A Cost-benefit Theory of Social Institutions

Abstract

This paper presents a new theory of institutions. It develops a novel answer to the theoretical question of why social institutions emerge. The theory is general and applies to all forms of incorporation, including religious organizations, business corporations, partnerships, professional guilds, marriage, non-profit organizations, political parties, local governments, and even the State. This paper characterizes the social contract by liquidation immunity: in entering the social institution, individuals surrender their right and power to terminate the existence of the social endeavor upon their individual choice. The analysis associates the emergence of social institutions with uncertainty: individuals are willing to surrender their initial termination rights when they face substantial difficulties in predicting the future. Furthermore, the level of uncertainty determines the level of coercion within the institution: the more uncertainty the members face, the more stringent the institution they are willing to form. Phenomena such as dictatorships or terrorism are the direct outcomes of increased levels of uncertainty. Finally, the analysis presents several operative conclusions. Mainly, it presents a new framework for analyzing the mechanisms of minority protection within the organization.