Economic Freedom: A Comparative Study

By Peláez, Rolando F. | Journal of Economics and Finance, July 2009 | Go to article overview

Economic Freedom: A Comparative Study


Peláez, Rolando F., Journal of Economics and Finance


Abstract

This paper presents a comparative study of economic freedom in five groups of countries: Free, Mostly Free, Islamic, Latin American, and a subset of EU member countries. The study includes 103 countries, and uses data from the 2007 Index of Economic Freedom. The paper tests for the statistical significance of the difference between group means for each of ten measures of economic freedom and for the overall freedom score. The empirical evidence shows that the Islamic countries have significantly less economic freedom than the other groups, and that they are the only group with declining economic freedom in the last 13 years.

Keywords Economic Freedom * Religion

JEL Codes P500 * Z120

1 Introduction

Mainstream economics has neglected the role of institutions and culture, instead emphasizing the roles of capital, labor, and technology as determinants of growth. However, Friedman (1982), Friedman and Friedman (1980, 1998), North (2000, 2005), Bauer (1957, 1978, 1981, 1984), Sen (1997, 1999, 2003), de Soto (2000), and Scully (1988, 2002), among others, have underscored the importance of economic freedom in determining the wealth of nations. This paper attempts to identify the idiosyncrasies that limit economic freedom in five groups of countries. The study uses data from the 2007 Index of Economic Freedom published jointly by the Heritage Foundation/WSJ.

Empirical work in this area requires measures of the extent to which individuals may freely engage in economic transactions. Freedom's House 1983 annual report was an early attempt to measure economic freedom. Following this pioneering work, the Fraser Institute and the Heritage Foundation began to publish annual reports on the state of economic freedom in the world. Hundreds of journal articles have used data from Economic Freedom of the World, and from the Index of Economic Freedom, published by the Fraser Institute, and the Heritage Foundation, respectively. With minor exceptions, the country rankings from these two reports are similar.

Economic freedom may be defined as "the absence of government coercion or constraint on the production, distribution, or consumption of goods and services beyond the extent necessary for citizens to protect and maintain liberty itself (2006 Index of Economic Freedom). Practices that reduce freedom include, among others: violating property rights, preventing people from transacting voluntarily inside and outside a nation's borders, wage and price controls, restrictions on financial activities, high tax rates, inflation, regulatory burdens on business, and corruption in the judiciary, customs service, and government. A composite measure of economic freedom quantifies the extent to which people are free to work, produce, trade, consume, save, invest, and have secure rights to property.

The 2007 Index provides data on ten factors or measures of freedom listed below.

1. Business freedom: measures the ability to create, operate, and close an enterprise quickly and easily.

2. Trade freedom: measures the absence of tariff and non-tariff barriers that affect international trade in goods and services.

3. Monetary freedom: combines a measure of price stability with an assessment of price controls. Both inflation and price controls distort market activity. Price stability as an expression of free markets is the ideal state.

4. Freedom from government: varies inversely with the level of government spending as a proportion of GDP.

5. Fiscal freedom: measures the confiscation of income and wealth via taxation. It accounts for the tax burden, in terms of the top tax rate on income (individual and corporate separately), and the proportion of tax revenue to GDP.

6. Property rights: assesses the ability of individuals to accumulate private property, secured by laws fully enforced by the state.

7. Investment freedom: assesses the free flow of capital, especially foreign capital. …

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