The Evolution of Institutions: the medium, the long, and the ultra-long, run DESIREE A. DESIERTO University of the Philippines School of Economics, Diliman, Q.C. 1101 E-mail: dadesierto@econ.upd.edu.ph and JOHN V. C. NYE Economics Department, George Mason University Carow Hall MSN 1D3, 4400 University Drive Fairfax VA 22030 E-mail: jnye@gmu.edu Version: 30 April 2009 How do institutions form and how do they change in the presence of random shocks and uncertainty? We formulate stochastic dynamics with drift and time- varying mutation to provide a general theory that explains how institutions are created and how they survive in the medium, long, and ultra-long run. 1. INTRODUCTION This paper has a two-fold objective. One is to provide a formal model of institutional change that is rooted in the New Institutional Economics (NIE) literature. The other is to formulate (evolutionary-game) dynamics capable of accommodating the e/ect of stochastic driftfrom, and time- varying mutationinto and out of, strategies. Such aims actually serve to motivate each other. Scholars have proposed a number of game-theoretic formulations to study institutional change (i.e. Greif, Aoki, Young) without coming to a clear consensus. We hold the view that institutional change is best mod- eled in an evolutionary framework for several reasons. One is that we are able to relax assumptions of altruism and hyperrationality implicit in other dynamic (i.e. repeated) games by allowing the game to be played by shorter-sightedindividuals who only care about their own expected pay- o/s and who can also make mistakes. Another obvious reason is that we 1