Varieties of Capitalism and Institutional complementarities in the political economy

Varieties of Capitalism and Institutional complementarities in the political economy (Hall/Gingerich)

British Journal of Political Science 39 (2009) pp449-482

This article provides a new framework for understanding the differences and similarities in economic and political institutions across developing countries, and aims on going beyond the three perspectives of institutional variance that have dominated studies on this topic for many years:

• Modernization approach (1965), developing economies were modernizing industries however still dominated by pre-war practices to secure high growth rates.

• Neo-corporatism (1970), states were able to bargain with employers and movements about wages, working conditions etc. Mass production economies.

• Social system of production (1990), more attention to the behaviour of firms. Sectoral government, national innovation systems, new ways of production.

Where the authors fundamental break with these approaches, is how behaviour is affected by the institutions of the political economy. Three frameworks that visualise these relationship:

• Institutions are socializing institutions that instill a particular set of attitudes and norms in those who operate within them

• The effects of institutions follow from the power they confer to particular actors through sanctions the hierarchy supplies or resources it has

• Institutions of the political economy are a matrix of sanctions and incentives, where to actors react and respond predictable

The firm is seen as an entity with ultimately relational capabilities, that need proper coordination to be effective and successful. The main relations a firm must coordinate are:

• Industrial relations, how to coordinate bargaining over working conditions of the labor force

• Vocational training and education, securing the workforce and investing in skills

• Corporate governance, secure return on investment

• Inter-firm relations, relations with other enterprises, suppliers and clients

• Employees, ensure they have the requisite competencies and cooperate well with others to advance firm objectives

National economies can be compared on they resolve the coordination problems they face in these five spheres. The core distinction is drawn between two types of political economies, the liberal market economy and the coordinated market economy. Characteristics of the liberal market economy (LME) are that their activities are primarily coordinated via hierarchies and competitive market arrangements, more competitive.

Characteristics of the coordinated market economy (CME) are that they depend more on non-market relationships and more collaborative.
The presence of institutions enables three supporting activities, they provide capacities for the exchange of information, the monitoring of behavior and the sanctioning of defection. When these three points are present, it will be easier for organizations to cooperate, reach equilibrium and the potential returns will be higher.

Aspect is deliberation, institutions that encourage the relevant actors to engage in collective discussion and to reach agreements with each other. Deliberative institutions can provide the actors in a political economy with strategic capacities they would not enjoy otherwise. Also history and culture play an important role in the analysis. Informal rules and understandings to securing the equilibria in strategic interaction. This common knowledge is historically embedded and goes with experience.

Furthermore, differences is the institutional framework of the political economy generate systematic differences in corporate strategy across LMEs and CMEs. Firms in coordinated market economies should be more willing to invest in specific and co-specific assets, whereas firms in liberal market economies should invest more in switchable assets.

The presence of institutional complementarities reinforces the differences between liberal and coordinated market economies. Institutions can be complementary such as products can be. If the presence or efficiency of one institution increases, so does the other, they are complementary. This can be related to the spheres mentioned earlier. If patterns regarding institutions exist in one sphere, they tend to exist in another.

This leads to clustering which divides liberal from coordinated market economies; nations group together as complementary practices converge in the spheres of the economy.

Coordinated Market Economy, Germany

Capitalist economies are regarded as systems in which companies and individuals invest in competencies based on relation. This entail coordination problems. These are resolved through strategic interaction, and the presences of supportive institutions.

• Financial system, in CME’s, firms can access finance that is not entirely dependent on publicly available financial data, monitoring performance is difficult; presence of dense linked networks.

• Internal structure, the internal structure is different to LME’s, they have to secure agreement from supervising boards in which employee representatives and shareholders take place. Providing of reliable information.

• Industrial relations, coordinated market economies tent to have strategies that rely more on highly skilled labour, more autonomy, encouraged to share information in order to generate improvements. The problem arising is companies with those strategies are vulnerable and industrial relations institutions resolve these problems through bargains between trade unions and employer associations.

• Education and training systems: Germany and many CME’s have a high skilled labor force, thus to provide capable workers they have a need for education and training systems.

• Inter-company relations, that facilitate the diffusion of technology across the economy. Many firms of coordinated market economies make extensive use of long-term labor contracts, to ensure employees cannot move freely across companies to spread knowledge.

Liberal Market Economies, America

LME’s rely more heavily on market relations to resolve coordination problems. In each sphere competitive markets are more robust and there is less institutional support.

• Financial system, there is more encouragement to firms to be attentive to current earnings and the price of their shared on equity markets. Investors are more focused on share prices and finance is more dependent on this.

• Industrial relations arenas, firms rely heavily on the market relationship between individual worker and employer to organize relations with their labor force. Top management only has unilateral control and substantial freedom to hire and fire.

• Education and training systems are complementary to these highly fluid labor markets. More focus on general skills, and general training.

• Inter-company relations, based on standard market relationships and enforceable contracts. Very market-based and the law of the free market.

Although many of the developed nation can be classified as liberal or coordinated, it is also good to consider how firms coordinate their activities. Liberal economies rely more on market mechanisms to coordinate their endeavors, whereas coordinated market economies have more strategic interaction supported by non-market institutions and rely primarily on industry-based coordination.

Comparative institutional advantage

The theory of comparative advantage is important because it implies that freer trade will not impoverish nations by driving their production abroad but enrich them by allowing each to specialize in the goods it produces most efficiently. Coordinated market economies should be better at supporting incremental innovations, because the skilled work force is able to come up with such innovations. Liberal market economies tent to limit the firm’s capacities for incremental innovation because of the emphasize on profitability and unilateral control. Liberal market economies are highly supportive of radical innovations. Few distinctions in labor markets, so new product lines are highly attractive.