Sunday, July 22, 2007

What Makes Business Possible

Humans like to trade. Business is hard-wired in human nature.

So why are some groups better at it than others? Why do some nations grow rich on business, while others remain desperately poor?

All too often, people have tried to explain differences in wealth by the accidents of geography, race, or nature. The truth is, success or failure in trade is based on capital, and capital is based on law. The Peruvian economist Hernando DeSoto addressed this issue in his book, The Mystery of Capital.

For example, I can get a loan from a bank because I own my house. How does my banker know that I own it? Because there is a reliable system of law that converts the physical property of my house into a socially acceptable representation of it called a deed. The same reliable system of law allows me to convert that deed into another form of capital, a loan. I can then use that loan for another round of wealth creation.

In most of the world, poor people own property, but they can't prove it. Not being able to prove it, they can't get a loan against it. Without a loan, they can't engage in a new round of wealth creation.

In short, wealth begins with ownership. It expands as the legal system makes it easier and more reliable to demonstrate ownership.

A reliable legal system is the key to creating wealth through trade. And secure property rights are the key to a reliable legal system.

The following video features Hernando DeSoto discussing some of his work.

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