Also, if business networks form among minority ethnic groups, this situation can breed ethnic hostility to markets among the majority population. Resistance to market reform in Russia is bound up with anti-Semitism and other prejudices, because some perceive that Jews, ethnic groups from the Caucasus, and other ethnic minorities have disproportionately benefited from free markets.
The well-connected people advance rather than the well qualified. Firms in poor countries are very often family firms. As a trading friend says, the firm does better to hire the family idiot rather than the village genius—the former at least can be trusted not to cheat them. When formal institutions establish the rules of the game, the market finds the village genius and uses him according to his merits. The social networks may retard formal institutions, as network members will out-compete the formal institutions until the latter reach some critical mass.
Old-school networks do connect businessmen in rich countries. However, because formal institutions work better in rich countries, these networks recruit their members more according to merit than in poor countries—the old-school ties will be valuable only if it was a good school.
Feeling confused? You are not yet confused enough. How can top-down Planners make markets work when it requires understanding not just free markets but also the bottom-up search for the social norms, producer and consumer networks, and kin relationships that facilitate exchange? Whether you and I can become better off through markets depends now on more than our individual choices. All in a society must develop the informal social ties that make our individual market choices possible. The chances are low that the international jet set will understand us enough to make markets work for us. The quest to help the poor has put far too little effort into learning about their informal social arrangements.
Showdown at Predators’ Pass
Another problem society must solve is protection of property and person. High-value property magnifies the need for protection. Without rules to protect us, you and I play a disastrous game of threat and self-protection. Suppose each of us has the same amount of money but only two choices as to what to do with it—devote all our funds to producing new goods, thus increasing our funds, or spend some of our resources on guns, which enable us to protect our own property and also seize our neighbors’ property at gunpoint. If you buy a gun and I don’t, then you get my money and your original money less the cost of the gun, and I end up with nothing. If I buy a gun and you don’t, then the opposite is true. If we both buy guns, then we have a predators’ equilibrium, neither of us produces anything, and we each just keep our original money.
We would both be better off by not buying guns and just producing. Yet in a lawless world, that would never occur. Each one of us can always do better by buying a gun, whatever the other one does. If you don’t buy a gun, I can seize your property and increase my funds more than by production. If you do buy a gun, I can at least defend my property against you. So buying a gun is always my best move; the same holds for you, and so we both wind up with less money than if we had both been peaceful. In terms of game theory, this game is the classic prisoner’s dilemma.
This assumes that buying guns is legal. In the United States, where you can buy assault weapons on the airport highway but where airport security scrutinizes your nail clippers, this may be a good assumption. One way to avoid the predators’ equilibrium is to allow only honest policemen to have guns.
But predation doesn’t happen as often as this theory predicts, even without a policeman looking over your shoulder. Many opportunities for pilfering go unrealized. The social norm that stealing is disgraceful is a sanction against predation. Most kinds of social conflict resolution don’t involve armed coercion. Academic seminars can be intellectually violent, but, fortunately, professors don’t pack semiautomatic weapons.
These social norms are more effective in communities with face-to-face interactions as opposed to situations with anonymous social interactions—one reason why small towns have less crime per capita than the big cities. Social norms also seem to be stronger among rich people than among poor people, as a rich person loses more economic opportunities and income from social disgrace. This is why you can usually be sure an executive in a suit will not mug you.
Social norms against predation don’t work so well in many poor communities today. In a Brazilian urban slum, young men and women said it was every person for himself: “People are like a dog…only protect their house…if outside the house someone is robbed or dead…nobody cares.29 In the slums of Dhaka and Chittagong in Bangladesh, “musclemen” kidnap and rape young girls. They demand protection money from slum dwellers on the threat of burning down their houses.30 A formerly prosperous woman named Nasibeko of Kuphera village, Malawi, reports, “Our life was fine until one day when our cattle were stolen. After that, our lives became miserable.” Farmers in Mtamba, Malawi, say, “We can’t grow cassava these days to support us when the maize is finished because thieves will come to steal it.31
Responding to ineffective social norms, poor communities often form their own self-protection groups. In their more benign form, such groups provide community safety. In some villages in Tanzania, self-protection groups called sungusungu deter cattle theft. The young men of the community take turns participating, and the women provide food for them as implicit payment. Nigerian age groups also help provide law and order in local communities. And in Phwetekere, Malawi, villagers started a neighborhood watch to discourage crime.
Unfortunately, self-protection groups can get out of hand. In a less benign form, vigilante bands capriciously respond to rumor and innuendo, playing the role of judge, jury, and executioner. A villager in Phwetekere, Malawi, reported to an interviewer that the village had burned a thief to death the week before the interview.32 I once witnessed a mob in Nairobi, Kenya, strip an accused thief naked and haul him down the street in a cart, while beating him.
An even less savory possibility for controlling predation (as well as cheating) is a Mafia-like organization. The Chinese in Southeast Asia are famous not only for trade but also for triads, Mafia-like gangs. If someone cheats a triad member, he has a violent way to persuade the cheater to pay. Although any such information is speculative, one study of Hong Kong businesses estimated that 40 percent of them had triad members on their boards of directors.33
Drug lords dispense justice in slums in Jamaica.34 The Mafia was omnipresent in Russia after the Soviet collapse Even a murderous Mafia can meet a genuine social need when law and order collapses (as it did in Russia, or earlier in Sicily in the nineteenth century). The Mafia can prevent anyone from robbing anybody else in their territory with just the threat of violence to deter the robber. The problem is that there is no good way to exit from the Mafia’s protection, which means the organization almost always over-stays its welcome.35
Elsewhere around the world, warlords, clan leaders, semi-feudal land-holders, tribal chiefs, and village headmen often dispense justice in many poor societies. Villagers in Malawi report high satisfaction with dispute resolution by village headmen.36 Mafia dons, warlords, and feudal landlords probably do not achieve as much client satisfaction. These examples show that bottom-up solutions don’t always lead to attractive outcomes. Yet the Western world evolved gradually through such bottom-up mechanisms, some combination of benevolent social norms, self-protection societies, and local strong men. Perhaps the story of the Western state is just that warlords sorted themselves out, as the strongest warlord put down the rest and gradually evolved into a more benevolent, accountable government. Some scholars have speculated that the benevolent outcome came about in part because Europeans could often simply move from a bad jurisdiction to a better one.
This is of course a vast oversimplification. Western social scientists don’t begin to comprehend fully the complex process of state formation and rule of law in the West, so they shouldn’t be too quick to predict how it will work anywhere else.
Property Rights
Property rights also determine whether markets work. Do I have title to the land, building, and equipment making up my taco stand? Hernando de Soto noted in his great book The Mystery of Capital that the majority of land occupied by the poor urban majorities in the developing world does not have legal title—nobody owns it. Only if I felt secure that I would keep my taco stand would I invest in more sanitary food-processing equipment. I can borrow from a bank to purchase such equipment only if I have title to the property to put down as collateral. Only then will the bank feel secure that I will not abscond with the loan. Even then, the loans will be available only if the laws allow the bank to take my taquería if I default on the loan. Property rights are also critical if I opt for incorporation. Lenders and shareholders need to feel secure that they really do have a claim on corporate property.
Property rights are an incentive to accumulate assets over time and across generations, which is often necessary to have the productive capacity to meet consumer needs. When I sacrifice consumption to buy land, factories, or other assets, I don’t want someone else seizing the assets. For example, a man in Isla Trinitaria, Ecuador, cut back even on food and clothing to save enough to build up a small shellfish business. But he lost it all when the mayor seized the land.37
What determines property rights? Alas, property rights are more complicated than the state enforcing them from the top down (and the state itself may be a thief, as the next chapter discusses). Property arises from a decentralized searching for solutions, just like the other complexities of markets. Your right to your property is only as strong as those around you are willing to acknowledge.
Stronger ethnic groups often seize land from weaker ones. In India, Hindu settlers push the tribal Adivasi population into the degraded forests and eroded hill slopes, scrubland, and rocky soil.38 (White people are not the only ones to push others around.)
Even countries with strong property rights today had those rights emerge gradually from the bottom up. American property rights did not spring full-blown from the minds of the Founding Fathers, and even then the rights applied differently to different groups.
George Washington Slept Here
Those of you unwise enough to have read my first book have already met my disreputable frontier ancestor, Thomas Cresap. Dragging my relatives in at every opportunity, let me tell you about his son, Michael. In 1774, Michael (my great-great-great-great-great grandfather) was in the Ohio River country near today’s Wheeling, West Virginia. Michael Cresap was interested in the Ohio River area downstream from Wheeling, since he claimed some riverfront land there. Two tracts of choice river bottomland he claimed were “Cresap’s Bottom” and “Round Bottom.” Michael’s methods of establishing title to the land were relaxed.
One who disputed his methods was Mr. Founding Father himself. George Washington was speculating in Ohio River land to supplement his army and plantation income. Both Michael and George claimed the piece of land called the Round Bottom. George Washington, in a rare burst of humor, said that Michael’s “claim to the round bottom & other lands on the Ohio River for 30 miles is equally well founded.” That is, George said, Michael founded his claims on nothing. Michael’s method, George derided, was claiming “every good bottom upon the river; building a cabbin thereon to keep off others; & then selling them, and going on to possess other lands in the same manner.”
Other title methods on the American frontier made Michael’s methods look like a formal court hearing. Another technique was to slash trees along the boundary line of the land you were claiming. Squatters’ right to land is an old tradition. Congress later willy-nilly appropriated some of the same frontier land for Revolutionary War veterans. Many pieces of land on the frontier thus came to have multiple claimants. The only thing the whites, who squabbled about one another’s land rights, could agree upon was that the real owners of the land—the Native Americans—had no rights at all.
The federal government after 1790 tried to sort out the land chaos for the whites, if not for the natives. More than twenty acts of Congress addressed the land issue between 1799 and 1830, along with numerous state-by-state legislative acts. The tug of war between squatters’ rights and more formal legal titling continued. Lax enforcement made for inconsistency on the ground. A “preemption” right was finally recognized by Congress in 1830 (and made permanent in 1841), essentially legalizing squatters’ rights.39 The Homestead Act during the Civil War formalized acquiring legal title by settlement on federally owned land.
Michael Cresap died in 1775 fighting under Washington in the Revolutionary War, leaving his heirs to litigate about land titles. The Round Bottom dispute between the Cresaps and the Washingtons that dated back to 1773 was finally settled in a Richmond, Virginia, courthouse in 1834, in favor of the Washingtons (big surprise).
Michael’s claim to Cresap’s Bottom, on the other hand, endured. His son, Michael, Jr., farmed the fertile land. My grandmother told me about her childhood visits to the old Ohio River homestead where her mother, Hannah Cresap, grew up. The land remained in the Cresap family until the twentieth century, when the family sold it to coal companies at a handsome profit. Today a huge power plant and a coal mine occupy Cresap’s Bottom, whose owners would quickly chase away squatters with court orders. When Hannah Cresap died, my mother bought a lime green couch with the proceeds from her inheritance. I grew up reading books on a lime green couch financed by the property rights established over two centuries ago on Cresap’s Bottom.
To Title or Not to Title?
Legal title is not worthwhile when the assets are not valuable. It is not worth it with a rustic cabin. The costs of litigating over title to property can be more than the value of the property itself (as my ex-wife and I found out through our divorce lawyers’ bills). Top-down titling of land requires a substantial investment in surveying, mapping, defining boundaries, and maintaining land records. Titling requires a long-standing written tradition. Then you can search court records for any other (perhaps long-forgotten) party with a legal claim to the property.40 The large fixed cost is not worth it unless the value of the asset is high.41 It is worth it today in Cresap’s Bottom to protect a power plant.
Property law in the United States, as with many other kinds of law, evolved as piecemeal solutions to deal with particular problems as they arose. California miners during the 1849 gold rush agreed among themselves to the division of mining claims, enforced by a committee elected in each mining camp. The miners had no advance information about which claims would strike it rich, and it was in all of their interests to avoid a violent free-for-all. Hence they just agreed beforehand to split up the land, and then let each miner keep whatever he found on his land. California state law later retroactively recognized the informal claims the miners had devised themselves.42 The collection of past practical solutions gradually determines a legal norm.
Custom and Law
We see the same process in developing societies. Titling is even more complicated if the land is used for different purposes by different parties (for example, for grazing by pastoralists and for growing crops by farmers). Poorer societies define land ownership more by oral tradition, customary arrangements, or informal community agreement than by formal titles. An expensive system of land titling under such circumstances is senseless (the Planners don’t investigate local custom enough to get this, as when aid agencies recommend computerized databases of land titles).
Customary arrangements can also deal with property owned by the community, like common pastureland on which all can graze their cows. Common property is subject to the “tragedy of the commons” problem, in which each herdsman overgrazes the pasture because the costs are borne by the community rather than by the herdsman. (I want my cow to eat the grass before your cow does.) However, if population density is low and land abundant, the tragedy of the commons does not arise, and community ownership works fine. Even when pressure on the land tightens up, informal community arrangements can still control overgrazing (say the village
elders decide that you and I may let our cows into the pasture on alternating days).
NYU professor Leonard Wantchekon offered this account of how his village in Benin managed a common property resource, the fishing pond (overfishing is a classic example used for the tragedy of the commons), when he was growing up: To open the fishing season, elders performed ritual tests at Amlé, a lake fifteen kilometers from the village. If the fish were large enough, fishing was allowed for two or three days. If they were too small, all fishing was forbidden, and anyone who secretly fished the lake at this time was outcast, excluded from the formal and informal groups that formed the village’s social structure. Those who committed this breach of trust were often shunned by the whole community; no one would speak to the offender, or even acknowledge his existence for a year or more.
When the value of the land increases, formal titles are worth the transaction costs—in return for greater ownership security. Now loose customary arrangements will not hold up; ignoring custom pays too well. Hence, a growing economy moves from customary law to formal law, but outsiders cannot know enough to engineer such a transition.
One example of how not to do it is having Western lawyers and accountants rewrite the legal code overnight from the top down, as the West tried in Eastern Europe after 1990. In Eastern Europe, chief recipients of foreign aid were the Big Six accounting firms in the West.43 who drafted new laws for Eastern Europe and trained thousands of locals in Western law. Eastern European legislatures passed the Western-drafted laws, satisfying aid conditions for the West, but the new laws on paper had little effect on actual rules of conduct. At the behest of donors, Albania dutifully passed a bankruptcy law in 1994, one of the elements of property rights. Only one bankruptcy case ever made it to the Albanian courts, even after a national pyramid scheme in the mid 1990s led to losses for investors amounting to 60 percent of the GDP.44
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