November 2006, Volume 92, Issue 7|
The Role of Formal Contract Law and Enforcement in Economic Development
92 Va. L. Rev. 1517 (2006)
The primary inquiry of this Essay is consequentialist: whether the existence of a formal contract law and enforcement regime significantly contributes to economic growth in developing countries. As the Essay elaborates, two different hypotheses emerge from the literature. One takes the view that strong formal contract law and enforcement mechanisms are indispensable to economic development, while the other contends that much economic development is realizable through informal contracting mechanisms. To test the validity of these two hypotheses, we provide a critical review of existing literature, including an investigation of two cases of great contemporary development significance: the so-called “China Enigma” and the “East Asian Miracle.” In both of these cases, high rates of economic growth have been achieved, often in the absence of strong formal contract law and enforcement regimes.
We argue that at low levels of economic development informal contract enforcement mechanisms may be reasonably good substitutes for formal contract enforcement mechanisms, but become increasingly imperfect substitutes at higher levels of economic development involving large, long-lived, highly asset-specific investments or increasingly complex traded goods and services, especially outside repeated exchange relationships. Thus, the mix of mechanisms that are likely to ensure both a fair and efficient domain of contracting in developing countries is a function of highly context-specific factors that defy easy generalizations. We conclude that on one of the central questions in contemporary development debates - do good institutions cause growth, or does growth cause good institutions? - the answer, in the context of contract enforcement mechanisms, is a nuanced one.
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