Sunday, January 30, 2022

Dysfunctional Institutions Hinder Wealth Creation

Insights from Niall Ferguson's The Great Degeneration which I started writing about yesterday.

"A Postmodern Man"
Understanding (past) Western success helps us understand more urgent questions about the recent past, the present and potential futures. 

Nogales, bisected by U.S-Mexican border, is an example of how differing economic and government institutions produce different outcomes for the masses. The difference in living standards for the two halves of the city is shocking. 

Similarly, Germany and Korea have been object lessons in the disparity of outcomes that occur based on the institutions that rule them. South Korea and West Germany had Capitalist institutions. North Korea and East Germany had Communist ones. The divergence in outcomes "within a few decades was enormous." When the walls came down in Germany, many Western observers were eager to see how far behind East Germany was from it West German counterpart. The consensus expectation was that GDP in East Germany would be about 70-75% of West. The pundits were shocked to find East German GDP to be 35% of the Germans who experienced freedom and Capitalism.

Botswana in Africa illustrates how wealth and growth can take place when its people are not plagued by corruption or civil war, like what has been occurring in the Democratic Republic of Congo. The difference in wealth between the two Sub-Saharan nations was directly related to the institutions that ran them.

Ferguson cites The Mystery of Capital by Peruvian economist Hernando De Soto, who analyzed the barriers to wealth that bad institutions erect. 

In Lima, Peru, we see a diabolical dilemma that occurs in many places around the world. The problem is that though the poor living in shanty towns have a lot of property, it is not legally recognized as theirs by the governing officials. Getting legal title to a house or workshop is near impossible. To get a permit for a garment workshop on the outskirts of Lima took 289 days. To get the legal documents to build a house took six years and 11 months, during which time they were forced to deal with 52 different government offices. 

In short, dysfunctional institutions force the poor to live outside the law. The amount of real estate owned but not legally held by the poor of developing countries is more than 9 trillion dollars. This is pretty much dead money because if they owned their properties they could borrow against it and leverage it to generate more wealth.

DeSoto's research in cities around the world demonstrates that wealth creation has less to do with cultural differences than with the establishment of good legal structures and property rights. As one reviewer notes, "This book clearly states the importance of legal property ownership and the value of using the equity of owned real state to have access to capital." Or as Ferguson puts it, "Only in a working system of property rights can a house become collateral and its value be properly established by the market."

* * * 
Later in the book Ferguson details how institutions have slowly become barriers to economic development in this country. He cites the example of a lemonade stand in New York City that took six months to get permits and approvals from the innumerable city gatekeepers. 

Here in Duluth we have a similar bundle of barriers. One contractor whom I spoke with recently said, "I'm so frustrated with the city that I won't do business here any more. 99% of the problems come from City Hall." He told me it took three months to acquire a permit to raise a (garage) foundation two feet. "In Hermantown (an adjacent city just over the hill) it would take one day."

This is an issue I will be zeroing in on in more detail sometime in the near future.

No comments:

Popular Posts