Poverty Solved: No Muss, No Fuss

The Mystery of Capital: Why Capitalism Triumphs in the West and Fails Everywhere Else, Hernando de Soto. Basic Books, 276 pages, $27.50.

Solving third-world poverty is the alchemy of economics. For decades international-development specialists have searched for the magical combination of programs and policies that would transform poor countries into rich, advanced economies. But all the recent formulas--including micro-enterprise loans, infrastructure investments in roads and bridges, and "human capital" spending in health and education--have failed to produce gold.

Peruvian economist Hernando de Soto concocts the latest antipoverty potion in The Mystery of Capital, in which he argues that the establishment of property rights for the urban poor is the key to economic revival in developing countries. Gushing reviews have affirmed de Soto's position as the darling du jour of the global-development crowd. Some observers are touting the author as a possible Nobel Prize candidate, while even the usually skeptical Economist claims that "after reading this book, it is hard not to feel hopeful about the potential waiting to be tapped in poor countries."

Lost amid the adulation, however, is the small fact that The Mystery of Capital is not a particularly good or useful book. By overselling the power of his ideas, de Soto does a great disservice to other crucial antipoverty efforts and understates the challenges facing the poor nations he seeks to help.

De Soto kicks off with a provocative premise: The world's poor are, actually, quite rich. In fact, their total land assets are worth $9.3 trillion, roughly equal to the market capitalization of the world's 20 largest stock exchanges. But because of elitist and antiquated property laws throughout the developing world, the poor have great difficulty gaining legal title to their land. Instead they rely on informal, extralegal property contracts created and enforced by community leaders, associations of farmers and merchants, and other village organizations. Based on these informal contracts, the poor buy and sell property, subdivide farming land into smaller parcels, erect housing on land zoned for industrial use, and build unauthorized additions onto public housing projects.

For all their ingenuity, de Soto argues, these informal arrangements ensure that the poor remain poor. Since squatters do not truly own the land on which they live, they cannot obtain formal insurance or gain access to utilities. And even more crucial, since formal law does not recognize extralegal contracts, poor entrepreneurs cannot transform their property into working capital as Western business owners do when they offer legally owned property as collateral for a bank loan or as an investment guarantee. The untitled land of the poor is "dead capital" that does little to spur economic growth or lift the masses out of poverty.

No problem, says de Soto. If political leaders in developing nations agreed to a radical restructuring of their countries' property laws--basing them instead on the same extralegal contracts impoverished communities have already established--they would unleash massive new investments and entrepreneurship among the poor. The $9.3 trillion would come to life. Capitalism would triumph and poverty would end. And we could all stop worrying.

An interesting idea, no doubt, though not an original one. De Soto himself made a similar argument in his landmark 1986 book The Other Path, which documented the challenges and economic potential of the extralegal sector in Peru. De Soto now expands his case studies to examine legal impediments to economic growth in Egypt, Haiti, Mexico, and the Philippines.

The new book reveals some compelling facts. In Egypt, for instance, an individual hoping to build a lawful home on agricultural land must endure six to 11 years of bureaucratic red tape; that is why more than four million Egyptians instead have opted to construct illegal residences. And in Haiti, citizens must scale 176 bureaucratic steps over 19 years to purchase land lawfully. These perverse legal hurdles marginalize the poor, who face "an impenetrable wall of rules that [has] barred them from legally established social and economic activities."

Unfortunately, such insights are few in The Mystery of Capital, which often reads like a journal article that was tortured on the rack and stretched without mercy into a 276-page book. After laying out his main argument, de Soto goes on for four chapters belaboring the importance of property rights through a collection of increasingly painful metaphors: "The formal property system is capital's hydroelectric plant. This is the place where capital is born." Or: "Formal property becomes the staircase to the conceptual realm where the economic meaning of things can be discovered and where capital is born." Huh?

The author is at his best when he discards the guru-speak and engages in legitimate historical inquiry. Culling from a wide array of sources and underscoring the "missing lessons" that U.S. history holds for poor countries, he skillfully describes the development of property rights in the United States. De Soto highlights the emergence of rudimentary squatters' rights in the seventeenth and eighteenth centuries, particularly the legal principle of preemption, which gave settlers the first option to buy land they had improved. He dissects the endless battles between an intransigent Supreme Court and the local judiciaries and state legislatures that were more in tune with the needs and customs of squatters. He describes the informal yet highly evolved land rights that miners' groups created during the California gold rush in the mid-nineteenth century. And he concludes this historical sweep with the signing of the Homestead Act of 1862, which signified "the end of a long, exhausting, and bitter struggle between elitist law and ... the needs of an open and sustainable society."

Yet this deft analysis seems to contradict de Soto's larger vision. If U.S. property rights emerged through such a slow and erratic process, why should we expect poor countries to establish effective property laws anytime soon? Well, because now Hernando de Soto is here to help! "My colleagues and I have synthesized what we think they [Western nations] did right into a formula we call the 'capitalization process,'" he boasts, "with which we are assisting various governments around the world."

The formula (summarized in a one-page chart) is too cryptic to be practical. "Determine causes for the accumulation of extralegal assets so as to develop workable typologies" is a typical entry. Readers looking for further detail are invited to visit the archives of de Soto's think tank, the Institute for Liberty and Democracy in Lima, Peru. Indeed, the recurring theme throughout Hernando de Soto's book is that the ultimate solution to the problem of global poverty is ... Hernando de Soto.

Except for vague references to "powerful vested interests" and "influential leftists" who might oppose reforms, the author devotes little attention to the potential political obstacles his proposals might face. He also ignores the likelihood that many illegally occupied lands presumably are owned by someone-- publicly or privately--and that trying to meld legal and extralegal property systems likely would result in endless court challenges. De Soto believes that reform is simply a matter of political will and that "enlightened men" can overcome any roadblocks. For property-law reform to succeed, he writes, "a president or a prime minister who is more than a mere technocrat has to take charge and make formalization [of property rights] a pillar of government policy. Only at the highest political level can reform command overwhelming support and wipe out the willful inertia of the status quo... . Emancipating the poor surely falls within the responsibilities of the nation's leader."

And just who might that leader be? Shortly after the publication of The Mystery of Capital, de Soto launched a campaign to become president of his native Peru. A former economic-policy adviser to erstwhile head of state Alberto Fujimori, de Soto started a political movement called Popular Capital with an eye toward implementing the reforms outlined in his book. Although de Soto's presidential bid ended abruptly last month when the campaign was unable to collect the signatures required to appear on the ballot, de Soto still may gain political relevance in the years ahead thanks to the powerful simplicity of his message. In essence de Soto offers something for nothing. Socioeconomic progress--for Peru and other developing nations--is reduced to a political decision. Political leaders can choose to end poverty by implementing de Soto's remedies and helping the poor tap into their trillions of dollars in "dead capital." So contrary to economists' old saying, apparently there is such a thing as a free lunch: It is called property rights.

It seems terribly silly--yet necessary--to suggest that reducing poverty might require more than merely the establishment of clear and fair property rights. What about the low nutritional standards and weak public-health systems that undermine the productivity of poor workers? What of the international financial volatility that affects the prices of the mineral or agricultural goods many developing nations export? And what of the other layers of legal reform--such as bankruptcy laws, antidiscrimination legislation, and anticorruption measures--that poor nations need to participate fully in the national and global marketplace? Such mundane details seem beyond the scope, or perhaps beneath the dignity, of The Mystery of Capital.

Unwittingly, de Soto provides an antidote for the hype surrounding his book. When chastising analysts who believe that property rights depend mainly on improved mapping technology, the author quotes a Canadian land-management expert: "There is a need for more modesty among professional consultants; there is a need to occasionally admit that they do not always know the answer or that their system may not be appropriate."

Et tu, Hernando?