poverty and institutional path dependence

The initial point of causes of multiple equilibria in economic development is the fact that Inefficient equilibria tends to self-reinforce, whenever there is an inefficient equilibrium, there is no reason that convergences should happen, but instead, would stabilize the polarization process, and hence a multiple equilibria.

The main idea of institutional effects on economic development is that individuals are bounded rational; their rationality is embedded by the environment and their subjective experience, inference and individual deduction. As a result, market transactions are not always happen in the most efficient ways since people has limited ability in calculations and output processing, and therefore transactions are costly, institutions are then created to reduce these transaction costs, uncertainties and overcome market failure. Hence institution matters.

Institution have significant contribution to poverty through two channels, first, bad institutions make market can not function appropriately, hence market is unable to resolve the most efficient output for everyone. Second, the institution itself could be the source of inefficiencies. Furthermore, Institution failure ignite poverty trap, because of its durability and path dependency.

First, Institutions were meant to overcome market failure, however, institutions are created and enabled by the current ruling political power, which tends to use the institutional laws to maintain their supreme power. as North (1993, p.3) has emphasized, “institutions are not necessarily or even usually created to be socially efficient; rather they, or at least the formal rules are created to serve the interests of those with the bargaining power to create a new rules “. This might resulted in an inefficient economic activities and rent-seeking behavior. Second, the path dependency of institutions is also because it is inherent in the way that informal norms form the foundation of community, at least for informal institutions which are unlikely to change in short term period. Third, Bounded rationality of the agents is itself a source of self-reinforcing inefficient outcomes independent of institutions the inability to escape from environment effects often trapped individuals in practically herding behaviour. The three Self-reinforcing mechanism potentially cause the Poverty trap

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