Property Rights and Economic Development

Wednesday, March 28, 2012 8:45 PM. by Gaurav Tiwari

Access to capital is a crucial element to any country’s path to economic development. Hernando de Soto’s findings in his landmark books, The Other Path: The Invisible Revolution in the Third World and The Mystery of Capital: Why Capitalism Triumphs in the West and Fails Everywhere Else, make this point – a functioning law system which brings the benefits of granted property rights and enforcement of contracts and extra-contractual liabilities is the factor that best explains differences between developed and developing economies. De Soto also points to the “cost of legality” –those operating in the shadow economy incur costs in order to avoid the risk of being penalized for being outside the legal system. Such issues are at the core of economic problems facing the developing world. As a greater share of the world’s population lives and works in the developing world, the importance of secure property rights will become paramount for economic growth.

Private Property Rights

Ownership of an asset is the basic element of private property rights. This right to ownership is most often taken for granted in the West. But it’s a luxury in the developing world. Academic scholars and practitioners in international organizations such as the OECD, World Bank and the United Nations Development Program have presented research highlighting property rights as a tool for economic development. This relationship is even more important when one looks at the state of property rights in urban slums, where much of the world’s population now resides. According to a McKinsey Global Institute report, over 5.7 billion people live in the developing world, and every year there are 70 million new residents in cities. Most of the new additions of resident population in cities will be in shanty-towns. In other words, squatters have become the dominant city builders in the world. Of course, the growth in employment is also driven in such “slum economies,” and national governments and development agencies need to reconsider the role of property rights in supporting growth at the bottom of the pyramid. One recent research paper published by Professor Erica Field, a Harvard-based development economist, finds that change in tenure security has a significant impact on residential investment in urban slums. In her study of the change in ownership status due to a nation-wide land titling program in Peru, Fields found that housing renovations increased by over two-thirds from the baseline levels.

A well-functioning society with a strong set of rules and legal system can improve economic output and growth. It also means that rule of law and other institutions in the political and economic bureaucracy of a country need to be reformed. As De Soto’s work on unlocking dead capital in poor economies has shown, property rights can serve as the tool to promote that growth – by allowing for capital formation and lowering of transactions costs.

Intellectual Property Rights

In a globalized world, countries have come to rely on a set of rules to promote innovation and knowledge management. These rules essentially lay out a set of protocols to provide a common ground for the protection of products and services that are creations of the human mind. In other words, intellectual property rights (IPR) serve to protect the value added that comes with innovations in the fields of science, art, literature technology, and business, to name a few.

As we begin to move to a more digitized world economy, we are bound to see greater technological integration across borders. Innovation is no longer a developed world phenomenon. At the same time, infringement of intellectual property has risen too. As such, we are seeing two trends emerge – globalization of technology and the theft of such technology. But what is the impact of stronger IPR protection on economic variables such as trade flows and economic growth. In the 2005 World Bank publication, Intellectual Property Rights and Development: Lessons from Recent Economic Research, Carsten Fink and Carlos Braga illustrate that stronger IPRs have had a positive effect on total trade. Keith Maskus, a leading authority on IPR and economic development writes in the World Bank report that a strong IPR regime can also influence a multinational firm’s decision to locate its business in middle-income countries – preferring countries that have a greater ability to absorb and learn the new technology. In other words, a stronger IPR regime can increase formal technology transfers and cross-border technology licensing. For national governments, achieving such economic goals is however far from reality – protection of IPR across borders is extremely difficult and governments continue to struggle to offer a secure IPR environment.