The attempt to develop a rigorous, quantitative measure of
economic freedom may strike some as a presumptuous undertaking. The effort requires agreement on the
conceptual dimensions of economic freedom, the indicators or data that fit or
reflect each of the several dimensions of economic freedom, and the generation
of a number (or numbers) that sums up all of the different dimensions, thereby
permitting comparative ratings on the degree of economic freedom that exists
both in the aggregate for each of the different dimensions of economic life in
every country in the world at any point in time. This post summarizes the initial effort. I encourage you to read the full text of
defining economic freedom and some possible measures, which appears in Chapter 4, Economic Freedom: Toward a Theory of Economic Measurement (pages 87-108). It lays a foundation for
subsequent efforts to refine the conceptual elements of economic freedom,
identify data requirements, and develop quantitative measures. The ultimate objective is an annual report or
yearbook, which has been produced annually by the Fraser Institute since 1996, rating
economic freedom in every country around the globe, thereby upgrading the initial
Freedom House Rating prepared by Zane Spindler and Laurie Still (Chapter 5, pages 135-171).
In Chapter 4 I tried to offer a preliminary definition, a
check list, or a recipe of economic freedom ingredients. I tried to identify the fewest number of
dimensions that would be self-contained, consistent, and coherent. Obviously, you could break them into many
more. This same set of seven dimensions
could be subdivided into 10, 20, 25, or 30, as the case may be. I compromised in the trade-off to produce
something that is both meaningful and simple.
Some of the seven dimensions represent notions about
individuals and others aggregate notions about the whole society. For example, the schedule of marginal rates
affects an individual’s decision to work, save, and invest, while an average
tax burden may affect the society as a whole.
A second way to slice through these seven categories is in
terms of institutions or rules and policies or incentives. The first two, private property and the rule
of law, I regard as institutional framework rules. The others are public policies that
governments undertake which have an effect on people’s capacity to do things
economically and make them more or less free.
Two Institutions
My taxonomy is guided by philosophical considerations. One cannot proceed without talking about private
property. A second area connected to
private property is the rule of law. In
one community the rules are clear and one can expect fair and impartial
treatment, and in the other the laws seem whimsical and decision making appears
capricious. The rule of law can enhance
economic freedom through a written code, an independent judiciary, the
structure of the legal codes, what kind of legal code it is, rights of appeal,
and so on.
Five Categories of
State Intervention
The first area of
state intervention I examine is taxation.
Taxation can encompass high taxation, low taxation, the structure of
taxes, composition of taxes, visible versus invisible taxes, rates of tax, whether
taxes are used to redistribute income and wealth, taxes versus user fees to finance
public services, and a broad-based proportional low tax scheme that promotes or
enhances economic freedom as opposed to a loophole-ridden selective system with
high rates on some kinds of economic activities and no rates on others.
A second area is
public spending, the counterpart of taxation. For centuries, the principle of balanced
budgets regulated budget policy. For the
past 75 years, budget deficits have become a way of life in most advanced and
developing countries. Until 1929, public spending in the U.S. consumed 10% of
GDP. Since then it has tripled. The amount of spending, how it is spent, the amount
of interest paid on a large and growing public debt, and the growing welfare
state all have an impact on economic freedom, the ability of individuals to
exercise responsibility for their own affairs.
What kind of spending enhances economic freedom and which doesn’t?
A third area is
regulation of business and labor. Regulatory
agencies have dramatically increased in number and scope since 1960. For business, important aspects of economic
freedom include legal formalities required to set up a business should be few
and inexpensive, free entry and exit into any line of production, absence or
presence of monopoly practices that benefit specific firms or industries, and free
movement of prices to equate supply and demand in the market place. Other regulations are designed to control
externalities such as air and water pollution, impose safety requirements on
food, drugs, transportation carriers, the production of other goods and
services that affect public health and safety, job safety inspections, equal
employment opportunity enforcement, consumer product safety standards, and
energy restrictions. However,
regulations can entail large expenditures to comply, or they can be imposed in
a least-cost, minimally-interventionist manner.
How they are imposed affects both efficiency and economic freedom.
Labor regulations entail the rights of workers, choice of
occupation, freedom to travel at home and abroad, unions (right to strike,
compulsory payment of union dues, membership requirements), sick leave,
vacation time, fringe benefits, hours of work, workmen’s compensation
ordinances, pension fund requirements, and other measures. All of these impact the economic freedom of
workers and the overall labor market, raising the cost of production and
reducing employment.
A fourth area is money. The following policies, practices, and
institutions, among others, should be examined to investigate a link between
monetary policy and economic freedom:
The legal
right of non-governmental entities to issue private currency;
The absence
of legal tender laws;
The right to buy (free of sales and
other taxes), own, and exchange gold (silver) coins;
An accurate
description of the monetary system;
The
successful conduct of monetary policy in terms of price stability and steady
growth;
Convertibility
of currency (into goods and services and other currencies);
Free inward
and outward movement of capital;
Competition
within banking and financial services sectors; and
Monetary
policy rules.
The final area is
foreign trade. Free trade maximizes
both efficiency and economic freedom. It
enables individuals to buy and sell freely on world markets, selling products
at the highest possible price and purchasing goods and services at the lowest
possible price and giving individuals the widest possible choice of consumer
goods. Free trade also permits specialization,
division of labor, and the principle of comparative advantage to work to the
benefit of individuals and firms in each country.
Those socialist and developing countries that pursued
policies of self-reliance, self-sufficiency, import substitution,
protectionism, and other inward-looking policies resulted in dismal records of
economic performance and curtailed economic freedom. Those that pursued policies in a milieu of
free trade flourished.
Free trade means an absence of tariffs, non-tariff barriers,
capital controls, restrictions on direct foreign investment, and government
controlled marketing boards that fix the price of imports to consumers and
exports to producers.
Summary
In the interests of parsimony here, I encourage you to read
the full text of my paper and the subsequent discussion with the conference
participants.
The measurement of economic freedom has been refined and
improved since the Napa Valley Conference held in Vancouver in July 1988, both
for the Fraser Institute Annual Report and the follow-on Heritage Foundation/Wall Street Journal Index. I hope you will review the Fraser Institute
Annual Report published in conjunction with the Cato Institute.