Mystifying the Concept of Capital

Hernando de Sotos Misdiagnosis of the Hindrance to Economic Development in the Third World
J AMES C. W. A HIAKPOR
nhis well-p !lici"e# !oo$ The Mystery of Capital %&'''() He*nan#o #e Soto clai+s to

ha,e #isco,e*e# the e-planation fo* po,e*ty in co nt*ies of the .hi*# Wo*l# an# the fo*+e* So,iet Co++ nist !loc. He clai+s it is the ina!ility of the poo* people in these co nt*ies to con,e*t thei* /#ea# capital0 into li,e) f nctioning /capital0 !eca se of a /legal apa*thei#0 thei* go,e*n+ents ha,e c*eate#. He asse*ts that the con,e*sion of #ea# capital into li,e capital e-plains the *ise of capitalis+) which he e1 ates with econo+ic #e,elop+ent) in the West. 2 +e*o s *e,iewe*s of the !oo$ ha,e p*aise# #e Soto3s #iagnosis of the ca se of n#e*#e,elop+ent an# his *eco++en#ation of the wi#esp*ea# g*anting of fo*+al titles to p*ope*ties owne# !y the poo* as a sol tion to this p*o!le+. In aca#e+ic 4o *nals) the positi,e *e,iews incl #e those !y 5i!ecap %&''6() 7 ch %&''&() Rosen!e*g %&''&() an# Pal %&''8(. In the p*ocess of #e,eloping his a*g +ent) #e Soto *efe*s to the well-$nown e-planation that clea*ly #efine# an# enfo*cea!le p*ope*ty *ights *e# ce t*ansactions costs %Coase 698:( an# p*o+ote in,est+ents) th s ea*ning Ronal# Coase3s en#o*se+ent of the !oo$; /A ,e*y g*eat !oo$. . . powe*f l an# co+pletely con,incing. It will

James C. W. Ahiakpor is a p*ofesso* of econo+ics at Califo*nia State <ni,e*sity) East 7ay.

The Independent Review v! "III n! # S$mmer %&&' ISS( #&')*# )+, Copyright - %&&' pp! +.*./!

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ha,e a +ost sal ta*y effect on the ,iews hel# on econo+ic #e,elop+ent. Si+ila*ly) Milton >*ie#+an en#o*se# the !oo$) noting; ?e Soto has #e+onst*ate# in p*actice that titling hithe*to ntitle# assets is an e-t*e+ely effecti,e way to p*o+ote econo+ic #e,elop+ent of society as a whole. He offe*s politicians a p*o4ect which can cont*i! te to the welfa*e of thei* co nt*y an# at the sa+e ti+e enhance thei* own political stan#ing) a won#e*f l co+!ination %see the !oo$ s !ac$ # st co,e* fo* !oth 1 otations(.6 Co+pa*ing #e Sotos clai+s with so+e of the g*an# #e,elop+ent theo*ies of the 69='s an# 69@'s) Jag#ish 7hagwati %Col +!ia <ni,e*sity( also #ecla*es that #e Soto is a*g a!ly the +ost inte*esting intellect al w*iting on #e,elop+ent to#ay. . . . AHeB is the +an with !ig i#eas. . . . His Mystery of Capital will en# *e as a wo*$ of e-t*ao*#ina*y i+po*tance %1t#. in Clift &''8) 6'(. The Economist hails the !oo$ as the +ost intelligent . . . yet w*itten a!o t the c **ent challenge of esta!lishing capitalis+ in the #e,eloping wo*l# %Clift &''8) C(. ?espite these accola#es) #e Soto is 1 ite +ista$en in his #iagnosis of the *eal hin#*ance to econo+ic #e,elop+ent in the .hi*# Wo*l# an# fo*+e* So,iet !loc co nt*ies. Rathe* than the lac$ of titles to p*ope*ty) the p*o!le+ is the ina#e1 acy of thei* #o+estic sa,ings to finance in,est+ent. Poo* people in these co nt*ies ha*#ly own assets) the a!sence of whose fo*+al titles i+pai*s thei* a!ility to !o**ow f n#s) o* capital) fo* in,est+ent. .h s) #e Sotos s ggeste# sol tion of a +assi,e titling p*og*a+ !y the go,e*n+ents of these co nt*ies wo l# !e a wastef l #i,e*sion f*o+ what nee#s to !e #one in the+ to p*o+ote thei* econo+ic p*ospe*ity. .his point is i+plicit in C lpeppe*s c*iticis+ of #e Sotos p*ope*ty-titling p*o4ect as flawe# an# inhe*ently !iase# against the lan#less an# p*ope*tyless tenants) altho gh his !oo$ p *po*ts to spea$ on !ehalf of) an# to e+powe*) the poo* an# #isenf*anchise# %&''&(. 7eca se #e Sotos !oo$ has *ecei,e# n +e*o s en#o*se+ents f*o+ high- p*o file fig *es) the f n#a+ental e**o*s of its p*e+ise nee# wi#e p !licity in o*#e* to spa*e .hi*# Wo*l# go,e*n+ents f*o+ !eing +isle#.&

A+ong othe* high-p*o file en#o*se*s of #e Soto s !oo$ a*e Ma*ga*et .hatche*) Ja,ie* Pe*e" #e C ella*) >*ancis > $ ya+a) an# Willia+ >. 7 c$ley J*. M*s. .hatche* a*g es that The Mystery of Capital has the potential to c*eate a new) eno*+o sly !ene ficial *e,ol tion) fo* it a##*esses the single g*eatest so *ce of fail *e in the .hi*# Wo*l# an# e--co++ nist co nt*ies the lac$ of the * le of law that phol#s p*i,ate p*ope*ty an# p*o,i#es a f*a+ewo*$ fo* ente*p*ise. It sho l# !e co+p lso*y *ea#ing fo* all those in cha*ge of the wealth of nations. ?e C ella* thin$s the !oo$ +a$es AaB c* cial cont*i! tion. A new p*oposal fo* change that is ,ali# fo* the whole wo*l#. > $ ya+a o!se*,es that The Mystery of Capital constit tes one of the few an# gen inely p*o+ising app*oaches to o,e*co+ing po,e*ty to co+e along in a ,e*y long ti+e) an# 7 c$ley a*g es that #e Soto s !oo$ changes o * n#e*stan#ing of whe*e capital co+es f*o+. .he conse1 ences co l# !e wo*l#shatte*ing. %All of these 1 otes a*e f*o+ the !oo$ s !ac$ o* insi#e # st co,e*.( 7elie,ing #e Sotos clai+s *ega*#ing the a!sence of the * le of law an# p*i,ate-p*ope*ty *ights fo* the poo* in the .hi*# Wo*l#) Sowell also concl #es his *e,iew of the !oo$ !y a*g ing; .his !oo$ sho l# !e *e1 i*e# *ea#ing fo* thoseincl #ing law p*ofesso*swho see+ to thin$ that p*ope*ty *ights a*e 4 st p*i,ileges fo* the *ich. .he poo* nee# the+ +ost of all) especially if they want to stop !eing poo* %&'''(. >o*+e* p*esi#ent 7ill Clinton is also *epo*te# to ha,e #ecla*e# #e Soto the wo*l#s g*eatest li,ing econo+ist %He*nan#o #e Soto &'':( !eca se of the !oo$. Since the p !lication of The Mystery of Capital #e Soto has *ecei,e# n +e*o s awa*#s %nineteen !etween &''& an# May &'':() +ainly f*o+ f*ee-+a*$et a#he*ents) incl #ing the A#a+ S+ith Awa*# %&''&() the Milton >*ie#+an P*i"e %&''D() an# the &''@ Inno,ation Awa*# %Social an# Econo+ic Inno,ation( f*o+ The Economist +aga"ine. It is nclea* how + ch the selection of hi+ fo* these awa*#s was infl ence# !y

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De Soto appears to have arrived at his fundamental misdiagnosis of the hin drance to economic development primarily from his misconception of capital and the source from which it derives. e thin!s that an implicit process "uried in the intricacies of #the$ formal property systems . . . creates capital in the %est and that the formal property system is capitals hydroelectric plant . . . the place where capital is "orn &'((() *+) *,- hereafter cited "y page num"er only.. /ut this view is incorrect. 0ather) it is a communitys savings that mainly create the capital that may "e "orrowed "y titled or untitled property owners. De Soto compounds his misconception with a confusion "etween stoc!s of wealth and the relevant flows of savings) or capital) to finance investment. e also e1aggerates the limited role of titles to property in the economic-development process of the more developed countries and misrepresents the historical causality "etween economic development and the titling of private property. is misdiagnosis of the principal impediment to economic development also appears to have "een driven "y his misperceptions of conditions in poor countries) misperceptions that he himself affirms with self-contradictory claims in the "oo!) especially his view that most people there do not have property rights. Samuelson &'((2.) %oodruff &'((2.) 3il"ert &'(('.) and 4iranda &'(('. have offered criticisms and warnings a"out the illusions of de Sotos proposal. %oodruff notes that the amount of capital that may "e unloc!ed from the poors assets might "e only a small percentage of that suggested "y de Soto &'((2) 2''2.. e also reports from a study of rural 5hailand that owners of untitled land are as li!ely to receive credit as are farmers with titled land) even from "an!s) and that titles have little effect on credit o"tained from non"an! sources such as traders &2'26.. Samuelson faults de Soto for his neglect of the cultural dimension of the pursuit of economic development) adding7 8roperty rights are not the "e all and end all of progress "ut a simple reflection of the larger culture. . . . #De Sotos$ story of property rights is only an interesting sideshow &'((2) '22.. 9 3il"ert reports that the granting of titles in /ogota) :olom"ia) has made little difference in peoples access to credit) and 4iranda notes that after si1 years wor! and more than 2 million registered land titles #in 8eru$) a very small percentage of the people in the target population have credit) which in most cases is from the /anco de 4ateriales) a government credit system that provides credit to those with sec$re incomes and which is not "ased on those who have formal titles &'((') '+9) emphasis added.. 4irandas report answers 5homass ;uery a"out the outcome of the land-titling pro<ect to which de Soto was
the acclaim he received for his earlier "oo! The 0ther 1ath &26=6.) arguing the "enefits of private enterprise and pointing out the "urdens of government "ureaucracy) or "y his having founded the >nstitute for ?i"erty and Development in ?ima) 8eru. Several governments in the 5hird %orld have invited de Soto to advise them on the implementation of his pro<ectthat is) to help them to find the !ey to unloc!ing the hidden wealth that already e1ists in their countries. e e1pected in '((9 to "e wor!ing with twenty-five of these governments over the ne1t two years &:lift '((9) 2(.. 9. De Soto appears to dismiss the relevance of the cultural dimension for e1plaining differences in the level of economic development) arguing that one day these cultural arguments will peel away as the hard evidence of the effects of good political institutions and property law sin! in &''@..

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appointed "y 8resident Al"erto Bu<imori of 8eru in the 266(s) "ut of which de Soto says nothing in the "oo! to e1plain why this programme failed to generate credit for those who were registered &'((') 262.. A recent study of a poor su"ur" of /uenos Aires) Argentina) "y 3aliani and Schargrods!y also finds only . . . modest effects on access to credit mar!ets as a result of #property$ entitlement &'((@) 9.. 5he land had "een "ought "y the Argentine government and distri"uted to s;uatters. owever) the preceding criticisms do not focus on de Sotos misconception of capital and of its sourcenamely) savingsor consider that titles may only increase the demand for loana"le savings in the formal credit mar!et without necessarily increasing the total supply.* 4eanwhile) such nota"le te1t"oo! commentators as 8er!ins) 0adelet) and ?indauer &'((+) =@) *2*. and 3wartney and colleagues &'((+) 9=. repeat without criticism de Sotos claims that the a"sence of formal titles to property is a hindrance to economic development. > here follow up %oodruffs suggestion that policy ma!ers . . . "e alerted to the limitations of de Sotos proposals &'((2) 2''9.. > also clarify Adam Smiths concept of capital) which de Soto misrepresents.@ De Soto is reported to have admitted the insufficiency of his titling pro<ect to promote economic development) "ut insists on its primacy7 >m not saying that other reforms arent necessary. >m simply saying that a property rights system is a principal reform) without which other reforms are difficult to manage. >ts ;uite clear that property law alone does not resolve the other pro"lems. /ut to me) what is also ;uite clear is that without property law) you will never "e a"le to accomplish other reforms in a sustaina"le manner & ernando de Soto '((,.. >n view of this insistence) his mista!en diagnosis re;uires correction) particularly for his free-mar!et admirers who have "een touting his program.

Mystifying Capital and Its Source

%hen a "usinessperson says he is loo!ing for some capital to invest or set up an enterprise) he has in mind a sum of money &funds.) typically to "e "orrowed at interest. Some of the funds may "e used to purchase or rent machinery or e;uipment) rent space for the enterprise) purchase raw materials) and pay for the services of

>n an attempt to defend de Sotos argument) a referee for this article gave the analogy of a ric!shaw driver who might "ecome financially independent "y pledging his land) if he had title to it) as collateral for a loan to purchase the ric!shaw instead of renting the vehicle. /ut how li!ely is it that a man so poor as to "e only a driver of a rented ric!shaw will also own landC 5he poor in the 5hird %orld typically are not property owners. 4y article is not so much a"out the effects of land titling on landowners access to credit as it is a"out de Sotos misdiagnosis of the principal hindrance to economic development in the 5hird %orld and the irrelevance of his suggested remedy. 5herefore) > focus on the relevant development literature- readers interested in the literature on land titling and access to credit may see Dan 5assel '((* and Eaco"y and 4inten '((,. > than! an anonymous referee for "ringing these recent pu"lications to my attention. owever) these authors do not discuss de Sotos diagnosis of the hindrance to economic development.

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wor!ers. Some of the funds will also "e !ept on hand to pay incidental costs that the enterprise incurs or to provide change to customers "efore revenues start to flow in. 5hus) "orrowed capital is a larger sum of money than the value of the physical assets an entrepreneur purchases) which modern economists call capital goodsmachinery) e;uipment) raw materials) or produced goods yet to "e sold. >t goes without saying that income earners first must save if "usinesspersons are to "orrow capital. 5hus) capital is intimately connected with savings and interest rates. 5he greater the demand for capital relative to its supply &savings.) the higher the rate of interest) and vice versa. 5his meaning of the term capital is the one that the classical economists and several early neoclassical economists employed- see) for e1ample) Adam Smiths Wealth of (ations &#2,,+$ 26,+) 27'6*F9(2.- David 0icardos Wor2s and Correspondence &26@2F) 279+9) '7992) 97=6F 6*.- E. S. 4ills Collected Wor2s &26+9F==) '7chap. +) 97chap. '9.- Alfred 4arshalls 1rinciples

ofEconomics &#26'($ 266() +(F+6.- A. :. 8igous Ind$strial 3l$ct$ations &26',) 2'(F'') 292F
9*.- Bran! Gnights essay 8rofessor aye! and the 5heory of >nvestment &269@. and "oo! The

Economic 0rgani4ation &#2699$ 26+,) 229F2,.- and E. /. :lar!s The Distri5$tion of Wealth
&269=) 22+F@+.. 4arshall argues that economists have no choice "ut to follow well- esta"lished customs as regards the use of the term capital in ordinary "usiness) i.e. trade capital. >n his reaction to /Hhm-/awer!s &#2=6($ 26,(. confinement of the term capital to only capital goods and thus his failure to interpret correctly the classical capital supply-and-demand theory of interest) he urges economists to use the language of the mar!et-place &#26'($ 266() +*,) +(.. owever) following E. 4. Geynes &#269+$ 26,+.) most modern economists tend not to heed 4arshalls advice and attach only the meaning capital goods to the term capital ;ualifying the term with financial to refer to its original meaning. >n contrast) Austrian economists who adopt the /Hhm-/awer!ian analysis of capital and interest and meet with criticism from neoclassical writers would rather the term capital were "anished from economics. aye! points out) 5he .. . am"iguity of the term capital has "een the source of unending confusion) and the suggestion has often "een made #for e1ample) "y Schumpeter$ . . . that the term should "e "anned entirely from scientific usages &26*2) 6.- > ela"orate on this point in another article &Ahia!por 266,.. >n The Mystery of Capital) de Soto e1tends the modern confusion over the term capital "y suggesting that capital has an invisi"le e1istence) li!e television or radio waves that are !nown to e1ist "ut cannot "e seen or touched) and is congealed in the residential houses and lands that the poor occupy) although he ;ualifies this capital as "eing dead &,.. 5hus) instead of recogniIing the paucity of savings or loana"le capitalthat is) unconsumed income devoted to earning interest or profits &dividends.) represented in financial assets such as "an! deposits) mutual-fund shares) stoc!s) and "ondsas the principal hindrance to economic development in the 5hird %orld) de Soto insists that the poorest sectors of society have saved. 5he ;uantity is enormous &22..

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In #e Soto s ,iew) the p*o!le+ fo* the .hi*# Wo*l# is a fail *e to *ecogni"e o* n#e*stan# how to con,e*t thei* sa,ings into capital %6&(; .his is the +yste*y of n#e*stan#ing of why Weste*ne*s) !y *ep*esenting assets

capital. Sol,ing it *e1 i*es an

with titles) a*e a!le to see an# #*aw o t capital f*o+ the+. One of the g*eatest challenges to the h +an +in# is to co+p*ehen# an# to gain access to those things we $now e-ist ! t cannot see %:(. He !elie,es that at least C' pe*cent of the pop lation in these co nt*ies cannot in4ect life into thei* assets an# +a$e the+ gene*ate capital !eca se the law $eeps the+ o t of the fo*+al p*ope*ty syste+. .hey ha,e t*illions of #olla*s in #ea# capital) ! t it is as if these we*e isolate# pon#s whose wate*s #isappea* into a ste*ile st*ip of san#) instea# of fo*+ing a +ighty +ass of wate* that can !e capt *e# in one capital %&6'(. ?e Soto s conception of capital as !eing e+!e##e# in the #welling places of the poo* in the .hi*# Wo*l# lea#s hi+ to *ge the go,e*n+ents of these co nt*ies to t *n inwa*# to fin# capital fo* econo+ic #e,elop+ent) not !y changing policies that ha,e inhi!ite# thei* citi"ens sa,ing) ! t +e*ely !y p*o,i#ing the poo* with titles to thei* p*ope*ties. Instea# of wan#e*ing the wo*l#s fo*eign +inist*ies an# inte*national financial instit tions see$ing thei* fo*t ne) he a*g es) the lea#e*s of these nations sho l# *ecogni"e that in the +i#st of thei* own poo*est neigh!o*hoo#s an# shantytowns) the*e a*eif not ac*es of #ia+on#st*illions of #olla*s) all *ea#y to !e p t to se if only the +yste*y of how assets a*e t*ansfo*+e# into li,e capital can !e n*a,ele# %8:(. ?e Sotos *ging of these go,e*n+ents to *ely on #o+estic so *ces fo* in,est+ent f n#s is well a#,ise#) @ ! t the a+o nt that he s ggests can !e *et*ie,e# %if one +ay g*ant legiti+acy to his ,ision( +e*ely !y p*o,i#ing titles to the poo* who !y #efinition #o not own + chis 1 ite +islea#ing.: He appea*s to +ista$e the possi!ility of ple#ging a clea*ly title# p*ope*ty as collate*al fo* loans fo* the p*o!a!ility of o!taining s ch loans. 7 t witho t a#e1 ate sa,ings) the poo* still wo l# ha,e little chance of o!taining the capital that wo l# !e *atione# at highe* inte*est *ates an# o!taina!le !y those with !ette*-1 ality assets than those of the poo*.C As
2 +e*o s analysts %e.g.) 7a e* 69C6I Easte*ly &''8( ha,e note# that it is f tile fo* less-#e,elope# co nt*ies to e-pect to sec *e thei* econo+ic p*ospe*ity p*i+a*ily f*o+ *eliance on fo*eign ai#) instea# of f*o+ the c*eation of con#itions to p*o+ote #o+estic sa,ings an# in,est+ent. .h s) #e Soto he*e st*i$es a fa+ilia* cho*# with analysts incline# towa*# f*ee-+a*$et) self-*eliant policies as well as with those who si+ply ha,e !een #isappointe# with the poo* *eco*# of fo*eign ai# in the less-#e,elope# co nt*ies. Woo#* ff notes that #e Soto s esti+ates a*e highly inflate#; Gi,en ine,ita!le slippage in t*anslating collate*al into loans) the capital nloc$e# f*o+ these assets +ight !e only a s+all pe*centage of that s ggeste# !y #e Soto %&''6) 6&&6(. Mi*an#a %&''&( also notes the e-agge*ation in #e Soto s esti+ates. 7 t note that the ,al es of collate*als the+sel,es #o not gene*ate capitalI loana!le sa,ings #o. At !est) one +ay a*g e that the newly 1 ali fie# %p*ope*ty-title#( !o**owe*s +ight face a lowe* *ate of inte*est than they #i# in the info*+al capital o* c*e#it +a*$et) an# the *ate of inte*est on the info*+al +a*$et +ight fall !eca se of a *e# ce# #e+an# fo* loans the*e. 7 t the*e is little *eason to e-pect the total a+o nt of loans +a#e on !oth the fo*+al an# info*+al c*e#it +a*$ets to *ise si+ply f*o+ the sh f fling of !o**owe*s f*o+ one +a*$et to anothe*.

nifie# p*ope*ty syste+ an# gi,en the fo*+ *e1 i*e# to p*o# ce

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David 0icardo well ma!es the point) credit does not create :apital) it deter mines only "y whom that :apital should "e employed &26@2F) @7*9+F9,.. /esides) lending to small-scale "usinesses in poor countries relies precious little on the ownership of titles to property &see) for e1ample) 8er!ins) 0adelet) and ?indauer '((+) @(+F=.. >ndeed) lenders are more interested in the li!elihood of a "orrowers repayment on account of the pro"a"le success of the enterprise for which the loans are e1tended than in the possi"ility of collecting payment from the sale of pledged assets. 4aintenance and selling costs are involved in attempting to recover the loan principal from pledged assets &not to mention the interest that may "e forgone.. ?enders are also eager to receive their e1pected repayments of loans in order to meet their own short-term o"ligations. Burthermore) there hardly are primary) let alone secondary) mar!ets for shac!s the poor may "uild on rural parcels of land in most 5hird %orld countries to ma!e property foreclosure sales feasi"le) "e they in aiti) Jgypt) 8eru) or the 8hilippines) the countries de Soto and his group have visited. >t also may "e against the cultural norms for a lender to sell the dwelling places of "orrowers in default) even where the law permits such sales.6 De Soto attri"utes to Adam Smith the view that capital is not the accumulated stoc! of assets "ut the potential it holds to deploy new production &*') emphasis in original.. e also attri"utes to Smith) Sismonde de Sismondi) and Garl 4ar1 the view that capital is first an a"stract concept and must "e given a fi1ed) tangi"le form to "e useful &*'F*9.. /ut de Sotos pursuit of the a"stract notion of capital leads him away from a recognition that Smith clearly defines capital first as funds and derives its origin from savings "efore the "orrowed capital ta!es the forms of fi1ed and circulating capital in the hands of producers7 :apitals are increased "y parsimony and diminished "y prodigality and misconduct. %hatever a person saves from his revenue he adds to his capital, and either employs it himself in maintaining an additional num"er of productive hands) or ena"les some other person to do so) "y lending it to him for an interest) that is) for a share of the profits. As the capital of an individual can "e increased only "y what he saves from his annual revenues or his annual gains) so the capital of

society, which is the same with that of all the individuals who compose it) can "e
increased only in the same manner. &#2,,+$ 26,+) 279@=F@6) emphasis added.
6. >n some 5hird %orld countries) the law prohi"its lenders from selling the land or the houses of "orrowers who are in default &see Dan 5assel '((*.. 5hese restrictions are supposed to protect the poor from lenders) although their operation may appear to affirm de Sotos claim of a legal apartheid against the poors access to credit. >n '((,) even the K.S. government put pressure on "an!s and some other mortgage lenders not to foreclose on the properties of so-called su"prime "orrowers in default) "ut to wor! with them to !eep their homes. Alston &26=*. recounts legislation "y K.S. states "arring farm foreclosures in times of economic distress during the nineteenth and twentieth centuries.

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W h en S + i t h # i s t i n g is h e s c a p i t a l f *o + + o n e y ) a p o i n t # e S o t o % D 8 ( n o t e s ) he is only wa*ning against +ista$ing the +e#i + %+oney( th*o gh which capital %sa,ings( +ay !e con,eye# f*o+ sa,e*s to !o**owe*s fo* the s !stance of what is con,eye#. .h s) an inc*ease in the 1 antity of +oney specie o*) in o * ti+e) pape* #oes not +ean that the *eal p *chasing powe* of sa,ings *ises o* that the *ate of inte*est at which sa,ings a*e !o**owe# falls. >o* e-a+ple) !etween 69CC an# 699') Pe* s cent*al !an$ inc*ease# the 1 antity of c **ency at an a,e*age ann al *ate of 8)&@8 pe*cent) ! t the #eposit inte*est *ate a,e*age# 6)&D@ pe*cent an# the *ate of inflation a,e*age# 8)CD9 pe*cent witho t the econo+ys e-pe*iencing *eal g*owth. > *the*+o*e) S+ith tal$s a!o t the con,e*sion of #ea# stoc$ AcapitalB into acti,e an# p*o# cti,e stoc$ th*o gh the 4 #icio s ope*ations of !an$ing when !an$s $eep no +o*e of the co++ nitys sa,ings #eposite# with the+ than they nee# in *ea#y +oney fo* answe*ing occasional #e+an#s %A6::@B 69:@) 6;8D6) 8D'(. .his o!se*,ation is offe*e# to e-plain f*actional *ese*,e !an$ings positi,e cont*i! tion to econo+ic g*owth) not to #esignate #welling places as c sto#ians of #ea# capital capa!le of !eing con,e*te# into acti,e capital fo* p*o# ction. .h s) #e Sotos e+ploy+ent of the te*+ dead capital +ay ha,e !een an ingenio s !o**owing f*o+ S+iths lang age) ! t the conte-t to which #e Soto applies it lea#s to his fail *e to *ecogni"e that inc*ease# loana!le sa,ings) not titles to p*ope*ties owne# !y the poo*) a*e the so *ce of li,e capital to p*o+ote g*owth. It is +islea#ing to clai+ that capital is the *es lt of #isco,e*ing an# nleashing potential ene*gy f*o+ the t*illions of !*ic$s that the poo* ha,e acc + late# in thei* ! il#ings %D'(.

Confusing Stocks and Flows

?e Sotos ,iew that t*illions of #olla*s wo*th of #ea# capital e-ist in the .hi*# Wo*l# waiting to !e t *ne# into p*o# cti,e capital) if only the con,e*sion p*ocess we*e initiate# with the g*anting of legal titles to p*ope*ty) conf ses the stoc$ of wealth with the flow of

capital) o* sa,ings) nee#e# fo* in,est+ent. His esti+ates a*e !ase# only on the
pe*cei,e# +a*$et ,al es of the poo*s #wellings. At any point in ti+e) the ,al es of assets owne# !y the poo* +ay well !e eno*+o s) gi,en that to #ete*+ine this ,al e one is si+ply esti+ating the ,al e of the lan# an# #welling places they inha!it) altho gh in pe* capita te*+s the ,al es owne# !y the +i##le class an# the *ich +ay !e significantly g*eate*. Howe,e*) it is the c **ent o* ann al a##itions to stoc$s) o* sa,ings %flows() that +atte* fo* the p*o+otion of econo+ic g*owth. S ch flows p*o,i#e the f n#s fo* hi*ing a##itional la!o*) ac1 i*ing tools an# +achine*y to assist la!o* in p*o# ction) an# o!taining the *aw +ate*ials to !e p*ocesse#. 5e,ine %699:( p*o,i#es an e-cellent e+pi*ical #e+onst*ation of this point) !esi#es s ++a*i"ing othe* st #ies that affi*+ it. 5ittle of *ele,ance t *ns on

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whether de Soto correctly estimates the dead capital in land values of 5hird %orld and former :ommunist "loc countries to "e worth L6.9 trillion) or very nearly as much as the total value of all the companies listed on the main stoc! e1changes of the worlds twenty most developed countries7 Mew Nor!) 5o!yo) ?ondon) Bran!furt) 5oronto) 8aris) 4ilan) the MASDAO) and a doIen others. >t is more than twenty times the total direct foreign investment into all 5hird %orld and former communist countries in the ten years after 26=6) forty-si1 times as much as all the %orld /an! loans of the past three decades) and ninety-three time as much as all development assistance from all advanced countries to the 5hird %orld in the same period &9@.. 5he dead capitals themselves are of little use in production) "ut the funds &savings. used to purchase stoc!s traded on capital mar!ets ma!e increased production possi"le. 5he economic functions of the two types of assets must not "e confused. 5he rural parcels of land have e1isted in these countries since their founding) and they cannot to "e compared meaningfully with %orld /an! loans) development assistance) or foreign direct investment over any period of time. >ndeed) with economic development made possi"le "y increased savings) the value of other forms of wealth may e1ceed the value of land.

The Limited Role of Propert Titles

De Soto gives the impression that it is primarily) if not only) titles to property that ena"le people to transform their dead capital into the live capital needed for production. /ut titles only ma!e it easier for the grantor of a loan to seiIe the property represented "y the title in case of default. 5hey do not increase the availa"le loana"le funds) or capital. 3iven the rate of savings) an increase in the pool of "orrowers may only cause lenders to pay closer attention to other discriminating aspects of "orrowers. Among these aspects are the "orrowers cash flows) constancy or regularity of employment) and previous repayment history. Pn these criteria) we can hardly e1pect the poor in the 5hird %orld to outperform the well-to-do who already "orrow capital in their underdeveloped financial mar!ets for investment. owever) an increased flow of savings may lower interest rates as well as induce lenders to rela1 their ;ualifying criteria for potential "orrowers. 5he case of mortgage lenders who e1tended loans without re;uiring the traditional '( percent down payment or carefully verifying potential "orrowers sources of income during the early '(((s in the Knited Statesthe socalled su"prime lending phenomenonillustrates the point. >n '((2) an = percent interest rate on a thirty-year mortgage loan was a good rate) "ut "y '((@ the rate for a similar loan had dropped to @.@ percent. Bunds

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clea*ly ha# +o,e# o t of stoc$s into + t al f n#s an# ce*ti ficates of #eposit) signi ficantly #ep*essing thei* inte*est *ates. With a lowe* cost of f n#s) +o*tgage len#e*s too co l# affo*# to cha*ge histo*ically low *ates to !o**owe*s) e,en tho gh c*e#it wo*thiness still +ay ha,e affecte# so+e in#i,i# al loan *ates. ?e Soto also #*aws the w*ong infe*ence f*o+ the histo*y he *eco nts of s1 atting in the <nite# States) pa*tic la*ly !y the ea*ly settle*s in Ma*ylan#) Massach setts) 2ew Ha+pshi*e) Ee*+ont) an# Pennsyl,ania. .hose who too$ possession of lan# as s1 atte*s fi*st ac1 i*e# capital) o* sa,ings) which they se# to ! il# the ca!ins an# till the lan# as *e1 i*e# of the+. .h s) n#e* Massach setts law) a settle*s # ties incl #e# ta$ing act al possession an# within th*ee yea*s) ! il#ing a ho se of a ce*tain si"e) s ally eighteen o* twenty feet s1 a*e) an# clea*ing fi,e to eight ac*es fo* +owing an# tilling %66=(. In this way) s1 atte*s ac1 i*e# thei* ca!in)

to+ahaw$) o* co*n *ights) s !se1 ently to !e *ecogni"e# !y state o* fe#e*al

go,e*n+ents. .hose s1 atte*s we*e people of consi#e*a!le +eans who #i# e,e*ything they co l# to sec *e the Ap !licB lan# they occ pie#I so+e e,en pai# twice fo* the sa+e pa*cel) while othe*s pai# lawye*s eno*+o s fees to help the+ +a$e thei* lan# legal %68=F8@(. .h s) the positi,e conte+po*aneo s ,iew of the ea*ly settle*s that #e Soto 1 otes f*o+ Senato* Hen*y Clay ha*#ly applies to the poo* s1 atte*s of p*esent-#ay .hi*# Wo*l# an# fo*+e* Co++ nist co nt*ies; .hey Athe ea*ly settle*sB ! il# ho ses) plant o*cha*#s) enclose fiel#s) c lti,ate the ea*th) an# *ea* Meanwhile) the ti#e of e+ig*ation flows p fa+ilies a*o n# the+. pon the+) thei* i+p*o,e# fa*+s *ise in

,al e) a #e+an# fo* the+ ta$es place) they sell to the newco+e*s at a g*eat a#,ance) an# p*ocee# fa*the* west. . . . In this way) tho san#s an# tens of tho san#s a*e #aily i+p*o,ing thei* ci*c +stances an# !ette*ing thei* con#itions %68&(. Mo*eo,e*) .hi*# Wo*l# s1 atte*s a*e not fo*eigne*s o* i++ig*ants occ pying the lan#s of #ispossesse# nati,esI neithe* a*e they people with s f ficient +eans to ! il# app*ecia!le ho ses) till lan#s of any signi ficant si"e) an# plant o*cha*#s. Rathe*) they a*e ,iolato*s of thei* fellow citi"ens p*ope*ty *ights. Respect fo* the law) which #e Soto *ecogni"es as a *e1 i*e+ent fo* the s ccessf l ! il#ing of capitalis+) s ggests *athe* that go,e*n+ents enfo*ce the p*ope*ty owne*s *ights against s1 atte*s !y g a*anteeing the inte*lope*s e,iction. As A#a+ S+ith notes) Ci,il go,e*n+ent) so fa* as it is instit te# fo* the sec *ity of p*ope*ty) is in *eality instit te# fo* the #efence of the *ich against the poo*) o* of those who ha,e so+e p*ope*ty against those who ha,e none at all %A6::@B 69:@) &;&8@(. .ill the*e !e p*ope*ty) he points o t) the*e can !e no go,e*n+ent) the ,e*y en# of which is to sec *e wealth an# to #efen# the *ich f*o+ the poo* %f*o+ 6ect$res 1t#. in S+ith A6::@B 69:@) &;&8@n(.6'

6'. John 5oc$e s ,e*sion of the sa+e point is that go,e*n+ent has no othe* en# ! t the p*ese*,ation of p*ope*ty %1t#. in S+ith A6::@B 69:@) &;&8@n(.

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66

!ther Pro"lems with de Soto#s Claims

Several of de Sotos claims are factually incorrect) and others are self-contradictory. A"out conditions in the 5hird %orld) he incorrectly states

that no"ody can identify who owns what. . . . #8$eople cannot "e made to pay their de"ts. . . . #5$he rules that govern property vary from neigh"orhood to neigh"orhood or even from street to street &2@.-

that peasants face an impenetra"le wall of rules that "ar . . . them from legally esta"lished social and economic activities. >t #is$ tremendously difficult for these new city people to ac;uire legal housing) enter formal "usiness) or find a legal <o" &2=) repeated on ='.-

that #e$1tralegal asset owners are . . . denied access to credit &=*.) and many statutes . . . wall off the ma<ority of people from capital &2==.- and that the sale or lease of a house may involve lengthy and cum"ersome procedures of approval involving all the neigh"ors &*,.. Among other assertions that easily can "e shown to "e incorrect are7

Jven as the %est prospers from a"undant capital) people really #do not$ understand the origin of capital &=.) and ironically) the enemies of capitalism have always seemed more aware of the virtual origin of capital than capitalists #are$ themselves &'''.-

:apital) the most essential component of %estern economic advance) is the one that has received the least attention &2(F22.5he genius of the %est was to have created a system that allowed people to grasp with the mind values that human eyes could never see and to manipulate things that hands could never touch &+9.-

4oney does not earn money. Nou need a property right "efore you can ma!e money &+*.the classical economists #including Adam Smith$) who !new capital was a"stract and had to "e fi1ed) #did$ not ma!e the connection "etween capital and property &+@.and

:apitalists generally have no systematic e1planation of how the people in the underclass got where they are and how the system could "e changed to raise them up &'29.. 5hat capital originates in savings has "een well !nown to economists for a long time)

and the policies to encourage increased capital formation to promote economic growth have "een urged since the time of Adam Smith. Jven as modern Geynesian macroeconomics has taught the myth that increased saving causes a decline in aggregate demand) hence an economys declineas in the parado1 of thrift proposition &see
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Ahia!por 266@.growth theories) from the arrod-Domar model

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68

to the Solow +o#el) ha,e e+phasi"e# the i+po*tance of inc*ease# sa,ings fo* p*o+oting econo+ic g*owth. %See also Gol#s+ith 69@9I McKinnon 69:8I 5e,ine 699:I an# #e,elop+ent econo+ics te-ts s ch as Meie* an# Ra ch &''=) esp. chap. =) an# Pe*$ins) Ra#elet) an# 5in#a e* &''@) esp. chaps. 6' an# 68.( In#ee#) +o#e*n g*owth theo*ies +ay !e *ea# as ill st*ating S+ith s e-planation that AtBhe ann al p*o# ce of the lan# an# la!o * of any nation can !e inc*ease# in its ,al e !y no othe* +eans) ! t !y inc*easing eithe* the n +!e* of its p*o# cti,e la!o *e*s) o* the p*o# cti,e powe*s of those la!o *e*s who ha# !een e+ploye#. .he n +!e* of its p*o# cti,e la!o *e*s) it is e,i#ent) can ne,e* !e + ch inc*ease#) ! t in conse1 ence of an increase of capital) o* the f$nds

destined for maintaining them! .he p*o# cti,e powe*s of the sa+e n +!e* of
la!o *e*s cannot !e inc*ease#) ! t in conse1 ence eithe* of so+e a##ition an# i+p*o,e+ent to those +achines an# inst* +ents which facilitate an# a!*i#ge la!o *I o* of a +o*e p*ope* #i,ision an# #ist*i! tion of e+ploy+ent. In eithe* case an additional capital is al+ost always *e1 i*e#. It is !y +eans of an a##itional capital only) that the n#e*ta$e* of any wo*$ can eithe* p*o,i#e his wo*$+en with !ette* +achine*y) o* +a$e a +o*e p*ope* #ist*i! tion of e+ploy+ent a+ong the+. . . . When we co+pa*e) the*efo*e) the state of a nation at two #iffe*ent pe*io#s) an# fin#) that the ann al p*o# ce of its lan# an# la!o * is e,i#ently g*eate* at the latte* than at the fo*+e*) that its lan#s a*e !ette* c lti,ate#) its +an fact *es +o*e n +e*o s an# +o*e flo *ishing) an# its t*a#e +o*e e-tensi,e) we +ay !e ass *e# that its capital + st ha,e

increased # *ing the inte*,al !etween those two pe*io#s) an# that +o*e + st
ha,e !een added to it !y the goo# con# ct of so+e) than ha# !een ta$en f*o+ it eithe* !y the p*i,ate +iscon# ct of so+e) o* !y the p !lic e-t*a,agance of go,e*n+ent. %A6::@B 69:@) 6;8@=) e+phasis a##e#(

Rica*#o *eite*ates S+iths point when he o!se*,es that the wealth of a co nt*y +ay !e inc*ease# in two ways; it +ay !e inc*ease# !y e+ploying a g*eate* po*tion of *e,en e in the +aintenance of p*o# cti,e la!o * Ai.e.) inc*ease# sa,ingsB) which will not only a## to the 1 antity) ! t to the ,al e of the +ass of co++o#itiesI o* it +ay !e inc*ease#) witho t e+ploying any a##itional 1 antity of la!o * !y +a$ing the sa+e 1 antity +o*e p*o# cti,e)which will a## to the a! n#ance) ! t not to the ,al e of co++o#ities. In the fi*st case) a co nt*y wo l# not only !eco+e *ich) ! t the ,al e of its *iches wo l# inc*ease. It wo l# !eco+e *ich !y parsimony7 !y #i+inishing its e-pen#it *e on o!4ects of l - *y an# en4oy+entI an# e+ploying those savings in *ep*o# ction. %69=6F) 6; &:C) e+phasis a##e#(

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7a +ol

*ep*o# ces)

tho gh

in

#iffe*ent

conte-t)

J-7.

Say s

%6C'8(

*estate+ent of the sa+e classical e+phasis on sa,ings as a p*incipal #ete*+inant of econo+ic g*owth; As fo* a nation that #oes not e-pen# its enti*e inco+e) an# ann ally a g+ents its capital) that is the one an# the only one that p*o,i#es the g*eatest ann al +a*$ets fo* its p*o# ct. In effect) each yea* it e-pe*iences g*owth in the p*ofits f*o+ its capital an# in the powe* of its in# st*y an#) conse1 ently) in its inco+eI that is to say) its +eans of cons +ption eithe* #i*ect o* th*o gh e-change) in one wo*#) its +a*$ets. .he p !lic inte*est is conse1 ently not se*,e# !y cons +ption) ! t it is se*,e# an# se*,e# p*o#igio sly !y sa,ing) an# tho gh it see+s e-t*ao*#ina*y to +any pe*sons) not !eing any the less t* e as a conse1 ence) the la!o *ing class is se*,e# !y it +o*e than anyone else. %69::) 6='( ?e Sotos clai+ that +ost people Ain the .hi*# Wo*l#B #o not ha,e p*ope*ty *ights %&66(a clai+ that appea*s to ha,e significantly infl ence# the positi,e e,al ations of his !oo$ !y Sowell %&'''() 7aet4e* an# 5ine!e**y %&''8() Gwa*tney an# colleag es %&''@() an# Mo**is %&'':(is a +yth. .he *ight to p*i,ate p*ope*ty is wi#ely *ecogni"e# in +ost nonCo++ nist .hi*# Wo*l# co nt*ies) e,en whe*e people #o not ha,e any go,e*n+ent-iss e# #oc +ents attesting thei* owne*ship %see) fo* e-a+ple) 7esley 699=(. .hese co nt*ies ha,e notions of theft o* ,iolations of p*ope*ty *ights) an# in t*a#itional o* * *al settings they ha,e +echanis+s fo* p nishing o* #isco *aging theft. Rental p*ope*ty owne*s in the *!an a*eas of the .hi*# Wo*l# #o not t *n away p*ospecti,e *ente*s f*o+ the * *al a*eas who show financial a!ility to pay. .he p*o!le+ fo* +ig*ants f*o+ the * *al a*eas +ay instea# !e thei* ina!ility to affo*# the highe* *ents in the *!an a*eas. ?e Sotos notion of a legal apa*thei# sepa*ating people of * *al an# *!an

o*igins in thei* econo+ic acti,ities is also a +yth. .he p*e,alence of len#ing an# !o**owing in the info*+al +a*$et also ,itiates his clai+ that nonhol#e*s of fo*+al titles to p*ope*ty a*e #enie# access to c*e#it in the .hi*# Wo*l#. It also *e,eals as inco**ect his notion that +oney

#oes not ea*n +oney fo* the nonfo*+al title hol#e*.

?e Sotos #esc*iption of acti,ities in the info*+al secto* as e8tralegal a te*+ he so+eti+es e1 ates with illegality) inco**ectly ta*nishes the legiti+ate) welfa*e- i+p*o,ing) econo+ic acti,ities n#e*ta$en in the info*+al secto*s of .hi*# Wo*l# co nt*ies. .h s) he co+pa*es the so-calle# law a5iding secto* on one si#e AwithB the i+po,e*ishe# e-t*alegal secto* %&68) e+phasis a##e#( an# a*g es that when people ha,e access to an o*#e*ly +echanis+ to settle lan# that *eflects the social cont*act) they will ta$e the legal ro$te an# only a +ino*ity) li$e anywhe*e else) will insist on e-t*alegal app*op*iation %&&@) e+phasis a##e#(. In the info*+al sec-

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6=

to*

of

less-#e,elope#

co nt*ies)

p*o# ction

acti,ities

co++on

in

a g * i c l t * e ) se*,ices) an# s+all +an fact *ing a*e fo* the +ost pa*t not illegal acti,ities. It is also well $nown that the info*+al secto* s si"e #eclines on its own as econo+ic g*owth occ *s %see) fo* e-a+ple) Meie* an# Ra ch &''=I Pe*$ins) Ra#elet) an# 5in#a e* &''@(. I co nt a n +!e* of self-cont*a#icto*y clai+s in #e Soto s wo*$; He o!se*,es co**ectly that econo+ic #e,elop+ent occ **e# in the <nite# States at the han#s of i++ig*ants) who settle# !o n#a*ies) plo ghe# fiel#s) ! ilt ho+es) t*ansfe**e# lan#) an# esta!lishe# c*e#it long !efo*e go,e*n+ents confe**e# on the+ any *ight to engage in these acts %6@( th*o gh titles. 7 t he also #wells on the p*i+acy of legal titles as a p*e*e1 isite fo* econo+ic #e,elop+ent in the .hi*# Wo*l#. He #esc*i!es the ,i!*ancy of the info*+al o* e-t*alegal secto*) as in the 7*a"ilian

favelas) whe*e the*e a*e no *ent cont*ols . . . I *ents a*e pai# in <.S. #olla*s) an# *ente*s
who #o not pay a*e *api#ly e,ac ate# %&6() an# cha*acte*i"es this secto* as a place whe*e

st*eet-si#e cottage in# st*ies ha,e sp* ng p . . . ) +an fact *ing any thing f*o+ clothing
an# footwea* to i+itation Ca*tie* watches an# E itton 7ags. .he*e a*e wo*$shops that ! il# an# *e! il# +achine*y) ca*s) e,en ! ses . . . enti*e in# st*ies an# neigh!o*hoo#s that ha,e to ope*ate on clan#estine connections to elect*icity an# wate*. .he*e a*e e,en #entists who fill ca,ities witho t a license %&C(.66 Fet elsewhe*e he a*g es that witho t integ*ation into the fo*+al o* legal secto* th*o gh titles) these econo+ies ha,e little chance fo* g*owth o* #e,elop+ent. He asse*ts that p*ope*ty) li$e ene*gy) is a conceptI it cannot !e e-pe*ience# #i*ectly. . . . An# no one can see p*ope*ty %D9( e,en tho gh it is p*ope*ly s *,eye#) +appe#) an# *eco*#e# %6=D(. Fet he also a*g es that a title to p*ope*ty ena!les one to see it as li,e capital %='( o* e,en to to ch AtheB capital %@8(. He #ecla*es that in the e-t*alegal secto* of the less-#e,elope# co nt*ies no!o#y *eally $nows who owns what %8&( an# the poo* ha,e plenty of things) ! t thei* p*ope*ty *ights a*e not #efine# !y any law %:D(. Fet he clai+s that in these sa+e co++ nities

illegal tenancy cont*acts Aa*eB #ecla*e# !efo*e a nota*y I that AaBltho gh thei* laws +ay
!e o tsi#e fo*+al law) they a*e) !y an# la*ge) the only laws with which these people a*e co+fo*ta!le %CC(I that it is e-t*alegal law that *eg lates the assets of +ost citi"ens %6:=(I that asset owne*s in the e-t*alegal secto* a*e . . . *elati,ely well o*gani"e# Aan#B

law-a!i#ing) altho gh the laws they a!i#e !y a*e not the go,e*n+ents %6:C(I that people in the n#e*capitali"e# secto* #o
66. In fact) !esi#es o!taining a license to ope*ate a co++e*cial ,ehicle) p*i,ate ! s) 4itney) o* ta-i) a #*i,e* #oes not nee# any official *ecognition of his ro$te to ope*ate in .hi*# Wo*l# co nt*ies) a *ecognition #e Soto clai+s can ta$e as +any as twenty-si- +onths of *e# tape to o!tain %&'(. Ro tes a*e not #*i,e*s +onopolies g*ante# !y go,e*n+ent. ?onal# Stewa*ts ,i,i# #esc*iption of the 7*a"ilian favelas as econo+ies !o*n of the ent*ep*ene *ial spi*it of peasants an# in which the p*ofita!ility of in,est+ent Ain ho singB is goo# an# as a *es lt the*e is an a! n#ance of s pply of ho sing %699:) 1t#. in #e Soto &''') C=( also cont*a#icts #e Sotos #i+ ,iew of the p*ospects fo* econo+ic #e,elop+ent witho t a fo*+al integ*ation of titles to p*ope*ty. An econo+y +ay !e co+pose# of fo*+al an# info*+al secto*s) ! t the g*owth of the latte* also i+p*o,es the well!eing of the econo+ys inha!itants.

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have . . . strong) clear) and detailed understandings among themselves of who owns what &2='.- and that in aiti he and his group did not find a single e1tralegal plot of land) shac!) or "uilding whose owner did not have at least one document to defend his right even his s;uatting rights &2=9.. e argues that massive e1tralegality #in the 5hird %orld and former :ommunist countries$ is not a new phenomenon. . . . %hen the >ndustrial 0evolution "egan in Jurope) governments were also plagued with uncontrolla"le migration) growth of the e1tralegal sector) ur"an poverty) and social unrest &69.) and during the settlement of America) migrants "egan settling "oundaries) plowing fields) "uilding homes) transferring land) and esta"lishing credit long "efore governments had conferred on them the right to do so &22,.. /ut he fails to see that the evolutionary process in economic developmentwhat he calls capitalismtoo! place in these countries without there first "eing a widespread government program of granting titles to property owned "y the poor) and that such a program did not precede economic development in todays more-developed countries. e claims that in the 5hird %orld the rules that govern property vary from neigh"orhood to neigh"orhood or even from street to street &2@.. /ut elsewhere he declares that individual e1tralegal social contracts in the same country #are$ more ali!e than different &2=(.. At numerous places &for e1ample) 9() +,) =') and 2@6.) he argues that the poor have "een e1cluded from entering the formal sectors of 5hird %orld economies "y some sort of legal apartheid or a "ell <ar. Net he also notes that governments in developing countries have tried for 2=( years to open up their property systems to the poor &2@*. and that programs to endow the poor with property e1ist in almost all developing and former communist countries &2+@.. e o"serves correctly from the history of some of the more-developed countries that unconscious evolution rather than conscious planning created the integrated property systems in these countries &2(6. and that the e1tralegals #in the less-developed countries$ want to come in from the cold) as evidenced "y the engaging and diplomatic leaders they select to negotiate on their "ehalf #who$ hardly fit the stereotype of the street "oss &2,,F,=.. Net in general he sees little prospect of economic development unless 5hird %orld governments engage in a massive) conscious) and planned integration of formal titles to property. 5hus) de Sotos path to arriving at his conclusions a"out the dim prospects for economic development in the 5hird %orld and former :ommunist countries unless they implement his suggested granting of titles to property owned "y the poor is littered with misperceptions) inaccuracies) and contradictions.

Further $%aluation and Conclusions

/efore Adam Smith ela"orated his "lueprint for the process of efficient economic development in the Wealth of (ations) he argued in 2,@@7 ?ittle else is re;uisite to

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ca**y a state to the highest #eg*ee of op lence f*o+ the lowest !a*!a*is+ ! t peace) easy ta-es) an# a tole*a!le a#+inist*ation of 4 stice; all the *est !eing !*o ght a!o t !y the nat *al co *se of things. All go,e*n+ents which thwa*t this nat *al co *se) which fo*ce things into anothe* channel o* which en#ea,o * to a**est the p*og*ess of society at a pa*tic la* point) a*e nnat *al) an# to s ppo*t the+sel,es a*e o!lige# to !e opp*essi,e an# ty*annical %1t#. in S+ith A6::@B 699@) -l(. S+ith s !l ep*int incl #es go,e*n+ent p*o,ision of sec *ity fo* its citi"ens against e-te*nal an# inte*nal agg*ession) the a#+inist*ation of 4 stice) an# the e*ection of p !lic wo*$s an# instit tions to facilitate the f nctioning of +a*$ets. ?e Soto s e+phasis on the !ene fits of clea* titles to p*ope*ty an# the state s enfo*ce+ent of owne*s p*ope*ty *ights +ay fit n#e* S+iths # ty of the so,e*eign to a#+iniste* 4 stice) ! t the +assi,e titling ca+paign he *ges on the go,e*n+ents of .hi*# Wo*l# an# fo*+e* Co++ nist co nt*ies appea*s to As #e Soto hi+self *eco nts at n +e*o s points) econo+ic #e,elop+ent in the in# st*iali"e# co nt*ies p*ece#e# the #e,elop+ent of titles to p*i,ate p*ope*ty. In#ee#) p*i,ate co+panies now s *,i,e the*e !y p*o,i#ing titling se*,ices to #eale*s in *eal estate. In +any .hi*# Wo*l# co nt*ies) go,e*n+ent off ices *egiste* titles to p*ope*ty) altho gh pe*haps not as e-pe#itio sly as p*i,ate title co+panies in the +o*e #e,elope# co nt*ies %see Atwoo# 699'I 7esley 699=I Jaco!y an# Minten &'':(. P*i,ate ente*p*ise in titling se*,ices in the less-#e,elope# co nt*ies ha*#ly e-ists p*i+a*ily !eca se the #e+an# fo* s ch se*,ices is negligi!le. .hei* +a*$et fo* *eal estate) especially #welling ho ses) is *athe* thin. Most people the*e sa,e o,e* long pe*io#s of ti+e) typically # *ing +ost of thei* a# lt wo*$ing yea*s) to ! il# thei* own ho ses an# then pass on the #wellings to thei* hei*s. It is th s not nco++on in these co nt*ies fo* se,e*al of the ! il#e*s a# lt chil#*en to sha*e *oo+s in the sa+e ! il#ing o* to ! il# a##itional st* ct *es on the sa+e fa+ily co+po n#) which none of the+ wo l# e-pose to fo*eclos *e !y ple#ging the p*ope*ty as collate*al fo* a loan. .h s) #e Sotos ,iew of ho ses) incl #ing the shac$s of the poo*) as o!st* ct the nat *al co *se of things in the p*ocess of efficient econo+ic #e,elop+ent.

#ea# capital f*o+ which li,e capital can !e nloc$e# to finance in,est+ent p*o4ects in
the .hi*# Wo*l# is 1 ite +islea#ing. So+e in,esto*s in the +o*e-#e,elope# co nt*ies +ay well ac1 i*e f n#s th*o gh a secon# +o*tgage on thei* ho+es) as #e Soto a*g es) ! t they a*e not a+ong the poo*. 7esi#es) a secon# +o*tgage is tie# to the e1 ity acc + late# in the ho+ethat is) the e-tent to which the in#e!te#ness on the fi*st +o*tgage has !een *e# ce#) +ainly th*o gh s !se1 ent *epay+ents %a fo*+ of sa,ings acc + lation( o* th*o gh the +a*$et-,al e app*eciation of the p*ope*ty %a fo*+ of *et *n of the sa,ings(. Still) secon# +o*tgages a*e f n#e# !y the c **ent flow of loana!le sa,ings) not !y the 1 alification to !o**ow *ep*esente# !y a p*ope*tys legal title. .he *eason we sa,e) as A#a+ S+ith note#) is the #esi*e of !ette*ing o * con#ition) a #esi*e which) tho gh gene*ally cal+ an# #ispassionate) co+es with an# ne,e* lea,es s till we go into the g*a,e %A6::@B 69:@) 6;8@&F s f*o+ the wo+!)

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Ta"le & $conomic Performance in Selected Countries' &()*+,--.' ,--/

01P2 populati Countr ong Gong Singapore /ahamas South Gorea /ar"ados Antigua and /ar"uda Seychelles 5rinidad and 5o"ago St. Gitts and Mevis :hile 4auritius 5hailand :hina on ,--. 38.S.95 '')6= , '2)*6 ' 2+)@, 2 2')+9 * 6),(= 6)+'6 =)+2( =)((, ,)96, *)@62 *)',* ')9(@ 2)2(( Annual 0rowth Rate 345 &()*+,--. *.9 *.6 2.' +.2 2.' 9.= '.6 @.2 *.( *.+ @.2 =.' Annual 0rowth Rate 345 &((-+,--. '.2 9.@ (.9 *.+ 2.* 2.+ '.' 9.' 9.2 *.2 *.( '.= =.@ '.' 0672 populati on ,--/ 38.S.95 '+)=2 ( '*)'' ( 2*)6' ( 29)6= ( 6)',( 2()(( ( =)(6( =)@=( ,)+(( *)62( *)@*( ')@*( 2)'6(

2*)2+ 8ortugal '.= 2 2@)+( 3reece 2.( = 26)=* Mew Qealand 2.( , '()*( Spain '.' * ',)(, :anada 2.+ 6 '6)22 3ermany '.( @ '6)*2 Brance 2., ( 9()'@ Knited Gingdom '.2 9 9,)+* Knited States '.( = Sources: Knited Mations Development 8rogram '((@) ta"le income) from %orld /an! '((+) '6'F69) 92+.

2*)9@ ( 2+)+2 '.2 ( '()92 '.2 ( '2)'2 '.* ( '=)96 '.9 ( 9()2' 2.9 ( 9()(6 2.+ ( 99)6* '.@ ( *2)*( '.2 ( 2*)'++F+,. 3M> R gross national

+9.. Mevertheless) people are less inclined to save if the e1pected real return in interest is rendered negative "y government controls on interest rates or "y high and varia"le rates of inflation.2' 5he incentive to save is also diminished "y the insecurity of property created "y civil wars) political insta"ility) "rea!down of law and order) inef2'. Bor e1ample) inflation rates in 8eru) measured "y the consumer price inde1) were ++, percent) 9)966 percent) and ,)*=' percent in 26==) 26=6) and 266() respectively) and deposit interest rates were 2+'

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69

f i cient a#+inist*ation of4 stice) *a+pant co** ption of p !lic of f i cials) theft) o* a*+e#
*o!!e*y. .o the e-tent that p*ice cont*ols *eta*# p*o# ce*s inco+e-ea*ning capacity) they also *eta*# the g*owth of sa,ing in an econo+y) as #o high *ates of inco+e ta-ation. I+pe#i+ents to fo*eign ente*p*ises in,est+ents in .hi*# Wo*l# co nt*ies also *eta*# inco+e c*eation the*e) hence *eta*#ing the *ate of #o+estic sa,ings. .hese con#itions a*e the +o*e i+po*tant i+pe#i+ents to econo+ic #e,elop+ent in the .hi*# Wo*l#) which thei* go,e*n+ents sho l# !e a#,ise# to *e+e#y. .he go,e*n+ents of the less-#e,elope# co nt*ies +ay ta$e +any othe* sef l actions to facilitate thei* econo+ic #e,elop+ent) consistent with A#a+ S+ith s ela!o*ation in the Wealth of (ations! .hese actions incl #e a#option of non#isc*i+inato*y ta*iffs to facilitate f*ee an# efficient inte*national t*a#e !etween thei* co nt*ies an# +o*e#e,elope# co nt*ies) as well as a+ong the+sel,esI li+ite# go,e*n+ent spen#ing) consistent with easy ta-es an# s+all ! #get #eficitsI an# the p*o,ision of social inf*ast* ct *e) incl #ing *oa#s an# !*i#ges) app*op*iately pai# fo* !y se* fees. .hese p*esc*iptions a*e well $nown in the #e,elop+ent-econo+ics lite*at *e. .hei* a#option !y so+e co nt*ies in the .hi*# Wo*l# o,e* the past half cent *y o* so) pa*tic la*ly in So theast Asia) has yiel#e# the e-pecte# positi,e *es lts. In#ee#) capitalis+ +ay !e sai# al*ea#y to ha,e t*i +phe# in Hong Kong) Singapo*e) So th Ko*ea) .aiwan) an# the 7aha+as) an# +ay !e well n#e* way at ,a*io s *ates of #e,elop+ent in s ch places as +ainlan# China) 7otswana) Chile) Malaysia) Ma *iti s) Seychelles) .hailan#) an# se,e*al islan# co nt*ies in the Ca*i!!ean) if we +ay 4 #ge !y thei* le,els of G?P o* inco+e pe* capita an# thei* *ates of ann al g*owth since the +i#-69:'s %see ta!le 6(. In#ee#) the inco+es pe* capita of Singapo*e an# Hong Kong e-cee# those of Po*t gal) G*eece) 2ew Jealan#) an# Spain) co nt*ies that #e Soto wo l# incl #e a+ong the capitalist West. .he inco+es of the 7aha+as an# So th Ko*ea a*e not fa* !ehin#. .h s) the #ata wo l# appea* to negate the s !title of #e Soto s !oo$; Why Capitalism

Tri$mphs in the West and 3ails Everywhere Else!

Mo*eo,e*) not e,e*yone welco+es capitalis+ o* p*i,ate ente*p*ise as an accepta!le fo*+ of econo+ic o*gani"ation. So+e a*e st*ongly a,e*se to the ine1 ality of inco+e #ist*i! tion68 that +ay acco+pany econo+ic #e,elop+ent th*o gh p*i,ate ente*p*ise) 6D an# othe*s) n#e* the inspi*ation of Ma*-ist o* Maoist philosophy) !epe*cent) 6)68@ pe*cent) an# &)DD' pe*cent) *especti,ely %Inte*national Moneta*y > n# &''6(. .he *ates of inflation fai*ly closely +atch the *ates of c **ency c*eation in Pe* fo* those th*ee yea*s; =@C pe*cent) 6)D8: pe*cent) an# :):C8 pe*cent) *especti,ely. .he negati,e *eal inte*est *ates on #eposits) *o ghly a+o nting to -='= pe*cent) -&)&@8 pe*cent) an# -=)'D& pe*cent) *especti,ely) we*e fa* +o*e #isco *aging to sa,ing an# capital fo*+ation than the lac$ of titles to anyone s p*ope*ty in Pe* in those yea*s.

13. 13.

Income distri5$tion is a +islea#ing te*+ !eca se no one han#s o t to in#i,i# als thei* sha*es of

national inco+e. Income creation !ette* #esc*i!es what goes on; people e-e*cising #iffe*ent capa!ilities in
c*eating thei* own inco+es. Inco+e ine1 ality has inc*ease# in China since the go,e*n+ent ga,e p on Maoist econo+ic o*gani"ation an# opene# p the econo+y to p*i,ate ente*p*ise) pa*tic la*ly fo*eign #i*ect in,est+ent. China s Gini coefficient is *epo*te# to ha,e *isen f*o+ &C.C in 69C6 to 8C.C in 699= %Wo*l# 7an$ st #y cite# in Meie* an# Ra ch &''=) D:8(. Altho gh +ost Chinese ha,e o!,io sly !ene fite# f*o+ the new econo+ic

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lie,e that p*i,ate p*ope*ty #e*i,es f*o+ theft an# that the capitalist syste+ is a +echanis+ fo* the e-ploitation of the poo* in society ,iews that #e Soto hi+self *eco nts %& 6&F6C(. .h s) it is to !e e-pecte# that #iffe*ent go,e*n+ents a*o n# the wo*l# +ay choose #iffe*ent app*oaches to econo+ic o*gani"ation) o!taining #iffe*ent *es lts. As Rica*#o ac tely o!se*,es) following J-7. Say) it is not the p*o,ince of the Political Econo+ist to a#,ise;he is to tell yo to a#,ise yo how yo +ay !eco+e *ich) ! t he is not to p*efe* *iches to in#olence) o* in#olence to *iches %69=6F) &;88C(.

Mo*eo,e*) societies in which the #*i,e to !eco+e *ich th*o gh p*o# ction is not st*ong can ha*#ly !e e-pecte# to choose) in#i,i# ally o* gene*ally th*o gh thei* go,e*n+ents) the path to !eco+ing wealthy. It wo l# ha,e !een helpf l ha# #e Soto s !elief that capitalis+ is the only ga+e in town capa!le of c*eating econo+ic p*ospe*ity along with f*ee#o+) co+passion fo* the poo*) *espect fo* the social cont*act) an# e1 al oppo*t nity %&&C( le# hi+ to co nte* Ma*-ist-inspi*e# +is*ep*esentations of the p*ocess of econo+ic #e,elop+ent in the .hi*# Wo*l#) especially of the #epen#ency theo*y type. Instea#) he *estates those +is*ep*esentations; capitalis+ is a t*ansfe* of p*ope*ty f*o+ poo*e* to *iche* co nt*ies an#. . . Weste*n p*i,ate in,est+ent in #e,eloping nations is nothing sho*t of a +assi,e ta$eo,e* of thei* *eso *ces !y + ltinationals %&6D(. In cont*ast) Joan Ro!inson aptly #ecla*es that as we see nowa#ays in So th-East Asia o* the Ca*i!!ean) the +ise*y of !eing e-ploite# !y capitalists is nothing co+pa*e# to the +ise*y of not !eing e-ploite# at all %69@&) D@(.6= ?e Soto +ight ha,e ill st*ate# Ro!inson s o!se*,ation with #ata showing that since the 69@'s co nt*ies that ha,e !een +o*e open to inte*national t*a#e an# fo*eign #i*ect in,est+ent ha,e g*own faste* an# seen a g*eate* *e# ction in a!sol te po,e*ty than the socialist ones ha,e. Instea#) he t*eats Ma*-ist-inspi*e# ,iews as tho gh they ha,e ,ali#ity. He also thin$s Ma*-s insights into capital) as Geo*ge So*os *ecently o!se*,e#) a*e often +o*e sophisticate# than those of A#a+ S+ith %&6D() ! t his *esea*ch wo l# ha,e !een !ette* se*,e# ha# he cons lte# S+ith s Wealth of (ations +o*e ca*ef lly o* Alf*e# Ma*shall s 1rinciples on the *elati,e +e*its of A#a+ S+ith) ?a,i# Rica*#o) an# J. S. Mills #efinition of capital) its so *ce) an# its *ole in econo+ic #e,elop+ent. S+ith wa*ns a!o t the $nowle#ge p*o!le+) as Haye$ %69D=( s !se1 ently calle# it) an# *ges go,e*n+ents to *ef*ain f*o+ atte+pting to #i*ect p*i,ate in,esto*s in how they sho l# e+ploy thei* capitals; What is the species of #o+estic in# st*y which his capital can e+ploy) an# of which the p*o# ce is li$ely to !e of the g*eatest ,al e) e,e*y in#i,i# al) it is e,i#ent) can) in his local sit ation) 4 #ge + ch !ette* than any states+an o* lawgi,e* can #o fo* hi+. .he states+an) who sho l# atte+pt to
f*a+ewo*$) an# a!sol te po,e*ty has #ecline# in that co nt*y) so+e +ay yet !e incline# to point to the inc*ease# inco+e ine1 ality as an n#esi*a!le feat *e of the new syste+. 6=. Ro!inson ha# st*ong Ma*-ist sy+pathies) ne,e*theless. See Ahia$po* 69C= fo* a co nte* to #epen#ency theo*y a*g +ents.

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#i*ect p*i,ate people in what +anne* they o ght to e+ploy thei* capitals) wo l# not only loa# hi+self with a +ost nnecessa*y attention) ! t ass +e an a tho*ity which co l# safely !e t* ste#) not only to no single pe*son) ! t to no co nsel o* senate whate,e*) an# which wo l# nowhe*e !e so #ange*o s as in the han#s of a +an who ha# folly an# p*es +ption eno gh to fancy hi+self fit to e-e*cise it. %A6::@B 69:@) 6;D:C( ?is*ega*#ing the $nowle#ge p*o!le+ fo* *eg lato*s in a co nt*y) Geo*ge So*os a#,ocates the esta!lish+ent of a wo*l# !o#y to *eg late capital in,est+ents th*o gh a

collecti,e #ecision-+a$ing +echanis+; .o p t the +atte* si+ply) +a*$et fo*ces) if they

a*e gi,en co+plete a tho*ity e,en in the p *ely econo+ic an# financial a*enas) p*o# ce chaos an# co l# lti+ately lea# to the #ownfall of the glo!al capitalist syste+. .his is the +ost i+po*tant p*actical i+plication of +y a*g +ent in this !oo$ %699C) --,ii(.6@ An# #e Soto fin#s no g*o n#s on which to o!4ect to So*oss s ggeste# sche+e. 7a# policy choices !y go,e*n+ents in the less-#e,elope# co nt*ies ce*tainly e-plain fo* the +ost pa*t the e-tent of thei* people s po,e*ty. How the choice of g*owth-p*o+oting policies has yiel#e# the e-pecte# *es lts in the +o*e-#e,elope# co nt*ies the*efo*e +e*its constant ill st*ation. Fet s ch policies #o not incl #e +assi,e go,e*n+ent p*og*a+s to han# to the poo* pape* titles to whate,e* p*ope*ties they +ay own. In any case) those who fin# the gains of ac1 i*ing pape* titles to !e wo*th the costs of *egiste*ing thei* p*ope*ties +ay #o so on thei* own. Altho gh pape* titles +ay facilitate loan applications) they can ha*#ly !e the p*i+a*y so *ce of capital fo* econo+ic #e,elop+ent in any co nt*y. .hat so *ce + st !e inc*ease# #o+estic sa,ings.

References
Ahia$po*) Ja+es C. W. 69C=. .he S ccess an# >ail *e of ?epen#ency .heo*y; .he E-pe*ience of Ghana. International 0rgani4ation 89) no. 8 %s ++e*(; = 8= =&.
F

. 699=. A Pa*a#o- of .h*ift o* Keynes s Mis*ep*esentation of Sa,ing in the Classical .heo*y of

G*owthK So$thern Economic 9o$rnal @& %J ly(; 6@ 8 8.

F

. 699:. A st*ian Capital .heo*y; Help o* Hin#*anceK 9o$rnal of the History of Economic Tho$ght 69 %fall(; &@6 C=.
F

Alston) 5ee J. 69CD. >a*+ >o*eclos *e Mo*ato*i + 5egislation; A 5esson f*o+ the Past. :merican

Economic Review :D) no. 8 %J ne(; DD= =:.

F

Atwoo#) ?a,i# A. 699'. 5an# Regist*ation in Af*ica; .he I+pact on Ag*ic lt *al P*o# ction. World

Development 6C %May(; @=9 :6.

F

7aet4e*) Howa*#) J*.) an# Michael I. 5ine!e**y. &''8. .he Myste*y of Capital an# Econo+ic
6@. So*os appa*ently has a low opinion of laisse"-fai*e policies) which he calls +a*$et f n#a+entalis+ %699C) --(.

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:alculation7

ow de Sotos >nsights >lluminate the Austrian :ase for 8rivate 8roperty.

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Acknowledgments: An ea*lie* ,e*sion of this a*ticle was p*esente# at the Weste*n Econo+ic
Association Inte*national Confe*ence) Seattle) J ne &9FJ ly 8) &'':) an# at the Wo*$shop fo* Econo+ic Resea*ch) ?epa*t+ent of Econo+ics) Califo*nia State <ni,e*sity) East 7ay) 2o,e+!e* 6D) &'':. I than$ Scott Sa+! cci an# othe* co++entato*s at these p*esentations an# two anony+o s *efe*ees fo* thei* co++ents an# s ggestions) witho t i+plicating the+ in any e**o*s that a*e +ine. I also than$ the College of 7 siness an# Econo+ics at Califo*nia State <ni,e*sity) East 7ay) fo* a one-co *se *elease ti+e that ai#e# this *esea*ch.

E O5<ME H I I I ) 2 <M7ER 6 ) S <MMER & ' ' C