What institutions matter From political economy point of view, the important institutions include, among other things, independent judiciary, rule of law, and free press, political representation, free and fair elections, independent trade unions, social insurance, etc. Economists tend to look at the same institutional issues from a different angle. Thus for convenience and ease, I would like to look at these issues from an economist's perspective, but the institutions being discussed may serve both the needs of a market economy as well as non-market needs such as social stability and cohesiveness and social justice. Though institutions do not feature significantly in the training of economists, the importance of institutions in economic development has long been recognized by the profession such that now there is a whole field of Economics known as Institutional Economics solely devoted to the study of the impact of institutions on economic development. In addition most of the economic models designed by economists to help us under economic behaviors implicitly assume away the institutional underpinnings of markets economies.
Institutions are social arrangements.
They may, as Dani Rodrik of Harvard rightly observes, include but not limited to a clearly defined system of property rights, a regulatory apparatus that help to curb fraud, anti-competitive behavior and moral hazard, a moderately cohesive society that exhibits trust and social cooperation, social and political institutions that mitigate risks and manage social conflicts, rule of law and clean and transparent government. The evidence is overwhelming that today's prosperous economies have all been built on the basis of private property. As Nobel laureate Douglas North and others have argued, the establishment of secure and stable property rights have been a key element in the rise of the West and the onset of modern economic growth. In this light, an entrepreneur would not have the incentive to accumulate and innovate unless she or he has adequate control over the returns to the assets that are thereby produced or improved. In other words, the market forces have their limitations, and as such markets can and do fail.