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Cornell University & University of Indonesia, Indonesia
Submission: December 19, 2018; Published: June 11, 2019
*Corresponding author: Iwan J Azis, Cornell University & University of Indonesia, Indonesia
“if we learn anything from the history of economic development, it is that culture makes all the difference” (David Landes: “Max Weber was right on”)
How to cite this article:Iwan J Azis. Economics and Culture. Ann Soc Sci Manage Stud. 2019; 3(4): 555617. DOI: 10.19080/ASM.2019.03.555617
The notion that something cannot be measured does not exist seems to apply in the absence of culture in economics where the role of institutions is at the center of the link between the two. Yet, any economic prosperity, crisis, or deprivation, are the results of human behavior reflecting the outcome of social learning-a central concept of culture. Institutions and culture interact and evolve in a complementary way. They can affect the process of exchange and the transaction costs, which in turn determine the economic performance. Although more work has been done to understand better the interrelation between economics and culture, most remain fell on deaf ears among mainstream economists even though real world cases have shown the critical role of such an interrelation. The deficiency of mainstream economics that overlooks the role of culture and institutions is shown in this paper
Following the tradition of the marginalist school, abstraction in economics received a big push during the late 19th century led by Stanley Jevons and Auguste Walras. This happened despite Adam Smith’s strong feeling for the significance of culture and Malthus’ deep sense about how culture affects the dynamics of population. David Ricardo was the most instrumental in reducing economics to a culturally free abstraction. Alfred Marshall, at least judged from his early work, was another culprit although his subsequent Industry and Trade shows an increased awareness towards the complex cultural reality behind the abstraction of supply and demand, inserting a strong institutional flavor in the analysis.
This is rather puzzling because the core part of economics is exchange, and the terms that permit the exchange is called the terms of trade, the ratio of the price producers are willing to receive and consumers to pay for the exchange. Indeed, while exchange is a fundamental part of economic behavior, perhaps except for game theory and transaction cost theory, remarkably little attention has been given in the economic literature to analysis of processes of exchange. Thorbecke & Cornelisse . argued that the item exchanged, the actors engaged in the decisions, and the physical, social, technological, and legal environment within which the actors operate in the exchange, matter in understanding the different transactions and outcomes. The combination of those elements, the formation process of the exchange, and the resulting transaction is considered an exchange configuration.
Mainstream economists contend when there is a divergence between the equilibrium price and the actual price at which the exchange takes place, either excess demand or excess supply will be
eliminated by price changes. But the actual process of adjustment in the exchange is not satisfactorily explained despite the fact that in reality the whole process captures the satisfaction of those who trade, which is a complex subject to understand but is necessarily an integral part of any set of cultural relations involving things like trust, regret, deception, persuasion, and learning process.
In this paper, I intend to show the deficiency of mainstream economics that overlooks the role of culture and institutions. The latter should be an integral part of economics. Aside from the difficulty to identify the relation and causality between culture, institutions and economic performance, some work has been done in this area although much of it still fell on deaf ears among mainstream economists.
Despite their arguments that clearly foreshadow the cultural economics, it is unclear why institutionalists like Thorstein Veblen (in the US) and Max Weber (in Europe) failed to influence the mainstream of economics during the time. Indeed, one of the critical questions in cultural economics is about the extent to which a system of institutions that produce changes in culture will survive or fail precisely because of such changes. Theoretically, it is the institutional system of legitimacy that will survive and dominate, not the dynamics of power and wealth; without legitimacy neither power nor wealth can be preserved.
Perhaps nothing more obvious than in monetary economics where the use of formalistic mechanical models is prerequisite and with almost a complete lack of interest on the cultural aspects within which the institutions of money and banking operate. The models are filled with statistics and causation (often confused with correlation) with little attempt to open the lid to see what the
actual processes are. This is irrespective of the fact that one cannot
really learn about what is going on in the banking sector unless we
treat bankers as human beings and try to understand how they
really think. The same applies to players in the capital market.
The departure from partial equilibrium to general equilibrium
in economics is another example of a neglect of cultural
dimension. While the overall quantities produced and consumed
are correctly not taken as the result of individual producers and
consumers’ decisions, rather the result of the interactions of such
decisions, it is often assumed in the corresponding models that
the choices of diverse agents can be represented by the choices of
one “representative” utility-maximizing individual whose choices
coincide with the aggregate choices. The heterogeneity in behavior
and culture is considered irrelevant. This is clearly unjustified and
ill-suited for studying problems involving coordination failures
such as unemployment, under-utilization, financial instability, etc.
For most mainstream economists, when things get more
complex, and interdependence amplifies, new variables,
parameters and equations are added, and non-linearity is
introduced, expecting that the model’s predictive power will
strengthen. Little efforts are made to delve into the changing
patterns of behavior as part of the possible mutations in social
system where the process of selection may involve increased
vulnerabilities, bankruptcies, crisis, or simply a loss of legitimacy.
Even in taxation where the system emerges from the
interaction of different governmental subcultures, and where the
tax system itself is the result of a long historical process involving
changing culture of governments, members of parliament, and
the constituents, the efficiency of “one-way transfer” depends
not only on the perception of threat (sanctions of the law if
failing to pay tax) but also the culture of tax collectors. The mass
of individuals paying taxes with a fair degree of fidelity itself is
clearly a cultural phenomenon. Yet, most research on tax issues
tends to be exclusively financial and economic-based, void of any
The picture could be less grim as some fields of economics have
come close to cultural economics, although they are more of the
business schools’ domain, e.g., marketing, industrial organization,
and labor economics where there is a long tradition in the study
of collective bargaining, labor unions, culture of the factory, etc.
The bad news is, even in these fields mechanistic approaches
have encroached the analysis to the point where no collaborative
work with sociologists, anthropologists, and psycho-sociologists
is considered necessary.
Yet, in the supply-demand theory, for example, when excess
supply occurs, producers may alter their preference by staying
away from efficiency efforts, and consumers may not follow the
standard law of supply-demand as they do not raise consumption
despite the downward pressure on the price. In such circumstances,
preferences should not be taken only as the determinant of the
economic process like in a standard optimization model, instead
it should be learned during the process of cultural transformation.
Thus, the culture-affected learning process could generate
outcome different from a standard solution.
The emphasis on learning is the most crucial difference
between mechanistic economics and cultural economics, implying
that cultural economics is evolutionary in nature. Learning is part
of social evolution that is more complex than biological evolution.
It occurs more slowly because people, let alone societies, are
not easily willing to change due to their realistic appraisal of the
uncertainties arising from such a change, which is a standard
problem in economic development.
In contrast, mechanistic economics relies on its predictive
power based on the derived parameters (assumed stable) of
difference or differential equations, which contradicts with
the fact that in any dynamic process, when strain increases the
parameters in the system change. More importantly, the implied
adjustment may create further strain in the same part or in other
parts of the system. If a crisis eventually occurs, the absence of
stability (order) with constant parameters may not tell us much
about the stability that is absent. Even if no adjustment is taking
place, something important about the social system may have
been generated by the absence of such adjustment: what does not
happen can be more interesting than what does.
Like in any relation between two components, the third, fourth
and other components may have some roles as intermediate
variables. This applies to the link between culture and economic
performance as well. Then there is a common problem concerning
the direction of causality.
On the first issue, at the outset one needs to define what is
culture and what is economic performance. Various narratives for
culture have been proposed, from which the following elements
are relevant: customary beliefs and values, preferences, long
duration of consistency in cultural traits and groups, be it social,
ethnic or religious-based. The relevant elements in economic
performance are level and growth of output or income, savings,
and income distribution. In some cases, the probability of
something positive to emerge is also used, such as having a greater
number of entrepreneurs.
Intermediate components relevant for identifying the link
between culture and economic performance include priorbeliefs,
religions, ethnicities, preferences, and trust. Individually
they may not have an independent role, but they can function as
a coordinating device to make societies play the same “game” to
different conditions and focal points.
The importance of prior beliefs cannot be overstated as many
decisions-thus the corresponding outcome and performanceare
based on such priors (e.g., which technology to use, what
measures to mitigate the effects of climate change, how to deal
with different economic shocks, what strategy to cope with ageing
population). Here culture plays a major role in forming individual beliefs even in the new environment and several generations
later. Thus, prior beliefs can be an important channel of culture
influence on economic performance. Yet, economists generally
do not have much say about priors. They typically assume that
individuals have common priors.
Trust is considered an important component arising from
priors. Many even believe that it is through the concept of trust
that culture enters the economic discourse. Several researches
have been done to demonstrate the contribution of the level of
trust of a community to economic performance [2-4], although
most do not elaborate the mechanism through which measured
trust is positively correlated with economic performance. What
remains debatable is whether trust is an inherited cultural
variable or is developed through the adoption of a proper legal
system. Some also argue that trust is the outcome of individuals or
The significance of trust in economics is made clearer by
Arrow . “Virtually every commercial transaction has within
itself an element of trust, certainly any transaction conducted
over a period of time.” International trade is an example of area
where trust matters a lot. But it was the seminal work of Putnam
[6,7] that put trust at the center of the discussion by considering
it as a form of social capital capturing the value and relationships
of resources where social networks play a central role in the
production of public and common good. The constituent elements
of social capital, over which people have more control than over
culture, are trust, norms, and networks.
In the current era of information technology (IT), priors
including trust can be influenced or enhanced by the availability of
information (‘big data,’ ‘internet of things’ and all that). Examples
of on-line trade and transactions abound where reviews and
reputation may alter the beliefs of people or customers. Even in
political elections the use of ‘big data’ combined with complex
algorithm has been widespread, and it proves effective.
The problems with causality are no less critical than the
definitional issue. The first problem is the difficulty to separate
culturally based beliefs from rational expectations. Whether trust
is culturally driven or rational prior driven by environment with
a prevailing degree of trustworthiness is not easy to determine.
It is generally the case that the idiosyncratic component of trust
tends to increase when societies share the same cultural trait
(e.g., religion), and decreases with the genetic distance in terms of
ancient cultural aspects. The level of education also matters: the
role of inherited cultural aspects in the formation of priors tends
to diminish as society gets more educated (reduced dependence of
trust on cultural variables).
Even if cultural variables and measures of economic
performance are highly correlated, that does not necessarily mean
one causes the other. Two events occur simultaneously does not
Another serious conundrum is with regards to the direction
of causality, or what econometricians label endogeneity problem:
“which affects which.” The debate about whether culture affects
economics or vice versa has a long history. Some proposed that
technology determines the type of social structure and dominant
culture. In supporting the argument that steam-mill produces
capitalism, Karl Marx  held that view. In contrast, Max Weber
 and Polanyi et al.  had the opposite line of thinking. To the
extent the cultural aspect like religion is considered important
to the establishment of markets as well as in moderating market
excesses, they argued that culture-in this case religion--played a
critical role in the development of capitalism. Their explanations
are powerful, and the examples provided are quite persuasive. Yet,
they fell on deaf ears among mainstream economists.
As expected, each camp attempted to get their idea vindicated.
Economists of the Chicago school tried hard to endogenize beliefs
and preferences . Some went further by showing that religious
and social norms are the result of a group-level optimization.
Others extended the theory of human capital by emphasizing
investment in social skills and social interactions. Those who were
more econometrically inclined emphasized the use of proper
econometric techniques to identify the direction of causality,
among others by employing a set of intermediate variables as the
“instrumental variables,” or by looking at historical exogenous
shocks in their models. But the existence of complementarities
between culture and economic performance often hinders
While differences between the two camps may never been
reconciled, active debates on the link between culture and
economics continue. Most of the debates put the emphasis on the
interaction between culture and institutions.
Institutions are meant to facilitate human interaction by
providing patterns that will regulate society’s behavior [12-14].
It is the “rules of the game in a society” by promoting certain
behaviors and prohibit other behaviors. There are formal
institutions (e.g., bank regulation, tax system, accounting rules)
and informal institutions (e.g., codes of conduct, habits, traditions,
norms). While most analyses focus on the former, the latter can
be more important for understanding its role to shape economic
performance. Enforcement is another critical component of
institutions. Even well-established rules and regulations can be
rendered ineffective if enforcement is weak. Two systems with
similar institutions may produce different economic performance
because of different enforcement.
To the extent formal and informal institutions are shaped by
ideas and ideologies, not created in a vacuum, culture enters the
equation. Through culture-affected ideas, individuals use their
subjective mental constructs to interpret the world around them
and make choices. Arguably, institutions determine the extent that
ideas and ideologies, hence culture, matters.
Informal institutions come from ‘socially transmitted
information’ and are part of the heritage or culture. In the case of
formal institutions, they are also linked with the prevailing political system. For example, in federalism markets are fostered through
competition for economic organizations at the sub-national level.
In other systems, the room for pleasing powerful interest group
may be more ample. The resulting economic performance under
different systems (hence different institutional arrangements)
is likely dissimilar. In this respect, the resulting economic
performance can be associated with the efficiency of the outcome.
Contrary to the neo-classical economic theory, negotiations
required to reach an efficient outcome are not costless. For
example, there are costs for learning (by consumers) about the
quality--and eventually the price--of goods to be exchanged. It
may take some time before the actual exchange occurs. There
can be also a bargaining process as part of negotiations. This also
The problem of information asymmetry can make the
observed costs deviate from the true costs, making them more
difficult to measure. Even if both parties are honest, there is
always something with respect to enforcing the agreement that
still needs to be specified either implicitly or explicitly. This is also
not costless. When a dispute arises and a settlement (requiring
lawyers) is needed, the costs can further multiply.
All the above costs are known as the transaction costs, usually
high and not always reported (not internalized) especially in many
developing countries. In some cases, personalized transactions
are still the rule rather than exception. High transactions costs
lead to unfavorable economic performance. Since only at zero
transaction costs an efficient outcome can prevail , attempts
to lower transaction costs are preferred, a most common of which
is through establishing clear property rights (also often deficient
in many developing countries) to facilitate the smooth functioning
High transaction costs can also be linked to the size of the
unproductive informal sector. Small business operations and
poor individuals including poor migrants are “forced” to remain
small and informal. The transaction costs for entering the formal
sector are too high, i.e., getting permits which also requires paying
bribery, not to mention time-consuming. Unsecured assets and a
lack of formal documents also diminish their incentives to expand,
and bank credits are difficult to get under such circumstances.
Thus, informality persists. So do inefficiency and low productivity
In a dynamic context, an institutional framework ensuring
that technology can be advanced (‘creative destruction’) is also
frequently absent in developing countries. Free-entry and free-exit
hardly prevail. Firms with a privileged access to those in power
survive by patronage through monopoly rights, soft budgets, or
special concessions. For them no innovation is needed to survive.
More seriously, they resent any policy measures intended to
enable innovation to raise productivity when those measures
threaten their survival. Power influence enables them to do so and
to keep away from potential competitors.
In short, culture-influenced institutions can affect transaction
costs, and in turn economic performance in a static and a dynamic
sense. The latter works through organizations’ decisions about
technology and innovation .
It is important to note that one cannot claim the superiority
of causality direction between institutions and culture because
the two interact and evolve in a complementary way. The relation
also involves mutual feedback effects: depending on the type of
institutions culture may evolve in differing ways, and different
culture may cause institutions to function differently [18,19].
In this context, a more relevant economic performance is
productivity. While it is less directly observable compared to
standard variables like output and income, productivity involves
attributes highly relevant to cultural traits and cultural capital,
particularly the social capital.
In The prosperous communities, Putnam (1993) argued
that social capital is like “physical capital and human capitaltools
and training that enhance individual productivity.” He went
on to describe that social capital refers to “features of social
organization, such as networks, norms, and trust, that facilitate
coordination and cooperation for mutual benefit.” The description
is unarguably loaded with important implications .
By giving the ‘same status’ like other traditional inputs (capital
and labor), social capital contributes to productivity through a
production-function setting used extensively by economists. It
also highlights the significance of individuals’ “participation” that
will form group’s ability to work jointly through “collaborative
effort” as capital. Failure to do so will result in a disappointing
“productivity performance.” Absent of trustful relation, the
system tends to focus on “short-term self-interest” and individual
transactions, eliminating the potentials and opportunities for
accumulation and “innovation” process like in a standard capital
theory. While networks of institutions are important, their
presence in no way assures collaboration when “commitment
and coordination” is limited. This translates into obstacles for
many developing and emerging markets where weak capacity,
including the State capacity to from a “coalition building” needed
for “institutional upgrading” to support innovation must face a
“growing and diverse power of influence among social groups and
All the above requisites and conditions (in quotation marks)
reflect the institutional quality and social capital, which, through
the implied transaction costs will determine the extent to which a
country is able to sustain productivity growth to improve society’s
Culture and economics are closely linked. Yet, economists
have long been reluctant to study the interrelation between the
two. This is partly because a testable hypothesis with measured
data that can be proven or disproven is hard to construct, let alone
the difficulty to define the term ‘culture.’ This is unfortunate as it reflects the notion that something cannot be measured does not
Faced with reality of more complex relations and growing
interdependence, mainstream economists opt for adding new
variables, parameters and equations. When pressed further,
they introduce non-linearity in the model. Little efforts are made
to delve into the behavior that reflects the outcome of social
learning—a central concept of culture--where a set of cultural
relations involving learning process as part of social evolution,
which is more complex than biological evolution, matters. The
emphasis on learning implies that unlike mechanistic economics
the cultural economics is evolutionary in nature.
The role of institutions is at the center of the link between
culture and economics, particularly on the direction of causality.
Institutions and culture interact and evolve in a complementary
way, not a one-way causality. Culture-influenced institutions
can affect transaction costs, and in turn economic performance.
In a dynamic setting, through organizations’ decisions about
technology and innovation, a set of requisites reflecting the
institutional quality and social capital has an important role to
influence productivity growth hence society’s welfare. One of
such requisites is individuals’ participation that will form group’s
ability to work jointly through collaborative effort. The required
trustful relation is in sharp contrast with the short-term selfinterest
Although more and more work has been done to understand
better the interrelation between economics and culture, albeit
deficient of the mechanism, most fell on deaf ears among
mainstream economists. It is mind-boggling how economics can
be reduced to a culturally and institutionally free abstraction
when abundant evidence indicates real world cases have shown