Mario Vargas Losa's foreword to the The Other Path accurately divines that "Economists occasionally tell better stories than novelists." But are novelists to be trusted to evaluate the state of the art in economic research? Vargas Llosa identified the protagonist of Hernando de Soto's "story" as "a hitherto little studied and even less understood phenomenon--the informal economy." In fact, the informal or underground economy has been intensively studied for two decades. It is the subject of dozens of books and hundreds of scholarly articles, and has received the attention of congressional committees, the Agency for International Development, the Internal Revenue Service, the UN's International Labor Organization, the Federal Reserve, and the International Bank for Reconstruction and Development, among others. These intellectual antecedents suggest that there is much we already know about informal economies, yet the novelty of de Soto's conceptual and empirical work makes clear that there is much we still have to learn.
The Other Path examines the historical, institutional, legal and economic factors that account for the stagnation and paralysis of the development process in Peru. The villain of de Soto's story is Peru's mercantilist state, which mirrors "the European mercantilism of earlier centuries" that had been attacked by such unlikely bedfellows as Adam Smith and Karl Marx. It is a system "more concerned with transferring wealth" [among its elite adherents] than with laying the institutional bases for creating it.
The hero of de Soto's tale is the informal economy, the collection of street vendors, builders, manufacturers, and transporters who employ illegal means (land seizures, illegal purchases, tax evasion, and operating without permits or licenses) to pursue the legitimate objectives of producing and distributing goods and services to earn a livelihood. Because members of the informal economy are systematically excluded by the state from the normal protection of contract enforcement, tort law, and property rights, their illegal actions represent a rational response to the constraints and high transaction costs imposed upon them by a suffocating state bureaucracy.
This underground economy, being large, economically efficient, and democratically organized, represents the political constituency that de Soto believes will bring about the radical institutional changes required for the development process to go forward. Although The Other Path often reads like scientific economics or history, it is, according to its author, "a political book… which seeks to offer guidance and, above all, to show that there is hope amidst all the apparent disaster."
As a political story, The Other Path presents a novel and subversive plot with important economic overtones. For de Soto, the promise for Peru's future lies neither with the left-wing revolutionary group the Shining Path (Sendero Luminoso) nor with the right-wing statist oligarchy. Rather, it resides with the participants in the underground economy. They, according to de Soto's estimates, constitute almost half of the economically active population and contribute close to 40 percent of the gross domestic product.
This vast informal sector of economic activity is viewed not as the source of Peru's economic paralysis, but rather as the solution to its difficulties. This formulation of the promise for development has a unique appeal to those who harbor a
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