Theoretical Background

The New Institutional Economics and the System Transformation

North (1981), one of the main NIE representatives, claims that by referring only to neoclassical economics, we do not understand the dynamics of the contemporary world. According to North and Thomas (1973), the key role in economy is played by institutions. By analyzing socioeconomic changes in Europe and the United States, North (1981) assumes that an institutional structure frames economic results achieved in different countries. According to this view, formal institutions usually coexist with informal ones. The second group of institutions raises the efficiency of the first, or hampers it. This is because introducing formal rules often demands changes in perception, rejection of mites, dogmas, ideas, and ideologies, among others. All of them influence ways of thinking and result from long-term learning processes. Therefore, North (1981) established the “path-dependency” concept, assuming that the past has a paralyzing influence on the present and the future. According to him, we cannot understand today’s choices (and describe their role in modeling economic achievements) without a reconstruction of the incremental evolution of institutions (Chmielewski, 2011; North, 1981).

Moreover, North (1995, p. 31) claims that a change in institutions and a change in the system of beliefs are conditions for actors’ efficiency since the so-called actors’ mental models shape their choices. According to institutionalists, mental models play a very important role, as they bind together different types of institutions and affect entities’ activities by hindering or stimulating them.

In this way, the process of institutional change does not end with changing the formal rules and implementing new organizations. For a successful change, an effective and coherent informal institutions system should be established. Thus a rapid, revolutionary, and discontinuous change of formal rules is often not consistent with the change of informal institutions as it is an incremental and long-term process. This inconsistency leads to resistance and tensions and explains why a radical change of institutional rules usually does not bring expected results (Chmielewski, 2011).

These resistances and tensions result in higher transaction costs, capturing the value of exchange and insurance, creating protecting regulations, and guaranteeing and complying with the signed agreements (Williamson, 1981). They depend on the institutional structures of a particular society. Thus, implementing in different societies the same formal rules does not necessarily lead to the same effects. In other words, formal rules cannot be mechanically transferred to other countries because informal institutions existing in these countries cannot be adjusted to the rules of new formal institutions.

The problem maladjustment between the formal and informal institutions is particularly seen in the case of the economies of Central and Eastern European countries. As a result of the fall of the Communist regimes in 1989, a large part of formal institutions was removed, and a host of informal institutions survived. Their relative durability made it difficult to implement and obey new formal rules and they finally hampered the effectiveness of acting in many business areas.

Implementing formal rules of a market economy and a liberal democracy called for an ethos based on individualism, which consists of personal responsibility, acceptance of competition and free market distribution, the readiness to take risks, and a high level of entrepreneurship (Pejovich, 1999). On the other hand, the more an inclination to collectivism, egalitarianism, and paternalist welfare in a postCommunist society, the harder and longer is the process of adaptation to capitalist rules (Pejovich, 1999). In these societies, wealth accumulation is often perceived with suspicion, and profits from businesses are considered a result of unfair wealth redistribution rather than a reward for creative efforts. Moreover, in countries that underwent the process of a system transformation, often two conflicting elements coexist—on the one hand enormous expectations from authorities, a lack of personal responsibility and a sense of passivity and helplessness, and on the other, a low level of law and state authority and a lack of trust in it (Pejovich, 1999; Rychard, 1996; Ziolkowski, 1995).

The researchers of societies that underwent a system transition process stress that private entities in such societies are oriented at socioeconomic aims, often accompanied by inappropriate recognition of the reality and by an inability to find proper tools to achieve those aims (Araujo and Bramwell, 2002; Roberts and Simpson, 2000; Tosun, 2000). It reflects a lack of knowledge of the economy, an impatience, and a perspective reduction—the tendency to short-term perception of business activities taken instead of long-term thinking. Their subjective rational behavior—on the level of current individual interests—is often irrational when one takes into account the level of the whole society and benefits occurring in the long term (Ziolkowski, 1995).

Because of the mentioned determinants, the NIE representatives claim that in post-Communist transition countries, economic development entails higher (compared to the countries of developed market economy) transaction costs (Chmielewski, 2011; North, 1981; Pejovich, 1999). These costs are expressed as administrative costs of business activity (time consumed on registering business activity, getting a title-deed to the land, a number of procedures, awaiting time for different types of permissions, etc.). Relatively high transaction costs are also expressed in ownership and agreements enforcement due to political uncertainty or bureaucratic inefficiency .

The features typical of societies functioning in a market economy system and post-Communist transition countries are presented in Table 7.1. They create a conceptual framework for further considerations.

Table 7.1 Characteristics of Societies Functioning in a Market Economy System and Post-Communist Transition Societies


Societies Operating in Market Economy System

Post-Communist Transition Societies


Entrepreneurs’ satisfaction with fulfilling their own needs; individual and social activities; short-/long-term perspective orientation

Relatively high entrepreneurs’ satisfaction with the level of own needs fulfillment; rather strong orientation towards social aims connected to long-term perspective of acting

Relative low level of entrepreneurs’ satisfaction with own needs fulfillment; orientation mainly on individual activities giving fast, measurable profits (short-term perspective of acting)


Acceptance of competition and free market results; personal responsibility; claiming attitudes towards authorities

Relatively high level of acceptance of competition and results of free market division;

a sense of personal responsibility and the lack of claiming attitudes towards authorities

Low level of acceptance of competition and results of free market division; low level of sense of personal responsibility— claiming attitudes towards (state/regional/ local) authorities


Trust in society

Relatively high (culture of trust domination)

Relatively low (culture of distrust domination)


Readiness to taking risk and entrepreneurial activities

Relatively high

Relatively low


Transaction costs

Relatively low costs of e.g. running business activity, being a result of legal rules improved and functioning for a long time

Relatively high, for instance, connected to imperfect rules of law

Source-. Own work based on: Pejovich, 1999; Ziolkowski, 1995; Marody, 1992; Szacki, 2002; Mokrzycki, 1993.

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