Neoclassical theory may be seen as a highly idealized representation of markets. A more realistic perspective, inspired by institutional economics, departs radically from this idealization. Institutional economists treat markets as one of numerous social constructs or institutions within a historical process. “Private property”, which is taken as a given in neoclassical theory, is merely one of possible configurations of property rights observed throughout history.
The task of applying institutional economics to developing country agriculture was taken up by early development economics. One important dichotomy in this literature is between traditional and modern institutions and cultural values. The classic paper of Johnston and Mellor (1961) describes possible impediments to agricultural modernization in terms of the traditional group constraints, attitudes towards change; perceptions of personal gain from the adoption of modern technologies, availability of market exchange outlets, and so on. Tenurial reform is identified as “the most essential requirement” to modernization, as traditional tenancy is the main obstacle to the formation of market – based agriculture.
Traditional tenancy is characterized by patron – client relationships and sharecropping, which are seen as institutional impediments to commercialization. Under the patronage system, the landowner offers an output share to the tenant in exchange for cultivation rights. The landowner also provides consumption loans, with effectively a transfer during times of emergency; this effectively guarantees a minimum subsistence to the tenant. The patronage system meanwhile obligates tenants in various ways, such as in rendering miscellaneous services as well as political support. These institutions characterized the manorial or feudal system in medieval Europe as well as agriculture in Southeast Asia.
The persistence of traditional structures is a serious obstacle when more commercialized transactions are superior ways to organize production. For instance, under share tenancy labor is paid below its marginal product, hence we expect a below optimum level of effort – the “Marshall critique”. A move towards either a straight wage contract or a fixed lease contract would pay factors their marginal product and improve allocative efficiency.
Between these two - neoclassical economics and institutional economics - who has a better approximation of reality? Or is it something in between?