Development economics is a hot topic right now. It seems to baffle everyone, even economist, why some countries fail and some succeed, and why some countries can do either quicker than some. There are many theories out there, all credible in some respect, that try to ascertain one common solution to the problem. It's hard to believe that one solution could fix all developing countries but there is a theory of property rights which goes a long way to identify and solve the problem of development.Hernando De Soto, a Peruvian economist, tries to explain why poor countries are poor and rich countries rich. His theory centers around the legal system employed in those countries and more specifically, property rights.
A major assumption of economics, which is never discussed in economics classes, is that proper legal institutions must exist. For instance, if I wanted an apple from the store I might just take it without paying for it. If there were no legal institutions that provide incentives against theft, what is stopping me from stealing? It is basically impossible to have a functioning market without the correct legal incentives. De Soto brings this to the forefront in The Mystery of Capital in which he discusses the abominable state of legal rights in developing countries versus those in countries that are considered developed.
In developing countries it is not unusual for people to have houses and land. They build houses and cultivate crops on this land, just like in developed countries. But when it comes time to use that land for collateral for a loan, no matter the size, it is nearly impossible. Though many people occupy land in developing countries, very few have the legal paperwork showing that they own the land. It has been passed down through family generation after generation before deeds were issued or it was given to them during a land-reallocation project but the government was too busy to issue deeds. De Soto calls this "dead capital."
Dead capital is "stuff" that can't be used to generate surplus value. This stuff is normally land, houses, tractors, anything of value that is not legally beholden to anybody; in the legal framework, it is essentially community property. One of the big failures of communism is that there are no property rights and therefore, every thing is community property. When things are not owned, you cannot use them for personal gain; in this case, you cannot put them up as collateral.
The solution to this dead capital is to create a system of property rights that allow people in developing countries to use their things for more than just production. But creating a legal framework is difficult and has taken thousands and thousands of years in developing countries. Europe tested legal and political systems for years before settling on one and then refining it. The US lucked out in the our legal system was implanted by European powers but during early American history, property rights were rare the further west one moved.
The moral is, there may not be one cure for developing countries but before any economic solution can be tried and implemented, these countries must first create the correct framework for a market to function on. Without the correct legal foundations no amount of money, aid, or miracle cures can work.
"One of the big failures of communism is that there are no property rights and therefore, every thing is community property. When things are not owned, you cannot use them for personal gain; in this case, you cannot put them up as collateral."
ReplyDeleteWell, in a pure communist system, there really wouldn't be any need for collateral, as the idea of personal economic gain would not apply. With communal ownership of the means of production as well as no private property, there really isn't a place for personal gain. Not that I'm defending communism, just sayin... Also, at least in the Marxian sense, communism should really only take place in a developed country, Marx believed that capitalism was a necessary step in the development of a country.
Anyways, I like the blog Michelle, and hope all is well down in San Fran :)
It's true that in a communist system there is no need for personal gain but community gain is still an option and is a optimal for social and economic development. Without property rights, whether those rights are directed to a person or community, big or small, there is very little opportunity to create surplus value. The problem is that when a thing is not legally attached to a person or group, there is little, if any, responsibility to take care of that property (known as the Tragedy of the Commons) and further, to create surplus value with those things, a financial institution must have some sort of punishment to inflict when people default. In a communist system there is no one to blame and no punishment to inflict because no one is legally responsible for defaulting.
ReplyDeleteI didn't know that communism was only supposed to be implemented in a developed country. It baffles me as to why communism was then taken up by countries that were less than developed, to say the least. I'll have to read up on Das Kapital and The Communist Manifesto - any idea in which it mentions that? Or is it both?
Hey Michelle, just came across your blog from the TestMagic forums. I just got out of a law and economics class with a professor that's really into this stuff about title systems in developing countries, so it's been on my mind. I think it's a really important point, if a little frightening when you consider the enormity of the problem.
ReplyDeleteOne thing I think bears mentioning though is that it's not so clear that we need a formal establishment of property rights *before* anything else will work. Other considerations, such as a functioning health care system and roads, are also very important to any developing country that doesn't have them, and these things can be developed before any title system is implemented. Of course in the end, you need business for real, self-propelled development. And for business to work its best, you need to formalize property rights. But that doesn't mean that aid or government-funded projects are useless unless property rights are established - that is just one aspect.
Another idea that has really struck me recently came from Lawrence Lessig. He's talked a good deal about how the law doesn't matter that much until people respect the law (gross paraphrasing). He was referring to constitutions, but I think it applies here as well. You can go around giving people titles to their house, mules, or anything else, but until people recognize the law as something that is legitimate and that has some power over them, it just doesn't matter what you write on paper. I see this as a bigger problem than lack of formality of property rights. Naturally there is some covariance and improvements in either will affect the other, but my point here is just to note that while it is very, very important to give people a legal right to what they own, it doesn't make sense to treat this as a prerequisite to everything else in development.
Also, if you guys don't mind me jumping into your communism discussion... I never finished Das Kapital and it's been years since I've read the old Manifesto, but I don't believe Marx says outright that his theories are intended for developed countries. Rather, I think the fact that the revolution is undertaken by the proletariat (who are specifically wage-workers, not subsistence farmers or street vendors or small-business owners, however poor) implies that the country would have to be at least developed enough to have large, labor driven farms, or factories. Hopefully someone will correct me if I'm wrong, though.
Omair -
ReplyDeleteThanks so much for commenting and I apologize it has taken me...2 months...to reply!
I agree, infrastructure is one of the most important things for a country to possess.
You're right, other systems can be put into play while establishing a formal property rights system, but truthfully, I don't know how well they would work. A property rights system is not just for individuals but also for businesses. They allow businesses to create and keep their unique ideas, from breakthrough medications to simple logos, property rights protect businesses. Unless the health care system will be run solely by the government, there is little incentive for businesses to provide health care when property rights have yet to be established. For one thing, the health care system that would exist in a developing country would cater to very different needs than that in developed countries for which western medicine may not offer much help. Without intellectual property rights, there will be no incentive to create the types of medications which are demanded in developing nations, as western nations have had little incentive to do research into these medications. Leaving aside the innovation side of health care, private providers of health care are not likely to exist without a sound property rights system.
One point Hernando DeSoto makes is that in developing countries, it is often difficult if not nearly impossible to create a business. It often takes inordinate amounts of time and money that many people do not have. A sound property rights system theoretically reduces many of the transactions costs associated with starting a business.
I do actually believe that aid is useless without property rights. Aid is really an immediate relief and I believe that though intentions are always good, it does very little in the long run because there is no system there to sustain what it did.
In regards to Lawrence Lessig, I think he is spot on. I feel that respect of the property rights system will occur whenever the government is ready to enforce the system - which if they are spending time and money creating, I'd like to think that they have every intention of enforcing it. The only reason people respect property rights is because the government gives them good incentives to respect it, meaning that there are high penalties for stealing and generally not obeying the property right system.
Finally, good point on Marx. I never considered that aspect of a country being developed enough to have a proletariat. I suppose I always took it for granted that countries have those wage-earners. Thanks for bringing that to my attention!