Deconstructing the Price Wedge in Rural Markets: Distinguishing Transformation Costs From Institutional Transaction Costs

ABSTRACT

This paper develops a theoretical and diagnostic framework for explaining persistent market non‐participation among rural households through a decomposition of the participation wedge. Revisiting the price‐wedge framework, it argues that the conventional aggregation of transaction costs obscures important mechanisms by conflating the physical costs of transforming and moving goods with the institutional costs associated with defining, transferring, and enforcing property rights. Building on this distinction, the paper decomposes the participation wedge into transformation costs (T) and institutional transaction costs (I), while introducing policy‐induced distortions (P) as an analytical extension to prevent policy‐generated price effects from being incorrectly attributed to either component. The framework further combines this functional distinction with the fixed–proportional cost structure to derive differentiated predictions regarding market entry (extensive margin) and trade intensity (intensive margin). In doing so, it challenges what is termed the infrastructure sufficiency fallacy, namely the assumption that reducing physical barriers alone is sufficient to induce market participation. The case of Benin's Glo‐Djigbé Industrial Zone (GDIZ) provides an illustrative application of the framework, helping interpret the coexistence of substantial processing capacity and limited formal processing. Rather than providing econometric estimates of the relative magnitude of T and I, the case demonstrates how the decomposition can be used diagnostically to assess whether physical constraints, institutional frictions, or policy‐induced distortions are more likely to remain binding. The paper therefore develops a structured diagnostic tool for identifying the relevant constraint and for aligning policy instruments with the component of the participation wedge that appears most restrictive. The framework contributes to institutional economics by clarifying how cost type (transformation versus institutional) and cost structure (fixed versus proportional) jointly shape participation thresholds, the extensive and intensive margins of market integration, and the effectiveness of alternative policy interventions.