On the coevolution of individualism and institutions

To unravel the roots of the relationship between the individualism–collectivism dimension of culture (IC) and market-supporting institutions, we develop a model where the two interact and coevolve. IC and institutions are related indirectly via social organization: agents settle either in the Town, a loose organization where they work independently, or in the Clan, a cohesive organization where they engage in collective work. The town’s relative economic potential positively affects the town’s size and institutional quality. A larger town then renders society more individualistic, which attracts even more agents to the town and improves its institutional quality. The resulting positive feedback loop drives societies toward different steady states. If the town’s relative economic potential is sufficiently high, the society converges to a steady state with a completely individualistic culture, high institutional quality, and a large town. Otherwise, the society converges to a steady state with a completely collectivistic culture, weak institutions, and a large clan. We conclude that contemporary IC and institutions exhibit path dependence and are thus related to the historical exogenous conditions in each region. Using current and historical data, we provide empirical evidence supporting our model. In addition, we apply the model to discuss the historical divergence between China and Europe.