Correlation Between Economic Freedom and Income

I was recently reading the Index of Economic Freedom World Rankings developed by the Heritage Foundation which is a measure of the economic freedom and opportunity in countries. In 1776, economist Adam Smith, in his influential work, The Wealth of Nations, formulated a theory that when institutions and governments protect the economic liberty of individuals, greater prosperity results for all.

Today that theory has been measured and proven, as you can see in the chart below. In red is plotted the economic freedom score of 157 countries, and in blue is plotted the GDP per capita in those same countries. As you can see, the greater the economic freedom in a country, the greater the economic prosperity of its people.

Gross domestic product (GDP) is a primary indicator of wealth and economic prosperity; it represents the total dollar value of all goods and services produced by the country and is divided by the population (per capita) to adjust for population size difference.

What is Economic Freedom?
Economic freedom is defined as the right to control one’s own labor and property. “In an economically free society, individuals are free to work, produce, consume, and invest in any way they please, with that freedom both protected by the state and unconstrained by the state. In economically free societies, governments allow labor, capital and goods to move freely, and refrain from coercion or constraint of liberty beyond the extent necessary to protect and maintain liberty itself.” (See http://www.heritage.org/Index/FAQ.aspx)

The economic freedom score is determined based on each countries performance in 10 areas:

  • Business Freedom: the ability to start, operate, and close a business. Takes into account the overall burden of regulation, as well as the efficiency of government in the regulatory process.
  • Trade Freedom: the absence of tariffs and other barriers that affect the import and export of goods and services.
  • Fiscal Freedom: the burden of government taxes both on individuals and corporations, as well as the overall amount of taxes as a percentage of GDP.
  • Government Size: the level of government expenditures as a percentage of GDP. Includes government expenditures on all levels federal, state, and local.
  • Monetary Freedom: price stability including an assessment of inflation and price controls. Price stability without government intervention is the ideal state for the free market.
  • Investment Freedom: the free flow of investment capital (foreign investment as well as internal capital flows) in order to determine its overall investment climate.
  • Financial Freedom: the extent of government regulation of banks and other financial services; the difficulty of opening and operating financial services firms; and government influence on the allocation of credit.
  • Property Rights: the ability of individuals to accumulate private property; the degree to which a country’s laws protect private property rights and to which its government enforces those laws. It also assesses the likelihood that private property will be expropriated and the ability of individuals and businesses to enforce contracts.
  • Freedom from Corruption: Corruption erodes economic freedom by introducing insecurity and uncertainty into economic relationships. The score for this component is derived from Transparency International’s Corruption Perceptions Index.
  • Labor Freedom: the legal and regulatory framework of a country’s labor market. It considers regulations on minimum wages, laws inhibiting layoffs, severance requirements, and measurable regulatory burdens on hiring, hours, etc.
  • (see Methodology for the 10 Economic Freedoms)

    Conclusion
    As shown in the graph above, there is empirical evidence that economic freedom, as defined by the ten factors above, leads to economic prosperity. Despite that, there are still many doubters, particularly in the moderate and left-leaning political philosophies. With the so-called stimulus bill, our president, most in his party, and some in the opposition party, are currently engaged in one of the largest expansions of government in our country’s history. This expansion of government brings with it a reduction of economic freedom, and consequently the economic prosperity of all will be diminished. Thus this stimulus package, passed in the name of helping people, will in fact hurt the economic fortunes of individuals and businesses in our country.


    Economic Freedom scores taken from the Heritage Foundation
    http://www.heritage.org/Index/Ranking.aspx

    GDP per capita by country was taken from Wikipedia:
    http://en.wikipedia.org/wiki/List_of_countries_by_GDP_(PPP)_per_capita

    New Deal Prolonged the Depression

    With the recent passage the $700 billion stimulus package, “federal obligations now exceed the collective net worth of all Americans.” What does this mean? It means The United States of America is officially bankrupt. This is according to calculations made by the Peter G. Peterson Foundation, and was published recently in the DCexaminer.com.

    As interesting as our huge national debt is, in and of itself, I found it even more enlightening in the context of an article by two UCLA economists. Harold L. Cole and Lee E. Ohanian recently did a study on FDR’s New Deal policies signed into law during the Great Depression. They found that instead of helping, FDR’s New Deal actually thwarted economic recovery and prolonged the Depression by seven years.

    “Why the Great Depression lasted so long has always been a great mystery, and because we never really knew the reason, we have always worried whether we would have another 10- to 15-year economic slump,” said Ohanian, vice chair of UCLA’s Department of Economics. “We found that a relapse isn’t likely unless lawmakers gum up a recovery with ill-conceived stimulus policies.

    “President Roosevelt believed that excessive competition was responsible for the Depression by reducing prices and wages, and by extension reducing employment and demand for goods and services,” said Cole, also a UCLA professor of economics. “So he came up with a recovery package that would be unimaginable today, allowing businesses in every industry to collude without the threat of antitrust prosecution and workers to demand salaries about 25 percent above where they ought to have been, given market forces. The economy was poised for a beautiful recovery, but that recovery was stalled by these misguided policies.”

    – emphasis added. source: UCLA Newsroom, FDR’s policies prolonged Depression by 7 years, UCLA economists calculate

    So, Who’s Going to Bail Out the Government?
    As mentioned earlier this week in my post on the 2008 recession, we have officially entered economic tough times. But instead of acting responsibly, our government leaders are digging us further and further into debt with “misguided policies” and “ill-conceived stimulus policies.” And just as the UCLA economists predicted, this will do nothing but prolong the recession. I’m afraid that those who fail to learn from history are doomed to repeat it.

    2008 Recession Is Official

    After nearly of a year of unofficial pronouncements of the country’s recession (see, for example, NPR: Official Or Not, Consumers Sense A Recession), media outlets across the country, earlier this month, announced that the recession is now official (see, for example, NPR: Recession Is Official).

    So what’s the difference between an official and an unofficial recession? Unofficially, a recession could be classified as any “period of general economic decline.” Officially, a recession is a decline in “GDP for six months (two consecutive quarters) or longer.” (see recession definition at BusinessDictionary.com).

    So all this talk of recession and GDP (Gross Domestic Product) growth got me thinking I should look at the data (see chart below), analyze it and see if I can find anything insightful. Here’s what I found:

  • There seems to be no correlation between GDP growth and the political party in the White House. (Which is unfortunate, for me, because I really like Republican economic policy platform of lower taxes, etc. much better than the Democrats.)
  • Economic down turns during an election year generally means the incumbent party in the White House will lose. This happened in 2008, 2000, 1992, and 1980. (Please note that I do not consider the president to be ‘Economist and Chief’, though that seems to be how the American people treat him.)
  • Average quarterly GDP growth, over the past 60 years, has been right at 3%.
  • The economic data does seems somewhat cyclical, with recessions hitting every 8 to 12 years.


    Sources:
    –Quarterly Growth in real GDP at annual rates, Percent
    http://www.economagic.com/em-cgi/data.exe/var/rgdp-qtrchg
    –“The current administration has compiled the worst economic record in 50 years.” -Bill Clinton, 1992, http://www.ibiblio.org/nii/econ-posit.html
  • Freakonomics: A Rogue Economist Explores the Hidden Side of Everything

    Many of you out there probably find the field of economics extremely boring and/or difficult to understand. My real first exposure to the study of economics was my freshman year of college when I took Econ 110. I loved it, though my grades probably did not reflect that, because it explained, well, everything. Interest rates, wages, trade balances, and Gross Domestic Product, of course, but it also explained about life in general, how people operate and how they respond to a variety of social, political and economical incentives. I preface my blog today with this statement because I consider Freakonomics one of the best books I have read in a while, though I realize you non-economists out there may consider me a freak for thinking so.

    Regardless, if I still have your attention, I’d like to tell you a little bit more about the book. The primary author is Steven Levitt, an economics professor at the University of Chicago. The book, though lacking any real central theme, attempts to answer questions many of us have often pondered, such as…

    What do US schoolteachers and Japanese Sumo wrestlers have in common?
    Answer: Both are thought of as very honest and honorable. But both have incentives to cheat, and do.

    Can selling bagels by the honor system (leaving them at an office with a collection box) work in Washington D.C.?
    Answer: Yes. About 90% of the bagels are generally paid for.
    Bonus question: Who is more likely to take a bagel without paying? A high level executive, or his lower level sales and administrative employees?
    Answer: High ranking executives.

    Why do drug dealers still live with their moms?
    Answer: Your average gang member/drug dealer only takes home $3.30 an hour. (Like a standard pyramid enterprise, the top 2 percent of gang members take home over half the drug money.)

    Where did all the criminals go? In the late 80s, crime was on the rise and all the “experts” predicted that trend to continue. But in the 90s, crime rates across America dropped dramatically.
    Answer: Newspapers and politicians would tell you that it was the innovative policing strategies, the aging of the population, tougher gun control laws, a strong economy, or the reinstatement of the death penalty. They would all be wrong, though. The data reveals that longer jail terms accounted for 33% of the drop in crime in the 90s, hiring additional police officers–10%, and the crashing of the crack/cocaine market–15%. What about the other 42%…Steven Levitt attributes it to the legalization of abortion due to the Roe v. Wade Supreme Court decision. Young, low-income mothers’ babies are more likely to grow up to be criminals, and young, low-income mothers have been most likely to take advantage of legalized abortions. Future criminals are being killed before they are even born, causing a major decline in crime rates.

    Levitt takes on these and other controversial topics, like racial inequities in America and the Black/White gap. But he addresses these issues from a unique, data-driven perspective and he reports his results with refreshing candor. I could easily continue to cite the amazing jewels hidden within this book, like that the per-hour death rate of driving and flying are about equal, but I’ll let you read it and discover them for yourself.

    Just as Good Yet 10 Times Less Expensive

    When I was about 13 years old (1989), I was on the eighth grade basketball team. I loved playing basketball and I loved the comradery with my teammates. The coach determined that we should all get the same basketball shoes, and he chose ones costing $65, which was way out of my parent’s price range. I begged and pleaded but my parents would not consent to buying them. I felt like such an outcast, not having the high-end shoes everyone else had. Instead, I had a $20 pair that looked relatively similar to the team’s.

    When he was growing up, New York Knick’s NBA star Stephon Marbury couldn’t afford the top brand basketball shoes either, so he has decided to do something about it (news source). In September 2006, he launched a line of Starbury basketball shoes to sell for $14.98 a pair. The Starbury would be of comparable quality to the high priced shoes endorsed by other celebrity athletes. A pair of LeBron James basketball shoes, for example, will cost as much as $150; ten times as much as the Starbury.

    Marbury claims that if you take his shoes and the $150 shoes, and cut them both down the middle, you will see they are exactly the same. ABC’s John Stossel put Marbury’s statement to the test. A pair of Starburys and a pair of Air Jordans (costing over $100) were brought to Professor Howard Davis of the Parsons School for Design, and he concluded that they are indeed “constructed the same way”. (another source) He added, though, that the quality of materials used in the Starbury was inferior to the Air Jordans.

    Even if the quality is lower than the more expensive brands, for $15, I thought it is worth a try. But the Starburys can only be bought at Steve and Barry’s sporting goods store, and there are none here in Memphis. We were recently traveling through Hannibal, MO, though, on our way to Nauvoo, IL to visit Heather’s parents. Hannibal has a Steve and Barry’s store, so we stopped by and got a pair of Starburys.

    To give even more credibility to his line of shoes, Stephon Marbury wore his Starburys for the entire 2006-2007 basketball season. He had one of his best seasons ever. His teammate Steve Francis has also started wearing them and now Ben Wallace of the Chicago Bulls is wearing and endorsing the shoes. Tonight, I’ll be giving the Starburys a try, so we’ll see how they stand up to Church basketball.