EXTRALEGALITY

Extralegality, also called informality, describes businesses and property that are not licensed or registered legally. In the developed world few businesses and almost no property is held extralegally.

Extralegal businesses in the developed world might include small day care operations out of a person's house, gypsy cabs, or street peddlers. In country after country across the developing world, on the other hand, de Soto's researchers have documented that the vast majority of businesses and properties are held extralegally.

The Formal Economy

The formal and legal world is the world in which most of us in the West live. It's a world where the vast majority of people live under the rule of law, where property, identity, and businesses all are legally well defined and certified. It's a system where:

  • citizens can prove who they are,
  • people and businesses have legal addresses,
  • property titles and title registries allow people to know for certain who owns what,
  • articles of incorporation enable investors or customers know who they are buying and selling from, and so forth.

This is the world we swim in daily, without ever thinking about the vast invisible architecture that lets us live, work, and prosper as few in human history have ever done.

The Majority of Humanity Lives Outside the Legal World

De Soto says:
"Four billion of the world's six billion, many of them with assets - homes and businesses - and eager to improve their life chances in the larger markets are outside the rule of law. Those four billion have little chance of success because of discriminatory, burdensome, and costly legal systems have kept them from the legal tools they need to cooperate economically on a national basis, never mind a global one."

The vast majority of humanity lives in a world without the legal system that undergirds our lives. Extralegals are stuck in a limbo between old regimes and modern markets, where they can't penetrate the legal system to get the tools they know they need.

De Soto and his organization, the Institute for Liberty & Democracy (ILD), estimate that some 380 million people in the Middle East and North Africa are struggling to sustain a living within this inadequate legal and institutional infrastructure--a condition that amounts to economic apartheid.

Not only are they lacking these beneficial tools, they also face needless obstacles. Theirs is a world filled with Byzantine webs of laws, procedures, bureaucracy, and corruption.

The owners of extralegal businesses cannot get formal bank loans, nor can they enforce contracts or expand beyond a personal network of familiar customers and partners. They are without access to basic financial services. As a result, the poor have no choice but to accept insecurity and instability as a way of life.

Legal systems in developing world nations are overly complex and costly—often purposely so. As Unlikely Heroes of the Arab Spring makes clear, in most nations of North Africa and the Middle East (MENA), it takes over a year and costs more than the average person makes in a year just to get a legal title to property or an officially registered business.

Bouazizi's death resonated so powerfully because his experience was the same as hundreds of millions of others in North Africa and the Middle East. The Arab Spring is about inclusion, dignity, and economics--not religion.

Developing world governments, far more than the most corrupt governments in the United States, are not governed by the rule of law, but by who you know - and as Mohamed Bouazizi's case demonstrates, the poor don't have contacts.

De Soto says that extralegal, informal economies are a movement of ordinary people bunched together, stranded in the no-man's land between localized and globalized production, trying to make a living in all sorts of informal ways. These people cannot return to traditional forms of production because these traditional forms are collapsing, but they are also unable to enter the legal economy due to systemic constraints. Bouazizi and his fellow self-immolators were operating in the market; but for small informal entrepreneurs like them, their market is limited to extralegal activity.

After two years of interviews with surviving self-immolators as well as with the families of those who died, de Soto has no doubt that the region's extralegal entrepreneurs are well aware of what they are missing. Time and time again they have listed specific ways in which regulations or corruption prevented them from simply doing business.

The potency of the extralegal economy, however, lies not in these individuals acting alone, but together. What these diverse groups of informals have in common is that they are all fleeing exhausted, traditional systems of production operating on a local scale and often based on a feudal, tribal, patrimonial, or communal arrangement. The result is hundreds of millions of people moving en masse toward market systems in which progress reaped from dividing labor on a large scale outstrips the productive capacity of the old regime. But when these refugees arrive at the frontier of the rule of law, they often find the border closed to them and their dreams.

The Poor Have Developed Informal Systems to Survive

Still, the excluded poor want the legal tools of development so badly they have invented pale and flawed versions themselves. They cope by devising their own solutions. They come up with "informal" ways of documenting things that blend customary practice with modern ingenuity. These documents are sometimes very sophisticated. These informal structures guide how the poor live, work, and do business, obtain essential services such as education, water and energy, and protect and police their communities. For instance, the poor create informal, but locally accepted, means of adjudicating property, documenting transactions, guaranteeing and obtaining credit, creating business associations, dividing labor, and verifying identity.

They operate not within the law, but outside it. That is why they are called informals. They enter into informal labor contracts, run unregistered businesses, and often occupy land to which they have no formal rights.

The poor sometimes choose to operate informally because formal institutions are dysfunctional or corrupt. Informal institutions can leave the poor vulnerable to corruption, exploitation, bureaucratic meddling, the strong arm of the law, and criminals. Economic transactions remain unpredictable, insecure, and limited. Informality is therefore unlikely to be a springboard for development. It provides few opportunities for economic growth and limited revenue for public investment in essential services--such as health, education, infrastructure, and justice--that would benefit the poor.

However hard they work, these self-employed workers, casual day laborers, and industrial outworkers cannot escape poverty. They have basic rights and protections in theory, but not in practice. They do not benefit from labor laws and collective-bargaining arrangements, because their employment relationship is unclear. They suffer inferior working conditions and job insecurity. They are typically denied access to state or employer benefits and social security. De Soto believes that recognition and enforcement of the rights of individual workers and of their organizations is critical for breaking the cycle of poverty.

As Hernando de Soto says,

"It's not so much that people are breaking the laws, but that the laws are breaking them."

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