Islamic economics and institutional economics: A methodological discussion

Abstract

Institutional economics is a school of economic thought that emerged under the leadership of Thorstein Veblen at the beginning of the 20th century, a time when America was in the process of fast-paced and massive industrialisation. Veblen (1909, pp. 622-623) criticised neoclassical theory's hedonistic and abstract conception of the human, stressing that people continue their social lives through institutions that he characterises as "established thought habits." Along with serious criticism of American social life, Veblen has many contributions to economics and social theory regarding the impact of the cultural and institutional environment on human life, habits, the role of the state in economic life, trade unions, pretentious consumption, the nature and functioning of industrial capitalism. Following the works of Veblen and John Commons, institutional economics became the dominant school of economics in America in the interwar period and lost its superior position after the Second World War. The emergence of a trend favouring the application of mathematical methods in economics, as well as the rise of Keynesian economics and the influence of immigrant economists in America after the war, displaced institutional economics from its dominant position and swept it to the periphery. In this way, the discipline of economics shifted towards mathematical formalism on the one hand and formed its orthodoxy as a technical social science on the other hand. "Neoclassical synthesis," which refers to the combination of Keynesian economics and neoclassicism, would be at the core of the discipline. However, the discipline of economics, which largely formulated its orthodoxy after the Second World War, confronted many theoretical problems. The basic assumptions of orthodox economics, such as general equilibrium, rationality and self-interest (Colander et al., 2004, p. 485), were considered unreal and also listed as the main problems of the discipline. By the 1970s, theoretical obstructions based on these problems, which were seen as being dependent on excessive abstraction and increasingly breaking away from real life, were partly surpassed through new institutional directions in classical, neoclassical and Austrian economics (Rutherford, 1994, p. 1) and with the emergence of a new institutional economics. The new institutional 11economics introduced orthodox economics - which operates based on the "holy trinity" of the new institutional economics rationality, self-interest and balance - to new variables such as limited rationality, economic agents affected by the cultural and institutional environment and incomplete information and process. The new institutional economics not only breathed life into orthodox economic theory with its emphasis on property rights, transaction costs, organisational theory and contracts, but also popularised the concept of the institution in almost all areas of the social sciences. As a result of this circumstance, two different traditions of thought were formed in institutional economics: The original institutional economics and the new institutional economics, while the institution and institutional analysis stood out as the scientific methodology of many researchers. However, there have been many responses to both the orthodox neoclassical theory of the discipline and its renewed orientations related to the new institutional economics. The responses in question can be placed within two categories: Inside and outside the Western thought. While it is possible to classify the heterodox schools of economics as a community of post-Keynesian/Sraffian, Marxist/radical, institutional/evolutionist, social, feminist and ecological economists whose criticisms come from the Western thought (Lee, 2012, p. 340), studies in Islamic economics are at the forefront of the criticisms from outside the Western thought.