The state and economic efficiency: A behavioral approach

According to standard neoclassical economic theory, institutions do not matter for understanding the process of economic change or why economies operate inefficiently. In contrast, a behavioral approach lets institutional parameters have a substantive impact on the economy. This paper argues that to understand economic efficiency one must understand the bargaining power of different players in the economic game and that this is critically affected by institutional parameters. Economic efficiency is not the natural product of competitive markets; rather, it is affected by the institutions within which markets operate, including the institutions that establish property and labor rights.