected by

law

- They also cooperate on the basis of informal, self-enforcing, or otherwise protected

relational contracts (given the constitutional and the general operational rules).
- It is useful for Individuals to have some trust in each other's words.

+ In the absence of trust, many opportunities for mutually beneficial cooperation

would have to be foregone. - To make promises, trustworthy, credible commitments
need to be established.

+ This is unproblematic if agreements can be made binding by the courts, but such
court-assured solutions are difficult to bring off in many relational contracts.
→ Judicial solutions have to be substituted for by private ordering.
+ private ordering is often used for its flexibility, efficiency, and adaptability in specific or
specialized contexts, while public ordering is essential for ensuring uniformity, addressing
broader societal issues, and providing formal enforcement mechanisms. The choice depends
on the specific needs, goals, and nature of the issues at hand.
 20

Q9: Compare between barter economy and money economy. Why does the money
economy exist?
- A money economy is an economic system in which goods and services are bought
and sold using money. Money is a medium of exchange that is universally accepted
and can be used to purchase goods and services from anyone.

- A barter economy is a cashless economic system in which services and goods

are traded at negotiated rates.
*Similarities:
- Goods and services are exchanged
- Dual natural due to the involvement of the two parties
- Both the economy, background mindset is to fulfill needs and wants
- They have a fixed price or amount for the exchange
- It helps to create a balance and channelize the market
*Differences:

9.1 Barter Economy:

- Barter economy is a cashless economy where goods and services are traded at
negotiated rates

- In this economy, exchange of goods for goods is direct

- Exchange of transactions is few and difficult. Barter economies are rarely found

- goods and services are directly exchanged without the involvement of money.
- Barter relies on the double coincidence of wants, meaning both parties must want
what the other has to offer. This can be inefficient and time-consuming.
- Barter transactions can be difficult to organize due to the need to find and negotiate
with potential trading partners.
- Barter economies are usually more localized, as it can be challenging to engage in
trade beyond immediate communities.
 21

- Goods and services in a barter economy do not have a standardized measure of

value, making it challenging to compare and determine fair exchange rates.
- Example: A farmer wants a new pair of shoes. He has to find a shoemaker who
wants wheat and doesn't need anything else the farmer can offer. This could take a
long time and may not be successful.
9.2 Money Economy
- Money economy is one where money is commonly used as a medium of exchange
- In this economy, exchange of goods is indirect through money
- Exchange of transactions is many and smooth
- Almost all economics in the world are money economies
- Money serves as a common medium of exchange, simplifying transactions by
providing a universally accepted medium for trade.
- Money enables indirect exchange, allowing people to sell goods or services for
money and then use that money to buy what they need. This enables specialization,
increased productivity, and broader trade networks.
- Money provides a standardized measure of value, making it easier to compare the
worth of different goods and services.
- A money economy facilitates trade beyond local communities and even across
international borders.
- Money can be saved and used at a later time, acting as a store of value, which is not
possible with perishable goods in a barter system.
- A money economy offers greater efficiency, flexibility, and scalability compared to a
barter economy.
- Example: The farmer sells his wheat for money at the market. He can then use that
money to buy shoes from a shoemaker, regardless of whether the shoemaker needs
wheat or not.
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● Why do money economy exist:

- Easier transactions: Money provides an easier way to exchange goods and
services since it is universally accepted as payment for any goods or services.
- Unit of Price: Currencies provide a common unit of price, which measures the
value of goods and services in a standard way, reducing bias and dispute in
determining exchange rates.
- Store of Value: Currency is a store of value, allowing people to accumulate
assets for a long time, promoting investment and saving, and accumulating
capital for economic development.
- Convenience in international trade: Currencies allow countries to exchange
goods and services on a global scale. This facilitates international trade and
actively aids in global economic integration.
- Payment standards: Currencies facilitate settlement and debt settlement,
while minimizing credit and debt transaction risks.
-> In a nutshell, a money economy exists because money fulfills the basic needs of
people and society in exchange and facilitates general economic activity.
 23

Q10: Reducing transaction costs is an ultimate goal of the economy. => False.
"Minimizing transaction costs is not an economically reasonable aim
Reducing transaction costs is not the ultimate goal of the economy; rather, the
ultimate goal is the efficient allocation of resources to maximize social welfare. This
involves allocating resources to produce the greatest benefit to society, considering
individual preferences and resource constraints. While high transaction costs can lead
to inefficiencies and discourage economic activity, other factors like social or
environmental concerns may be prioritized. For instance, a company might invest in
sustainable technologies or pay higher wages, despite increased transaction costs.
Reducing transaction costs is not the ultimate goal of the economy. Because, in
the economy, the ultimate goal is economic growth and economic efficiency,
ensuring a fair distribution of economic and social benefits.
The following are reasons why minimizing transaction costs is an important but
not a paramount economic goal.
1st, Reducing costs is crucial for enhancing competitiveness and efficiency in
economic activities. High transaction costs can impede economic activity, so keeping
these costs low facilitates more exchanges, ultimately increasing overall wealth.
2nd, Transaction costs are essential for the economy. They arise from the
communication and information exchange needed in the production process, where
division of labor and specialization enhance productivity and efficiency. Reducing
transaction costs eliminates these elements, leading to inefficiencies. Additionally,
minimizing transaction costs can cause information shortages, adverse selection, or
moral hazard, further impairing economic activities and exchanges.
The ultimate goal of the economy, then, is to look at the “overall performance of
the economy” rather than looking at transaction costs.
For example, The development of cryptocurrencies like Bitcoin, Ethereum, and
Litecoin has introduced lower transaction fees for online payments compared to
traditional methods. This can pressure banks and payment agencies to lower service
 24

values or cut staff to reduce costs, potentially leading to unemployment and reduced
service quality, which could negatively impact the economy.

Q11. Why are the state, firm, and market considered as organization from the
perspective of new institutional economics . From the perspective of New
Institutional Economics (NIE), the state, firm, and market are considered
organizations because they all function as institutional structures that facilitate
economic activity by reducing transaction costs, managing information asymmetries,
and coordinating interactions among individuals. All three state, firm, and market to
minimize the costs associated with economic transactions, including the costs of
searching for information, negotiating, enforcing agreements, and mitigating risks.-
The state provides legal and regulatory frameworks that reduce uncertainty, enforce
contracts, and protect property rights, thereby lowering transaction costs. - Firms
internalize transactions that would otherwise occur in the market, reducing costs
related to negotiating and enforcing numerous individual contracts. - Markets
facilitate the exchange of goods and services by providing a structured environment
where buyers and sellers can interact more efficiently. Each organization operates
within a set of formal and informal rules that guide behavior and interactions:- The
state enacts laws and regulations, creating an institutional environment that supports
market operations and economic activities. This includes legal systems, property
rights, and policies. - Firms have internal governance structures and hierarchies that
regulate interactions among employees and manage resources efficiently. - Markets
operate under institutional rules, such as trading norms, price mechanisms, and
standards, which facilitate smooth transactions. Each organization deals with the
management of information to address asymmetries: - The state collects and
disseminates information critical for policy-making and regulation. It also provides
public information to reduce asymmetries in the market. - Firms collect and process
internal and external information to make informed decisions about production,
investment, and strategy. - Markets aggregate and reflect information through prices,
allowing decentralized decision-making by individuals and firms.
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Q12. Decribe the NIE of the market, Why does the market exist from the perspective of
New Institutional Economics
- A market is understood as a social network of relational contracts among individuals who
are potential buyers and sellers.
+ The arrangement reached is intended to promote an efficacious institutional
environment for trade. - The relational contracts between actors are concerned with
all types of exchange contracts (sales, lease, employment, or loan contracts). -
Relational contracts' governance structure determines the production and transfer of
information and the methods that make information credible (the market - specific
property rights of each potential trader). - Contrary to most of the economics
literature, in which markets are simply assumed to be "there," we argue that not only
the firm but also the market is an organization. - In a world of positive transaction
costs, there exists a difference between occasional exchange and exchange through
the use of a market as a social arrangement for repeated exchange among potential
market participants.

NIE posits that markets exist primarily to minimize transaction costs, which include
the costs of searching for information, negotiating and enforcing contracts, and
managing exchanges. Ronald Coase, a key figure in NIE, argued that firms and
markets emerge as alternative means of organizing production to minimize these
costs. When transaction costs are high within a market, firms may internalize these
transactions to reduce costs. Markets help mitigate the problems associated with
information asymmetry, where different parties in a transaction have different levels
of information. Institutions and market mechanisms evolve to reduce information
asymmetries and the resulting inefficiencies. Examples include branding, reputation
systems, and regulatory frameworks that ensure information disclosure. NIE
emphasizes the importance of well-defined and enforceable property rights for the
functioning of markets. Clear property rights provide the necessary incentives for
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individuals to invest, trade, and innovate. Markets arise to facilitate the exchange of
property rights in a manner that maximizes value for all parties involved.