The great Peruvian democracy advocate Hernando de Soto has spent much of his career focused on bringing informal entrepreneurs into the formal sector, where their rights are enshrined in and protected by law. When citizens have the tools to access to capital and a business environment that supports them, they are able to move up the development ladder from the survival entrepreneurship of the informal sector to the prosperity of the formal economy.
De Soto’s work encouraged an important new way of thinking about how to create opportunity where none previously existed. In so doing, he and his organization, the Institute for Liberty and Democracy (ILD) in Peru, have had a profound and positive impact on the lives of millions in Peru and around the world. CIPE’s first partner 25 years ago, De Soto’s and ILD’s work personifies the proven belief that strong markets require vigorous governance and vice versa, and that open participation in both markets and government are a foundation of democracy.
In this most recent Economic Reform Feature Service article, De Soto looks at the necessity of institutions—and specifically the rule of law—to create and nurture a successful entrepreneurial environment.
Article at a glance
- Creating wealth through entrepreneurship requires combining different resources (for example, the parts of a pencil or those of a watch). Institutions are crucial to facilitating that combination.
- To do all the things that entrepreneurs in developed countries take for granted – like dividing labor, using property as collateral, protecting personal assets, expanding markets, or creating economies of scale – entrepreneurs in developing nations need the standards that only legal institutions can provide.
- The wealthy in developing nations have convinced the poor that no matter how talented or enterprising they are, they will never succeed. In fact, the world’s most successful entrepreneurs just have access to superior legal institutions.
Read the entire article.
One of the first people to walk through the doors after CIPE’s founding in 1983 was Hernando de Soto, President of the Institute for Liberty and Democracy (ILD) in Lima, Peru. Mr. de Soto had the fundamental insight that poor people were not part of the development problem but instead part of the solution. In his best-selling books, The Other Path and The Mystery of Capital, he explained how the lack of access to property rights and other institutions of a market economy keeps the poor in most developing countries trapped in the informal sector.
In one of its first-ever programs, CIPE teamed up with de Soto and ILD to begin bringing the poor in Peru from the extralegal economy into the formal economy and the rule of law. As a result of ILD’s unique and innovative property rights and business reform program, Peruvian society received $18.4 billion in net benefits between 1992 and 1997, including saving formalized urban owners some $196 million in red tape costs.
$9 billion in Haiti. $10.4 billion in Afghanistan. $16.3 billion in Iraq.
The need for effective reconstruction efforts around the world continues to grow and financial support for it has never been greater. So why is reform languishing? An insightful report from NPR’s This American Life on Haiti’s road to recovery tries to make sense of this quandary as national elections in the country approach this year. With “unprecedented amounts” of money pledged to Haitian relief since March alone, in addition to the active work of some 10,000 aid groups and NGOs, the country’s development has stalled, if not regressed. Haiti’s case is all too common. The challenge is getting past simply the best of intentions and actually embarking on a policy that helps Haitians help themselves.
Recent unrest in Peru, where thousands of Amazonian Indians blocked roads and seized hydroelectric plants and oil and gas pumping stations, prompted the government of President Alan García to have armed police confront the protesters. Numerous protesters and police were killed and injured in this bloody manifestation of a deeper underlying problem: unresolved property rights issues.
A year ago, the government issued decrees that allowed for development of “unproductive” land in Peru’s vast Amazon jungle. These laws were passed outside of the Congress and had not been properly consulted with key stakeholders – Indians who inhabit the land in question. The Economist reports that around 70 percent of the jungle has now been either granted or offered as concessions for oil and gas exploration. Indians, who claim much of it as communal or private property, have been trying to force the repeal the decrees.
This situation leaves many in Peru wary of a repeat of the Shining Path’s terrorist violence in the 1980s and 1990s. And it brings to mind The Other Path, Hernando de Soto’s renowned book on the underlying institutional causes of that movement, which are very similar to the roots of the current unrest. It all comes down to the costs of the absence of good law on property rights. The Economist highlights that:
“Mr García argues that the Indians should not be allowed to block investment in oil and gas that he hopes will turn the country into an oil exporter, benefiting all Peruvians. AIDESEP [an umbrella-group that organized the protests] counters that his decrees ride roughshod over the property rights of the Indians. (…) Force is not the answer. Instead of bluster, Mr García should be offering Peru proper consultation and vigorous debate about these issues.”
That debate should aim to make property rights and their surrounding legal framework deliver for all. In that respect, de Soto’s response is as relevant today as when The Other Path was first published over 20 years ago. Only well-defined and secure property rights for all can prevent the government from arbitrarily choosing winners and losers – an act that inevitably leads to social conflict, not economic development:
“The absence of a legal system of efficient property rights is detrimental to all. (…) The law, then, allows citizens to specialize because it enforces property rights, promotes reliable contracts which enable these rights to be organized and transferred, and attributes liability when it is not established by a contract. These three elements are essential if a society is to make the best use of its citizens’ initiatives and labor and of its material resources.”
Call me an idealist, but I am positively inspired by the stories I’ve heard over the past several months from my colleagues here at CIPE. I’ve had the great pleasure of talking with, well, just about everyone at CIPE about the accomplishments of our partners over the past year as we’ve put together CIPE’s 2008 annual report. I remember my colleagues saying things like…
“I think we should talk about how people in Ghana have had this unprecedented opportunity to participate in the political process through the presidential and parliamentary debates ahead of the December 2008 elections. Many communities, for the first time, organized debates for their parliamentary representatives. Because of the debates, people found out what their representatives’ views actually were. In a lot of places, the incumbent was voted out of office in favor of the more qualified candidate.”
“We HAVE to talk about the Bishkek Business Club (BBC). They have done so much over the past several years – their ability to bring together Kyrgyzstan’s business community has been really amazing. They are just so persistent about creating dialogue with the government, and it shows. The government is actually listening to the business community, even asking for its input, precisely because of BBC’s efforts.” (Having lived in Kyrgyzstan and having seen how little interaction there has been between government and ordinary people, I cannot applaud enough the magnitude of this accomplishment.)
I also had the pleasure of speaking with Hernando de Soto about his letter in the report’s introduction. As CIPE’s first partner, he has a unique perspective on the value of CIPE’s approach. For me personally, it means a lot to work with an organization that is, as de Soto remarked, “in touch with the emerging-market perspective.” De Soto approached CIPE back in 1984 because CIPE staff “understood” what he and the Institute for Liberty and Democracy were trying to do. In my personal experience, I’ve seen well-meaning international organizations in a number of countries miss huge opportunities because they haven’t started by listening to the local people. Conversely, organizations that let local priorities shape their strategy are often the most successful.
The CIPE 2008 Annual Report
Celebrating 25 years of strengthening democracy through market-oriented reform, CIPE’s 2008 annual report details these stories and many, many more. Hear what our partners have said about CIPE over the years, and be inspired!
What would you like to say to CIPE on its 25th anniversary? What story would YOU like to tell?
The Commission on Legal Empowerment of the Poor, co-chaired by Hernando de Soto and Madeleine Albright, has just launched its final report “Making the Law Work for Everyone.” This report addresses the challenge of legal empowerment, or the process through which the poor become protected and are enabled to use the law to advance their rights and their interests, vis-à-vis the state and in the market.
The Commission has conducted 22 national consultation processes with representatives from local governments, academia, civil society, and grassroots movements during the past three years. The final report reflecting all these efforts is a fascinating and insightful document detailing how legal empowerment of the four billion excluded poor world-wide is the key to unlocking vital energies of entrepreneurship needed to end poverty. Notably, the Commission does not recommend any grand top-down reform schemes, but rather focuses on the need for reforms to be driven bottom up and focused on long-term institution building, not quick fixes:
In too many countries, the laws, institutions, and policies governing economic, social, and political affairs deny a large part of society the chance to participate on equal terms. The rules of the game are unfair. This is not only morally unacceptable; it stunts economic development and can readily undermine stability and security. The outcomes of governance – that is, the cumulative effect of policies and institutions on peoples’ lives – will only change if the processes of governance are fundamentally changed.
Creation of wealth rests upon various legal protections, norms, and instruments governing such things as business organizations, corporations, tradable assets, labor contracts, workers associations, venture capital, insurance, and intellectual property. While the same protections and instruments exist in many developing countries, the overwhelming majority has no way to access them. Notwithstanding this reality, the legal underpinnings of entrepreneurship, employment, and market interaction are often taken for granted by traditional approaches to development and standard economic theory.
The Commission concluded that there are four crucial pillars of legal empowerment that reinforce and rely on each other: access to justice and the rule of law, property rights, labor rights, and business rights (individual rights related to conducting business). Therefore, legal empowerment advances the rights and interests of the poor and excluded as citizens and economic actors alike.
Hernando de Soto is famous for his work on reducing the size of the informal sector and paving the way for people to be part of the formal economy and to participate in a democracy. But to us at CIPE he is also known as the first person – literally – who walked through our doors when we opened back in 1984. A program with Hernando’s Institute for Liberty and Democracy in Peru was our very first project. And since that first project he remained a good friend of CIPE, a committed supporter of market reforms and democratic institutions around the world.
De Soto gained a lot of global visibility since we first met him in the 1980s – some may even say he has a celebrity status these days. He advises presidents; he is known worldwide for offering economic solutions to terrorism; and he has been nominated for a Nobel prize in economics. Throughout the years, however, much of de Soto’s approach to economic and political reforms remained the same at its core - for market economies and democracies to work, people must have a stake in the system.
In de Soto’s view, reformers must remove barriers to business, secure property rights, provide incentives for people to participate in the economy, and open avenues for political participation. Only then you can expect people to move up the development ladder, from the uncertainty and survival entrepreneurship of the informal sector to prosperity and value creation of the formal market economy. Although de Soto is frequently perceived (and criticized for) as advocating property rights titles – the reality is that he actually talks about broader institutional reforms, of which property rights titles are only a part, albeit an important one. And he not only talks about it – he actually does it – not only in Peru, but in other countries around the world.
Recently, John Sullivan, our executive director, sat down with Hernando to talk about the future of reform in Latin America in the context of his work. Is it reasonable to expect support for free markets in the region? What is the future of democracy in Latin America? What do citizens see as their primary concerns and who can offer best solutions to their problems? You can see Hernando de Soto talk about these topics and his work below.