It was disheartening to read John Stossel’s uncritical endorsement of Hernando de Soto’s diagnosis of the causes of poverty in Third World nations as their lack of street addresses and legal titles to property (“Why Do the Poor Stay Poor?,” March 2011). The error of these claims in De Soto’s The Mystery of Capital (2000) has been pointed out by several authors. . . .

First, people who have property that would qualify for a street address, if such address system existed, . . . are not among the poor. Second, in the same Third World country, there are rich as well as poor people. The lack of a street address thus cannot explain why the poor are poor. Third, in the formal and informal sectors of Third World countries, people acquire loans all the time without the presentation of government certified titles to property. Indeed, de Soto himself describes the vibrancy of economic activity in Brazilian favelas where, for example, “street cottage industries have sprung up . . . manufacturing anything from clothing and footwear to imitation Cartier watches and Vuitton Bags.” Fourth, Stossel buys into de Soto’s mistaken view of lawlessness in most of the Third World: “They need the rule of law. But many places in the developing world barely have law.” But de Soto contradicts himself on that claim, too: “[A]sset owners in the extralegal sector are . . . relatively well organized [and] ‘law-abiding,’ although the laws they abide by are not the government’s.” Furthermore, people “in the undercapitalized sector do have . . . strong, clear, and detailed understandings among themselves of who owns what.” (For more on de Soto’s self-contradictory claims, see “Mystifying the Concept of Capital: Hernando de Soto’s Misdiagnosis of the Hindrance to Economic Development in the Third World,” Independent Review, Summer 2008.) In fact, only in the most chaotic countries or failed states are crimes against private property not punished by law.

De Soto’s claims have fascinated some in the libertarian community who find someone, originally from a Third World country, Peru (but who did not grow up there), arguing that adopting capitalism and the rule of law would eliminate poverty around the world, to be a useful ally. But de Soto has an incorrect understanding of the economic history of the more developed countries, including such recent ones as South Korea and Hong Kong, as well as of the hindrance to economic development in the less-developed countries. He does not recognize that economic development or the growth of wealth preceded the development of legal titles to property in the now-developed countries. Thus he seeks to reverse the order of causality: Institute legal titles to property and economic development will follow! He also does not recognize that savings constitute the “capital” that may be borrowed with or without the presentation of legal titles to property. Titles to property may qualify someone for a loan, but without savings in the community, there would be nothing to lend. Indeed, de Soto believes that knowledge of the source of “capital” for economic development is a “mystery” for people in both the more-developed and less-developed countries. But Adam Smith explains that in the Wealth of Nations (1776), which de Soto fails to recognize.

Stossel would do better to point his readers to Adam Smith’s explanation of the institutions and policies that promote the creation of wealth among nations than to endorse de Soto’s mistaken and frequently self-contradictory views about the hindrance to economic development in the Third World.

I first met de Soto maybe 15 years ago. It was at one of those lunches where people sit around wondering how to end poverty.

I go, but I’m skeptical. There sits de Soto, president of the Institute for Liberty and Democracy in Peru, and he starts pulling pictures out showing slum dwellings built on top of each other. I wondered what they meant.

As de Soto explained, “These pictures show that roughly 4 billion people in the world actually build their homes and own their businesses outside the legal system. . . . Because of the lack of rule of law [and] the definition of who owns what, and because they don’t have addresses, they can’t get credit [for investment loans].”

They don’t have addresses?

“To get an address, somebody’s got to recognize that that’s where you live. That means . . . you’ve got a mailing address. . . . When you make a deal with someone, you can be identified. But until property is defined by law, people can’t . . . specialize and create wealth. The day they get title [is] the day that the businesses in their homes, the sewing machines, the cotton gins, the car repair shop finally gets recognized. They can start expanding.”

That’s the road to prosperity. But first they need to be recognized by someone in local authority who says, “This is yours.” They need the rule of law. But many places in the developing world barely have law. So enterprising people take a risk. They work a deal with the guy on the first floor, and they build their house on the second floor.

“Probably the guy on the first floor, who had the guts to squat and make a deal with somebody from government who decided to look the other way, has got an invisible property right. It’s not very different from when you Americans started going west, [but] Americans at that time were absolutely conscious of what the rule of law was about,” de Soto said.

Americans marked off property, courts recognized that property, and the people got deeds that meant everyone knew their property was theirs. They could then buy and sell and borrow against it as they saw fit.

This idea of a deed protecting property seems simple, but it’s powerful. Commerce between total strangers wouldn’t happen otherwise. It applies to more than just skyscrapers and factories. It applies to stock markets, which only work because of deed-like paperwork that we trust because we have the rule of law.

Is de Soto saying that if the developing world had the rule of law it could become as rich as we are?

“Oh, yes. Of course. But let me tell you, bringing in the rule of law is no easy thing.”

De Soto says we’ve forgotten what made us prosperous. “But [leaders in the developing world] see that they’re pot-poor relative to your wealth.” They are beginning to grasp the importance of private property.

Let’s hope we haven’t forgotten what they are beginning to learn.

I bet some of you are thinking, “Oh no, here comes an ivory tower academic telling us that cutting trees down causes earthquakes. He’s probably a tenured geology professor who couldn’t make it in the real world.” Rest easy, I’m not offering earthquake theories, and while I’m tenured, I’m a professor of economics not geology.

My point is that Haitian land stripped of its trees and Haitian land covered with earthquake debris trace to a common cause. That cause is the dysfunctional state of Haitian private property rights. “Dysfunctional” is charitable–a property-rights vacuum is more apt. The vacuum promotes economic myopia among Haitians. Future benefits–from preserving trees to constructing longer-lived buildings–figure less importantly in economic calculations when the benefits’ recipients are uncertain.

Haiti’s heritage is not a good one. A brutally ruled, slave-centered colony, its independence brought a series of home-grown tyrants. Nevertheless, Haitians necessarily bear the responsibility for the state of Haitian property rights. If not the Haitians, who else, pray tell? Does that mean I’m “blaming the victims” of the landscape devastation for the devastation, be it land stripped of trees or land covered with earthquake debris, including thousands of bodies? Yes.

Haitians sowed devastation’s seeds by trashing private property rights. They reaped the consequences. Don’t forget that the Haitians’ Dominican neighbors didn’t strip their land, even though the Dominican Republic comes nowhere close to being a property-rights paradise. Likewise, earthquakes of Haitian-like intensity don’t necessarily kill tens of thousands–the 1994 southern California earthquake, with a similar magnitude, hitting an area of higher population density, killed fewer than 100 people.

The state of property rights in a country is not an “either/or” proposition. Rather, it lies on a continuum, from very secure to very insecure. The Heritage Foundation regularly publishes an “Index of Economic Freedom,” which ranks nations based on several factors, including security of private property. In the 2010 Index the Dominican Republic ranked 86th (“moderately free”) and Haiti 141st (“mostly unfree”) out of 179 countries. (The United States is eighth and Hong Kong first).

The Dominican Republic and Haiti both rank below average on security of property rights. However, the Dominican Republic’s property-rights score is higher than Haiti’s, exceeding that of 41 other countries and tied with 34. Haiti, on the other hand, is near the bottom, tied with 12 other countries (including Cuba, Iran, and Libya) and exceeding only Burma, North Korea, and Zimbabwe.

Economist Hernando de Soto’s celebrated book, The Mystery of Capital, gives some specifics about the pathetic state of private property rights in Haiti. He estimates that 68 percent of Haitian city dwellers and 97 percent of their rural counterparts live in housing for which no one has clear legal title.

Tell me, if you were building a house for which you have no legal title, how interested would you be in using your resources to build a more durable structure? Not very, I’m sure. Certainly less interested than if you had clear title. After all, you’re unsure about whether someone can come along and take away “your” house, and you’re unsure about your ability to sell the house in the future. The resulting shabby construction won’t cause earthquakes, but it’ll make earthquake-related damage more extensive–even fatal.

Government Landlord

This lack of property title in Haiti is not surprising, says de Soto. For Haitians to settle legally on government (!) land, they must first lease it from the government for five years. Finalizing a lease requires 65 bureaucratic steps, taking two years on average. Then things get worse. Subsequent purchase requires another 111 bureaucratic steps, taking 12 more years–19 years of red tape in a country where, to compound the problem, illiteracy is pervasive.

The 1987 National Geographic photograph was a predictor of the earthquake devastation we have witnessed. A people who have little incentive to delay cutting trees–and when they do cut, to replant new trees–will also end up constructing buildings that crumble like a house of cards in the stress of an earthquake.

The larger lesson is that any effort to “rebuild” Haiti that doesn’t include eliminating this property-rights vacuum will be a case of throwing good money after bad, leaving the seeds of future devastations to germinate. An easy job? Forget it. International “do-gooders” with their quick fixes need not apply.

I bet some of you are thinking, “Oh no, here comes an ivory tower academic telling us that cutting trees down causes earthquakes.  He’s probably a tenured geology professor who couldn’t make it in the real world.”  Rest easy, I’m not offering earthquake theories, and while I’m tenured, I’m a professor of economics not geology.

My point is that Haitian land stripped of its trees and Haitian land covered with earthquake debris trace to a common cause.  That cause is the dysfunctional state of Haitian private property rights. Dysfunctional is charitable — a property-rights vacuum is more apt.  The vacuum promotes economic myopia among Haitians.  Future benefits — from preserving trees to constructing longer-lived buildings — figure less importantly in economic calculations when the benefits’ recipients are uncertain.

Haiti’s heritage is not a good one.  A brutally ruled, slave-centered colony, its independence brought a series of home-grown tyrants.  Nevertheless, Haitians necessarily bear the responsibility for the state of Haitian property rights.  If not the Haitians, who else, pray tell?  Does that mean I’m “blaming the victims” of the landscape devastation for the devastation, be it land stripped of trees or land covered with earthquake debris, including thousands of bodies.  Yes.

Haitians sowed devastations’ seeds by trashing private property rights.  They reaped the consequences.  Don’t forget that the Haitians’ Dominican neighbors didn’t strip their land, even though the Dominican Republic comes nowhere close to being a property-rights paradise.  Likewise, earthquakes of Haitian-like intensity don’t necessarily kill tens of thousands — the 1994 southern California earthquake killed less than 100 people.

Not “Either/Or”

The state of property rights in a country is not an “either/or” proposition.  Rather, it lies on a continuum, from very secure to very insecure.  The Heritage Foundation regularly publishes an “Index of Economic Freedom,” which ranks nations based on several factors, including security of private property.  In the 2010 Index the Dominican Republic ranked 86th (“moderately free”) and Haiti 141st (“mostly unfree”) out of 179 countries. (The United States is eighth and Hong Kong first).

The Dominican Republic and Haiti both rank below average on security of property rights.  However, the Dominican Republic’s property-rights score is higher than Haiti’s, exceeding that of 41 other countries and tied with 34.  Haiti, on the other hand, is near the bottom, exceeding only Burma, North Korea, and Zimbabwe and tied 12 other countries (including Cuba, Iran, and Libya).

Economist Hernando de Soto’s celebrated book, The Mystery of Capital, gives some specifics about the pathetic state of private property rights in Haiti.  He estimates that 68 percent of Haitian city dwellers and 97 percent of their rural counterparts live in housing for which no one has clear legal title.  No one, mind you, no one!

Tell me, if you were building a house for which you do not have legal title, how interested would you be to use your resources to build a more durable structure?  Not very, I’m sure.  Certainly less interested compared to if you had clear title to the structure.  After all, you’re unsure about whether someone can come along and take away “your” house, and you’re unsure about your ability to sell the house in the future.  The resulting shabby construction won’t cause earthquakes, but it’ll make earthquake-related damages more extensive.  Even fatal.

This lack of property title in Haiti is not surprising, says de Soto.  For Haitians to settle legally on government (!) land, they must first lease it from the government for 5 years. Finalizing a lease requires 65 bureaucratic steps, taking 2 years on average.  Then things get worse!  Subsequent purchase requires another 111 bureaucratic steps, taking 12 more years — nineteen years of red tape in a country where, to compound the problem, illiteracy is pervasive.

The 1987 National Geographic photograph was a predictor of the earthquake devastation we have witnessed.  A people who have little incentive to delay cutting trees, and when they do cut, to replant new trees will also end up constructing buildings that crumble like a house of cards in the stress of an earthquake.

The larger lesson is that any effort to “rebuild” Haiti that doesn’t include eliminating this property-rights vacuum will be a case of throwing good money after bad, leaving seeds of future devastations waiting to germinate. An easy job?  Forget it.  International “do-gooders” with their quick-fixes need not apply.

“Unlike all other property paper,” de Soto writes, “derivatives are not required by law to be recorded, continually tracked and tied to the assets they represent. Nobody knows precisely how many there are, where they are, and who is finally accountable for them.”

Hence: “Government’s main duty now is to bring the whole toxic environment under the rule of law where it will be subject to enforcement.”

I largely agree with de Soto’s diagnosis of the problem, but not his solution. When I worked in the financial sector in early 2007, my boss said his associates in New York were getting nervous because nobody knew how much leverage their trading partners had. It was thus pointless to run the standard “value at risk” and other calculations they teach finance grads, because no individual participant—even a large hedge fund or investment bank—could see the big picture in deals involving complex derivatives. Indeed, after everything blew up, I talked to one credit analyst at an insurance company who said, “Have you ever actually tried to read one of these credit default swap contracts? Nobody really knew what they did.”

Free Markets Don’t Mean Omniscient Entrepreneurs

I bring up these anecdotes to bolster my view that the market critics are probably (at least partially) correct to blame the financial bust on overextended firms that horribly miscalculated the risks they were assuming. I would be willing to go even further and say that innovative financial products that appeared to mitigate risk at the individual level might have paradoxically made the entire system more vulnerable.

But the market critics and de Soto go wrong in concluding that only governments can fix the problem. These advocates of increased regulation fail to realize that the case for the free market does not rely on omniscient entrepreneurs. Fans of the market should not be embarrassed to admit that sometimes even well-established companies screw up royally and lose billions of dollars.

Or at least, that’s what would happen in a true profit-and-loss system. The self-regulation of the market only works when profits and losses are allowed. When trying to make sense of why so many large firms were so careless with their investments, we can’t ignore the perverse incentives the government had created in a multitude of ways.

For example, the ratings agencies didn’t need to worry that they would be ruined if their AAA ratings on mortgage-backed securities turned out to be absurd. If any private-sector actors can be directly blamed for the financial debacle, it would be S&P, Moody’s, and Fitch. Yet these rating agencies are still in business because government regulations require banks and other institutional investors to hold bonds and other securities with a certain rating, and (of course) the regulations cartelize the rating industry. Specifically, SEC regulations require that institutions receive their (legally mandated) ratings from a “nationally recognized statistical rating organization” (NRSRO). But lo and behold, it is very difficult for any outsiders to attain this exalted NRSRO status. Since the big three agencies have a guaranteed demand for their services, is it any wonder that they were careless in granting the desired ratings to the complex securities being pushed by their big clients during the boom years? And let’s not forget the government-induced shaky mortgages at the foundation of those derivatives.

The fundamental problem with de Soto’s analysis is that he thinks politicians and bureaucrats can be trusted to improve financial transparency. This is the height of naiveté. Has de Soto flipped through the U.S. tax code recently? Doesn’t he realize that seemingly every week Treasury Secretary Geithner announces another convoluted plan to use tax dollars to encourage leveraged investment in precisely these “toxic” assets?

Markets Produce Laws

Apparently, de Soto thinks the virtue of Western governments over the centuries has been to create an orderly body of laws within which the free market can flourish. I would argue that it was the relative impotence of Western governments that allowed a market-driven law to emerge, which these governments then codified.

Economists such as Bruce Benson, David Friedman, and Edward Stringham have thoroughly documented the spontaneous development of legal customs and financial rules without any enforcement from the state. The entire body of English common law, too, was not centrally designed by legislatures, but instead emerged out of myriad individual rulings given by judges, as did the Law Merchant, the early modern global commercial law. 

Had the government minded its own business, the private financial sector would have learned from its mistakes during the housing boom. There is no reason to suppose that Geithner or anyone else employed by the government can come up with a solution that private analysts couldn’t discover. Quite the contrary. In fact, every move the government has taken during the crisis has expanded its power over the private sector and its ability to shower literally trillions of dollars on powerful beneficiaries. Doesn’t de Soto see the immense scope for corruption if the government gains more discretionary power over financial transactions?

Ironically, it is the government’s response to the initial crisis that has led to less transparency not more. Had the troubled firms been allowed to fail, bankruptcy proceedings would have ascertained which companies were holding which assets and how they should be valued. But at least since December 2007, the Federal Reserve has artificially propped up insolvent firms by accepting their “toxic” assets as collateral on short-term loans. In this environment, of course the most leveraged firms will string their investors along and carry derivatives on their books at inflated values.

Regardless of what caused the crisis, government efforts to regulate derivatives will only lock in undesirable aspects of the current market and ensure that politically connected players reap artificial gains. It is absurd to ask politicians to promote financial integrity and sound accounting. They are the worst violators of these principles on the planet.

A simple example illustrates the evolution of property rights in land. The basic form of property in land in the United States is called the fee simple absolute. The owner of a fee simple absolute has the maximum extent of rights possible in the land under the law; most privately held American land is in this form.

An owner of a fee simple absolute in a plot of land in 1800 and an owner of a fee simple absolute in the same plot in 1900 had different sets of rights because of changes in the law. Between 1800 and 1900 the federal government abandoned a claim it had in mineral rights in private land. Most national governments in 1800 claimed a share of any minerals produced from any land within their boundaries. (Indeed, most national governments still make such a claim today.) Although American law was not completely clear on the subject in 1800, many thought that the federal government had inherited the English government’s claim of a share of mineral rights, and such claims were asserted by the federal government a number of times during the first part of the nineteenth century. By 1900, however, the United States had effectively abandoned its general mineral-rights claim and recognized that private landowners with fee simple title had property rights to both the surface and subsurface of their land. Indeed, the U.S. government went further and through a series of laws in the 1860s and 1870s, culminating in the General Mining Law of 1872, recognized individual claims of ownership of mineral rights and surface rights by those who discovered valuable mineral deposits on federal land.

Now compare the rights held by today’s owner of this land with the rights held in 1900. Over the past century or so, various governments took important parts of the property-rights bundle from many landowners. Local governments passed zoning laws, reducing landowners’ freedom to use their property as they see fit. State governments adopted a wide range of land-use restrictions. Some, such as Florida, adopted statewide land-use planning programs that imposed major restrictions on how property could be used. Others simply increased taxes on land. The federal government significantly reduced landowners’ rights through regulatory statutes such as the Endangered Species Act and the assertion of jurisdiction over a wide range of “wetlands” under the Clean Water Act. As a result, an owner of a fee simple absolute in that same property today has many fewer rights than the 1900 owner did.

At the same time, the rights that remain in that fee simple absolute have evolved in ways that make them potentially more valuable today through private efforts at rebundling rights. For example, one of the fastest-growing forms of property ownership today is ownership in communities in which a developer has rearranged the property rights through covenants, easements, and servitudes. One of the best known such communities is the town of Celebration in Florida, constructed by Disney. There restrictions in the deeds govern a multitude of details of the houses constructed on the property. Houses must conform to a particular architectural style, have front porches and white window hangings fronting the street, be painted a color from a specified range, and so forth. While the deeds to the properties Disney sold were notable for the number and detail of restrictions, they were by no means unique. In fact, millions of Americans now own property in which they paid a premium price to receive a deed with many more restrictions on use than was common even 30 years ago. Why?

The solution to this seeming paradox of paying more for less lies in the relative values of the rights lost and gained. Property owners in Celebration did not just give up property rights; they also acquired negative rights in their neighbors’ property.

A homeowner in Celebration is limited in her choice of colors for her house—but so are her neighbors. A homeowner in Celebration is limited in the color of blinds she can hang in the windows facing the street—but so are her neighbors. The success of Celebration in boosting property prices in the development over the prices for property in surrounding areas that lack the restrictions tells us that property owners are more concerned with limiting their neighbors’ ability to create aesthetic annoyances than they are with maintaining their own ability to do so. Reallocating the property rights among the property owners in Celebration increased the value of the bundle of rights each person purchased because it added rights worth more (the ability to prevent an aesthetic disaster down the street) than those it took away (the ability to create one’s own aesthetic disaster).

Not everyone wants to live in Celebration, or even in a community with fewer restrictions, such as the one in Yuma, Arizona, where my parents live and all houses must be painted a shade of sand color. Enough people do, however, that property owners and entrepreneurial developers have discovered that they can increase the value of some properties by incorporating such restrictions into their deeds. Property law makes such transactions possible by providing a mechanism for embedding such reallocations in deeds and so binding future purchasers of the property. It also provides a way out of deed restrictions that become obsolete, as a future entrepreneur could change or abolish restrictions by reuniting the parcels benefited and burdened by them.

There’s an important difference in how property rights changed in these examples. In the expansion of property rights to include subsurface rights between 1800 and 1900, rights became more secure as the result of government’s limiting its claims against individuals. In the rearranging of rights involved in creating developments with a particular aesthetic, private entrepreneurs used contracts and deeds to increase their property values through voluntary transactions. In the contraction of property rights from 1900 to the present through regulatory statutes, however, interest groups used the power of the state to forcibly redistribute property rights. (Anyone who doubts the “forcibly” portion of the preceding sentence need only speak to one of the landowners criminally prosecuted for violating federal endangered-species or wetlands laws and regulations.) Unfortunately, the value created by the combination of property rights and voluntary transactions all too often makes property rights a tempting target for expropriation.

Property Rights Evolve

The first key economic insight is thus that property rights are not static. They evolve. How does this evolution work? As a type of property becomes more valuable, people are willing to invest more in efforts to define rights to it. Property rights thus naturally evolve in response to changes in technology, changes in costs, changes in tastes, new discoveries, and other changes in individuals’ preferences. A critical role in this evolution is played by entrepreneurs who identify opportunities to increase value by rearranging property rights.

How do property rights evolve? It is useful to think about five different ways in which they regularly change:

1. The subject of property rights changes, making new things property that were not previously considered property.
2. The bundle of rights changes, making it possible to divide property rights in new ways and trade those rights.
3. The method of establishing property rights changes, making the cost of establishing property rights different.
4. The method of protecting property rights changes, making the cost of securing property rights different.
5. The method of stealing property rights changes, making property rights more or less secure.

Property rights can evolve to include new subjects. A classic example is the development of water rights in the nineteenth-century American west. Settlers from the more humid east found that the water-law institutions they brought with them, derived from English law and custom, were inadequate. Eastern water law gave riparian rights to landowners adjacent to bodies of water. These rights generally included the right to use water but not to diminish its flow for downstream users. In the west, where water was scarcer, however, the right to divert water for irrigation or mining was valuable. Western states and territories quickly recognized a doctrine of prior appropriation, whose essentials came out of the practice of early miners and farmers in the region. Under prior appropriation, water users had the right to divert water, with users’ rights ranked in the order in which it was originally appropriated.

Unfortunately, western water rights subsequently became the subject of a massive resource grab by the federal and state governments. Wyoming initiated the process by asserting a claim of state ownership to all surface water in its 1889 state constitution and placing the state engineer’s office in charge of water allocations. The federal Bureau of Reclamation built massive water projects across the west with tax dollars, further distorting water rights. The combination made western water rights less secure and limited their evolution in response to changes in technology and demand for water. Today, however, many states have loosened their control of water rights and are beginning to allow markets to emerge.

Rights also evolve into different bundles through voluntary transactions that benefit both parties. As discussed earlier, entrepreneurs in the United States discovered that reallocating the rights to make aesthetic decisions about the appearance of homes could increase the value of properties in some cases. Other examples include sale of easements to neighbors that allow an adjacent property owner to guarantee the preservation of a desirable view and conservation easements that allow a property owner to sell development rights to a preservation group while continuing to use his land.

The method of establishing rights also evolves in response to demand. Creation of an easy-to-use title system increases the value of all property, facilitating transactions by making it inexpensive to determine who owns a particular piece of land. The development of title insurance facilitated property transactions by reducing the risks for buyers. More recently, the securitization of mortgages in the United States has vastly increased the financial resources available to prospective property owners by making it possible for investors to buy diversified portfolios of mortgages. What all these examples share is that they are the result of entrepreneurs identifying an opportunity for profit and using the tools provided by the law to create a means of earning that profit.

Finally, property rights evolve in response to changes in how they can be defended. Property owners often play a critical role in physically defending their rights, as anyone knows who has seen the broken-glass-topped walls, gates, and razor wire routinely used by property owners in countries where land is vulnerable to invasion. New technologies can repeat the role of barbed wire on the American Great Plains, making it possible to cost-effectively control access to resources that cannot be safeguarded today. For example, in the not-too-distant future we may see a combination of GPS and DNA-testing technologies provide a means to create property rights in migratory sea animals, such as whales.

The evolution of property rights is a remarkable phenomenon. In the United States and elsewhere, positive developments have produced better-defined, more secure, and more valuable bundles of rights over time. That evolution has occurred as the result of individuals’ seeking to fulfill their own plans, to earn profits, and to use their property to serve their own needs. In short, the voluntary transaction-driven evolution of property rights is a Hayekian spontaneous order.

At the same time, however, there have been value-destroying, liberty-restricting developments in property law. The widespread adoption of central-planning methods for land-use control, the seizure of private property to redistribute it to favored interest groups masquerading as “economic development,” and regulatory restrictions on property owners in pursuit of special interests’ agendas, as has happened with laws such as the Endangered Species Act and Clean Water Act, are the result of the combination of an unconstrained state and the attraction of the wealth individuals create through the trade made possible by property rights.

Property Rights Solve Problems

There are two fundamental problems solved by property rights: (1) how to exchange goods in the course of trade and (2) the commons problem.

The problem of how to exchange goods in trade is a serious one, although not one we often consider today. If goods belonged to whoever happened to pick them up, there would be little reason for me to trade with you. I could simply wait until you fell asleep or were distracted and take the goods without giving you anything in return. Even if you and I agreed between ourselves, or if all the people in our neighborhood or even our town agreed on who owned what, we would still not be close to unlocking the potential value made possible by a system of well-defined property rights.

To take but one example, many new businesses in the United States are started by entrepreneurs using their homes as collateral. If a bank could not be sure who owned the property offered as collateral, it would not be willing to lend the money. Similarly, if the bank thought that it could not collect on the collateral, it would be unwilling to lend. When banks can rely on clear titles, however, they are willing to advance money, holding the titles as collateral. When property rights are sufficiently clear and markets well-enough developed, bundles of security interests in land can be combined and turned into new investment securities. These securities then make it possible to expand the pool of money invested in real estate, and so enabling even more, even cheaper loans. The economic power of property rights in such cases is so extraordinary that they almost seem to be alive with energy. Indeed, Peruvian economist Hernando de Soto refers to property in societies where rights are so poorly specified that using it as collateral is impossible as “dead capital” because it cannot be used to produce new value in this way.

This critical feature of property rights—that they permit trade and so permit the creation of wealth—is central to the economic case for them. It provides the solution to some thorny philosophical issues as well. Philosopher David Schmidtz suggests that the solution to the problem of the Lockean Proviso—the requirement that “enough and as good” be left for others in a just system that includes original appropriation—is that allowing the original appropriation produces more for those who come after by permitting trade to take place. In his essay “The Institution of Property,” Schmidtz points out that “Philosophers are taught to say, in effect, that original appropriators got the good stuff for free. We have to pay for ugly leftovers. But in truth, original appropriation benefits latecomers far more than it benefits original appropriators. Original appropriation is a cornucopia of wealth, but mainly for latecomers. The people who got here first never dreamt of things we latecomers take for granted.”

The second important problem property rights solve is the tragedy of the commons. Made famous by Garrett Hardin in his 1968 article in Science, a tragedy of the commons occurs when there is no means to exclude others from a resource. Under these conditions, the resource will be overused to the point of destruction so long as each user gains more benefits than the costs he bears as a result of his actions. In Hardin’s example, villagers shared access to a common field. Each could put as many cattle on the field as he desired since no one had the right to exclude another. As a result, each villager added cattle so long as the last cow he added benefited him more than it cost him. Since a portion of the cost created by the additional cow was the reduction in grass available to the cows owned by others, no villager took into account the total cost to the village of the additional cows. Unsurprisingly in Hardin’s example, the field ended up with so many cattle grazing on it that it was overgrazed and destroyed. All the villagers were worse off, yet no one had had an incentive to stop the overgrazing. Why?

Without the power to exclude, any grass left for tomorrow would be eaten by someone else’s cow today. Even if the villagers had all recognized that there were too many cows on the land, no one would rationally agree to reduce his herd because any grass “saved” would be eaten by someone else’s cow.

As Hardin recognized, in a passage rarely cited by those eager to use his work as an excuse for state intervention, the commons is a problem only for societies that lack property rights. The tragedy, Hardin declared, is solved by “private property, or something formally like it.” And in fact there was no tragedy of the commons in medieval English common fields, the case Hardin used as his example, precisely because there were property rights in them, known as “stinting,” that limited the ability to add animals. Stinting rights were based on the amount of property in the private fields each villager held.

By making it possible for a property owner to gain from good stewardship, private property creates an incentive to invest in maintaining and improving resources. Just as important, if someone is not engaged in good stewardship, whether due to ignorance, indolence, or idiocy, private property rights make it possible for someone who is able to engage in good stewardship to offer a premium over the value of the property to the current owner. By buying the property and improving its management, the new owner can generate enough income to pay the higher price. (Of course, not every owner will sell when offered more money than he is getting from his property, but many will.)

Government-Caused Problems

Economics can also shed light on how governments can cause problems with property rights. Two problems are particularly acute today. The first is that governments may impede efforts to create tradable property rights by attempting to steal resources for themselves. The second is that governments may fragment property rights into so many small bundles that the cost of reassembling them into useful arrangements is too high to be worthwhile.

The problem of predatory states is as old as the state itself. Simply taking property without compensation is of course possible, but predators that engage in such naked aggression kill the goose that lays the golden egg. More common are efforts to chip away at property rights on the margin, transferring specific rights from property owners to favored interests. For example, local governments often attempt to condition construction permits on grants of easements or restrictions on use of the property in question. Similarly, “regulatory takings” are a major area of concern, as property rights become entangled in a web of regulatory restrictions. Unfortunately, the American courts have been even less protective of property rights in the face of regulatory takings than they have been with respect to outright takings.

The problem of fragmentation of property rights is particularly acute in countries attempting to privatize state-owned property. In some instances, rather than decide to whom to award a particular property, officials simply gave it to everyone. As a result, there were multiple “owners” able to veto any particular use of a property. Professor Michael Heller termed this the “tragedy of the anticommons” after observing it in post-Soviet Russia. Heller wondered why so many Moscow storefronts were empty while businesses occupied kiosks on the sidewalks in front. He discovered that the reason was that granting of rights to the former employees of the stores so fragmented ownership that reaching an agreement on a use of the property was virtually impossible. The tragedy of the anticommons is a creature of the state. Overcoming it is largely a matter of preventing fragmentation of property rights in privatization efforts.

In his history of property rights and civilization, The Noblest Triumph, Tom Bethell concludes that private property makes possible liberty, justice, prosperity, and peace. Secure property rights make liberty possible because they fence off a private domain out of the reach of the grasping hand of the state. They make justice possible because property owners reap the rewards and suffer the losses caused by their actions, linking reward to merit. They make prosperity possible because they allow trade. Finally, secure private property rights make peace possible because they enable each individual property owner to pursue his or her own plan, free from the interference of others and without interfering with others.

One of the most enduring myths of the pre-European Americas is that the cultures were a kind of property-less Eden, in which various peoples existed in harmony with one another and with nature. Even a brief survey of the major pre-Columbian civilizations of the Inca, Aztec, Maya, and North American tribes quickly demonstrates that such a view neglects well-established customs that included recognizable forms of property in scarce resources, from weapons to hunting territories, as well as conflicts among tribes and other groups over control of territories.

Native Americans encountering Europeans may have been unfamiliar with their particular forms of property ownership, but such unfamiliarity did not long survive extended contact between Europeans and Native Americans. In part these differences were the result of the differences between Europe and the Americas. For example, Europe was more crowded than the eastern seaboard of North America, and so land was scarce. Population estimates of the pre-contact populations vary wildly, but it seems clear that even the highest estimates put the population density well below contemporary European levels. As a result, land was more abundant than it was in Europe, so its allocation was less likely to be worth the effort to make boundaries and claims precise. But the scarce resources in any particular area, such as good hunting grounds, were the subject of property rights.

In short, many if not all of the pre-contact residents had their own well-developed systems of property rights before the arrival of Europeans. Those property rights evolved in response to European contact, with new rights delineated as trade with the Europeans made previously undelineated rights valuable. Harold Demsetz’s classic 1967 article, “Toward a Theory of Property Rights,” for example, showed how rights to beaver pelts developed among North American tribes in response to the European demand for fur.

The Europeans added a wide range of ideas about property to the mix. The European feudal tradition made property contingent on grants from the monarch. Vassals held their land, known as a “feud,” on condition of providing service and homage to the lord above him. William the Conqueror brought feudalism to England, redistributing English estates to his supporters in 1066. (Nine of these received almost all the land in England.) The king could reclaim his property if the feudal tenant failed to comply with his obligation, committed treason, or died. In some parts of Europe this absolutist conception of property rights as dependent on the state survived relatively unchallenged. In Property and Freedom historian Richard Pipes ties the lack of political and economic liberty in tsarist Russia to the weakness of property rights in that society.

A second tradition, more friendly to liberty, also existed in Europe, one which saw property as independent of the monarchy and the state. Particularly in England, but also among groups of thinkers ranging from the Spanish Scholastics to those in the Dutch Republic, many Europeans saw property as a natural right. While Americans are most familiar with John Locke’s statement of this argument in his Second Treatise, continental writers including Hugo Grotius and Samuel Pufendorf also developed influential natural-rights theories of property. Among the colonies in America this idea took strongest root in the North American English colonies. In particular, the Puritans argued that land was held not of the king but as a gift from God alone. As a result, the owners of these “allodial” (the opposite of feudal) land holdings owed no service to any lord.

American colonists from Britain brought with them both this natural-rights heritage and a significant set of common-law principles dealing with property in general and property in land in particular. In his 1765 essay “A Dissertation on the Canon and Feudal Law,” for example, John Adams argued that American land titles were not feudal. And Thomas Jefferson, in his 1774 instructions to the Virginia delegation to the Continental Congress, “A Summary View of the Rights of British America,” went even further, linking the colonists’ allodial titles to Americans’ “Saxon ancestors” who had held their land “in absolute dominion . . . disencumbered with any superior.” For Jefferson and many others, the Norman Conquest had produced only a temporary exception to the English tradition of liberty and allodial ownership rather than a permanent reduction in rights.

Further, even with respect to the feudal institutions introduced by William the Conqueror, British land law had evolved—and the point that it evolved rather than developing through pronouncements from on high is important—into a complex set of arrangements that enabled individuals to engage in a wide range of property transactions. Land originally held “of” the king and transferred from generation to generation only by the king’s grace became a commodity that the owner could sell and leave to his heirs without permission of the Crown. By the 1700s the evolution of English property toward more marketable forms had reached the point that the idea of an individual having a freehold estate in land independent of the government was both philosophically well grounded in natural law and practically established in property law.

Evolution Was Not Inevitable

How did English property law come to evolve in this direction? There was nothing inevitable about an evolution toward property rights, as Russia demonstrates. Pipes has documented how Russian property rights withered under the sustained assault of the tsarist autocracy, leaving Russians dependent on the central government’s forbearance rather than independent of the state.

There was no grand liberal design by the English aristocracy behind the evolution of property rights in England. Rather, two factors appear critical. First, the English crown was relatively poor and so dependent on the aristocracy for regular support. Even successful English monarchs like Elizabeth I struggled for funds. Elizabeth, for example, left her successor, James I, a virtually empty treasury containing only £200 and 3,000 dresses. Crucially, it was not England that was short of resources but the monarchy. Indeed, James, coming from impoverished Scotland, termed his arrival in England “a Christmas time” because of the far greater wealth he found there. This dependence forced even absolutist English monarchs such as the Stuarts to summon Parliaments and to regularly concede power to them simply to obtain the resources necessary to rule.

Second, England had a competitive system of courts. Multiple jurisdictions existed, including common-law and equity courts, merchant courts, and canon-law courts, each seeking business from litigants. This competition bred independence, giving litigants a fairer chance against the Crown in litigation than in many other European states. Further, the competition among courts allowed lawyers opportunities to develop tactics that brought their clients greater security of property rights. Indeed, legal historians agree that the primary focus of medieval common law was land law, what William Camden, a Stuart-period historian, summed up, saying, “[T]he declaring of the meum and tuum [mine and thine] . . . is the very object of the laws of England.”

The result of this combination was supremacy of law. Parliament, courts, and lawyers regularly pushed the boundaries of royal power back, expanding liberty by protecting property rights in the pursuit of the resolution of private conflicts. The monarchy’s need for cash forced England’s kings and queens to repeatedly acquiesce in limits on their power. In both cases, because land was the key form of wealth, the result was strengthening of property rights and steady evolution toward higher estates.

The highest estate, and the form in which American land came to be held almost universally, was the fee simple. It included rights we often take for granted today but that were hard-won rights of Englishmen: the descent of land to the heir without reversion to the state, perpetual tenure, complete freedom to transfer by contract or will, the ability to change the use of the property, and freedom from “incidents uncertain,” making the state of title known at the time of transfer. The ultimate result was, as Jonathan Hughes has written, to turn the American understanding of property “inside and out” by making property rights so complete that the Fifth Amendment did not even bother to specify the content of the rights it guaranteed.

Of course, Europeans brought not only natural-law justifications of property rights but also philosophical critiques of them. Both the Jamestown colonists and the Plymouth colonists initially attempted to hold property in common. In Jamestown land was to be held and managed collectively and each colonist was to receive an equal share of the colony’s production regardless of his contribution. Two-thirds of the initial 104 colonists died of starvation and disease before the first winter, and the population, after soaring as hundreds of new colonists arrived from England, plummeted to 60 after the winter of 1609. When Governor Thomas Dale visited the colony in 1611 he found living skeletons bowling in the streets while fields went untended. After Dale partially converted the communal lands to individual three-acre tracts in 1614, productivity increased seven-fold. The remainder of the communal land was privatized by 1617.

Similarly, the Plymouth colonists began in 1620 with communal land and were near starvation when land was privatized in 1623. As William Bradford noted, the change “made all hands very industrious, so as much more corn was planted than otherwise would have been.” Taken together, natural-rights theories, legal doctrines, and practical experience combined to give the American colonists a strong sense of the role of private property rights in ensuring their survival and prosperity.

Competing Claims to Property

The problem of establishing property rights in the New World rested not only on the relationship between individual and monarch but also on the relationship between monarchs. As Europeans began exploring the continent, competing claims to property in the Americas quickly appeared. Not only did various Native American tribes hold claims to different areas (and sometimes more than one had a claim to a particular area), but the European monarchs had conflicting claims to various territories. Individual European settlers also began to assert claims based on both the fact of their settlement or their own contracts with native peoples. Desiring to avoid conflicts over the new territories, the European powers reached an accord dividing much of the Americas among them. Spain and Portugal negotiated a partition of territory (based on a division by Pope Alexander VI). European powers more generally recognized a rule of discovery, granting to the European power that first found a new land the right to determine how to acquire the territory from the native inhabitants, whether by conquest or contract. The implementation of this principle varied from country to country. Britain generally prohibited individuals from making their own bargains with the native peoples, while France permitted such bargains.

Despite the claim to rights based on discovery, British colonists often acquired land by contract. For example, almost all of Massachusetts was acquired by purchase from local tribes. The primary exceptions there, Salem and Boston, were uninhabited areas, having been depopulated earlier by the diseases the colonists unwittingly brought with them. Although the British crown claimed the sole right to negotiate transfer of land rights from the Native Americans, many colonists thought otherwise and regularly made individual arrangements with various tribes to secure land. Such contracts led to one of the seminal cases in American land law, Johnson v. M’Intosh, an 1823 Supreme Court opinion by Chief Justice John Marshall that is still a foundation stone of law-school property classes. Although Marshall unfortunately sided with the state over the individual in that case, the principle of self-initiated land transactions proved hard to eradicate and continued as a means of establishing private property rights well into the nineteenth century as the frontier moved westward.

As noted, while European settlers brought their ideas about property to America, they also encountered something new here: vast tracts of fertile land. To acquire a parcel, one needed only to head west past the settled edge, find a desirable spot, possibly contract with a local tribe, and then build a farm. Instead of Europe’s scarcity, America offered abundance. In 1800 an English laborer had to spend a third of his income to rent ten acres, while an American farm laborer could rent the same amount with only 1 percent of his income.

This abundance was not costless even if no cash had to change hands. Property-law casebooks used in the first year of law school often begin with a quote from John Locke’s Second Treatise—“In the beginning all the world was America”—most often as a way of introducing the question of how property rights are initially established. However, Locke’s point was not that America was unowned but that property’s value depended on there being a means of storing value to encourage trade. In a world without money, he asked, what value would there be even for the best land? “[W]hat would a man value ten thousand, or an hundred thousand acres of excellent land, ready cultivated, and well stocked too with cattle, in the middle of the inland parts of America, where he had no hopes of commerce with other parts of the world, to draw money to him by the sale of the product? It would not be worth the enclosing, and we should see him give up again to the wild common of nature, whatever was more than would supply the conveniencies of life to be had there for him and his family.”

Only then did Locke say, “Thus in the beginning all the world was America, and more so than that is now; for no such thing as money was any where known. Find out something that hath the use and value of money amongst his neighbors, you shall see the same man will begin presently to enlarge his possessions.”

Locke’s grasp of Native American societies was questionable, for as noted earlier there is ample evidence that Indians had both well-developed property systems and measures of value. However, his central point that property was valuable only to the extent it was embedded in a market economy, where the goods produced on it could be exchanged for other goods, is critical to understanding the role of property in the economy.

The economic impact of secure property rights comes about because property makes possible positive-sum transactions between individuals. Those who own property will hire labor from those who do not, enriching both parties through trade. Likewise someone with property suited to growing apples will exchange with another whose property is suited for growing corn and is likely to do so on the property of a third person that is situated at a convenient crossroads between the apple orchard and cornfield.

Land’s abundance in America also offered an important limit on the power of government. Fixed assets such as land have traditionally been vulnerable to expropriation and confiscatory taxation because it is hard
for their owners to escape the state’s grasp. In colonial America, excessive taxes could be readily evaded by moving west. Because property owners could move more readily than they could in Europe, American governments were constrained in their ability to tax.

America’s vastness also offered enormous opportunities for land speculation. In Our Enemy, The State, libertarian writer Albert Jay Nock wrote that “land-speculation may be put down as the first major industry established in colonial America.” While speculation can serve an entrepreneurial role, rewarding those who see possibilities in undeveloped land, it can also all too often become yet another exercise in political rent-seeking. Unfortunately, in many cases, land speculators in the New World were able to turn to governments to gain access to land resources or to locate valuable state institutions in such a way as to increase the value of their lands.

Property on the Frontier

English property concepts and law thus survived their transplant to American soil. Indeed they did more than survive; they thrived. As settlers pushed further west into new territories, they were faced with the problem of establishing property rights far from “civilization.” They did so repeatedly, expanding first the colonies and ultimately the United States westward, as Jonathan Hughes put it, cutting settlements “into the wilderness primarily by privately motivated frontiersmen making small family farms acquired by purchase or homesteading.”

After the Revolution, the new federal government faced the problem of determining how to govern the western territories the states ceded to it. Although it took until after the War of 1812 to finally settle all the U.S. land claims with Britain, even before then, American territory was advancing through the 1803 Louisiana Purchase.

Jefferson devised a system for the new lands, embodied first in the Ordinance of 1784 and then in the Northwest Ordinance of 1787. Not only did the ordinance create the mechanism by which territories could become states, it also explicitly guaranteed property rights. Following English law, the Northwest Ordinance provided for intergenerational land transfers both by will and by contract, with provisions that took into account the frontier difficulties in registering deeds with distant officials. The Ordinance also promised “the utmost good faith” toward the Indians, including within that term “that their lands and property shall never be taken from them without their consent; and, in their property, rights, and liberty, they shall never be invaded or disturbed, unless in just and lawful wars authorized by Congress. . . .”

Like many other aspirations of the new nation, the Northwest Ordinance’s promises of fair treatment for Native Americans were ultimately unfulfilled, and the division of land in the Northwest Territory had its share of fraud and corruption. Ultimately, however, the combination of European notions of natural rights, the transformed and transplanted English common law of property, and American conditions led to the land’s distribution into private hands with secure titles, forming the basis for the expansion of a free society westward.

When the modern Peruvian economist Hernando de Soto set out to discover why some nations were rich and some were poor, he found that the legal and economic experts he consulted could not satisfactorily explain the success of the West. One reason, he determined, was what he termed the “missing lessons of U.S. history.” These lessons are not simply American, however, but universal lessons from history. What de Soto discovered was that the experts had failed to recognize the centrality of secure property rights in the development of the United States and the West in general. Rather, they mistakenly believed that prosperity grew out of the thicket of regulations and rules that exist today. Recapturing those missing lessons is important if we are to avoid inadvertently destroying the foundations of our freedom and prosperity. What then are the lessons of the colonial experience with property rights?

The first is simple: property matters. The second is the power of ideas. Property rights derived from British law and natural-rights philosophy developed into stronger, more effective guarantees of liberty over time. First in Britain and then in America, ideas introduced into the law evolved beyond their original, limited scope. Though gradual, this expansion of property rights ultimately produced a significant force for liberty.

Third, institutions that facilitate positive-sum transactions flourish. Such institutions produce peaceful and prosperous societies, a combination that is no accident. Property rights instantiate no particular vision of how property is to be used, leaving that to individual property owners to determine through voluntary transactions and so reducing social conflict over resources. Individual ownership in turn creates a powerful incentive for entrepreneurs who, envisioning a new, more valuable use for a piece of property, may purchase it and realize the gain. Change occurs peacefully in such circumstances because it is a byproduct of trade rather than the result of the decision of an autocrat. That peace and prosperity flow from property is the ultimate lesson, one that too few remember today.

As the day waned the activity didn’t cease, though it did slow down. The vendors of vegetables went home. Now the streets were perfumed with the aroma of boerewors (sausage) on the grill. Walking down the streets well after dark, I was surrounded by food vendors hoping to cash in with those looking for a late-night snack.

These vendors are among the first memories I have of living in Africa. Not only was I in Africa, I was in the most densely populated area on the entire continent–the Hillbrow section of Johannesburg. Those vendors were a key element of the life in Hillbrow. Some even say they were responsible for its demise. Today Hillbrow is a slum, filled with prostitutes, drug pushers, illegal aliens, and rundown buildings. But just ten years ago it was the center for the chic of Johannesburg.

The hawkers were blamed for much of the demise because their stands were run down. Each day they left behind growing piles of rubbish and rotting food. Just walking down the sidewalk became impossible as each square foot was crammed with more and more hawkers as the weeks went by.

The honorable attempt to make a living had become a nuisance. As the politics of South Africa changed, government enforcement of hawking regulations changed. At first the new government attempted to curry favor with the hawkers and no regulations were enforced. As time went by the central business district became a no-go area. The luxurious Carlton Hotel closed its doors and 50 floors of hotel rooms now sit empty. Even the Johannesburg Stock Exchange fled Johannesburg for the cleaner affluence of Sandton. Where I once walked well past midnight I refuse to enter in broad daylight. As the inner city crumbled the government fluctuated between strict enforcement and no enforcement of the hawking laws.

But whatever sins are ascribed to the hawkers, can you really fault them? In a nation of over 40 million, less than 25 percent are employed–a problem exacerbated by new labor laws. Sidewalks were designed for pedestrians not for street trading. Yet without street trading, the hawkers’ children would go hungry.

Anger would flare up over the hawkers, and to this day the conflict continues, since even now the sidewalks are considered public property or a commons. Economists have written of the “tragedy of the commons,” and this is just one more example of how communally owned property is overexploited in ways that end up counterproductive for just about everyone.

Even the litter problem is a problem of common ownership. Economist Walter Block has noted that litter is something that takes place only on public property. Sure, trash is thrown down on private property open to public use–places like shopping malls, ballparks, and movie theaters. But in those venues the owners, instead of sending police out to give tickets to litterers, send out cleaners. Cleaning is just part of doing business.

But the world of street trading lacks property rights, and that brings a plethora of problems. The traders have no property right to their stands and know that they may be evicted at any moment. Periodically battalions of police sweep down on them and confiscate their goods and their stands. As a result, the traders never bother investing in decent trading stands. Any old piece of cardboard on the ground will do. Anything else would represent an investment they couldn’t afford to lose.

Hernando de Soto noticed the same problem with street traders in Peru. He wrote: “The threat of eviction always hangs over street vendors, especially when there is traffic congestion or growing pressure from residents. Practically speaking, this rules out any long-term investment in improving the location, forcing the vendors to keep selling from barrows rather than from stalls made with proper building materials and equipped with running water, electricity, refrigeration, storage, display space, or any of the other facilities that permit the supply of a steady volume of merchandise. The installation of such improvements as toilets, parking lots, or gardens would be impracticable.”¹

One solution for the conflict that arises when competing interests attempt to grab a commons is privatization. As I have pointed out before, the only alternative is the use of authoritarian measures, such as police enforcement, fines, and confiscations.²

Property Works

In one area of Johannesburg the private solution has been tried and is working. Private management districts have been created by business owners in attempts to solve the problems. One such district is just down the road from me, the Rosebank Management District (RBMD).

There was a hawker problem there. A small stretch of Craddock Avenue runs between the Mall of Rosebank and a few smaller malls across the road. Some 140 hawkers crammed into this two-block area. Attempts to restrict the amount of sidewalk used were fruitless since once the enforcement stopped, hawkers would capture as much space as possible for themselves. Pedestrians were often forced to walk in the street. Just one person stopping to look at a curio for sale would block the walking space that was left. Each hawker, acting in his own rational self-interest, had engaged in behavior that collectively was detrimental–all because no one had a right to the property he was using.

The RBMD had a solution. First, the street itself was ceded to it. The street was closed off to through traffic. Second, most of the street was turned into an outdoor area for the public. A two-story market for street traders was built and a private flea-market firm was hired to run the premises. Some 60 street traders were then chosen to occupy the building at minimal rent. Just below the building, where the hawkers used to trade, the RBMD has traditional African dancers putting on regular shows. Restaurants in the area have tables outside. The district, which was starting to run down, has become a major tourist attraction.

The RBMD also hired a team of security guards and cleaners. With improved security, shoppers, formal traders, and hawkers benefit. In addition, the city no longer has to worry about cleaning up, as the RBMD takes care of that as well.

Previously, conflict was inevitable, because clashing incentives were allowed to operate. Once the informal traders were brought into a market system with property rights, formal and informal traders could cooperate for mutual benefit.

Another way to end the commons is the creation of street-trading stands. Here specific sites are established, and traders who operate there are given ownership of the stand itself. By granting a property right in the land they are using anyway, the city can create a new set of incentives for street traders.

Under current law, each stand represents dead capital: its value can’t be used properly because it lacks legal recognition. Throughout the Third World, as de Soto has so aptly pointed out in The Mystery of Capital, there exists vast amounts of dead capital.³ Informal housing without title, underground businesses, street traders–all represent a portion of the Third World’s dead capital. Legal recognition alone would create vast amounts of wealth almost over night, wealth the poor could tap into for expansion and to create further wealth.

Transferable Sites

A property-rights system allows transfer of sites. Current trading regulations amount to a law of capture. A trader can use a site provided he has grabbed it before other traders do so. But transferring sites under such a system can be difficult, since the traders have no property rights. This creates economic stagnation and makes it difficult for street traders to take advantage of an evolving marketplace. It will quickly become apparent that not all sites have equal economic value for all traders. If traders have property rights, they will be able to arrange site usage according to economic value. Some sites will increase in value, and just as formal businesses sort themselves out according to profitability in a specific location, the same thing will happen with these street traders as well. In Peru, de Soto discovered that extralegal systems of property ownership eventually evolved allowing vendors to sell specific sites. And like all products, the sites varied in price.

Flexibility in usage could also mean that one vendor might use a site in the morning while a different vendor uses it in the afternoon. Exactly such flexibility was noted among the informal traders by de Soto. He writes:

It is not unusual, for instance, to see the pitch occupied by the breakfast seller in the early morning hours who then, around 9 or 10 in the morning, makes way for the juice seller who, at midday, makes way for the lunch seller who, after four in the afternoon, is followed by the vendor of herbal remedies, who later gives way to the vendor of Chinese food, who stays until the end of the day. These shifts enable a single barrow to operate like a large store, maximizing its commercial value. On their own, the different vendors offer only a small range of goods and services. When proximity does not operate satisfactorily, they try to improve it by establishing shifts, adapting the barrow’s use to the different demands of consumers as they arise in the course of the day, thus exploiting the location’s commercial value around the clock.⁴

The creation of property rights will also change the behavior of street traders. It gives them new incentives to improve their businesses. It allows for investment that is currently discouraged. And it permits the transfer of business rights. Such a system of property rights will help move informal traders into the formal arena. Instead of being a dead end, street trading could become the incubator for vibrant, growing businesses. An entire class of entrepreneurs could be created, with all the benefits such individuals bestow on society.

A property-rights approach induces not only greater flexibility but also more efficient policing of trading areas. Local management districts know their areas. They know who should or should not be on a specific site. They are aware when a trader is causing problems for other traders and who is responsible for refuse problems. So they are better able to micromanage specific street locations. A mega-city with millions of people and tens of thousands of streets can’t possibly compete in flexibility with such localized management.

In Lima, Peru, the city government came to recognize that attempts to ban street trading were useless. The city government then decided to create specific market locations for street traders. But according to de Soto, the municipality “did not try to monopolize the building of markets. On the contrary, with the agreement of the central government, it exempted anyone interested in building such markets from paying taxes and even fees for building permits, and it even established more favorable rules for vendors’ organizations.” The result was that between 1964 and 1970 informal traders “built four markets for each market built by the state.”⁵

Street traders represent the beginning of what de Soto calls “a long march” to capitalism. When hampered and harassed by government, the natural evolution of property rights is prevented. The result is decline and decay. But when, instead of controlling, government acts as a protector of property rights, then street trading is the first step toward prosperity.

Notes

1. Hernando de Soto, The Other Path (New York: Harper & Row, 1989), pp. 66-67.
2. “Liberty, Property and Crime,” Ideas on Liberty, November 2001, p. 11.
3. Hernando de Soto, The Mystery of Capital (New York: Basic Books, 2000).
4. De Soto, The Other Path, p. 67.
5. Ibid., p. 81.

Several recent books have raised our awareness of the dramatic role that property plays in economic development and in freedom. Tom Bethell wrote The Noblest Triumph, a readable, broad survey of the role of property in economic development. Then Harvard historian Richard Pipes wrote Property and Freedom, inspired by his study of Soviet Russia.

The latest of the property trilogy is Hernando de Soto’s The Mystery of Capital. De Soto runs a free-market think tank in Peru and was widely hailed for The Other Path, which made the case for free markets in less-developed countries. His new book showcases a multi-country study of how difficult it is for poor people to get legal title to property in various Third World countries.

Where most of the land is government-owned, poor people become squatters. In America, we build a house and then add furniture. In the Third World, poor people reverse the process, putting simple belongings on a piece of unoccupied ground. If no one disputes their claim, a bit of a roof follows. As time goes by, and as the neighbors come to recognize the newcomer’s property, a regular structure will be added. Over time, not only do the neighbors recognize the squatter’s property, but also informal local organizations may “register” the ownership—unofficially, of course.

But what if the squatter wanted to acquire legal title to the property? In the Philippines, de Soto shows, it would take 168 steps, and 13 to 25 years. In Haiti, it’s 111 steps over 11 years. Egypt looks like a hotbed of freedom with only 77 steps that could possibly be completed in six to ten years.

As a result of these difficulties, legal title is not sought, and this type of property is called “marginal.” The research team that de Soto led estimated the size of the marginal sector and found that it’s anything but: “In fact, it is legality that is marginal; extralegality has become the norm. The poor have already taken control of vast quantities of real estate and production.” In fact, de Soto estimates that four of every five rural Peruvians live in untitled property, with similar figures for other countries. A shanty may only be worth $500 or so, but the shanties add up. In Haiti, the value of untitled property is estimated at $5 billion, four times the value of assets of all legal businesses in the country!

Again, the broad conclusions hold across all the countries studied. The lesson is that poor people can accumulate capital, but without legal title they cannot fully exploit their assets. De Soto shows that property has several uses. Not only can it provide a dwelling, but it can also provide collateral. Where legal title does not exist, however, its collateral value is limited.

Throughout the world, extralegal organizations have formed to register property. De Soto cites neighborhood business organizations, residents’ committees, farming conventions, and so on. Those organizations recognize and document extralegal property claims. “We did not find a single extralegal plot of land, shack, or building whose owner did not have at least one document to defend his right—even his ‘squatting rights.’” The limitation, though, is that there is no good source of information for outsiders who might lend money based on the extralegal collateral. The potential lender will also not know whether the local property-recognizing organization would recognize the lender’s lien. The government typically does not want to surrender its own title to land, and the economic elite may also have claims to land occupied by squatters. The result of conflicting claims is that no one can realize the full value of the property.

Hernando de Soto has done a great service by demonstrating that the poor people do have property and can accumulate capital. But the poor cannot realize their potential because of the conflict between their real but extralegal claims and the unreal but legal property systems. Taken with the fine books by Bethell and Pipes, The Mystery of Capital demonstrates that property rights must never be taken for granted.

William Conerly is an economic consultant in Portland Oregon, and chairman of the Cascade Policy Institute.