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Hernando de Soto on property and the financial crisis

By Rebecca Tushnet

I thought this article in the WSJ was really interesting. De Soto argues that a lack of a recording system for derivatives is a key component of the problem:

[A]ggressive financiers have manufactured what the Bank for International Settlements estimates to be $1 quadrillion worth of new derivatives (mortgage-backed securities, collateralized debt obligations, and credit default swaps) that have flooded the market.

These derivatives are the root of the credit crunch. Why? Unlike all other property paper, derivatives are not required by law to be recorded, continually tracked and tied to the assets they represent. Nobody knows precisely how many there are, where they are, and who is finally accountable for them. Thus, there is widespread fear that potential borrowers and recipients of capital with too many nonperforming derivatives will be unable to repay their loans. As trust in property paper breaks down it sets off a chain reaction, paralyzing credit and investment, which shrinks transactions and leads to a catastrophic drop in employment and in the value of everyone's property.

Ever since humans started trading, lending and investing beyond the confines of the family and the tribe, we have depended on legally authenticated written statements to get the facts about things of value. Over the past 200 years, that legal authority has matured into a global consensus on the procedures, standards and principles required to document facts in a way that everyone can easily understand and trust.

The result is a formidable property system with rules and recording mechanisms that fix on paper the facts that allow us to hold, transfer, transform and use everything we own, from stocks to screenplays. The only paper representing an asset that is not centrally recorded, standardized and easily tracked are derivatives.

Of course, de Soto's claim that recording systems govern all valuable property rights is true for patents, but not for copyright (no registration required for protection, thanks, Berne Convention!) nor for trademarks--though one can expect the most valuable of both to be subjects of filing with the appropriate government office, so it's not as bad as all that.

Full post as published by 43(B)log on March 26, 2009 (boomark / email).