The Evolutionary Story of Risk

Institutions here were conceived of broadly. They were no less than the ‘rights associated with the use and transfer of resources’, which were as present and relevant in socialist economies as capitalist ones.5 North, ‘Beyond the New Economic History’, p. 3. Or, as North put it elsewhere, institutions were the ‘humanly-devised constraints’, both formal and informal, that structure exchange, determine production and transaction costs, and provide the incentive structure in an economy.6 Douglass North, ‘Institutions’, Journal of Economic Perspectives 5 (1991), 97–112, at p. 98. Social and political rules (or their absence) determined who could transact and in what way, what people hoped to achieve by transactions, and what they could expect from other parties. This could point whole societies towards productive or unproductive behaviours in the long term. On the basis of this observation, North suggested that economic historians should focus more on the non-market phenomena that were involved in economic decision making and resource allocation: the household, voluntary organisations, the state, the firm.7 North, ‘Beyond the New Economic History’, pp. 4–5. Following Coase, he also encouraged a focus on transction costs in order to explain economic change. These were the costs not directly associated with production, labour, and transportation, but with the process of ‘ordering exchange’.8 North, Institutions, pp. 97–8.

North’s ideas went further than simply proposing a new methodological framework, however. Indeed, the very importance he attached to this framework came from his notions about the origins of global growth and the divergence between the West and the rest. North’s argument was that Europe and its North American colonies had experienced higher levels of growth thanks to the development of a number of institutions that had ensured their economic divergence from the rest of the world by enabling greater capital mobility, information exchange, and risk sharing.9 North, Institutions, p. 105; Douglass North and Robert Thomas, The Rise of the Western World: A New Economic History (Cambridge: Cambridge University Press, 1973), p. 3. In this respect, North singled out constitutional structures and impersonal legal systems which safeguarded property rights on the one hand, and the invention of joint-stock companies and premium insurance allowing for the management of risk on the other.10 North, Institutions, pp. 100–6. In fact, premium insurance arguably fulfilled all three of North’s growth-enhancing functions, not only managing risk, but encouraging both information sharing, in the form of circulars such as Lloyd’s list, and increasing the mobility of capital by reducing the amount that need be stockpiled to cover unfortunate eventualities.11 Adrian Leonard, ‘Introduction: the nature and study of marine insurance’ in Adrian Leonard (ed.), Marine Insurance: Origins and Institutions, 1300–1850 (Basingstoke: Palgrave Macmillan, 2016), 2–22, at p. 10. Convinced of the importance of such developments, North encouraged economic historians to concentrate less on the nineteenth and twentieth centuries and instead give greater attention to the centuries immediately preceding the industrial revolution, when these undergirding institutions had first emerged.

North’s understanding of these institutions was presented through the prism of the ‘evolutionary story of the institutionalisation of risk’, which stretched ‘from the commenda … through its evolution at the hands of Italians, to the English joint-stock company’.12 Francesca Trivellato, ‘Renaissance Florence and the origins of capitalism: a business history perspective’, Business History Review 94 (2020), 229–51, at p. 243; North, Institutions, p. 127. Robert Fredona and Sophus Reinert, ‘Italy and the origins of capitalism’, Business History Review 94 (2020), 5–38. This was a stadial theory of institutional evolution which posits that the maritime economies of Europe were transformed by a successive series of innovations. Though applied most conspicuously to the evolution of the partnership/company, it is taken to pertain more generally to all risk-sharing institutions. Medieval Italian merchants in this conception provided the prototypes which were then perfected in the Netherlands and England. This story has recently received a sophisticated and wide-ranging rearticulation in Ron Harris’s book, Going the Distance, which attempts a global study of institutional development.13 Ron Harris, Going the Distance: Eurasian Trade and the Rise of the Business Corporation, 1400–1700 (Princeton: Princeton University Press, 2020). Harris proposes a tripartite schema: ‘endogenous’ institutions are similar institutions that emerge locally and independently to tackle similar problems; ‘migratory’ institutions are those which emerge in one or perhaps two places and are then transplanted as new players are exposed to them and realise their efficacy; and ‘embedded’ institutions are complex endogenous institutions that are unable to easily migrate because they depend upon a particular institutional matrix in order to flourish. The book argues for the joint-stock company as the ultimate embedded institution, conceived of and nurtured in a social and political matrix specific to England and the Netherlands.

Yet though Harris’s study is much more sophisticated and historically aware than much of the early NIE work, it still effectively posits the same basic narrative: simple institutions everywhere (such as GA), then moderately sophisticated instruments emerging in Italy becoming somewhat diffused, and these providing the foundation for highly sophisticated instruments in Northern Europe. It is of course undeniable that somewhere along the line, the institutional landscape changed and that we now have better systems for managing risk than we did before. The problem, as Francesca Trivellato points out, is that NIE tends to assume its history from the theoretical predicates rather than the other way around.14 Francesca Trivellato, The Familiarity of Strangers: The Sephardic Diaspora, Livorno, and Cross-Cultural Trade in the Early-Modern Period (New Haven: Yale University Press, 2009), p. 15. The argument runs backward: already convinced a priori of the importance of institutions by the theory, and considering the success of the maritime economies of North-Western Europe in the early modern period, it is then concluded that that success was rooted institutional development, which is taken to justify the theoretical predicate. Moreover, despite using the language of ‘evolution’, which in biological terms suggests gradual and even imperceptible change, NIE tends to see the different institutional solutions for risk management as very discrete and well-defined entities and posits something more akin to a series of mini institutional-revolutions putting certain socities on the path to growth.

Harris has in fact directly applied this historical NIE schema to GA, explicitly taking a theory-led approach to historical change.15 Ron Harris, ‘General Average and all the rest: the law and economics of early modern maritime risk mitigation’, in Maria Fusaro, Andrea Addobbati, and Luisa Piccinno (eds), General Average and Risk Management in Medieval and Early Modern Maritime Business (Cham: Springer, 2023), 33–60. Here he draws on Frank Knight’s distinction between risk (calculable and hence priceable) and uncertainty (unquantifiable and unknowable).16 Frank Knight, Risk, Uncertainty and Profit (Boston and New York: Houghton Mifflin, 1921), p. 17. Harris argues that transition from one economic reality to another is in fact characterised by the transition from GA to premium insurance. GA as an ‘ex-post’ solution belonged not to a world of ‘risk’ but one of ‘uncertainty’ – unknown unknowns. The advent of premium insurance supposedly followed an increase in predictability in the global economy, which in turn allowed risk to be successfully priced and sold to a third party.17 Harris, ‘General Average and all the rest’, p. 59. GA and premium insurance thus belong to different economic environments, one of primitive unknowing, the other of predictable risks.

Such a view seems to take it for granted that the survival of GA until our own times is an anachronism. Yet even modern-day merchants do not always make use of our supposed ability to calculate risk. In 2021, the 224,000-tonne ship Ever Given made headlines when it became stuck in the Suez Canal, blocking global shipping traffic. This event would occasion a GA claim reportedly worth around half-a-billion dollars, mostly for fees levied by the Suez Canal Authority. As industry magazine The Marine Insurer reported with consternation, it is likely that as much as a quarter of the cargo was not insured at all, while much of the remainder would have been under-insured. Its (very many) owners were thus made directly liable for the payment of the GA contribution.18 Richard Sarll, ‘The “Ever Given”: not your average dispute’, The Marine Insurer 7 (2021), 8–9. The magazine noted that a lack of insurance remains a ‘persistent problem’ in the industry, estimating that 80 to 90 per cent of containers lack adequate coverage.19 Johnny McCord, ‘The Ever Given: one gut punch after another’, The Marine Insurer 6 (2021), 48–9. An archaic instrument was thus called into action, whilst its sophisticated contemporary descendent was, for some unfortunate merchants, conspicuously absent.

Without denying that the development of premium insurance was a process of considerable historical importance, this study argues that there is little axiomatically ‘modern’ about risk shifting and nothing inherently ‘archaic’ in risk sharing. Indeed, the difference between them was not starkly evident in early modern trade, where merchants would often act as both underwriters and buyers of insurance, and premium insurance would not necessarily shift risk far outside of the merchant community.20 Addobbati, Commercio, rischio, guerra, p. 10. Merchants did not transition to exclusive use of premium insurance after it had been ‘invented’. Instead, they used it alongside existing instruments like GA and sea loan to create a very wide dispersal of risk. Each risk-management tool, moreover, responded to different exigencies. While cargo owners often used premium insurance by the end of our period, ships were rarely insured. Shipmasters and ship-owners instead found that sea loan and GA responded better to their particular demands. The continued importance of P&I clubs in the maritime world today (another understudied phenomenon from a historical perspective) is continued testament to the fact that risk sharing and collective mitigation have an important part to play in an environment in which Knightian ‘uncertainty’ has never really gone away.21 Helen Doe and Robin Pearson, ‘Organizational choice in UK marine insurance’, in Robin Pearson and Takau Yoneyama(eds), Corporate Forms and Organizational Choice in International Insurance (Oxford: Oxford University Press, 2015), 47–67, at pp. 60–5.