Index of Economic Freedom

The Index of Economic Freedom is a series of 10 economic measurements created by The Heritage Foundation and The Wall Street Journal. Its stated objective is to measure the degree of economic freedom in the world's nations.

The Heritage Foundation and the Wall Street Journal created the Index of Economic Freedom in 1995. According to Heritage, the creators of the Index took an approach similar to Adam Smith's The Wealth of Nations that "basic institutions that protect the liberty of individuals to pursue their own economic interests result in greater prosperity for the larger society."^[1][2] The authors of the 2009 Index of Economic Freedom are Kim Holmes and Ambassador Terry Miller.

2011 rankings

To view the full list and the description of each country's economy, go to http://www.heritage.org/index/ranking.

Historical rankings

Method

The Index's 2008 definition of economic freedom is the following; "The highest form of economic freedom provides an absolute right of property ownership, fully realized freedoms of movement for labor, capital, and goods, and an absolute absence of coercion or constraint of economic liberty beyond the extent necessary for citizens to protect and maintain liberty itself." ^[3]

The index scores nations on 10 broad factors of economic freedom using statistics from organizations like the World Bank, the International Monetary Fund and the Economist Intelligence Unit:

• Business Freedom - Business freedom is a quantitative measure of the ability to start, operate, and close a business that represents the overall burden of regulation as well as the efficiency of government in the regulatory process.
• Trade Freedom - Trade freedom is a composite measure of the absence of tariff and non-tariff barriers that affect imports and exports of goods and services. Different imports entering a country can, and often do, face different tariffs.
• Monetary Freedom - Monetary freedom combines a measure of price stability with an assessment of price controls. Both inflation and price controls distort market activity. Price stability without microeconomic intervention is the ideal state for the free market.
• Government Size/Spending - This component considers the level of government expenditures as a percentage of GDP. Government expenditures, including consumption and transfers, account for the entire score.
• Fiscal Freedom - Fiscal freedom is a measure of the tax burden imposed by government.
• Property Rights - The property rights component is an assessment of the ability of individuals to accumulate private property, secured by clear laws that are fully enforced by the state.
• Investment Freedom - In an economically free country, there would be no constraints on the flow of investment capital. Individuals and firms would be allowed to move their resources into and out of specific activities both internally and across the country’s borders without restriction.
• Financial Freedom - Financial freedom is a measure of banking efficiency as well as a measure of independence from government control and interference in the financial sector.
• Freedom from Corruption - Corruption erodes economic freedom by introducing insecurity and uncertainty into economic relationships. The higher the level of corruption, the lower the level of overall economic freedom and the lower a country’s score.
• Labor Freedom - The labor freedom component is a quantitative measure that looks into various aspects of the legal and regulatory framework of a country’s labor market.

The 10 factors are averaged equally into a total score. Each one of the 10 freedoms is graded using a scale from 0 to 100, where 100 represents the maximum freedom. A score of 100 signifies an economic environment or set of policies that is most conducive to economic freedom.^[3] The methodology has shifted and changed as new data and measurements have become available, especially in the area of Labor freedom, which was given its own indicator spot in 2007.^[2]

Meaning

The Heritage Foundation reports that the top 20% on the index have twice the per capita income of those in the second quintile, and five times that of the bottom 20%.^[4] Carl Schramm, who wrote the first chapter of the 2008 Index, states that cities of Medieval Italy and mid-19th century Midwestern American cities all flourished to the degree they possessed economic fluidity and institutional adaptiveness created by economic freedom.^[5]

According to Will Wilkinson of the libertarian Cato Institute, studies show that higher economic freedom correlates strongly with higher self-reported happiness.^[6] According to Tomi Ovaska and Ryo Takashima, economic freedom research suggests "that people unmistakably care about the degree to which the society where they live provides them opportunities and the freedom to undertake new projects, strongly with and make choices based on one's personal preferences."

According to the Cato Institute, higher economic freedom promotes participation and collaboration.^[7] Also claimed is that higher economic freedom is extremely significant in preventing wars; according to their calculations, freedom is around 54 times more effective than democracy (as measured by Democracy Score) in diminishing violent conflict.^[8]

Ratings

Since the index was created in 1995, the score for world economic freedom has increased, rising 2.6 points up to 2008.^[9] In 2011 the score had decreased from the 2008 score of 60.2 to 59.7, which represents an increase of 2.2 points since 1995. The Economic Freedom score improved for 117 countries, the majority of countries included in the index, which were mainly developing and emerging market economies. With the exception of Europe and North America, there were increased levels of freedom recorded in all regions, with the greatest improvement shown in Sub-Saharan Africa. The top six "free" economies identified by the 2011 index were Hong Kong, Singapore, Australia, New Zealand, Switzerland, and Canada, each scoring over 80 on the economic freedom grading scale.^[10] Since the Index was created in 1995, Hong Kong has been the top performing economy.^[10][11]

The United States dropped to 9th place behind such countries as Denmark, Canada, and first-place Hong Kong.^[10] The Heritage Foundation has pointed to increases in government spending as the reason for the United States' decline, and according to data from the 2011 index, the growth rates of countries with the highest levels of government spending were 4.5 points lower, on average, than countries where government spending was under control.^[12] In their "Executive Highlights" of index results, the Heritage Foundation stated that "high levels of government spending in response to the global economic turmoil have not resulted in higher economic growth."^[10]

Reception

According to the Freedom House, "there is a high and statistically significant correlation between the level of political freedom as measured by Freedom House and economic freedom as measured by the Wall Street Journal/Heritage Foundation survey."^[13]

The Millennium Challenge Account, a U.S. government foreign aid program, has used the Trade freedom indicator in determining which countries will receive their performance-based compacts.^[14]

Critics such as Jeffrey Sachs have contested the Index's assumption that economic openness necessarily leads to better growth. In his book The End of Poverty, Sachs graphed countries' ratings on the index against GDP per capita growth between 1995 and 2003, claiming to demonstrate no correlation between a country's rating and its rate of economic growth. Sachs pointed out, as examples, that countries with good ratings such as Switzerland and Uruguay had sluggish economic performances, others, like China, with poorer rating had very strong economic growth.^[15]

The UAE questioned the rating of their country's economic freedom in 2008, comparing its middling rating with the high rating they had received from other indicators such as Transparency International and Moody's. They also argued that the report is "unreliable", because its methodology had changed twice in the last two years.^[16]

Stefan Karlsson of the Ludwig von Mises Institute, challenged the usefulness of the index due to the fuzziness of many of the categories used to determine freedom.^[17] John Miller, writing in Dollars & Sense, criticizes the Index for inappropriately weighted indicators for economic freedom and not taking into account the actions of governments to nurture business. According to him this leads to wealthy and/or conservative countries with barriers to trade placing high on the list, while poor and/or socialist countries with fewer restrictions on trade place low.^[18] According to Left Business Observer, the Index has only a 33% statistical correlation with a standard measure of economic growth, GDP per capita.^[19]

See also

• List of indices of freedom
• Mary O'Grady
• List of countries by economic freedom

References

External links

• Index of Economic Freedom from the Heritage Foundation
• The Failings of the Economic Freedom Index by Stefan Karlsson from the Ludwig von Mises Institute
• Free Free At Last by John Miller in Dollars & Sense