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to the fact that the public good of free trade does not favor only the winning coalition (Cipolla
1993: 238-240). That is, free trade has widespread and unfocused benefits and does not uniquely
advantage the small group necessary for maintaining power. To solve this political problem,
distortions in markets are introduced (primarily the granting of monopolies) to funnel goods to
their small number of political supporters (Acemoglu, Johnson, and Robinson 2004). When
small W states go abroad they require formal control to plunder the target territory directly, and
to prevent free trade interloping, either by domestic or foreign firms, on state sanctioned
monopolies (Dorn 1963: 123-125). Therefore, formal conquest represents an attractive, dominant
strategy to small W states, regardless of rivals’ attributes or the institutional make-up of the
target region. The inefficiency of the cost of conquest and administration, as well as the problem
of the shrinking pie, would have to be born due to the inexorable constraint of leaders retaining
power.
If we were to consider only the converse of the logic of the small W case, we might
hypothesize that large W states would have a dominant strategy to engage in free trade and
refrain from formal conquest. That does not, however, accord with our opening puzzle of Great
Britain: the most liberal trading democracy in the late nineteenth century world, and also the
greatest colonizer. To explain this puzzle we fall back on an analogy – to the transaction costs
theory of vertical integration among firms.
In 1937 Ronald Coase asked the basic question “why do firms exist?” More explicitly,
“Why do economic agents in real economic contexts tend to arrange themselves hierarchically
and coordinate their decisions via central authority rather than relying upon voluntary exchange
and the automatic coordination provided by the market” (Moe 1984: 742)? In general terms, his
argument was that the inefficiency introduced by this arrangement was offset by the reduction in
Convention