Dead Capital “Dead capital” is Hernando de Soto’s term for an asset that cannot easily be bought, sold, valued or used an investment. Despite obvious poverty in the informal sector, de Soto’s work shows that even those who live in slums possess far more capital than anyone realizes. These possessions, however, are not represented in such a way as to make them fungible assets. Dead capital cannot, therefore, create value for the poor.
When you step out the door of the Grand Hyatt in Jakarta (or the Sonesta El Olivar in Lima, Peru, or the Sheraton in Tirana, Albania), what you are leaving behind is not the world of icemakers, televisions, Internet and antibiotics. People in those cities have some access to those things. What you’re really leaving behind is the world of legally enforceable transactions and property rights. In the cities of the developing and post-Communist world, the legal infrastructure for mortgages and identity documents is woefully underdeveloped. Such is true even for people that might strike us as relatively wealthy.
The best single example of this is a home.
The developed world has devised a formal property system of titles, title registries, and inclusive property law that includes real estate used for homes or businesses. We in the West take that system for granted, probably because it is invisible to us. De Soto shows that this is in a large part why some nations are rich while others remain in poverty. He says:
With titles, shares and property laws, people could suddenly go beyond looking at their assets as they are — houses used for shelter — to thinking about what they could be—things like security for credit to start or expand a business.
These legal frameworks are a fairly recent development in human history. For example, widespread use of legal property documents goes back only a few hundred years in Europe. Even less time for the U.S. Less still for Asia.
The moment Westerners were able to focus on the title of a house and not just the house itself, they achieved a huge advantage over the rest of humanity.
When purchasing a home, an open records system enables buyers and sellers not only to gauge the value of homes in nearby areas, but to set reasonable prices based on comparative values. Clear titles and title insurance give buyers the confidence they need to complete a purchase. No clear title? No sale.
The system also gives banks the assurance they need to offer a mortgage. The bank will hold the official title, or deed, until the home has been paid for. But home mortgages in the developing world are rare. A title may seem like a simple piece of paper. But a title is paper with power. It represents a real house (or land, a factory, a car, etc.)
In both the developed and developing world, homes are most people’s main asset. Thus, we in the developed world can even get home equity loans. In fact, 64 percent of all small businesses in the US were started using funds derived from home equity. Of course, small businesses are a key driver of the US economy.1
This is not the case in the developing world. Home equity loans are exceedingly rare. In fact, for the vast majority of buildings on this earth there are no titles. These structures are still their owner’s largest asset, but because it’s difficult to prove ownership, it’s difficult to make one’s assets work for him.
The poor of the world — five-sixths of humanity — have things, but they lack the process to represent their property and create capital. They have houses but not titles; lands but not deeds; businesses but not statutes of incorporation.2
Eighty percent of the people on earth are not able to represent their assets in a manner that makes them widely and credibly transferable. As long as the assets of the majority are not properly documented and tracked within a legal system, they are effectively invisible to the marketplace. Developing world entrepreneurs will be unable to convert their assets into working capital.
The Poor Are Far Wealthier Than Thought
Now you might think that the value of these homes in slums and poor countries of the world do not amount to much, but you would be wrong. ILD teams have spent decades measuring and quantifying the value of these assets all over the globe and the figure they come up with is immense: almost $10 trillion.4
In every country we have examined, the entrepreneurial ingenuity of the poor has created wealth on a vast scale—wealth that also constitutes by far the largest source of potential capital for development. These assets not only far exceed the holdings of the government, the local stock exchanges, and foreign direct investment; they are many times greater than all the aid from advanced nations and all the loans extended by the World Bank.5
De Soto believes that, “Without formal property, no matter how many assets the excluded accumulate or how hard they work, most people will not be able to prosper in a capitalist society. They will continue to be beyond the range of policymakers, of the reach of official records, and thus economically invisible.”6
De Soto’s experience with legal reform in Peru shows that, though it is by no means a simple task, establishing an inclusive property rights system and enabling people to at long last title their properties has had many economic benefits.
By the start of 2007, over 3,200,000 properties were titled for 13 million Peruvians. This last figure is about the same as the number of Peruvians in poverty.7
Political commentator Jaime de Althaus says this of the ILD reform efforts:
The program that has had the most success is the legalization of property titles. For example, in Lima, 98 percent of the properties have been properly titled…and this has had some interesting effects, for example in the development of mortgage credit.
References:1 SBA Office of Advocacy, Small Business Lending in the United States. http://www.sba.gov/advo/stats/lending/1994/bk_int94.html.
2 de Soto, Hernando. The Mystery of Capital: Why Capitalism Triumphs In the West and Fails Everywhere Else, New York, NY: Basic Books, 2000. pp6,7.
3 Ibid. p36.
4 Ibid. p36.
5 Ibid. p159.
6 de Althaus, Jaime. La Revolución Capitalista en el Perú, Fondo de Cultura Económica del Perú, Lima, Peru, 2007. p64.
Editor’s Note: Much of the content of this page is from de Soto’s book, The Mystery of Capital: Why Capitalism Triumphs In the West and Fails Everywhere Else, New York, NY: Basic Books, 2000.