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FLOW Vision News: OCTOBER 2007

Dear FLOW Members,

Many thanks again to all those who supported our recent Peace through Commerce Challenge Grant.  We are now happily beginning the development phase of our program.

A centerpiece of our Peace through Commerce program is the concept of “economic freedom.”  One of our challenges will be to make this bloodless concept of “economic freedom” vivid and vital for millions of people.  It is not an exaggeration to say that the peace and prosperity of the world depend on the global growth of economic freedom.  Here is a first attempt to put some flesh and blood on the concept.

Monaco Velasco was an uneducated Mexican who came to the U.S. as a young man some forty years ago.  He obtained work in Mexican restaurants, first as a dishwasher and busboy, then as a waiter, ending up in Anchorage.  He married an American woman, had two kids, and entered the American middle class.  After seventeen years of frugality and hard work, his wife unexpectedly inherited $50,000 from a deceased grandmother thousands of miles away and not long afterwards he used it together, with the equity in his home, to buy the restaurant from his boss.  He improved the décor and menu, upgraded the expectations for the personnel, and sold it a few years later for a small multiple of what he had paid for it.  After a brief break, he bought another Mexican restaurant, at an upscale location, similarly improved it, and a few years later sold it for about three quarters of a million dollars.  Still in his 50s, he retired to Mexico where, when he returned to his hometown, he was regarded as a wealthy man.

It is unlikely that he would have achieved so much in Mexico.  While Monaco’s story is encouraging, it is not that unusual in the United States.  Thomas Stanley’s “The Millionaire Next Door” documents the routine fact that many small business owners in the U.S., with no particular advantages in terms of education, wealth, intelligence, or class connections, build small businesses and become millionaires through decades of hard work and frugality.

Why aren’t there similar millions of Monacos becoming self-made millionaires in Mexico?  While there are many reasons why this is so, here I want to focus on one illustrative detail that is generally neglected (thanks to La Mejicana Perceptiva Veronica Forsyth for this insight):  A Notary Public in Mexico is a costly, elite functionary, whereas Notary Publics in the U.S. are ubiquitous and cheap. 

The People’s Guide to Mexico compares the availability of Notaries in Texas vs. Mexico City:

In Texas, virtually anyone can qualify and become a Notary Public. The population of the state of Texas is roughly 22.5 million people and is served by approximately 360,000 registered notaries. In comparison, Mexico City has a population of 9 million people (metro area is 20 million) and is served by only 243 Notario Publicos. While Texas is served by a notary pool roughly equivalent to 1.6% of its population, Mexico City is served by a population of notaries that equates to roughly 0.0027% of its population (less than that in the greater Metro area where many of the poor live).

As Veronica reports, in Mexico, merely finding a Notary is all about “who you know.”  Some of her Mexican friends describe them as a “mafia” because of their complete control over business and real estate transactions, though of course there are many decent Notaries.  Then once you have found the Notary, they charge a hefty fee for a simple transaction; in Mexico City, the fees start at $330 and then add an additional 1.125% for transactions over about $9,000.  Thus a $10,000 transaction costs nearly $450 merely to have it notarized.  In the U.S., although some Notaries charge $5-10 or so, many provide their services for free ($6 is the legal limit in Texas).

It is true that Notaries in Mexico, unlike in the U.S., must first be attorneys who then undergo additional training, and that they hold a significantly greater level of responsibility for the documents notarized than do U.S. Notaries.  That said, all legal documents, including wills, mortgages, and business contracts must be signed by a Notary, and much of their business is as simple as that of U.S. Notaries.  If one can’t afford the Notary fee up front, one is shut out of business life in Mexico.  Moreover because Mexican Notaries unilaterally control whether or not one can conduct business in Mexico, they often charge for a variety of other fees and services, such that most simple business and real estate transactions require payments of 4% or so just to the Notaries, without taking other transaction costs into account, which often total 6-7% of the transaction.

Consider just this one element in Monaco’s life had he stayed in Mexico.  Although there, as here, he could have worked hard and lived frugally, married and raised two kids, he could not have taken the most basic first step upwards towards the middle class:  It is unlikely that he would have been able to buy a home legally.  Because Notaries are costly and only available to the elite, while the poor do buy and sell real estate, they typically do not have legal title to their land – all such exchanges among the poor take place in the informal marketplace.  As a consequence, although he and his family could have made themselves cozy in a simple building, he would not be building significant home equity in the same way that most Americans do.  With title uncertain (and this is a severe problem in Mexico), there is always some chance that his home could be taken away.  Millions of poor around the world are legally squatters, despite the fact they may have lived on a given plot of land for generations, and they can thus be forced off their land by either private landowners or the government.  Even if their ownership of the land is not really disputed by other parties, banks won’t accept untitled land as collateral for a loan, limiting their means of expanding their businesses, and besides, getting a mortgage would require another notarized document.

While it is unlikely that Monaco would have married a woman who inherited the same dollar amount, there are some inheritances among the Mexican poor – for which of course one needs to have notarized documents to distribute assets in conformity with a legal will.  In the absence of formal wills, inheritances are likely to be distributed informally among close relatives who live nearby.  Of course, in the U.S., Monaco’s wife’s inheritance was ultimately created by earlier American entrepreneurs who started with nothing but were able to create enterprises and build up capital because they had access to the U.S. legal system.  The U.S. middle class is wealthy because our entrepreneurs have had some five hundred years of opportunity to build legally protected enterprises.  Because of this, today most Americans are likely to inherit $50,000 or more over the course of their lifetimes.

Monaco’s wife was a secretary earning about $25,000.  Suppose Monaco had inherited an amount equal to double his wife’s annual salary in Mexico.  In Mexico, such a windfall for the poor might amount to $3,000.  If he was interested in owning his home legally, which he had already paid for, if he could obtain access to a Notary (this is very much an issue of class in Mexico and he may have to pay people merely to get an introduction to a Notary) he could pay a Notary and conduct a title search – and easily burn through $1,000 only to find that his title may not be clear anyway.  Trying to obtain a legal title in such a situation is not a good investment. 

The same situation would obtain if he wanted to purchase a business legally.  Because of the cost of doing business in Mexico, legal businesses there are expensive.  He would not be able to afford a legal business, even if he chose to pay a Notary with half his wife’s inheritance in an attempt to get into the Mexican middle class.  Monaco the entrepreneur is forced to buy an illegal business, with all the same vulnerabilities and obstacles to building equity associated with his untitled home.

The entire process of buying and selling businesses legally is just as inaccessible to the Mexican poor as is the process of buying and selling homes legally.  They do, nonetheless, buy and sell businesses; but the businesses are only valued at a fraction of what their worth would otherwise be when there is no legal protection to buyer, seller, creditor, or insurer.  The same hard-working and frugal Monaco, had he stayed in Mexico, could have saved to bought a house, but never owned it legally, inherited twice his wife’s annual salary and used it to buy the restaurant that he worked at, but never owned it legally as well, and sold and bought another one, without ever owning it legally as well.  No title, no equity, no insurance, no bank account and no street address.  Just a shack serving food on the side of the road that the police have decided not to bother yet, instead of a three quarters of a million dollar fine dining establishment in downtown Anchorage.

Most of the world’s poor are poor primarily because they don’t have access to a functioning legal system for doing business.  The elites in Mexico, as in many poor nations, do, in fact, have access to a functioning legal system, allowing them to become ever more wealthy.  But the lack of an accessible legal system leaves the ladder of social mobility sawed off with an impossible leap between the highest rung on the bottom and the lowest rung on the way to the top.  Monaco couldn’t have jumped that far.

The World Bank’s Doing Business Index, the Fraser Institute’s Economic Freedom Index, and the Milken Institute’s Capital Access Index are three different, but complementary, measures of how open the world’s economic systems are to aspiring entrepreneurs coming up from the bottom.  Based on these and other formal measures, one can see that wealthy countries allow the poor key economic freedoms, whereas the poor nations do not offer the same economic freedoms.  On the Doing Business Index, Mexico is ranked 44th out of 178 nations ranked – as tough as it is for poor entrepreneurial Mexicans to lift themselves out poverty, there are at least 134 developing nations in which it is even more difficult (the unranked nations are the total basket cases where it is nearly impossible to open a business).  And, in Mexico, the Notary Public fees are a significant reason for why Mexico ranks poorly on opening a business.

What does all this have to do with Peace through Commerce?  Call it “Peace through Cheap Notary Services,” to go along with the “Peace through Property Rights” article I recently co-wrote on Iraq.  Both titles exaggerate for effect, but there is a grain of truth therein.  There are thousands and thousands of economic freedoms that we take for granted every day that are not enjoyed by the poorest two thirds of humanity.

Last year, when Lopez Obrador refused to concede the presidential election to Felipe Calderon, for a time there was a real danger of civil war in Mexico.  War is always tragic, but this one would have been especially tragic because it is so preventable.  Mexico’s poverty is due to a lack of economic freedom, and as the poor are gradually given greater access to the legal system, entrepreneurs will flourish, the economy will grow, and poverty will vanish.  And then political opponents will continue to use heated rhetoric against each other, as they have always done and will always do, but in a wealthy Mexico there will no longer be a danger of civil war as a consequence of close elections.

Our Peace through Commerce campaign will use two blades of the scissors to cut through the fabric of global poverty and unrest:  On the one hand, the promotion of Conscious Capitalism and Entrepreneurship for the Good; on the other hand, the promotion of economic freedom, so that the poor of all nations have an opportunity to fulfill their entrepreneurial dreams.

Outside the narrow world of policy wonks and those people actually struggling to do business in the developing world, few are aware of the importance of economic freedom in the creation of peace and the alleviation of poverty.  Our goal, and yours as you join us, is to call the world’s attention to this crucial path to peace and prosperity.  So as we encourage you to support Conscious Capitalism and Entrepreneurship for the Good, we will also encourage you to learn about, and communicate to others, the importance of economic freedom in providing a foundation for peace, prosperity, happiness, and well-being for all.

Thanks again for your support,

Michael Strong
CEO & Chief Visionary Officer
FLOW, Inc.

P.S.  Our Featured Article this month is "Two Paths, One Mission” by Liz Wald and Phil Smith, the story of how they founded Economic Development Imports, a Fair Trade certified importer of handmade products from Africa.

Please contact us at contact@flowidealism.org with ideas, insights, and inspiration. And remember that FLOW is a non-profit organization that promotes economic freedom and broadly distributed prosperity. You can support FLOW through your financial contributions among other means.