Endogenous (In)Formal Institutions

Abstract

The paper provides a formal framework identifying both the origins and interaction of a culture of cooperation and inclusive political institutions. When elite members and citizens try to cooperate in sharing consumption risk and joint investment, the elite enacts democracy to convince the citizens that a sufficient part of the investment return will be shared via public spending and thus, they should cooperate. In addition, cultural accumulation rises with the severity of consumption risk at its moderate values and then drops at its high values making cheating too appealing. Finally, the citizens may over-accumulate culture to credibly commit to cooperating in investment at its intermediate values threatening democracy. These predictions are consistent with novel data on 90 European historical regions spanning the 1000-1600 period. Reforms towards tighter constraints on the elite's power were driven by the potential for Mediterranean trades. Moreover, the activity of both the Cistercians and the Franciscans, our proxy for the citizens' culture, has an inverted U-shaped link with the temperature volatility. Finally, the shift of long-distance trades towards the Atlantic fostered the Franciscans' spread in the Mediterranean, where they organized micro-credit activities reinforcing the citizenry-elite partnerships.

Keywords: Geography, Culture, Democracy, Development

JEL Classification: O13, H10, Z10, O10