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The Code of Capital: How the Law Creates Wealth and Inequality

Tags: #law #economics #politics #history #social justice #technology #ai

Authors: Katharina Pistor

Overview

In my book, “The Code of Capital”, I explain how law shapes the creation and distribution of wealth in capitalist societies. I argue that capital is not simply a physical entity but a product of legal coding. Specific legal modules, embedded in private law, transform ordinary assets into capital by bestowing upon them unique attributes that give their holders an advantage in accumulating wealth. This book analyzes the historical evolution of these legal modules, from their origins in feudal land law to their modern-day applications in financial markets and intellectual property. I illustrate this process by examining a range of historical and contemporary cases, including the enclosure of the commons in England, the Lehman Brothers bankruptcy, and the patenting of the BRCA gene. I also explore how the rise of digital code, particularly through blockchain technology, presents both a challenge and an opportunity for the existing legal code of capital. While my book is aimed at a general audience interested in understanding the hidden role of law in shaping economic outcomes, its insights are particularly relevant for those working on the intersection of technology, law, and society. By understanding how legal coding shapes the distribution of wealth and power, we can begin to think critically about the role of law in shaping a more equitable and sustainable future. While I explore how capital’s legal code can be harnessed for progressive purposes, I ultimately argue that unchecked, the legal coding of capital undermines democratic values and fuels inequality. I call for a re-politicization of law and a re-balancing of power between capital and society, urging for greater democratic control over the legal code and the modules that make capital.

Book Outline

1. Empire of Law

Capital is not inherently tied to a specific object or class but is created through legal coding. Legal modules, like contract, property rights, collateral, trust, corporate, and bankruptcy law, transform assets into capital by granting them priority, durability, universality, and convertibility. The law, shaped by those with access and control, turns simple assets into engines of wealth generation.

Key concept: Capital, I argue in this book, is coded in law. Ordinary assets are just that—a plot of land, a promise to be paid in the future, the pooled resources from friends and family to set up a new business, or individual skills and know-how. Yet every one of these assets can be transformed into capital by cloaking it in the legal modules that were also used to code asset-backed securities and their derivatives, which were at the core of the rise of finance in recent decades.

2. Coding Land

Land becomes capital when it is coded as private property, allowing individuals to capture its monetary value. However, this coding has historically been used to dispossess others, as seen in the enclosure of the commons in England and the treatment of indigenous land rights in settler colonies. These legal maneuvers, often backed by dubious justifications like the “discovery doctrine”, illustrate the power dynamics inherent in legal coding.

Key concept: Property rights, in other words, come in many different forms, and it falls to courts to discern their specific contents and meaning by observing actual practices rather than imposing their own pre-conception.

The modern business corporation is a powerful tool for generating capital, primarily due to its asset-shielding capabilities, loss-shifting mechanisms, and indefinite lifespan. Entity shielding allows firms to partition assets, protecting them from various creditors and enabling access to low-cost debt finance. This can, however, create systemic risks when obscured liabilities within complex corporate structures like Lehman Brothers collapse.

Key concept: Entity shielding creates priority rights over distinct asset pools, each with its distinct creditors who can focus on monitoring a specific pool, but may not have access to the larger pie.

4. Minting Debt

Debt, particularly when easily transferable and convertible into state money, is a defining feature of capitalism. The evolution of debt instruments, from simple notes and bills of exchange to complex securitized assets like NC2 and CDOs, demonstrates the continuous refinement of legal coding to enhance liquidity and reduce risk. This evolution has shifted power from landowners to creditors, and the reliance on state backing to ensure convertibility exposes states to the risk of bailouts.

Key concept: If there is one asset that defines capitalism, it is debt—not any debt, but debt that can be easily transferred from one investor to another, and preferably debt that is convertible into state money at any time on the behest of its holders, the creditors.

5. Enclosing Nature’s Code

Knowledge, including genetic information, can be transformed into capital through intellectual property rights like patents. However, the aggressive enclosure of nature’s code, as exemplified by the BRCA gene patent case, raises ethical concerns. Additionally, the use of “data-generating patents” coupled with trade secrecy law allows companies like Myriad Genetics to build lasting monopolies that restrict access to vital information.

Key concept: In essence, “data-generating patents” give the patentee a head start over others in building a huge, private database that will be enforced through trade secrecy law long after the patent itself has expired.

6. A Code for the Globe

Global capitalism exists without a global state or legal system. This is possible because select domestic laws, particularly those of England and New York, have become portable and are recognized and enforced globally. This legal infrastructure allows capital to roam freely, choosing favorable jurisdictions and circumventing national regulations. The lack of a corresponding global framework for bankruptcy and property law, however, poses a significant challenge.

Key concept: The solution to this puzzle is surprisingly simple: global capitalism can be sustained, at least in theory, by a single domestic legal system, provided that other states recognize and enforce its legal code.

7. The Masters of the Code

Lawyers, the masters of the legal code, play a crucial role in coding capital. They possess deep knowledge of legal modules, exploit legal loopholes and ambiguities, and adapt their coding strategies to new assets and regulatory challenges. Their ability to create and manipulate legal structures for the benefit of their clients has made them indispensable to capital and has contributed to their growing influence, particularly in the age of globalization. However, this power dynamic raises concerns about the role of law in serving private interests and exacerbating inequality.

Key concept: Asset holders for their part greatly value the lawyers’ coding efforts; why else would they pay them hourly rates that nowadays run into in the upper three or four digits, and even go along with demands by some lawyers at the top of the profession to receive remuneration on a par with investment bankers?

8. A New Code?

The rise of digital code, particularly through blockchain technology and smart contracts, poses a potential challenge to the legal code of capital. While digital code promises efficiency, transparency, and decentralization, it faces challenges regarding adaptability, governance, and control. The question of whether digital code will replace, complement, or be co-opted by the legal code is still open, with significant implications for the future of capital and its regulation.

Key concept: It remains to be seen whether the digital code has the capacity to replace law, whether it can operate without legal crutches as many digital coders believe it can, and whether the masters of the legal code will retreat and surrender the task of coding capital to the digital coders.

9. Capital Rules by Law

Capital’s dominance is rooted in its ability to rule by law, privileging private interests over public concerns. This dynamic creates inequality and social instability, prompting calls for a new social contract between capital and society. While the erosion of state sovereignty in the face of globalized capital makes it difficult to control, there are potential strategies to rebalance the playing field: limiting legal privileges granted to capital, reducing opportunities for legal arbitrage, increasing democratic control over law-making, and strengthening legal protections for those most vulnerable to capital’s excesses. Ultimately, restoring law’s legitimacy as a tool for collective self-governance is crucial for ensuring a more equitable and sustainable future.

Key concept: The only other trajectories are a violent disruption of the current order, that is, a true revolution, or, short of it, the further erosion of law’s legitimacy as a means of social ordering.

Essential Questions

1. How is capital created, and what distinguishes it from ordinary assets?

Capital is created by attaching legal modules like property rights, collateral, trust, corporate structures, and bankruptcy protections to assets. These modules provide holders with advantages like priority over other claims, durability across time, universality of enforcement, and convertibility into state-backed money. These advantages are not inherent to the assets themselves but are created through the legal system. This means capital is not a natural phenomenon but a socially constructed one, crafted by lawyers and enforced by states.

The legal code that creates and protects capital is not neutral. It reflects power dynamics and often serves the interests of those who already have wealth and access to legal expertise. This bias is evident in historical examples like the enclosure of the commons and the legal maneuvers used to justify colonialism. It also manifests in the complex legal structures of modern finance, which prioritize the interests of creditors and shareholders over other stakeholders. This dynamic perpetuates and exacerbates inequality, giving those with capital an outsized influence on lawmaking and enforcement.

3. What is the role of the state in creating and protecting capital?

The state plays a crucial, though often indirect, role in coding capital. While private lawyers do much of the work in crafting legal structures that transform assets into capital, they rely on the state to recognize and enforce those structures. States also contribute to the creation of capital by providing tax benefits, regulatory exemptions, and other forms of support, often motivated by the promise of economic growth. This complicity, however, can come at the expense of democratic values and social welfare, particularly when states prioritize the interests of capital over the well-being of their citizens.

The rise of digital code, particularly blockchain technology, poses a potential challenge to the existing legal code of capital. While many digital coders envision a decentralized and egalitarian future where code replaces law, the reality is more complex. The creation and governance of digital code is not immune to power dynamics and hierarchy, and ultimately, the success of any digital coding strategy still depends on its recognition and enforcement by states. Whether digital code will transform or merely reinforce the existing power structures of capital is an open question with profound implications for the future.

Yes, there are several ways to challenge the dominance of capital’s legal code. These include limiting the legal privileges granted to capital, reducing opportunities for legal arbitrage, strengthening democratic control over lawmaking, and empowering those who have been marginalized by capital’s legal code. Achieving these changes requires a deeper understanding of the role of law in shaping economic outcomes and a willingness to challenge the prevailing assumption that existing legal structures are neutral and efficient.

Key Takeaways

1. Capital is not a thing, it is coded in law.

The law plays a fundamental role in shaping how assets, tangible or intangible, are valued and utilized. By understanding how legal coding transforms ordinary assets into capital, we gain a deeper understanding of the mechanics of wealth creation and distribution.

Practical Application:

For AI product engineers, this understanding is crucial. AI systems are built on data, which can be considered an asset. By understanding how data is legally coded and protected, engineers can build systems that respect legal boundaries and anticipate potential challenges. For example, if an AI system relies on data that is subject to privacy regulations, engineers need to build in mechanisms to ensure compliance.

The legal code of capital, while often presented as neutral and objective, inherently favors certain actors and interests. This bias can lead to systemic inequalities and can be used to dispossess those who lack access to legal expertise or political power.

Practical Application:

This takeaway highlights the need for greater transparency and accountability in the design and deployment of AI systems. As AI increasingly impacts areas of social concern, such as healthcare, education, and criminal justice, it is crucial to ensure that these systems do not simply perpetuate existing inequalities. This requires careful consideration of the data used to train AI systems, the algorithms that drive their decision-making, and the potential for unintended consequences.

3. Law has become portable, enabling capital to roam globally.

The globalization of capital has been facilitated by the portability of law. Select domestic legal systems, particularly those of England and New York, have become dominant in coding capital globally, often at the expense of national legal sovereignty and democratic control.

Practical Application:

This has significant implications for AI, as data is often gathered and used across borders. Understanding how different legal systems code and protect data, particularly regarding intellectual property and privacy, is crucial for AI engineers. They must anticipate legal challenges and build in safeguards to ensure their systems operate within these legal frameworks.

4. Lawyers are the masters of the code.

Lawyers, the ‘masters of the code’, play a critical role in coding capital. They use their specialized knowledge to craft and manipulate legal structures for the benefit of their clients, pushing the boundaries of existing law and creating new legal loopholes.

Practical Application:

AI engineers must be mindful of the potential for their work to be used for legal arbitrage. For example, AI systems could be designed to exploit loopholes in financial regulations or to create complex legal structures that obscure liabilities. It is important for engineers to consider the ethical implications of their work and to avoid contributing to the creation of systems that primarily benefit the wealthy and powerful.

The future of capital and its regulation depends on the interplay between the digital and legal codes. While digital code offers potential for greater efficiency and transparency, it also risks reinforcing existing power dynamics and exacerbating inequalities unless carefully designed and governed.

Practical Application:

This highlights the potential for AI to be used for both progressive and regressive purposes. AI could be harnessed to create more equitable and sustainable systems, for example, by designing algorithms that promote fair lending practices or by developing tools to monitor and mitigate the negative externalities of capital. However, it is crucial to ensure that AI is not simply used to automate existing power structures or to further concentrate wealth in the hands of a few.

Suggested Deep Dive

Chapter: Cloning Legal Persons

This chapter provides a detailed analysis of the corporate form, a key legal module for coding capital. It delves into the mechanics of entity shielding, loss-shifting, and shareholder limited liability, illustrating how these legal mechanisms contribute to the accumulation and concentration of wealth. The chapter’s ‘institutional autopsy’ of Lehman Brothers offers a compelling case study of how the corporate form can be used for both wealth creation and systemic risk.

Memorable Quotes

Empire of Law. 8

“This book tells the story of the legal coding of capital from the perspective of the asset: land, business organizations, private debt, and knowledge, even nature’s genetic code.”

Empire of Law. 14

“Fundamentally, capital is made from two ingredients: an asset, and the legal code.”

Empire of Law. 17

“Decoding capital and uncovering the legal code that underpins it regardless of its outward appearance reveals that not all assets are equal; the ones with the superior legal coding tend to be ‘more equal’ than others.”

“Ironically, the promiscuous use of the corporate form contributed to Lehman’s downfall.”

Minting Debt. 107

“It is possible to dress up any claims by placing them into trusts or corporate entities and garnish them with alphabet soup labels, such as SPVs, MBS, CDOs and their squared, cubed, or even synthetic variants. However, at the other end of the deal, there are still the same little old houses, which their owners can barely afford and that may not hold their value once the funding machine that helps fuel prices in real estate dries up.”

Comparative Analysis

“The Code of Capital” distinguishes itself by focusing on the legal architecture of capital, a perspective often overlooked in other works on wealth and inequality. Unlike Thomas Piketty’s “Capital in the Twenty-First Century”, which meticulously documents the increasing concentration of wealth without fully explaining its origins, Pistor provides a mechanism: the legal coding of assets. She delves deeper than accounts that simply attribute wealth creation to free markets or individual merit, revealing how law grants certain asset holders a structural advantage. While Marxist analyses highlight class struggle as a driver of inequality, Pistor argues that the real battle is over control of the legal code itself. This framework also offers a more nuanced understanding of the history of capitalism than accounts that focus solely on industrialization or technological advancements, emphasizing the enduring role of law in shaping economic outcomes across different historical periods.

Reflection

Pistor’s “The Code of Capital” offers a compelling critique of the legal foundations of capitalism, revealing the hidden power of law in shaping economic outcomes. While her analysis is meticulously researched and thought-provoking, it is essential to consider skeptical angles. Her emphasis on the role of law in wealth creation may underestimate the contributions of innovation, entrepreneurship, and market forces. Additionally, her focus on the negative aspects of legal coding could overshadow its potential for promoting social welfare and economic development. However, her central argument, that capital is not a natural phenomenon but a product of law, is a powerful insight with far-reaching implications. By understanding how legal coding shapes the distribution of wealth and power, we can begin to challenge the dominance of capital’s legal code and strive for a more just and sustainable future. Her analysis provides a valuable framework for understanding the interplay between law, technology, and society, particularly relevant in the age of digitization and globalization.

Flashcards

The legal modules of the code of capital are: contract law, property rights, collateral law, trust law, corporate law, and bankruptcy law.

Priority, durability, universality, and convertibility.

What is the ‘discovery doctrine’?

The legal doctrine that European colonizers used to justify claiming land occupied by indigenous peoples, arguing that discovery and improvement of the land gave them a superior claim.

What is an entail, and how was it used to code land as capital?

A legal device used by English landowners to protect their family’s wealth by preventing the sale or mortgage of the family estate. It combines individual property rights with restrictions on alienability.

How does the corporate form contribute to the durability of capital?

A legal entity that can shield its assets from the claims of both its shareholders and the shareholders’ personal creditors.

What is commodification?

The process of transforming an ordinary asset into a tradable commodity by embedding it in legal structures that grant it priority and universality.

What is a ‘bankruptcy safe harbor’ for derivatives?

A legal mechanism that allows creditors of derivatives transactions to immediately settle their claims against a bankrupt counterparty, even if this disadvantages other creditors.

What is arbitration?

A system for resolving disputes outside of state courts, often used in international commercial transactions and investment treaties.

What is Investor-State Dispute Settlement (ISDS)?

A mechanism in investment treaties that allows foreign investors to sue host states for alleged violations of their rights, including claims based on “unfair and inequitable treatment.”

Knowledge, including genetic information, can be turned into capital through legal mechanisms like patents and trade secrecy law, but this creates private monopolies that restrict access to potentially valuable information.