The Role of Law in the New Institutional Economics in Comparison With the Economic Analysis of Law

Abstract

To describe the role of law in the new institutional economics (NIE); we compare this approach with the economic analysis of law (EAL) of the 1970s when the NIE evolved. At that time the EAL was dominated by the “Chicago” or “market-based” approach that builds on the theory of perfect competition. Contracts are complete and Pareto efficient (allocative efficient). Ten years on; informational economic models that are briefly touched upon here extended this approach. After a few methodological considerations; this chapter concentrates on the Williamsonian branch of the NIE; i.e.; the transaction cost approach (TCA). This theory argues that; in the real world of positive transaction costs and limited foresight; adaptation to the unforeseen becomes a central issue. Incomplete contracts can at most be “adaptive efficient” (North 1990; p. 80). The governance structure of contracts matters and becomes a bargaining point. Court ordering has to be complemented or substituted by private ordering. Attentive actors come to terms on a governance structure that protects them against ex post opportunistic manoeuvres of their opponents. Generic governance structures are (according to Williamson) markets; hybrids; and hierarchies. Court ordering works best for market governance. In the case of hybrid modes (franchising; leasing; etc.); courts would mainly be supplanted by private ordering between the parties. As for hierarchies; courts would stay out of conflict resolution (fraud and conflict of interest excepted). While the objects of research in NIE and EAL remained different; the latter’s methodology appears to move closer to that of NIE.