Institutional Economics: Credit Markets and Land Titling

In a recent paper Dower & Potamites argue that having a land title helps getting a loan not only because it represents collateral but also because it signals important unobservable characteristics about the borrower. 

In Indonesia, as in many developing countries, obtaining a formal title is a lengthy, bureaucratic and costly process. Therefore, having a formal land title can provide information about unobservable characteristics, such as an ability to interact within formal rules, the degree of integration into formal markets, business-minded characteristics or the condition of the asset. The bank may prefer to lend to formally titled households not only because the title mitigates the bank’s risk in the case of a default, but also because the title provides ex-ante information about the likelihood of compliance with the loan contract. [Italics added].

The abstract of the paper: 

Many land titling programs have produced lackluster results in terms of achieving access to credit for the poor. This may reflect insufficient emphasis on local banking practices. Bankers commonly use methods other than collateral to ensure repayment, such as targeting borrower characteristics that, on average, improve repayment rates. Formal land titles can signal to the bank these important characteristics. Using a household survey from Indonesia, we provide evidence that formal land titles do have a positive and significant effect on access to credit and at least part of this effect is best interpreted as an improvement in information flows. This result stands in contrast to the prevailing notion that land titles only function as collateral. Analysts who neglect local banking practices may misinterpret the observed effect of systematic land titling programs on credit access because these programs tend to dampen the signaling value of formal land titles. 

The title of the paper is "Signaling Credit-Worthiness: Land Titles, Banking Practices and Formal Credit in Indonesia" (September 2012). It is here. 
H/t: Mark Lee.  

Public Choice and the Political Economy of Deforestation in the Tropics

In some parts of the word deforestation is a serious problem. For example in Haiti forests are scarce, and this reduces access to water and harms agricultural productivity due to soil erosion. In Haiti the problem of deforestation is linked to poverty (people prefer charcoal to gas cooking), lack of electricity (it does not make economic sense to have an electric stoves, unless you are very rich), etc. 

It is rational for individuals and households to rely on charcoal even though in the long run this makes things worse off for agricultural production. In fact, one can describe this situation with a prisoner's dilemma game. 

An important aspect behind deforestation, at least partially, is weak institutions. Clear definition of property rights could help reduce the problem. But the fundamental challenge for Haitians is finding the way to set up and enforce effective rules at different levels to guarantee forest sustainability and growth. There is not much the international community could do about this, although nudges and more information (education) might create some initial trajectory towards better institutions (I am not optimistic).

The making of coffee in Jeremie, Haiti

In a new paper using data from Indonesia Bugess et al. (The Quarterly Journal of Economics, 2012, issue 4) look at deforestation from a different perspective: the political economy of deforestation. Concretely it argues that the behavior of politicians and the incentives they face affect deforestation. The authors say:

We show that the incentives that local politicians and bureaucrats face are a key determinant of rates of tropical deforestation. In line with predictions from a Cournot model we demonstrate that as the number of jurisdictions within a provincial wood market increase deforestation rises and prices fall. The availability of rents from oil and gas exploitation, in contrast, blunt the incentive to extract forest, though only in the short term. There is thus a clear parallel between the behavior of local governments and of firms which are the typical focus of study in the industrial organization literature. As competition increases, due to new districts being created in provincial wood markets, districts respond very much as we would expect firms to do in a standard Cournot model, by increasing extraction as a means of maximizing rents in response to falling wood prices.

Our results also serve as a counter-example to those who argue that decentralization of control over natural resources in weakly governed tropical environments should enhance their conservation. There is a large and growing literature, for example, which argues that local communities may have stronger incentives to conserve forests relative to central government (see Somanathan et al. 2009 and Baland et al. 2010 for some interesting evidence on this issue). Our work suggests that where political jurisdictions are large enough to have some market power in wood markets, and where the political heads of these jurisdictions obtain rents from allowing illegal logging (but not necessarily from preserving forests for future generations), then subdividing these jurisdictions actually leads to more not less deforestation [italics added].

They suggest:

The results in this paper confirm the idea that standard economic models can help explain illegal behavior. The flip side is that these same models also suggest how one can potentially counteract corruption. For example, one option is to strengthen top down monitoring and enforcement, for example, by increasing the probability of detection of illegal activity (in our model), though here weak governance and limited fiscal resources devoted to conservation may hamper efforts to detect and punish those involved in illegal logging. Another option is to provide district governments with alternative sources of rents (r) - monies, for example, from REDD (Reducing Emissions from Deforestation and Forest Degradation) or PES (Payment for Environmental Services) schemes where district politicians and bureaucrats are, in effect, paid not to cut down tropical forest (see, e.g., Jack et al. 2008).

A priori I don't find these solutions convincing, their main theory however is quite interesting an useful. 

The authors conclude:

. . . [t]he failure to take into account (and adjust) the extraction incentives of local politicians and bureaucrats is likely to render ineffective efforts to conserve the last great areas of tropical forest - in the world in Indonesia, Brazil and the Democratic Republic of Congo.  

Download a draft of the paper.