Institutions have a bearing on the macroeconomic performances of various countries since they affect the transaction cost by building trust through enhancement of corporation, directing economic activities to productive areas, and decreasing the levels of uncertainty. The development, function, and formation of institutions vary significantly among countries, and the variations are responsible for causing differences in economic performances of countries making some countries rich while others are poor. The underdevelopment in witnessed in the developing countries is directly traceable to a weak or apparent lack of institutions that solve low-efficiency problems. In general, developing countries such as Kenya tend to have low-quality institutions that fail to support property rights and investments. On the other hand, the United States, which is the world’s largest economy, has relatively more reliable institutions that protect investment and property rights. Kenya’s GDP: currently stands at $87.91 billion while the GDP of the US stands at $20.54 trillion.
Institutions correlate with the level of development that happens within the borders of a country. Institutions formulate constraints that define human interactions, meaning that they provide structure to the activities that shape human exchange that may be social, political, or economic. Institutions encompass various factors such as protection of property rights, contract and contract enforcement, government bureaucracies, the rule of law, and the financial markets. For instance, Kenya may trail the US in terms of economic development dues to its high number of government bureaucracies such as bribes and implicit tax that derail investor confidence. In this regard, Kenya has weaker institutions compared to the US.
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Furthermore, institutions also include norms, habits, beliefs, traditions, social cleavages, and habits. It is worth noting that formal institutions define informal institutions such as social norms in areas of gender, caste, and class. A progressive society that practices social norms such as the inclusion of all gender tends to have more economic development compared to the developing world where gender equality is not evident.
Proper institutions reduce the cost of economic activity. It means that establishing a company or a business in the US may attract lower cost compared to Kenya partly because of reduced government bureaucracy, impact tax, and bribery. Therefore, the reduction in cost encompasses various areas such as bargaining and decision cost, information cots, policing, adherence to justice and policing systems, and the enforcement costs. Comparing the two countries, the fact that the US has stronger institutions implies its environment lowers the costs of transactions by providing a common legal framework that may include commercial norms and rules, contracts, and contract enforcement. Such tends to encourage trust by providing justice and policing services that encourage conformity to common regulations and laws.
Institutions determine the excise of the powers of expropriation. It means that institutions act as the ultimate guide on the extent to which those in power can divert public resources for private advantage. Developing countries tend to have unequal or weak institutions that those in power exploit for personal advantage. Such institutions significantly limit development by minimizing the capacity of individuals to expand production, access resources, and increase their income levels. In essence, the underdevelopment witnessed in certain countries is because their institutions mainly benefit the elite while allowing the misappropriation of resources. Certain aspects of underdevelopment emanate from history. For example, countries that had colonial domination, such as Kenya, tend to have ineffective institutions that mainly benefit the elites at the expense of development. The trend has seemingly outlived the gaining of independence since the elites are currently in control. The unequal land ownership system in Latin America is an example of how unequal institutions perpetuate underdevelopment.
