An institutional solution for a cognitive problem: Hayek's sensory order as foundation for Hayek's institutional order

Purpose – To show that Hayek's cognitive theory sheds light on Hayek's institutional theory. Methodology/Approach – Although F. A. Hayek contributed richly to many fields of economics – from capital theory to monetary theory, and from institutions to spontaneous order – one theme is omnipresent in his work: the knowledge problem. This paper examines Hayek's work in psychology, The Sensory Order, and argues that there exist strong parallels between Hayek's cognitive and institutional theories. Findings – Hayek's institutional (or social) theory makes a lot more sense when understood as a necessary consequence of his cognitive theory. Furthermore, Hayek's cognitive theory allows for rational individuals making choices that are socially embedded. Research limitations/implications – Three Hayekian themes are explored: (1) institutional implications of limited knowledge; (2) learning and knowledge generation; and (3) mental models. The paper then uses a challenge within Hayek – the tension between microlevel methodological individualism and macrolevel institutional evolution – as a starting point toward resolving the lingering individual-culture methodological puzzle in contemporary economics. These are mere starting points for further research. Originality/value of paper – Horwitz (2000) writes that “Hayek's thought will have come to fruition when the social sciences abandon rationalist and constructivist explanations of social phenomena in favor of ones that recognize the roles of tacit and contextual knowledge, institutional evolution, and spontaneous order. Such an approach would dramatically improve our understanding of the human mind.” This paper offers a step in that direction.