The Secrets of Intangible Wealth

For once the World Bank says something smart about the real causes of prosperity

Ronald Bailey | October 5, 2007

A Mexican migrant to the U.S. is five times more productive than one who stays home. Why is that?

The answer is not the obvious one: This country has more machinery or tools or natural resources. Instead, according to some remarkable but largely ignored research—by the World Bank, of all places—it is because the average American has access to over $418,000 in intangible wealth, while the stay-at-home Mexican's intangible wealth is just $34,000.

But what is intangible wealth, and how on earth is it measured? And what does it mean for the world's people—poor and rich? That's where the story gets even more interesting.

Two years ago the World Bank's environmental economics department set out to assess the relative contributions of various kinds of capital to economic development. Its study, "Where is the Wealth of Nations?: Measuring Capital for the 21st Century," began by defining natural capital as the sum of nonrenewable resources (including oil, natural gas, coal and mineral resources), cropland, pasture land, forested areas and protected areas. Produced, or built, capital is what many of us think of when we think of capital: the sum of machinery, equipment, and structures (including infrastructure) and urban land.

But once the value of all these are added up, the economists found something big was still missing: the vast majority of world's wealth! If one simply adds up the current value of a country's natural resources and produced, or built, capital, there's no way that can account for that country's level of income.

The rest is the result of "intangible" factors—such as the trust among people in a society, an efficient judicial system, clear property rights and effective government. All this intangible capital also boosts the productivity of labor and results in higher total wealth. In fact, the World Bank finds, "Human capital and the value of institutions (as measured by rule of law) constitute the largest share of wealth in virtually all countries."

Once one takes into account all of the world's natural resources and produced capital, 80% of the wealth of rich countries and 60% of the wealth of poor countries is of this intangible type. The bottom line: "Rich countries are largely rich because of the skills of their populations and the quality of the institutions supporting economic activity."

What the World Bank economists have brilliantly done is quantify the intangible value of education and social institutions. According to their regression analyses, for example, the rule of law explains 57 percent of countries' intangible capital. Education accounts for 36 percent.

The rule-of-law index was devised using several hundred individual variables measuring perceptions of governance, drawn from 25 separate data sources constructed by 18 different organizations. The latter include civil society groups (Freedom House), political and business risk-rating agencies (Economist Intelligence Unit) and think tanks (International Budget Project Open Budget Index).

Switzerland scores 99.5 out of 100 on the rule-of-law index and the U.S. hits 91.8. By contrast, Nigeria's score is a pitiful 5.8; Burundi's 4.3; and Ethiopia's 16.4. The members of the Organization for Economic Cooperation and Development—30 wealthy developed countries—have an average score of 90, while sub-Saharan Africa's is a dismal 28.

The natural wealth in rich countries like the U.S. is a tiny proportion of their overall wealth—typically 1 percent to 3 percent—yet they derive more value from what they have. Cropland, pastures and forests are more valuable in rich countries because they can be combined with other capital like machinery and strong property rights to produce more value. Machinery, buildings, roads and so forth account for 17% of the rich countries' total wealth.

Overall, the average per capita wealth in the rich Organization for Economic Cooperation Development (OECD) countries is $440,000, consisting of $10,000 in natural capital, $76,000 in produced capital, and a whopping $354,000 in intangible capital. (Switzerland has the highest per capita wealth, at $648,000. The U.S. is fourth at $513,000.)

By comparison, the World Bank study finds that total wealth for the low income countries averages $7,216 per person. That consists of $2,075 in natural capital, $1,150 in produced capital and $3,991 in intangible capital. The countries with the lowest per capita wealth are Ethiopia ($1,965), Nigeria ($2,748), and Burundi ($2,859).

In fact, some countries are so badly run, that they actually have negative intangible capital. Through rampant corruption and failing school systems, Nigeria and the Democratic Republic of the Congo are destroying their intangible capital and ensuring that their people will be poorer in the future.

In the U.S., according to the World Bank study, natural capital is $15,000 per person, produced capital is $80,000 and intangible capital is $418,000. And thus, considering common measure used to compare countries, its annual purchasing power parity GDP per capita is $43,800. By contrast, oil-rich Mexico's total natural capital per person is $8,500 ($6,000 due to oil), produced capital is $19,000 and intangible capita is $34,500—a total of $62,000 per person. Yet its GDP per capita is $10,700. When a Mexican, or for that matter, a South Asian or African, walks across our border, they gain immediate access to intangible capital worth $418,000 per person. Who wouldn't walk across the border in such circumstances?

The World Bank study bolsters the deep insights of the late development economist Peter Bauer. In his brilliant 1972 book Dissent on Development, Bauer wrote: "If all conditions for development other than capital are present, capital will soon be generated locally or will be available . . . from abroad. . . . If, however, the conditions for development are not present, then aid . . . will be necessarily unproductive and therefore ineffective. Thus, if the mainsprings of development are present, material progress will occur even without foreign aid. If they are absent, it will not occur even with aid."

The World Bank's pathbreaking "Where is the Wealth of Nations?" convincingly demonstrates that the "mainsprings of development" are the rule of law and a good school system. The big question that its researchers don't answer is: How can the people of the developing world rid themselves of the kleptocrats who loot their countries and keep them poor?

Ronald Bailey is Reason's science correspondent. His most recent book, Liberation Biology: The Scientific and Moral Case for the Biotech Revolution, is available from Prometheus Books.

Comments

|10.5.07 @ 3:38PM|#

Very interesting. It seems obvious that having a strong rule of law and educational focus would generate more wealth but it is fascinating to see it quantified.

|10.5.07 @ 3:50PM|#

Clearly, the solution is the get rid of public schools and scale down our out-of-control police departments.

Uh, wait...

|10.5.07 @ 3:53PM|#

With this info it would only make sense to end all socialism and government over regulation open up the border to immigrants who can speak English well enough to do small menial tasks. Heck Mexico should do the same thing, they could improve thier economy so much, that noone would be comming over here as much any more!

|10.5.07 @ 4:04PM|#

Thank god for America's strong institutions, providing us with so much intangible wealth. Some of us, anyway.

|10.5.07 @ 4:11PM|#

The rule of law is not about enforcement, it is about confidence and trust. When I walk into a car rental agency and they hand me the keys to a $20,000 car and watch me walk out the door, they are trusting that I will obey the law, both statutory law and contract law. Which means I won't run over old ladies, and I will pay my credit card bill, so that they in turn recieve their payment. This is how the rule of law applies, DAN T, not as a measure of how well out cops TASER us into submission.

Also, if public schools are so fucking great, how come anyone who can afford to will send their kids to a private school?

|10.5.07 @ 4:13PM|#

Does this imply, then, that the US's foreign aid budgets should only be directed to countries like Switzerland?

Or that our military policies must focus on creating democratic intitutions and the rule of law in those other countries?

robc|10.5.07 @ 4:18PM|#

Gaijin,

Democratic institutions get created when people want them. I dont think you can force someone into them.

|10.5.07 @ 4:24PM|#

I call bullshit.

A Mexican in the US has 12x the "intangible wealth" of a Mexican at home, but only produces 5x better? Lazy Mexicans!

I live on Long Island. We have lots of day workers here (You may have seen the movie Farmingville). There is not a labor shortage, there is a labor surplus. If you don't work your ass off then Meester Seexstring won't pick you up the next day. There. 'Splained it.

|10.5.07 @ 4:29PM|#

robc...I agree with the second part of your statement.

robc|10.5.07 @ 4:33PM|#

gaijin,

Ive seen no evidence that the first part isnt true too. Where do "the people" want democratic institutions and dont have them.

(I realize this argument isnt going to go well because Im just going to claim "then the people dont want it." Going to be circular)

|10.5.07 @ 4:35PM|#

robc:

The United States Of America.

Tongue only half in cheek.

|10.5.07 @ 4:37PM|#

Also, Myanmar.

|10.5.07 @ 4:38PM|#

(I realize this argument isnt going to go well because Im just going to claim "then the people dont want it." Going to be circular)

No argument from me :)

|10.5.07 @ 4:41PM|#

So how to make these two things better inthe U.S.

rule oflaw is a little tricky, but my simplistic improvement for education is to simply offer a one time prize for provably demonstrating knowledge of a subject.

Step 1. Get a loan.
Step 2. Buy an education.
Step 3. Pass the Tests.
Step 4. Profit.

robc|10.5.07 @ 4:42PM|#

DangerMan,

Based on studies Ive seen, we dont want them.

They want lower gas prices in Myanmar, it doesnt appear democracy is high on the wish list. If it is, they will succeed despite the loss of catapults.

Paul|10.5.07 @ 5:05PM|#

Hey Ron, lemme fix this one for ya, in light of recent domestic events:

The rest is the result of "intangible" factors-such as the trust among people in a society, an efficient judicial system, clear property rights and effective government.

There.

Paul|10.5.07 @ 5:08PM|#

Thank god for America's strong institutions, providing us with so much intangible wealth. Some of us, anyway.

Bob, most of my wealth is intangible.

Dave B.|10.5.07 @ 5:20PM|#

When a Mexican, or for that matter, a South Asian or African, walks across our border, they gain immediate access to intangible capital worth $418,000 per person.


If intangible capital is mostly rule of law and education, why would people gain so much just by crossing the border? Crossing the border doesn't imbue them with an education. And when people cross from Mexico for monetary purposes, they tend to cross illegally, leading to an avoidance of the legal system. What am I missing here? Are you referring to the intangible capital of potential employers and customers? Or does your access to intangible capitol have nothing to do with your particular level of education and protection by the rule of law?

|10.5.07 @ 5:34PM|#

access to intangible capital

I have no idea what that means. I'm pretty sure you can't use this "access" to withdraw cash from a bank, or even to collateralize a loan.

I believe this "access to intangible capital" is what we used to call "vaporware".

George W|10.5.07 @ 5:54PM|#

"Democratic institutions get created when people want them. I dont think you can force someone into them."

I don't understand where you're comming from with that idea.

robc|10.5.07 @ 6:05PM|#

RC,

I'm pretty sure you can't use this "access" to withdraw cash from a bank, or even to collateralize a loan.

I dont know about you but I receive multiple offers a week for unsecured loans in the mail. College loans are also based upon the idea of this intangible wealth - I realize most are government guaranteed, but they would exist even without that.

|10.5.07 @ 6:30PM|#

I'm pretty sure you can't use this "access" to withdraw cash from a bank, or even to collateralize a loan.

You can't but your boss can, and he uses that money to hire you.

|10.5.07 @ 8:03PM|#

Adherence to common law and honoring contracts are the biggys. Africa just doesn't get it. The people in power always think they can cheat and still have a peaceful,prosperous society. Most countries there were much better off as colonies run by white elites.

|10.5.07 @ 8:09PM|#

Dave B,
the mexican crossing the border 'gains' that wealth by gaining access to the society with those properties. Assuming they are also reasonably law abiding and educated, they may also contribute as much.

|10.6.07 @ 1:45AM|#

To me, this shows the positive impact of moving off the gold standard. Binding our income earning potential to a fixed capital source is a simple way to lower productivity.

Paul|10.6.07 @ 3:19AM|#

Crossing the border doesn't imbue them with an education. And when people cross from Mexico for monetary purposes, they tend to cross illegally, leading to an avoidance of the legal system.

No, but it does imbue them with quite a bit of social services and medical care. And no, I'm not one of those people that think that illegal immigrants are a drag on our economy because of it. It's simply a fact. Then, if they have children here, their children have immediate access to education. Remember, it's intangible wealth. That means it's indirect, and it's not liquid. Meaning it's not easily measurable. There isn't a thermometor you can stick in their butts and say "oh, look teh wealth is on you!". If an immigrant spends four hours in an emergency room and gets care and medications, plus the time of the doctors and nursing staff, that is worth something. It has value. This worth and value is something they have access to. It's wealth. This ultimately translates to higher productivity.

Openworld|10.6.07 @ 7:53AM|#

>> (RC) I'm pretty sure you can't use this "access" [to intangible capital] to withdraw cash from a bank, or even to collateralize a loan. I believe this "access to intangible capital" is what we used to call "vaporware".

Your comment misses a key point. Spreading access to intangible capital can spark massive gains in land value.

Creating free economic zones, for example, typically generates 5x-20x gains in land value as investors respond to the assurance of a world-class business climate. Hundreds of such free zones are now flourishing around the world.

The success of Singapore, Hong Kong and Dubai in establishing high-trust institutions and policies has prompted many countries to explore partnerships with them for "green field" real estate development in countries that now lack intangible capital.

Singapore, Dubai, and ZonAmerica (in Uruguay) and among the successful free zone developers partnering to awaken asset values in countries with poorly performing institutions. In doing so, these developers stand to gain massive financial returns from expanding the reach of trusted, market-sensitive networks of intangible capital.

Mark Frazier
Openworld.com

|10.6.07 @ 8:13AM|#

Mark, you won't find a bigger believer in the free market than me, and I 'm sure everything you say is true.

I just found the phraseology of "access to intangible capital" to be fatuous consultant-speak, especially when paired with the faux-accurate number of $418,000 per person.

Ron Toms|10.6.07 @ 10:25AM|#

From the article, in the USA: "natural capital is $15,000 per person, produced capital is $80,000 and intangible capital is $418,000."

I must be missing something. If the average home price in the US is somewhere around $300,000 does that mean my house is intangible? If so, why am I paying property tax on it?

Speaking of taxes, the article didn't mention them. What's the impact of taxes and excessive taxes on productivity and wealth?

In other words, what is the World Bank really trying to get us to believe? What's their true motivation for publishing this "analysis"?

|10.6.07 @ 12:58PM|#

Ron, the average equity in homes would be included in the produced capital of $80,000.

I think a lot of the commenters are missing the concept of intangible capital. It's not so easy to get--it's intangible!!

I think some examples of intangible capital would be: the relative lack of corruption, smoothly working banking and financial markets, professional associations, neighborhood associations, PTA associations, unions, customs of business etiquette, building codes, etc etc

|10.6.07 @ 1:22PM|#

The report itself (208 pages) is here:
http://siteresources.worldbank.org/INTEEI/214578-1110886258964/20748034/All.pdf

Mark Plus|10.6.07 @ 6:15PM|#

I don't understand something. If we have more or less defined property rights in the U.S., then how can these figures for per capita intangible capital mean anything? I don't have a claim on the intangible capital owned by Warren Buffett. You don't have a claim on whatever intangible I supposedly own. So how can a Mexican who crosses into the U.S. have a claim on some free-floating intangible capital in the environment?

Paul|10.6.07 @ 7:15PM|#

So how can a Mexican who crosses into the U.S. have a claim on some free-floating intangible capital in the environment?

read my post above about healthcare-- as one example.

|10.6.07 @ 9:09PM|#

So how exactly is intangible capital quantified? Regression analysis, based on my poor understanding of it, would only quantify indirectly. But how do you quantify it directly. For example, it should be at least in theory be possible to demonstrate that, say, the existence of an (enforced) anti-litter law for a specific location within a specified period of time created X dollars in intangible capital...but wait...I guess you could say that this law, if obeyed, would reduce the budget of street-sweeping by X dollars. Did I answer my own question?

|10.6.07 @ 11:18PM|#

"
The natural wealth in rich countries like the U.S. is a tiny proportion of their overall wealth-typically 1 percent to 3 percent-yet they derive more value from what they have."


or of course, we could bump that figure up by natural resource theft from other arts of the world: ooo lets see: 15th centurey -> today anyone?

|10.7.07 @ 12:09PM|#

Blah: WTF?

"natural resource theft from other [p]arts of the world"

How is development through mining theft? The only "natural resource theft" that is occuring is blood diamonds from Statist regimes in Africa.

Please man, that is something that any Statist ignoramus would say about capitalism and free markets. "in order for them to work they have to steal! Yeah that's it!"

|10.7.07 @ 4:43PM|#

Reguarding this "intangible wealth concept" I will quote Sergeant Schultz "I know nothing. Knowthing!"

LarryA|10.7.07 @ 5:12PM|#

And when people cross from Mexico for monetary purposes, they tend to cross illegally, leading to an avoidance of the legal system. What am I missing here?

The fact that the average illegal Mexican peon has far more rights under the U.S. legal system than he does as a legal citizen under his native Mexican system.

If we have more or less defined property rights in the U.S., then how can these figures for per capita intangible capital mean anything? I don't have a claim on the intangible capital owned by Warren Buffett. You don't have a claim on whatever intangible I supposedly own. So how can a Mexican who crosses into the U.S. have a claim on some free-floating intangible capital in the environment?

The capital referred to is not "owned" and therefore not affected by property rights. Warren Buffett "owns" a lot of money. You also "own" money, probably less than Warren, probably more than the Mexican. He "owns" money as well, but probably less than either of you. None of you have direct access to what the other two "owns." But each of you can go to a bank and open an account that safeguards the money you "own" and makes it much easier to manage.

Local officials can't go to the bank, find out how many dollars you have, and take it away in the form of mordita. Also, the government can't easily steal your money by following policies that lead to inflation. That's the "intangible capital" part, and while it can be quantified "per individual," it's not individually based. Either you all can count on the stability, or none of you can.

This intangible capital makes it much more profitable to save money, invest it, and work hard to get more. Therefore you can borrow part of Warren's dollars and set up a business, then hire the Mexican for a higher wage than he's presently earning. That benefits all three of you. Warren might see the most benefit in number of dollars, but it's the Mexican who sees the greatest actual benefit since the percentage improvement is much higher. He's gaining dollars he needs to feed his family, where Warren is gaining dollars he has to find a way to invest.

or of course, we could bump that figure up by natural resource theft from other parts of the world:

Given that the U.S. is one of very few countries in the world that produces more of the GDP than it consumes I think we end up donors, rather than thieves.

carolyn|10.7.07 @ 10:48PM|#

Might the importance of education and rule of law for individual financial success encourage mean that the rich who benefitted from public investment ought to pay back proportionally??

Artifakt|10.8.07 @ 1:02AM|#

One example is auto insurance. Live in a country where many drivers are completely uninsured, then move to the US, where most states require at least liability and most drivers carry comprehensive as well. That's intangible wealth in at least two senses - If you're not at fault, even if you are the poor Mexican so many are referring to, and you have no insurance, the chance you will get compensated after a collision has gone up, as the other guy's liability insurance is protecting you from his mistakes, and if you do get to where you can afford insurance, and want uninsured driver coverage, it's comparatively cheap because fewer drivers are uninsured.

|10.8.07 @ 1:08AM|#

In Australia we have a government whose election campaigns center on their economic management. By this they mean fiscal and monetary policy that keeps interest rates low while they de-fund education. They think of themselves as conservative.

The opposition meanwhile has trouble countering the spin on economic management because they advocate spending on education and other intangibles. It seems that in Australia if you can't dig it out of the ground then it isn't real.

This World Bank analysis would seem to offer a great new angle. But can it be put into a sound bite for the campaign trail?

Ramesh Raghuvanshi|10.8.07 @ 3:43AM|#

I fully agree with artical, that rule of law and unversal education are more important for prosperity. Iam from India. India have tremendious resources, vast man power, but there is no rule of law, and education is limited only in upper class.
India`s main drawback is national caste system, which is curse to our nation,make us helpless and hopeless.only tiny upper class people acquiring all advantage.Indian are working very hard in U.S.make themself very prosperious, but in INDIA their counterpart struggling in poverty

|10.8.07 @ 3:45AM|#

No doubt that "intangible capital" in the form of education and good laws contributes towards the welfare of a nation. Yet, isn't the wealth difference between say NZ, and Switzerland or say Singapore, still more a case of more orthodox, or "tangible" than "intangible" capital ownership per person?
And what about a wealthy nation consuming itself into debt and widening poverty through an inadequate rate of domestic capital savings?

|10.8.07 @ 2:22PM|#

Fascinating discussion. The benefit of the "intangible capital" is probably best examplified in the fact that the whirling, buzzing, whizzing mess that we call modern life in modern industrialized states actually works. Some days, I wonder how our society does not simply fall apart given its tremendous complexity and the fact that no one is really in charge of it.

While our societies do not fall apart, presumeably because of the intangible capital, other societies have collapsed recently even though they were functioning reasonably well, a decade or two ago (e.g. Zimbabwe or Iraq).

It's good to see that this concept has finally be recognized. I've often thought that the poverty of many nations can be explained by their poor governments (which fail provide a lot of intangible capital including rule of law, sound monetary policy, good banking rules, good laws, absence of corruption and kleptocracy, etc.). Without these goods which no one person owns, but by which everyone benefits, all our aid money and development efforts and money sent to sponsor a child are effectively wasted and impotent to improve people's lives.

|10.8.07 @ 7:44PM|#

Just think how much wealthier we could be if our schools were run by profit-seeking and customer-serving entrepreneurs instead of government bureaucrats. I wonder if someone could quantify the opportunity cost of a socialist school system?

LarryA|10.9.07 @ 10:37AM|#

Might the importance of education and rule of law for individual financial success encourage mean that the rich who benefited from public investment ought to pay back proportionally??

The rich don't benefit nearly as much as the poor do. Look at the flip side. When you have instability and corruption who gets screwed, the rich (powerful) or the poor (powerless)? Who can't buy their children an education by sending them to private or foreign schools? Who can't hide money from local inflation by buying dollars? Who can't bribe or force law enforcement to protect their property, or hire their own private guards?