Emergence of Modern Impersonal Exchange: Role of Formalization in the Rise of Modern Capitalism

Abstract

I develop an evolutionary framework to study when firms formalize and voluntarily establish internal “order and discipline” in their conduct, in a traditional relational economy, to conduct impersonal market-based exchange. Impersonal exchange can emerge if benefit from doing business at arm’s length is large (utility condition), and if firms above a threshold adopt such formalization (formalization condition). Cycles, where formalization and impersonal exchange follows opportunism and cautious relational exchange, characterize impersonal exchange. I also discuss the endogenous emergence of market-supporting public institutions, and the rise of impersonal markets in sixteenth century Northwestern Europe.