Contacts, Social Capital and Market Institutions - A Theory of Development

This paper links two concepts of social capital to economic development. Social Capital (SC) appears in the litrature, on the individual level, as the number contacts of an agent has and his ability to raise contacts and, on the community level, as norms that help a society to function. In our economy, sold output increases with the creation of business contacts (Relational Capital as one aspect of SC). The cost of creating contacts is determined by community level social capital (CSC) and Market Institutions (MI). We argue that innovation needs the purposeful destruction of old contacts. Policies can provide disincentives to break old contacts and hence affect innovation. High levels of CSC and MI increase the contact rate, i.e. the labour costs of making RC. The former two also decrease the cost of breaking up contacts. Simulations show that our model is able to explain empirical observations regarding social capital.