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Do Globalizers Get Globalization? [Rush Transcript; Federal News Service]

Speaker: Hernando de Soto, President, Institute For Liberty and Democracy
Presider: Jeffrey R. Shafer, Vice Chairman, Global Banking, Citigroup Global Markets Inc.
June 4, 2008
Council on Foreign Relations

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New York, New York

JEFFREY SHAFER: Good evening. Council meetings always start and end on time, and I want to keep up that time-honored tradition tonight. My name is Jeff Shafer, and it's my privilege to welcome you to this evening's Council on Foreign Relations meeting with Hernando De Soto.

This meeting is part of the C. Peter McCullough Series on International Economics, which is presented by the Council's corporate program and the Maurice R. Greenberg Center for Geoeconomic Studies. And just to mention, too, the next meeting of the McCullough series is going to be next Tuesday, June 10th, when the Council will have Richard Fisher, who's the president and CEO of the Federal Reserve Bank of Dallas and a participant in the FOMC. I can't remember whether he's a voting member or non-voting member right now this year. But that should be interesting as well.

I want to give you the usual reminder that everybody here adheres to, to turn off your cell phones, BlackBerrys and other wireless devices -- I've done mine -- and also to make you aware that this meeting is on the record. Sometimes Council meetings are on the record. Sometimes they're off the record. This one is on the record.

Okay, this evening we have as our speaker a person that we're going to exchange views with, Hernando De Soto, who's the president of the Institute of Liberty and Democracy. Mr. De Soto is an economist. And when I first met him about 13 or 14 years ago when I was at the U.S. Treasury, I was very shocked to meet an economist who thought that there was social value in lawyers. (Laughter.)

And he has devoted much of his time and thinking about how legal structures, property rights, are important to the development process and to the attack on poverty. And he's done this despite having a whole series of important operational jobs, including being an economist with the General Agreement on Tariffs and Trade, president of the Executive Committee of the Copper Exporting Countries Organization, CEO of Universal Engineering Corporation, which at the time was continental Europe's largest consulting engineering firm, and is a principal of Swiss Bank Corporation's Consultant Group and a one-point governor of Peru's Central Reserve Bank.

Currently, together with his colleagues at the ILD, he's focused on designing and implementing capital formation programs to empower the poor in the developing world. And that's what he's going to talk to us about tonight.

He has talked to 30 or more, by now, heads of state about the ILD programs in their countries. And also, unrelated to this, he is the co-chairman, along with former U.S. Secretary of State Madeleine Albright, of the Commission on Legal Empowerment for the Poor, which has just presented its report.

So with that, I know we're all very interested to hear what Hernando De Soto has to say. And then afterwards I will join him up here for a discussion. Thank you. (Applause.)

HERNANDO DE SOTO: Thank you very much, Jeff, for your introduction. I'm very glad to be here at the Council on Foreign Relations. And indeed, I will talk to you not necessarily about what we do but the conclusions that we've come to in our work, the work of my organization in Peru, as we started internationalizing about 10 years ago.

This has, of course, very much to do with the Commission on the Legal Empowerment of the Poor that I co-chair with Madeleine Albright, because it's about the same thing. It's what we have learned as we've traveled throughout the world, trying to find out essentially how you integrate an extralegal economy into the mainstream economy or how you bring both sides together.

And as time has gone by, as Jeff was saying, we did find some redeeming qualities in the law, at least, if not in lawyers, and found out that this is it. This is it. I mean, a market economy and globalization is essentially about the rules of the game. It's about rules. It's nothing else than rules.

And the question is essentially the following one: Since the end of the Second World War until today, the world has grown more than it has in the previous 3,000 years. So there's something to be said for the system. It really is a fantastic system.

The problem is the equity side. For some reason, though this is happening, there is a massive movement against globalization throughout the world. We see it wherever we go. And the reason we get called in by heads of state -- I mean, we're a puny little Peruvian organization stuck in the corner of the world -- is because we've got this view on why the rules aren't working, not for law and order, but for the rule of law.

And we have found that studying the extralegal economy or the shadow economy or the black economy, whatever you want to call it, actually gives us an enormous amount of information on what's missing, because the legal, extralegal economy, is the one that is not connected by law through the rest of the world, through contracts, through any other form of international relationship.

And so that is basically what has led us to try and understand why the rule of law that is embodied in the concept of globalization isn't working. And the conclusion we've come to -- these are the things I will treat briefly as an introduction before I sit down with Jeff, and then I suppose we're going to get questions and answers and we're going to be having a dialogue with you -- is -- and we've tried to frame it this way, if you want to intellectually -- is that the way it all starts off is when the feudal systems, the patrimonial systems and the tribal systems of the West start breaking down.

As they break down, the old order, the vertical order, disperses. Governments throughout the world are upheavaled. Nothing remains the same. And the world walks into the 19th century hand in hand with the Industrial Revolution.

Now, when you ask the classics, "What was it that was going on?" the classics will tell you, "It's the division of labor." From Adam Smith to Marx, they said, "We're dispersing. People are becoming specialized." That's when Adam Smith comes along and talks about pins being done much better when the work is specialized. Somebody buys a wire. Somebody stretches the wire. Somebody draws a point on the wire. And then you're able to make many more times more pins than you are if you're one person doing the pin.

As a matter of fact, if you look around this room, or even if we were in a hut in Tanzania, there's absolutely nothing in that hut, nothing here, that's ever been done by one person. Everything takes many people to do. And so the division of labor was the way the 18th century ended and the way the 19th century began.

And then the economists that looked at this since then went on sort of a funny assumption, which is, "Now, how is all this dispersion, division, the fact that even to make a pencil" -- this is what Milton Friedman used to talk about -- "to make a pencil, that you've got lead that comes in from Sri Lanka, but it's brittle and you need Candelilla wax from Mexico to soften that. You need wood from Oregon to put the pencil together. You need erasers that come from petroleum of Saudi Arabia. The pencil is united to the eraser by a little strand of metal that is made with zinc of Peru, copper of Chile and black nickel from Nigeria. All these things come together. How do they come together?

Well, neoclassical economists have generally sort of assumed that there was perfect knowledge, that these things just come together. And we think that how will they come together actually gives us a solution of why developed countries since the end of the Second World War, in spite of China and in spite of India, have actually grown five times more during that time than developing or former Soviet Union countries, and (our ?) elites in developing countries have grown much more than the people much lower on the pyramid, has a lot to do with answering that question.

And the progress made in different disciplines has been much greater. Philosophers have been dealing with the issue of dispersion and how things come together. Kant began it about 300 years ago when he started saying, "We talk much better. I mean, the reason we have vocal chords and the tips of our tongues and our teeth and our lips is not because we are going to issue noise; it's essentially because the objective of all these things is to make commitments and get to know and work with each other."

Wittgenstein said the same thing about language. The purpose of language is to make that coordination possible. And then all basically Anglo-American analytic philosophy, it is to talk about what forms unity, greater unity. A typical example was the one of Hubert Reil (sp), who started talking about the student who had gone to a university and he'd walked. He'd seen the campuses. He'd seen the buildings. He'd seen the libraries. He'd seen the fields. He'd seen the classrooms. He'd seen the laboratories. And he asked, "But, hey, where's the university?" And the university is, of course, not things. The university was the relationship between things.

And then in come Marshall and Friedrich Von Hyck (sp) and say, "You know, we are understudying things. We always study entities and we never study the relationships of things." And relationships are a category apart, and we study them the way the philosophers are studying as categories apart. And the trouble, of course, about relationships as opposed to things is that you can't see them, so you have to embody them into other instruments, which we call legal instruments. That's where we think it's at, and that will explain things.

I mean, relationships are the beginning of all wonderful things. The kiss can lead to the making of a baby, a slap in the face to a war, and a handshake to the end of the war. So relationships are something very special. But we haven't really analyzed them as an important category, considering that we're a (plural ?) world.

The natural sciences have gotten a little bit closer to that. The natural sciences have gone around and said, "Yes, you know, there are things. For example, our bodies are made out of atoms, and the atoms go into molecules and the molecules are made into cells and the cells are made into organs, and the organs are related to each other to make a person, each one of us.

And then the question, of course, is, if you just had a bunch of cells without defining how they're brought together, you won't understand the human being. It's not just atoms. And they got very close, because they discovered DNA and they said, "Now, DNA is the blueprint that brings things together."

So the question that we've begun asking ourselves, as we travel throughout the world, doing very concrete projects in developing and former Soviet Union countries -- we're beginning work now with Russia and with the Ukraine; we've already begun with Albania -- but it's pretty much on lessons we learned in Peru and we learned in Mexico. It's not very different, because it's about the rule of law. It's about relations much more than actual atoms and things, is we started asking ourselves, to put it presumptuously, "What's the DNA of market development?"

And our conclusion is that there's probably, like in everything, lots of stuff. There's education. There's all sorts of stuff. But then the question, to be more precise, would be what are the missing parts that nobody seems to be looking at? And we find that they're not really in the world of global sciences, that they're really much more in the world of national legislation.

In other words, the pivots on which globalization works for some and doesn't work as much for the rest is within national legislation. And we talk about two concrete things, property rights over assets and property rights over intangibles and contracts, which is basically the law of corporations.

And the reason we give enormous importance to this is because I will now make a list of those aspects of the law that we think have got the DNA of a successful system of international exchange or even national exchange. And these are these corporation items and these property items.

I will list them now, but let me tell you some of the results that have happened as we've worked for different heads of state throughout the world. When we worked for President Fox and gave him a report just before he left the Mexican presidency, it said that the companies in Mexico that actually had firm property rights over their tangible assets and had companies that had limited liability, perpetual succession, one central control, and the capacity to issue shares, were no more than 7 percent of all enterprises in Mexico. When it came to Peru, it's only 2 percent. In Albania, it's 1 percent.

I can keep on giving other countries, but I'd like to reduce the amount of enemies I've got to a minimum, if possible -- I generally try and concentrate them in Peru -- but to a very small amount of actually business organizations that have got the tools with which you can get identified or you can make an international transaction, which is the reason why people who are very much against the globalization system nearly won the elections in Mexico, nearly won them in Peru, and definitely won them in Venezuela, in Ecuador, in Bolivia and in Nicaragua.

How? Well, first of all, property rights is not only just about ownership. Without property rights, you do not create credit. Credit is about, as the word indicates, credibility. Credit has to do with -- (inaudible) -- in Latin, which is "I believe in you and I will loan to you, because you have something to lose." If that thing is clear within the law, money will be produced. It's about capital.

I mean, we're now getting huge investments in Peru because we're behaving very well. But how do we get them? Well, we did a bilateral investment treaty with the United States and with just about every important economy in the West. And there we have clearly determined how property rights become international and how any concession that we give a foreign company will be guaranteed, validated and enforced many times.

How does that happen? Well, first of all, the Peruvian property right is given the place. But in addition, it is confirmed by Parliament. Moreover, the bilateral investment treaty also says that if there is any discussion regarding that property right in Peru, the decision will not be made in a Peruvian court. In other words, you don't have to fear about our corruption. It's going to be done outside, in a language that you can understand. So our property right goes away from us to a certain degree.

It also says that anything that has to do with labor legislation will not be moved even by the Peruvian congress. And it says the taxes that you're going to get, which is another way of expropriating everybody, are going to remain absolutely stable.

Moreover, when this is signed, the American or European investor can go back home and get a few additional guarantees on the guarantees he's already obtained from us. He will go to MIGA or she will go to MIGA and, at the World Bank facility, get an additional guarantee. And then they will go to OPIC and get again another guarantee.

Now, with a property right that solid, you can then go into the market and say, "Boy, do I have a property right for you." This is stamped, secured. You know, and if it doesn't work, in the worst of instances, there will be some kind of a gunboat right in front of Peru. It's really as secure as you can imagine it is. And naturally, of course, the investment produces itself. And Mr. Bernanke then, if the investment is $3 billion, will issue that amount, whether he knows it or not.

So, in other words, what according to us creates the capital is the property right. You wouldn't get the property right -- you wouldn't get the capital if you didn't issue the property right. How the connection actually works internationally still remains to be defined. But money is issued against rights.

I had a very interesting conversation sometime ago when your excellent Federal Reserve Bank invited me to have a -- the president invited me to have a conversation, Mr. Alan Greenspan. And I said, "Can I have a quick dialogue with you and something I can share with other people?" And he said, "Sure."

And I said, "Tell me, how do you issue -- how do you know how much money to issue in the United States?" He said, "Well, I've got to find out how many transactions take place. I've got to find out how many people are actually going to make transactions, how much credit they need. And according to that, I issue that amount of money." I said, "How do you find it?" He said, "Well, it's relatively simple. I look at the markets." "Yeah, but," I said, "who does it? Is it the central intelligence services?" "No, they don't work for me. They're not that good anyhow. I have to really look at it another way. I go to market."

I said, "When you go to market, you're talking about something like, for example, the Chicago Mercantile Exchange?" He said, "Yes, that's what I'm talking about." So I say, "Well, what is it? Is it John Wayne coming in with 10,000 head of steers, selling it in Chicago?" He said, "No, it doesn't work that way anymore. I go in with people, go in with pieces of paper that they trade." "Property rights paper?" He said, "That's right."

So I said, "Imagine a country where 80 percent of the property rights are not on paper. How does that work then?" He said, "That's a very good question. We'll have to think about it." Yet that's the situation of us developing countries. So no property rights -- it's not only about ownership; no money, no money according to your own Federal Reserve. At the end, you issue money against guarantees of some sort or other.

So if we were capable in developing countries of issuing the kind of guarantees and the kind of paper that actually reflects what exists on the ground in a form that can be digitalized, we could also create our own capital. But we're not there. So if you have countries like Egypt, where 89 percent of the assets -- and we've worked for the Mubaraks, and we put 120 people working on the field in Egypt -- if you have 89 percent of all the homes and 91 percent of all the businesses that are not on the record, that's -- you've got the houses but you don't have the capital. You've got the houses but you don't have the credit. You've got the houses but you don't have the identity. You've got the homes but you don't have a capital.

And the same thing happens if you're talking about food shortage. I mean, everybody now wants to do something about food shortages, and the ambulances of the West are out. But the real important thing, aside from saving the moment, has to do with how are we going to produce more food.

And we know that there's 1.5 billion hectares of the world producing food. But according to the (FAO ?), there's 2.7 billion hectares that lie idle, and 90 percent of them are in Latin America and Africa, and none of them are titled. And if they're not titled, how are they going to get the credit that is necessary to start clearing the rocks, getting the channels into place, getting the irrigation?

You know, putting water into place isn't just like that. You've got to plan for it and you've got to amalgamate his three hectares with his three other hectares, and the property rights have got to be fungible. And when they're not on paper, they're not fungible. They're just pieces of dirt.

So whether you're talking about credit, capital, food and shortage, if you don't have property rights, you don't have another thing that's crucial, which is addresses; no property rights, no addresses. How are you going to deal with somebody on the other side of the world you've never seen before if you don't have an address, information on them?

We always used to (say ?) the same thing about "Miami Vice." You are all familiar with that program with two very good-looking American cops who are generally after a Peruvian or Colombian like myself. During about one hour of the program, as they start chasing you, they go in. There's a beautiful blonde, and the beautiful blonde says, "De Soto, that rat. He's at here -- 101 Ocean Drive." And now they go after him, and then they get to 101 Ocean Drive, and this brunette comes out and says, "353 Stewart Street," and they're after him. One address after another, you catch them.

The guys who did this terrible thing of blowing up the twin trade towers, you caught all the guys who were here in the United States. I mean, they got recorded in their airplane training. They got recorded in their motels. They got recorded at the hotels. The guys you didn't get are the guys in caves without addresses. You cannot control, you cannot guide, you cannot govern, without addresses, and therefore without property rights.

So it's not a conservative message. It's just a fact. And the same thing goes for corporations. Corporations essentially -- and this is the important part, and with this I am ending, and I'll stick to the 15-20 minutes we talked about, at least, not one second beyond the 20. Sorry, it's a Latin American problem; we talk a lot.

It has to do with the following thing -- corporations. If you read a series of very important economists and businessmen in the West, especially at the end of the 19th century, which were already mentioned, they were the ones who did the fantastic thing of setting up the legislation and the regulation that allowed dispersion that takes place through the division of labor to come into one hand. They're the people who created the corporation, because -- and they said it very clearly, whether it was James Dudley Smith in the United States or Coquelin (sp) in France or the people -- (inaudible) -- joint stock exchange, the joint stock companies in Britain, they said, "As we disperse, it is absolutely necessary to now create for civilization a new organization that can bring the strands together. We've got the political parties. We've got the families. We have got the churches. But we don't have the corporations."

Until about 150 years ago in the United States, before you could create a corporation, you needed an act of Congress. And in Britain, you needed a charter of the king. Somewhere about 130 years ago, you created these vehicles whereby you no longer needed it. You'd just record. And all of a sudden you had companies where the hierarchies became different from families.

It doesn't mean that families didn't own corporations, but it meant that if they did, they were going to run them on a very different basis. You go to Peru and you go to most of our companies and you walk inside and you say, "I want to see the boss," and a guy with a big black mustache comes out. He says, "I'm the boss." You look at him and you look at his wife and you understand that maybe it's his wife who's the boss, and maybe it's the mother-in-law. In the States, you know who's the boss. In Europe you know who's the boss. You know who's the senior (fellow ?) and who's accountable for what and who will end up in jail if they don't keep their word.

So the idea of these separate hierarchies were crucial. In our countries, you said, "Oh, you can have microenterprises. It's all right. Your tribes have every right to do it. We know what it means to persecute native people. We won't do that." The result is 5 percent of our production units have got limited liability in different hierarchies.

How can you expect those people, without property rights, without different hierarchies, to even get into the global economy? And, of course, it will trickle down somewhat. The problem isn't whether the poverty line is reduced. The problem is relative wealth. Who gets wealthier than other people? And that creates resentment; as Marx would have said, alienation.

And limited liability -- it's a total legal creation that you actually enforced and made universal in the United States already by the end of the 19th century. What does it mean? It means you don't have unlimited liability. It's great. It actually means I put $100 here and I'm responsible for $100. It created your capital markets. It meant that you can invest in something, you can lose all of it, but that's what you're going to lose.

When you have unlimited liability, which is what 95 percent of our companies have in Peru, it means when you lose your first investment, you continue to lose, because you are personally liable the way you guys were in the 18th century, the 17th century and the 16th century. And that's why you couldn't create capital markets. You had perpetual succession. So I go to Macy's, so I go to Saks, I go anywhere, I don't care if Mr. Saks has died. When you do business in Peru with 95 percent of your companies, you'd better find out if Mr. Sanchez died, because when he dies, he dies. Your companies have a separate life, as if they were religion, and they keep on going.

So in conclusion, what we're finding out is that a very important part of western history, which is what you did from the 1850s on, and you transmitted to Japan, you're not transmitting anymore. It's not really in your foreign aid program. It's not really in your transparency programs abroad. There's a part of law which isn't law on the books but law in how it actually helps people on the ground organize themselves, which is missing in developing countries. It's not in place.

And it's not a problem of looking through a telescope -- "Do I have companies?" It's a problem of looking into the microscope. It's like DNA. Why do you look the way you look? And, boy, you look just like your grandpa. It actually comes by looking through a microscope, not by looking through a telescope. And it's little things like unlimited liability, perpetual succession, property rights, records, hierarchies, that are crucial to make markets work.

It's the same thing with information technology. Information technology will now help us all understand each other better. Sure. It'll help you guys, because before you can digitalize something, you'd better have it paperized. I mean, that's all computers do. They digitalize what's paperized. But what if 95 percent of the property rights in my home are not paperized? How are you going to do it? Have you ever seen a computer that can just suck information out of the air? It's not in place.

So if the law doesn't come into place first, information technology revolutions go only so far. And it's not as if the western world wouldn't know how to do it -- (inaudible) -- know where it's going to go. It's that they always look at us in a different way. So when you go to Europeans -- I've just now made a presentation for the Swedish Parliament -- they said, "What's wrong with our foreign aid program?" I said, "There's nothing wrong with what you do for foreigners. It's just that I'd like you to do for us sort of white-yellow-beige people, cafe au lait, the same thing you do for pink people."

"What do you mean by that?" "Well, what I mean is that when you deal with other Europeans, you give them -- (inaudible)." "What does that mean?" Spain, for example, who had a GNP per capita the size of Argentina's in 1978 and is now five times the size of Argentina's, what did the Europeans do? They came in and said, "You've got your own way of doing property rights. We're not going to give you the German way, but we're going to (comb ?) it so that it fits the rest. We're going to make sure your corporations and your contracts look like each other."

When it comes to us, we get PL-480. We get microcredit. We get a lot of things, but we don't get the things that help us make relationships. And that's where it's really at.

Thank you very much. (Applause.)

SHAFER:  Well, Hernando, that was a very broad picture that you have painted. My sense is that with people in this room, you were probably very largely preaching to the choir. The rule of law, property rights are essential infrastructure for economic success and development.

I guess the question that follows immediately from that, and it's really where you ended, is, okay, so how do you get that where it isn't? And it doesn't seem to grow spontaneously everywhere, and for reasons that are still one of the great historical debates that seems to have started somewhere in England in the 1600s and spread some, but not universally.

And the question is, you've had a lot of experience in different countries. And maybe you could pick an example or two. I'd be particularly interested -- you referred to the fact that you were working in Russia, and Russia is a place where whatever traditional sense of property and rule of law had existed was torn up in 1917 and destroyed for several generations. So they started over again in 1990 with absolutely no sense, orientation, of what was needed.

What is involved in the process of establishing property rights, rule of law, and the other elements of corporate law that you talked about, where there's no understanding or sense of tradition to support and underwrite them?

DE SOTO:  Well, I'm going to mention, without referring to -- it is somebody within the former Soviet Union, that isn't Mr. Putin, since that would be a violation; that's the last time I'd get a contract -- of what happened. It was somebody who had traditionally talked against globalization and talked against property rights, as a head of state with whom I had a four-hour conversation before we actually began and got contracted.

And I had told him everything that I thought, you know, that should happen. And he said, "Good. Let's start cracking. Let's start working." And he'd been very aggressive throughout the whole -- he was very intellectual, and he had been very aggressive throughout the whole conversation and said -- so at the end I thought I had a legitimacy with which to say, "Now, can I ask you one question?" He said, "Yes, of course."

I said, "You know, you've said all these things against property rights. You've said all these things against international corporations. Yet here we are going to help you establish them. Why in this case are you saying nice things, and why before have you been against these things?"

And he thought about it and he said, "Because you're not theological about this." Okay, in other words, I don't come around and say, "This is a tradition. This is the way the individuals create it." I talk about how these particular systems and legal contraptions actually solve concrete problems, number one.

Number two, I addressed his most important constituency, the one that keeps him in power or keeps him out of power, which is the people on the street. So I don't tell him, "This is good for foreign investment." I tell him, "This is good for your people." Then they catch on, because that they can understand.

Foreign investment is a big thing. And it's also not necessarily that important. For example, the figures that we established for Gamal Mubarak in Egypt indicate that just the value of shantytowns in Egypt, the real concrete value in cement and bricks and iron is about $260 billion. That is 55 times greater than all the foreign private direct investment in Egypt since Napoleon left. So foreign investment is important, but it ain't that important, quite frankly. You've got it at home. The problem is that it isn't capitalized. It isn't fungible. It isn't liquid.

So the moment you address it in terms of the problems he faces every day, aside from the ones mentioned in your newspapers, which is how they relate to you, it's the ones that keep them in power, because if they're democrats, those are the people who are going to elect them. And if they're dictators, that's the constituency that's going to keep them in place, depending on whether they go out in the streets or they don't go out in the streets. So that's one aspect of it. That's one aspect of the whole thing.

The second thing is that this has been done before. You know, when we studied U.S. history and we studied your U.S. parliament and how your states organized themselves, how California authority -- (inaudible) -- authority reacted after 1848 when 800 mining claiming associations had been built in California at gunpoint -- first of all, getting a territory that wasn't yours, but a fellow Mexican's, but that's another story -- once you went in there, once you went in there, how did you convert all that extra legal and informal property into the system that Arnold Schwarzenegger governs today and that's got a GNP the size of all the rest of Latin America? What did you do?

Now, we studied what you did, but it has very little to do with what your foreign assistance programs do today. So what to us is very interesting is not you as much as your great-great-granddaddies, because then you had put it together. The incredible thing about a market economy is once you get it together and once it gets humming, you don't have to know the genesis.

So the other thing we tell people we're talking to is, "Look at the Americans in the 19th century, look at the Americans and Japanese between 1945 and 1952 in Japan, where they converted a feudal system that had a GNP per capita lower than Peru's or Brazil's -- I mean, that's why Fujimori came to Peru, because we were richer; that's why Garcia didn't go there. (Laughter.) That's why the Yoshiyamas (sp) went to Brazil and Lula didn't go to Japan. We were richer than they were. They may have had a powerful navy and army like, you know, Saddam Hussein, but they weren't a very rich country.

But you went in there. You did a fantastic job under MacArthur of getting the Japanese to move toward the market economy. Study that. The West has had great moments in history. It has a problem. It doesn't remember. So you're (alone ?), but you've got the history to look at.

So to give a reply, the question is, how do you put together legal experts that understand the genesis of the rule of law, because it's been done. I mean, don't get into this kind of thing that you're racially superior or that your religion is better than others. You actually had a formula to get it together, and it was very practical. And because it got humming along, you sort of forgot about it. The important thing is how to remember it.

So one of the projects, for example, we have is with Ashraf Ghani and now another one with the UNDP, another one with the University of Colorado, another one we're cooking up with -- (inaudible) -- which are the MITs of Europe, of Central Europe, which is how, in the case of Ashraf Ghani, it's called the Kabul-Lima program that has now just been financed, which has been approved by the Afghan government, which is, as we know what a failed state looks like, how do we create career paths among our university professors of law and economics to study and book up and create a culture based on the genesis of the law as opposed to the law today?

You've got to tell a professor that he can become dean or chairman of the university by studying all these quaint subjects; otherwise they're not going to do it. So we're there. That's how we think we can move towards that, and then create a body of knowledge that reminds us of your birthright.

SHAFER:  You have to have the laws. You have to have the judges. You have to have the legal scholars and the lawyers. You also have to have a public who understands the system, who can live within it and knows how to deal with it. We're right now in this country going through a serious problem, because there's a large part of the population who clearly didn't understand the relationship between property and the debt-carrying capacity that went with that property.

And this is the kind of concern, I know, that comes up often and we criticize it. Okay, you give people all the property rights in these shanties. They won't know what to do with it. They'll be taken advantage of. They'll make bad decisions. How do you deal with that? How do you get people ready to deal with the opportunities and the choices that you've never given them?

DE SOTO:  It has a lot to do with the genesis. You know, let's put it this way. You know, when you talk about this crisis in the United States with subprime and all of that, compared to any problem in the (developing world ?), it's peanuts. And you're starting to say, "This year we may only grow at 1 percent."

Hey, I mean, that's a little bit like when you say there was an earthquake in Iran, in Bam, about 15 years ago. It was about 6.9 on the Mercalli scale. About 160,000 people died; same thing in California, I think, five years earlier, and about six people died, because earthquakes don't kill people, buildings do. And so if you've got buildings that are badly structured that haven't been done according to regulations because the property rights aren't in place to demand standard (weight ?) of building, more people die than the other way around.

So when you talk to somebody in a developing country about a property right, they know very well that once they have a property right -- and they don't need to get a Ph.D. in this -- if they're about to sell to somebody because they've got to leave because they got a better job elsewhere, whatever reason they do, they know that the price of a house will quadruple if you've got a piece of paper.

I mean, at this moment I'd say, "What a wonderful building you've got here, the Council on Foreign Relations. I represent the sheikh of Qatar, and we would like to buy it. And how much is it?" And you said, "Well, it's $150 million." "This is fine. Can I have the title, please?" And you said, "There's no title, but all the neighbors know we own it." I wouldn't even pay for that. (Laughter.)

So your subprime crisis are peanuts. What we do know is the following thing, that there is such a thing as the economic cycle. And the economic cycle means that when you're dealing in macro numbers, sometimes you don't get it quite right, and you find once in a while that your institutions -- (inaudible) -- to be perfected. And I open your newspapers, and every day there's an editorial on what you should do, but nobody's responsible. But who should be doing this? You criticize people. Political fortunes are collapsing. Names are being smeared. You're going to get there. It's okay. You're rich enough. It's okay.

SHAFER:  Maybe it's time to open up now and see what kinds of questions we have from the group here. Let's start in the back, next to the last row.

QUESTIONER: I'm Dan Sharp (sp) with the Rule of Law Forum of the World Justice Project.

You've been carrying this important message for some years around the world, very dramatically, very effectively. Can you give us a specific example where a country has followed your advice? And what were the changes that resulted from following the approach that you're proposing?

DE SOTO:  Well, the advice has actually been followed. Thank you for your question; it's an interesting one. I find it very difficult to answer. Let me explain why. It's because when we begin, when we get started, after a while our clients, when they seem to understand, ask us to leave. And it's hard to follow what happens afterward.

I was saying something because it publicly came out in an article recently in Russia, which is that the first time we met in the Kremlin at the request of President Putin and had our first conversation with him, about four hours, with his staff about three, they sent a team to Peru. They picked up whatever we had to do, and we didn't see them for three years. And then we've just recently seen them now.

As I said, by the way, here are about 50 articles, President Putin mentioning the importance of the work of the ILD. Here is a TV program. Here's a state of the union address where he says that "This is interesting experiences that we've gotten from other countries. And, last but not least, this is the institutions that we've created to create a property rights system, and we've already titled, according to the formula that you talk about 350,000 dachas. But now we're stumped."

That's the first time we've started finding out that we're getting places.

The South Africans sent teams to us about seven years ago. We still haven't heard from them. We've got a researcher in South Africa, and we found about -- some interesting things -- legislation, regulation; not going fast enough, as far as we're concerned. We pity -- we're sorry we didn't call, because we could have gotten them, we think, to go much faster. And we found out that the ANC, the African National Congress, has actually got a statement that's called Dead to Live Capital, which is part one of our logo. So it's there, but we don't know how they got this.

The other day I was invited into China to a Chinese meeting, and I was presented as the grandfather of the rural reforms in China, and I don't have the faintest idea. So the way we see this kind of thing is the following. We go in. If we're successful, there's a moment where we get dropped and things start happening. And it is absolutely logical that the political authorities don't want this to be the brain child of some foreign group, especially these Peruvians, the Inca empire.

What is all this? We just get pushed to the back. I mean, they don't even like to be told that North Americans told them. They take ownership, and we let them go. And the problem is that we're not that well-funded an organization. We'd like to put more money into following up what are the results of our projects.

We do have some very concrete results, for example, in El Salvador, which had the same problems we did in Peru in fighting subversive movements inside our country and where property rights issues were absolutely crucial to actually winning those wars and settling afterwards their problems.

There we've got some quick results, (if you want to ?). But in most countries we actually move to, we don't know what's happening. So it's a little bit, I would say, compare yourself to a professor. You know, "Hey, there's Bill Gates. I remember I used to teach him. From where I taught him to where he got, I'm not too sure he (got there ?)."

SHAFER:  But take the one case that you do know -- (inaudible). Once you get this in place, is it stable, or does it come undone?

DE SOTO:  Well, so far in Peru, it's stable. It did the following things. The reason it came into Peru was, unfortunately, it's like when it hurts, you go to the dentist. So in the case of Peru, what we were able to find out is that the Shining Path was obtaining the loyalty of the villages in which it operated because essentially they protected the assets of the poor, including the coca growers.

We found out that this was a lesson that -- (inaudible) -- might have learned in China, where Mao Zedong, as he came down from Manchuria, basically started giving rights, collective rights albeit, but rights, anyhow, to the peasants over the landowners that he later assassinated, and that Ho Chi Minh had followed the same sort of pattern.

So when you are able to tell this to the Peruvian government and inform them concretely and the Peruvian military, all of a sudden, all those who objected to property rights system on (anthropological ?) grounds -- "This is what Peruvians do; this is a Peruvian that's educated abroad; he doesn't really follow our (stuff ?)" -- all those arguments were swept aside because we had to win the war.

So we went in and we titled where the Shining Path was. We actually made them simply non-operational. It was crucial to winning that war. These property rights have come into place. The World Bank has done assessments on it. The Princeton University -- 20 people have done assessments on it. The value of homes that have been -- or homes or buildings that have been titled have gone up on average 40 percent more than those -- considering that many of these are on garbage dumps but have gone 40 percent more than those that haven't been titled. Practically all the people that receive microcredit, or a great amount, are actually titled by us.

In every place that there's titling that's taking place, 28 percent more kids get educated, because now the mother can go away. Her perception of reality is different. Nobody's going to take over the home when she's away. She's now got a title. She's now on record. And therefore the kids can go to school now. They don't just have to stay at home. There's 28 percent more education. So there are very concrete results.

We have hard time following them, because it's not that easy to distinguish between what the law did versus what neighborhood the title was giving them. It's very fuzzy.

SHAFER:  Right here.

QUESTIONER: Dan Levine from -- (inaudible). Thank you.

When you began, you said that you were interested both in property rights and assets, and also what I think of as contract rights, rights in contracts. And when you continued -- maybe this was because it was a 20-minute speech and not a two-hour speech -- you spoke mostly of the advantages of enforceable rights in property.

I think of them as two very different things; that one is you can -- based upon the old article about property rules versus liability rules, property rules you can exclude people from what you have a property rule or property right to, whereas a liability rule you can get damages if somebody infringes upon it.

So in terms of being able to borrow against or generate capital, being able to attract capital, it seemed like, from what you were saying, property rules are key. And I would think that for that reason, perhaps, they're prior and the first step in progress, and that contract rights or liability rules should be secondary.

And if that's not the implication that you were trying to suggest, why shouldn't it be? Because a liability rule one can perhaps enforce through reputation or other means. You don't necessarily need to have the government stand on your side and say, "This is yours and nobody else can take it away from you."

DE SOTO:  Well, you're right about the two-hour speech. It would have been a lot better if we got closer to an hour and a half. But more or less it works this way.

In reality, when you move in a developing country or a former Soviet Union nation, to help that part of the population that is outside mainstream law, to have access to mainstream law, what you find are families or groups of families that live in certain places which are not protected by property rights rules.

But in these homes, they're like your homes 200 years ago or 150 years ago. There's a home and there's an industry in there. So if you want to bring them inside the law, it's not enough to say, "I'm going now to bring your home as a property right inside the law," and so take the piece of paper and just keep it under the mattress if someday you want to evict them or they can take you to court and they'll stop it. But they won't come inside the law, because inside the home, there's also an industry -- the sewing machines, all their skills. They're still cottage industry.

To move the industry out of cottage, you had to go through the Industrial Revolution, when you started getting economies of scale and you started finding out that you could divide labor into long assembly lines. So both things actually come together. You've got to give them the tools to consolidate their home and to consolidate their business. I separated the stages because I don't know how to talk the subtitles at the same time. But they really do come together.

And there's another way of looking at this, which is some things are property rights over tangible assets, and certain things are property rights over intangible assets. So, for example, if you consider that a company or a corporation is nothing else than a group of contracts, you actually don't need the corporation to have all the things that you were talking about. You could just have it in law.

The reason why you have the corporation is it's just a tool kit. It all comes together and it's much easier. You don't have to make a separate contract with everybody to make sure you've got limited liability. It all applies. All you have to do is read the code. You just pick it off the shelf.

So that's one other way of why we call everything property rights. It depends how you want to explain it. But to us it's all the same thing, because you're not going to get them to -- (inaudible) -- the legal sector just because you title them. You see, once you did your Industrial Revolution, and then people moved into the market economy, you could then take your authority and separate the people who do the titling, the property, the title insurance, the guys who do the mortgages, the guys who do the guaranteeing, the guys who do the underwriting. You can separate it out and you separate out the guys who do -- (inaudible). You know, you can do all of that.

The problem with that, of course, is that once you decide for an assistance program for a country like mine, you get (one guy ?) who's a fraction of the solution. The interesting thing was that Jefferson (foresaw ?) the whole thing, but he's dead. So we've got to do that ourselves; so basically to tell you that both things matter and they have to come at the same time, because in that coverage there's home and there's industry.

SHAFER:  And it does seem to me that it is closely related, as you (did ?) in the title of the speech, to globalization. And you don't need all this when you're dealing with even division of labor in a community that's small enough where everybody knows each other and interacts. But once you want to trade with people you don't know, then you need all the -- you have to know that you own what you're trading and you have to know what rules are going to apply and how you're going to get paid. And then this infrastructure becomes completely critical.

Let's go over here.

QUESTIONER: Jim Solgenat (sp), Aaron Fox law firm.

One of the issues here would seem to be how you measure progress, how you measure success in achieving the rule of law relevant to investors. How would Citibank choose between Ecuador or Bolivia, for example? What factors would you look at in measuring progress towards achieving rule of law?

DE SOTO:  Well, there's the traditional ones, which are already in practice by the World Bank and the IMF, so let's say what would we add to that? I would really add to that to see how many of all -- how much of people that are employed by extralegal companies -- for instance, companies that don't have all the tools I talked about -- because there's a tendency, of course, when people have learned about law -- for example, for us Latin Americans to go out and bring everybody, one way or another, inside the legal system. So we say you've got a right to a company that doesn't have limited liability, doesn't have perpetual succession, doesn't have -- (inaudible) -- but it's a company.

All right, so you've got to make a distinction between the toothless shark and the shark with teeth. So I would go about finding out, you know, if there are 60 percent of Mexicans who don't have the tools to bring assets together, to combine, because that's essentially everything we've got around us; it's a combination of hundreds of things. So if you combine, you own the thing.

You can be like Switzerland. You don't have the cocoa, you don't have the milk, but you can bring it all together. You can be like Japan. You don't have the iron, you don't have the coal, but you can bring it all together. It's they who bring it all together and get their wealth. They skim it right off the top.

So the thing is, who can do the skimming? Who can bring that together? So I would very much look at the issue of property rights. I would try and find out, "These are the kind of numbers we're trying to get into place," that the World Bank has taken up in some of them, which is how many people do have property rights so that they can be recognized, so that you can follow them?

I mean, the first thing that allows you to actually track somebody you've never even seen or met is because you go into records. You can follow track records. The moment you've got records of property rights over businesses or records over transactions, you can follow paths. I mean, that's where you get all your information from. So if it's not in place, you don't have any place to track.

I would look at property rights records over companies and I would look at property rights records over tangible assets, and then find out how many of the companies are really in there. Why? Because if you have got a country where most of the people are within the legal system, they're going to understand, one way or another, that this is good for them.

Let me put it this way. A Latin American, any Latin American, even the cousin of Hugo Chavez, knows that a market system works better than the other one. Why? Because the moment you ask him to migrate, he won't go to North Korea; he'll come here. It's easy. (Laughter.)

The issue is that while he's still in Venezuela and he isn't getting any of it, he gets angry as all hell. Okay, so the important thing is to get a majority of the population in that country that actually believes in this thing because they touch it, because he sees that maybe he doesn't get it now, but a generation from now it will get there, and it will get for his kids; you've got a stable country.

SHAFER:  Yes.

QUESTIONER: My question -- (inaudible) -- Structured Credit International.

My question is regarding how do you move to the holistic approach that you're talking about? This is being done, as you said, by people who are specialists -- World Bank, IFC. They have a huge program, and we have bid on this, to help create legal infrastructure for Nigeria in housing finance. But the issue you're talking is not just housing finance. It's fundamental property rights, much broader, although the application is in housing finance.

So how do you institutionally get your message to be magnified, to be implemented at a more, let's say, larger scale and more effective continuing level to address the problem that you don't have continuity in countries?

DE SOTO:  Well, what we try and do in every country that we work in, when these projects get taken -- and we've learned with our mistakes, of course -- is that when we get called in by a head of state, we tell them the big problem is continuity. And so we talk to him about -- we've only started doing this in the last two years.

In every project we talk about, we've created training programs for where we tell the strategic committee, whatever they call it -- in the case of Mexico, for example, the way it started off under Fox -- it yet has to consolidate itself -- it consisted of three members of government, including the chief of staff -- (inaudible) -- the equivalent of their White House. It included the minister of Finance.

It included the heads of the main three universities, the two television channels, the biggest newspapers, La Reforma and a couple of other ones, and the main thinking school -- (inaudible) -- et cetera, the idea being that they are institutions that will survive elections, and they will devise the strategy of how to play this out in Mexico as time goes by.

So that's why we like working with heads of state, because they will always understand -- if they call us, they have understood that they have a historic role to play. So the general idea is, how does this keep on going even after a president? Because at the beginning, they'll want to sort of solve their short-term problems. I mean, they want something that produces results in one or two years.

But you've got to create a body that allows them to figure how this goes on before and allows them to bring in some members of the opposition so that this continues. That's what we're doing at a country-to-country level. How well it will work, we'll see as we go along. It depends very much, of course, on who they choose to integrate that committee. I mean, Fox was a very generous man with a broad vision. They're not all like that.

How you do this at the level of international financial institutions, I have no idea. International financial institutions to me are very much like private companies. They take what they want. They (steal ?) what they want. They don't --

QUESTIONER: (Off mike.)

DE SOTO:  I'm very glad to hear that. I have no idea what they're doing.

SHAFER:  Over here.

QUESTIONER: Thanks. I'm Bruce Shearer (sp) from -- (inaudible).

Before you talk, you mentioned briefly the subject of education. And I wonder if your work in this area of formation of capital can be applied at all to the formation of human capital? What have you learned? Are there any parallels?

DE SOTO:  Yes, of course, human capital is important. We just haven't gone into that because we know that there are people like yourself that are dealing with that issue. We've chosen that issue, (where ?) there doesn't seem to be anybody. But, of course, education is extremely important.

And one of the reasons my talk mentioned this program that we are now going to establish, the Kabul-Lima thing with the Afghans -- we already signed a memorandum of agreement. We're starting to implement it with the University of Colorado. And the ones that we've begun with European universities all have to do with how we begin curriculums with what we've learned.

How do you put, you know, thinking people to look at these curriculums so that teachers can be formed and then teachers can form other people who want to understand the genesis part of how you bring in the law. The idea is to create an interest in that, not only to confirm the things we looked at -- I mean, we must have looked at a very small part of the landscape compared to what a well-structured education program can do. So I think what you're doing and what education can do, but at the end it's all about training people that understand that and are able to remember why the West became the way it was, which is important to understand with a particular focus, because if you study that at the same time that you study the situation as it developed in country, it allows you to select from those parts of your history that are the most important.

You see, when you write your history like any nation that writes its history, you basically write for those -- for your readers and whatever they're interested in, which is not necessarily what we're interested in. So it's very important -- for example, we're talking about shantytowns -- to write about shantytowns in the 19th century, when Marx described Europe as one big rural slum. And the issues of "Oliver Twist," these were the people that he was trying to mobilize. So focus on that, you know.

California, with its gold rush and all its legal claims to just about everything and how you put them together, that's crucial to us. The 33 times that your Congress, with preemption acts, went against your Supreme Court to recognize ways of appropriating people's assets through means that were not yet legal but were on the way to be legal, recognized that all -- I mean, when you started off, your president, President George Washington, described to his lawyer the kind of people taking over his farms. Two-thirds of his farms had been run over by what Washington called -- (inaudible) -- he used the Italian word "banditti." He called them bandits.

But you keep on reading American history, 40 years ago they were pioneers. So something happened. You guys started saying, "Well, I can't fight these bandits. I've got to find a way of brokering deals with them. How did you do it? That was crucial. 1836, you've got this wonderful speech by Abraham Lincoln, then a congressman, who was in Springfield, Illinois, addressed this -- I don't know (if it was a youth movement ?) -- he says, "I am -- (inaudible). I have been moved to tears coming into Springfield, because as I've gone in with my horse and buggy" -- he was a congressman at the same time -- "I was unable to see the sunset for the amount of corpses hanging on trees as a result of (shooting ?) property rights (problems ?), like Spanish moss. When are we going to learn to live by the rule of law?"

When he said that, what he did, that's the part that I, as a Peruvian, want to know, because that guy at that time was addressing that specific issue. But you look at the first texts of our history, you don't get it there. You've got to go to the secondary, you've got to go to the third one, and then you get what we and the Russians want to know.

SHAFER:  That's a very interesting point about how do you make it happen, because that is a great puzzle. Everybody knows where you want to get there.

One last question, from over here.

QUESTIONER: Thanks. John Chambers, Standard & Poor's.

Just another question on reversibility. How much risk is there of property rights being reversed? And if you can speak to your own example of Peru, I'd be very interested.

DE SOTO:  Well, I think the important thing to understand is that before you come in with the rule of law understood as western-organized and systematized law, which is what everybody in the world seems to be going towards, you're not landing on the moon, where there are people. We're no different than (ants ?) and we're no different than (bees ?). We've got something going on.

So, in other words, if you head to a Turkish shantytown or you head to an oil town near Baku in the former Soviet Union, somebody's got something organized. It's already in place. In other words, a social contract has already taken place. I use the examples in my book about the idea of -- which is when we started being called in by the Indonesian government; they asked the question, "How do you know who really owns what?" I said, "Well, I've been walking Bali, and it's a wonderful place." And what you do is basically walk. I mean, it's so beautiful that you just walk and walk and walk and see all this beautiful agriculture and this landscape.

And you know when you've gone from one person's property to another person's property, because a different dog barks. There's an order there. As Carl Gustav Jung said, if you want to understand plants, you can't just understand the blossoms. The blossoms come and go in summer and they go away in winter. What's important is the rhizomes, what's underneath.

So the way we create property rights over tangible real estate, which is one of the things we do -- it's a basic one, because that's where it all starts -- we actually go in and document the existing system. It's there. They've got the rules, and in most cases have actually got them written up. And then, on the basis of that agreement among themselves of who owns what and where their dogs are barking -- and they've even got ledgers and they've even got chalked up -- I mean, it was very interesting; when the property system came into Japan in 1946, as they went into the feudal regimes to find out, you know, who owned what -- you know, the (pongs ?) owned stuff and the freemen owned stuff -- you see the photographs of the Japanese putting chalk on lines that they always knew existed so they could be photographed, and the titles were given.

All of this was being supervised by an American called Wolf Ladejinsky, who later on disappeared from U.S. history as he got persecuted by Joe McCarthy. That's another story. The fact is that it's all there. The chalk has got to be put into place. If you do that, you have touched the rhizome, the social contract. Then it sticks.

SHAFER:  Well, thank you very much. You've stimulated us all. (Applause.) We encourage you to keep up delivering this message to people around the world.

DE SOTO:  Thank you, Jeff. Thank you, everybody.

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