Hernando de Soto (economist)

Hernando de Soto (born 1941-06-02) is a Peruvian economist known for his work on the informal economy and on the importance of property rights. He is the president of Peru's Institute for Liberty and Democracy (ILD), located in Lima.

Childhood and education

De Soto was born in 1941 in Arequipa, Peru. His father was a Peruvian diplomat. After the 1948 military coup in Peru, when de Soto was 7 years old his father was exiled to Europe, taking de Soto with him. He was educated in Switzerland, where he did post-graduate work at the Graduate Institute of International Studies in Geneva. He later worked as an economist. He returned to Peru at the age of 38. His brother Álvaro is a United Nations diplomat.

Career

De Soto has served as an economist for the General Agreement on Tariffs and Trade (GATT), as president of the Executive Committee of the Intergovernmental Council of Copper Exporting Countries (CIPEC), as managing director or CEO of Universal Engineering Corporation (Continental Europe's largest consulting engineering firm), as a principal of the Swiss Bank Corporation Consultant Group, and as a governor of Peru's Central Reserve Bank.

De Soto was Peruvian president Alberto Fujimori's personal representative and principal advisor until he resigned two months before latter's self-coup in April 1992. The Associated Press reports that President Alan Garcia hired de Soto in August 2006 to lobby the U.S. Congress for passage of the Peru-United States Free Trade Agreement.

De Soto is currently President of the Lima-based ILD, where he works on the design and implementation of capital formation programs in Africa, Asia, Latin America, the Middle East, and former Soviet Nations. Some 30 heads of state have invited him to carry out these ILD programs in their countries. He is also on the Advisory Board of the Trickle Up Program He also co-chairs with former US Secretary of State Madeleine Albright the Commission on Legal Empowerment of the Poor.

Reforms in Peru and elsewhere

Between 1988 and 1995, he and the Institute for Liberty and Democracy (ILD) were responsible for some four hundred initiatives, laws, and regulations that changed Peru’s economic system.

In particular, ILD designed the administrative reform of Peru’s property system which gave titles to more than 1.2 million families and helped some 380,000 firms which previously operated in the black market to enter the formal economy. This latter task was accomplished through the elimination of bureaucratic "red-tape" and restrictive registration, licensing and permit laws that made the opening of new businesses very time-consuming and costly.

University of Chicago political scientist Susan C. Stokes shows that de Soto’s influence helped change the policies of the recently elected Fujimori from a Keynesian to a neoliberal approach. De Soto convinced then-president Fuijmori to travel to Washington, D.C., where Fujimori met with several important figures within the IMF, the US Department of State, and the Japanese embassy, who convinced him that he had to abide by the rules set by the international financial institutions. These policies led to a reduction in the rate of inflation, but also created some social and economic dislocations for the economy of Peru.

The Cato Institute and The Economist magazine have argued that de Soto’s policy prescriptions brought him into conflict with and eventually helped to undermine the Shining Path guerrilla movement. By granting titles to small coca farmers in the two main coca-growing areas he deprived the Shining Path of safe haven, recruits and money, they have argued, and the leadership was forced to cities where they were arrested. ILD notes a large terrorist attack on de Soto and statements by Shining Path leader Abimael Guzman who saw ILD as a serious threat.

After the split with Fujimori, he and his institute designed similar programs in El Salvador, Haiti, Tanzania, and Egypt as well as gaining favour with the World Bank, the World Bank allied international NGO Slum Dwellers International and the government of South Africa. To date (mid-2007) his program has only been fully implemented in Peru. An IMF profile of de Soto shows that the economist continues to have a wide network of admirers, including Bill Clinton, Vladimir Putin and Hamid Karzai.

Works

De Soto has published two books about economic and political development: The Other Path: The economic answer to terrorism, and at the end of 2000, The Mystery of Capital: Why Capitalism Triumphs in the West and Fails Everywhere Else. Both books have been international bestsellers, translated into some 30 languages.

The original Spanish-language title of The Other Path is El Otro Sendero, an allusion to countering Peru's "Shining Path" ("Sendero Luminoso") guerrillas. The Senderistas had in the past attempted to assassinate him.

De Soto argues that an important characteristic of capitalism is the functioning state protection of property rights in a formal property system where ownership and transactions are clearly recorded. This makes possible the following.

greater independence for individuals from local community arrangements to protect their assets
clear and provable protected ownership
the standardization and integration of property rules and property information in the country as a whole
increased trust arising from a greater certainty of punishment for cheating in economic transactions
more formal and complex written statements of ownership that permit the easier assumption of shared risk and ownership in companies, and the insurance of risk
greater availability of loans for new projects, since more things can be used as collateral for the loans
easier access to and more reliable information regarding such things as credit history and the worth of assets
increased fungibility, standardization and transferability of statements documenting the ownership of property, which paves the way for structures such as national markets for companies and the easy transportation of property through complex networks of individuals and other entities

All of these things enhance economic growth, according to a de Soto speech to the IMF.

Main thesis

Need for private ownership

The main tenet of de Soto's books is that people in developing countries lack such an integrated formal property system, leading to only informal ownership of land and goods. He argues that the fruition of economic success of American and Japanese capitalism relied on a clear system of property rights which were created during the times of the 'frontier' in America and in post-WWII Japan. The lack of such an integrated system of property rights in today's developing nations makes it impossible for the poor to leverage their now informal ownerships into capital (as collateral for credit), which de Soto claims would form the basis for entrepreneurship. Hence farmers in much of the developing world remain trapped in subsistence agriculture. As such, he argues that this informal ownership should be made formal, for example by giving squatters in shanty towns land titles to the land they now live on.

Thomas Sowell writes:

For the entire Third World and the former Communist countries, de Soto's calculation is that the total value of all the real estate held, but not legally owned, by the poor is more than 20 times all direct foreign investment in the Third World and more than 90 times all the foreign aid to all Third World countries over the past three decades. ...

The amount of wealth available within Third World countries themselves vastly exceeds anything that the prosperous countries have given them or are likely to give them.

Many American businesses were begun by someone who borrowed the money to get started, using his home as collateral.

Government bureaucracy stifles the economy

Conversely, de Soto argues that government bureaucracy greatly hinders the ability for people to hold private property, for example:

"In Haiti, one way an ordinary person can settle legally on government land is first to lease it from the government for five years and then buy it. Working with associates in Haiti, our researchers found that to obtain such a lease took 65 bureaucratic steps requiring, on average, a little more than two years. All for the privilege of merely leasing the land for five years."

"In Egypt, the person who wants to acquire and legally register a lot on state-owned desert land must wind his way through at least 77 bureaucratic procedures at 31 public and private agencies. This can take anywhere from 5 to 14 years. To build a legal dwelling on former agricultural land would require 6 to 11 years of bureaucratic wrangling."

Thus entrepreneurs are driven to form "underground" economies, but de Soto points out the serious disadvantages:

"Extra legal businesses are taxed by the lack of good property law and continually having to hide their operations from the authorities. Because they are not incorporated, extralegal entrepreneurs cannot lure investors by selling shares; they cannot get low interest formal credit because they do not even have legal addresses. They cannot reduce risks by declaring limited liability or obtaining insurance coverage. In fact, the only 'insurance' available to them is that provided by their neighbors and the protection that local bullies or mafia are willing to sell them. Moreover, because extralegal entrepreneurs live in constant fear of government detection and extortion from corrupt officials, they are forced to split and compartmentalize their production facilities between many locations, thereby rarely achieving important economies of scale. With one eye always on the lookout for police, underground entrepreneurs cannot openly advertise to build up their clientele or make less costly bulk deliveries to customers."

Sowell's review concludes:

The crucial theme of the book is that this vast amount of wealth cannot be used, as it is in the west, as investments to create still more wealth and rising standards of living. That is because real estate, businesses and other assets in the underground economies of the Third World cannot be used as collateral to raise capital to finance industrial and commercial expansion.

When bureaucracy and frustrating legal systems drive economic activities underground, the losers are not simply those engaged in these activities. The whole country loses when legal property rights are not readily available because investment is stifled.

This book should be required reading for those — including law professors — who seem to think that property rights are just privileges for the rich. The poor need them most of all, especially if they want to stop being poor.

Praise for de Soto’s Work

Time magazine chose de Soto as one of the five leading Latin American innovators of the century in its special May 1999 issue Leaders of the New Millennium, and included him among the 100 most influential people in the world in 2004. De Soto was also listed as one of the 15 innovators "who will reinvent your future" according to Forbes magazine’s 85th anniversary edition. In January 2000, Entwicklung und Zusammenarbeit, the German development magazine, described de Soto as one of the most important development theoreticians of the last millennium. In October 2005, over 20,000 readers of Prospect magazine of the UK and Foreign Policy magazine of the U.S. ranked him among the top 13 "public intellectuals" in the world from the magazines’ joint list of 100.

De Soto has been praised by U.S. presidents from both major parties, with Bill Clinton calling him "The world’s greatest living economist, George H. W. Bush saying that "De Soto’s prescription offers a clear and promising alternative to economic stagnation…" and Ronald Reagan saying "De Soto and his colleagues have examined the only ladder for upward mobility. The free market is the other path to development and the one true path. It is the people’s path… it leads somewhere. It works. He has also received praise from United Nations Secretaries-General Kofi Annan—"Hernando de Soto is absolutely right, that we need to rethink how we capture economic growth and development"—and Javier Perez de Cuellar—"A crucial contribution. A new proposal for change that is valid for the whole world."De Soto is also mentioned prominently in The Age of Turbulence by Alan Greenspan.

Prizes

Among the prizes he has received are:

The Freedom Prize (Switzerland)
The Fisher Prize (United Kingdom)
2002

the Goldwater Award (USA)
Adam Smith Award from the Association of Private Enterprise Education (USA)
The CARE Canada Award for Outstanding Development Thinking (Canada)

2003

received the Downey Fellowship at Yale University
the Democracy Hall of Fame International Award from the National Graduate University (USA)

2004

the Templeton Freedom Prize (USA)
the Milton Friedman Prize for Advancing Liberty (USA)
the Royal Decoration of the Most Admirable Order of the Direkgunabhorn, 5th Class, (Thailand)

2005

an Honorary Degree of Doctor of Letters from the University of Buckingham (United Kingdom),
The Americas Award (USA)
named the Most Outstanding of 2004 for Economic Development at Home and Abroad by the Peruvian National Assembly of Rectors
received the Prize of Deutsche Stiftung Eigentum for exceptional contributions to the theory of property rights
the 2004 IPAE Award by the Peruvian Institute of Business Administration
the Academy of Achievement's Golden Plate Award 2005 (USA) in tribute to his outstanding accomplishments
the BearingPoint, Forbes magazine’s seventh Compass Award for Strategic Direction
was named as a “Fellow of the Class of 1930” by Dartmouth College.

2006

the 2006 Bradley Prize for outstanding achievement by the Bradley Foundation.
the 2006 Innovation Award (Social and Economic Innovation) from The Economist magazine (December 2, 2006) for the promotion of property rights and economic development.

2007

The Poder BCG Business Awards 2007, granted by Poder Magazine and the Boston Consulting Group, for the "Best Anti-Poverty Initiative"

Criticism and response

De Soto has been criticized by some academics for methodological and analytical reasons, while some activists have criticized de Soto for being a representative figure of the movement for prioritizing property rights.

In his 'Planet of Slums' Mike Davis argues that De Soto, who Davis calls 'the global guru of neo-liberal populism', is essentially promoting what the statist left in South America and India has always promoted - individual titling. Davis argues that titling is incorporation into the formal economy of cities which benefits more wealthy squatters but is disastrous for poorer squatters, and especially tenants who simply cannot afford incorporation into the fully commodified formal economy.

Grassroots controlled and directed shack dwellers movements like Abahlali baseMjondolo in South Africa and the Movement of Workers Without a Roof (MTST) in Brazil have strenuously argued against individual titling and for communal and democratic systems of collective land tenure because this offers protection to the poorest and prevents 'downward raiding' in which richer people displace squatters once their neighbourhoods are formalised.

An article by Madeleine Bunting for The Guardian (UK) claimed that de Soto’s work was helpful to the Third Way political movement – an association that Bunting claimed would not fundamentally challenge world power structures. Reporter John Gravois also criticized de Soto for his ties to power circles, exemplified by his attendance at the Davos World Economic Forum. In response, de Soto told Gravois that this proximity to power would help de Soto educate the elites about poverty. Ivan Osorio of the Competitive Enterprise Institute has chimed in, arguing that Gravois was misinterpreting many of de Soto’s recommendations.

Robert J. Samuelson has argued against what he sees as de Soto’s "single bullet" approach and has argued for a greater emphasis on culture and how local conditions affect people’s perceptions of their opportunities.

In the World Development journal, R. G. Rossini and J. J. Thomas of the London School of Economics questioned the statistical basis of de Soto’s claims about the size of the informal economy.

In the Journal of Economic Literature, Christopher Woodruff of the University of California, San Diego criticized de Soto for overestimating the amount of wealth that land titling now informally owned property could unlock, and argues that "de Soto’s own experience in Peru suggests that land titling by itself is not likely to have much effect. Titling must be followed by a series of politically challenging steps. Improving the efficiency of judicial systems, rewriting bankruptcy codes, restructuring financial market regulations, and similar reforms will involve much more difficult choices by policymakers. "

This criticism is viewed by some to misjudge de Soto's official opinion. His book Mystery of Capital devotes the majority of its contents to the theory that political reform is by far the most significant element of property reform.

Roy Culpepper notes that it is often very difficult to establish who owns what among the poor. He also notes that the titling is biased against those who are completely landless and propertyless.

Alan Gilbert finds that in Bogotá, for example, giving legal titles has not created a better housing market or better supply of credit for the poor.

Legal scholar Jonathan Manders has argued that de Soto’s vision of property rights reform is the correct one, but that the sequencing of proposed reforms will affect their sustainability over the long term.

Empirical studies by Argentine economists Sebastian Galiani and Ernesto Schargrodsky have taken issue with de Soto’s link between titling and the increase in credit to the poor. A study commissioned by DFID, an agency of the U.K. government, further summarized many of the complications arising from implementing de Soto’s policy recommendations when insufficient attention is paid to the local social context.

There are many explanations regarding how and what in capitalism causes growth, according to de Soto. In an interview with The Economist, he emphasizes the primary role of institutions, and points to successful examples of now-developed countries that reformed their legal system in defense of his property rights-oriented policy recommendations. De Soto's conclusions are informed by other work on microcredit, Indices of Economic Freedom, and Ease of Doing Business Index.

De Soto himself argues that his critics mistakenly claim that he advocates land titling by itself as sufficient. "I’m not saying that other reforms aren’t necessary. I’m simply saying that a property rights system is a principal reform, without which other reforms are difficult to manage. It’s quite clear that property law alone does not resolve the other problems. But to me, what is also quite clear is that without property law, you will never be able to accomplish other reforms in a sustainable manner." He also states: "Our enemies like to say that we are good at PR, but what they don’t like to mention is that we are very actively engaged in helping promote reform on the ground. Obviously, property law is not a silver bullet, but it is the missing link. Other reforms won’t work unless you deal with the issue of extralegality" Furthermore, he states that heads of state do not call him because they have been educated to believe in markets, but because they want ILD's help with quantifying the informal sector and how it works in their nations, and that ILD is the only organization that is currently doing such detailed research.

Books

Soto, Hernando De. The Other Path: The Invisible Revolution in the Third World. Harpercollins, 1989. ISBN 0060160209
Soto, Hernando De. The Mystery of Capital: Why Capitalism Triumphs in the West and Fails Everywhere Else. Basic Books, 2000. ISBN 0465016146
Smith, Barry et al. (eds.), The Mystery of Capital and the Construction of Social Reality, Chicago: Open Court, 2008. ISBN 0-8126-9615-8