Economic Freedom of the World

The Fraser Institute a Canadian “think tank” publishes an annual report concerning the economic freedom of each country.

The annual Economic Freedom of the World report is the premier measurement of economic freedom, using 42 distinct variables to create an index ranking of countries around the world based on policies that encourage economic freedom. The cornerstones of economic freedom are personal choice, voluntary exchange, freedom to compete, and security of private property. Economic freedom is measured in five different areas: (1) size of government, (2) legal structure and security of property rights, (3) access to sound money, (4) freedom to trade internationally, and (5) regulation of credit, labor, and business.

The complete 2012 report is at this link:

http://www.freetheworld.com/2012/EFW2012-complete.pdf

An executive summery of the 2012 report can be viewed at this link:

http://www.freetheworld.com/2012/EFW2012-exsum.pdf

Here are the rankings from the current report:

In this year’s index, Hong Kong retains the highest rating for economic freedom, 8.90 out of 10. The other top 10 nations are: Singapore, 8.69; New Zealand, 8.36; Switzerland, 8.24; Australia, 7.97; Canada, 7.97; Bahrain, 7.94; Mauritius, 7.90; Finland, 7.88; and Chile, 7.84.

The rankings (and scores) of other large economies in this year’s index are the United Kingdom, 12th (7.75); the United States, 18th (7.69); Japan, 20th (7.64); Germany, 31st (7.52); France, 47th (7.32); Italy, 83rd (6.77); Mexico, 91st, (6.66); Russia, 95th (6.56); Brazil, 105th (6.37); China, 107th (6.35); and India, 111th (6.26).

The researchers who wrote this study felt compelled to include the following section:

The United States, long considered the standard bearer for economic freedom among large industrial nations, has experienced a remarkable plunge in economic freedom  during the past decade. From 1980 to 2000, the United States was generally rated the third freest economy in the world, ranking behind only Hong Kong and Singapore.  After increasing steadily during the period from 1980 to 2000, the chain-linked EFW  rating of the United States fell from 8.65 in 2000 to 8.21 in 2005 and 7.70 in 2010. The chain-linked ranking of the United States has fallen precipitously  from second in 2000 to eighth in 2005 and 19th in 2010 (unadjusted ranking of 18 th ).  By 2009, the United States had fallen behind Switzerland, Canada, Australia, Chile, and Mauritius, countries that chose not to follow the path of massive growth in government financed by borrowing that is now the most prominent characteristic of US fiscal policy. By 2010, the United States had also fallen behind Finland and Denmark, two European welfare states. Moreover, it now trails Bahrain, the United Arab Emirates, Estonia, Taiwan, and Qatar, countries that are not usually perceived of as bastions of economic freedom. The United States has now reached a point where  even small additional decreases in the rating will cause large ranking changes because  there are so many more countries clustered in this range of the index.

US ratings have declined in four of the five Areas of the EFW index. The rating in Legal System and Protection of Property Rights (Area 2) dropped by more than  2 points between 2000 and 2010. While it is difficult to pinpoint the precise reason for this decline, the increased use of eminent domain to transfer property to powerful political interests, the ramifications of the wars on terrorism and drugs, and the violation of the property rights of bondholders in the bailout of automobile companies have all weakened the United States’ tradition of the rule of law and, we believe, contributed to the sharp decline of the Area 2 rating. The rating for Freedom to Trade Internationally (Area 4) fell by over one point, and the ratings for Size of Government (Area 1) and Regulation (Area 5) by more than a half point. The only Area where the United States’ rating was basically unchanged was Access to Sound Money (Area 3).

Government consumption, transfers and subsidies, and government investment  all rose during the decade, while their private-sector counterparts were lower. These changes were the major reason underlying the decline in the rating for Area 1. The time cost of clearing customs increased and government borrowing consumed a substantially larger share of the credit market, contributing to the rating reductions in Areas 4 and 5. Some of the declines between 2000 and 2010 in the ratings of individual components and sub-components were very large. For example, the rating for Protection of property rights (2C) fell to 6.8 from 9.1. The rating reflecting import and export compliance costs (4Bii) fell to 7.2 from 9.5. Reflecting the large fiscal deficits of recent years, the private-sector credit rating (5Aii) plummeted to 0.8 from 9.4. The rating reflecting burdensome administrative regulations (5Ci) plunged to 4.0 from 7.9.

The approximate one-point decline in the summary rating between 2000 and  2010 on the 10-point scale of the index may not sound like much, but scholarly work on this topic indicates that a one-point decline is associated with a reduction in the long-term growth of GDP of between 1.0 and 1.5 percentage points annually (Gwartney, Holcombe and Lawson, 2006). This implies that, unless policies undermining economic freedom are reversed, the future annual growth of the US economy will be half its historic average of 3%.

This report along the the above discussion of the decline of the USA's ratings answer many of our questions and confirm many of our intuitions.  The decline of the middle class, the feeling of economic unease and despair, and the growing consensus that "America's best days are behind it" all stem from our loss of economic freedom.

CON Game

During a discussion with a friend of ours at lunch today, I realized that a group of tremendously economically destructive laws are relatively unknown.  The type of laws that require our examination are known as "Certificate of Necessity" (CON) statutes.  These laws have been enacted by legislatures in all 50 states to regulate a variety of industries.

The basic premise of CON statutes is that the free market is inefficient and that government planning can make better decisions concerning the allocation of capital.  CON laws require government approval for new companies to enter a market or for existing businesses to expand.

CON laws were originally applied to public utilities and transportation companies.  Unfortunately in 1964 the State of New York decided to apply this legal theory to hospitals and nursing homes.  In 1974 the Federal Government required all 50 states to "have structures involving the submission of proposals and obtaining approval from a state health planning agency before beginning any major capital projects such as building expansions or ordering new high-tech devices". Many states implemented CON programs in part because of the incentive of receiving CON federal funds.

The Federal mandate was repealed in 1987 but today 36 states still maintain CON laws for health care, and the states that have repealed their original CON statues have retained some aspects of them.  Effectively today the construction of any new medical facility or the installation of any new medical equipment requires the approval of a state governmental agency.  The anti-competitive  inflationary effects of the CON statutes on the cost of heath care are astronomical.

The following article by Timothy Sandefur of the Pacific Legal Foundation is an excellent historical perspective on CON legislation:

https://object.cato.org/sites/cato.org/files/serials/files/regulation/2011/8/regv34n2-1.pdf

Some of the highlights of this article:

CON laws were originally devised to regulate railroads and other public utilities. They first appeared in Massachusetts in the 1880s, and were soon taken up in other states, where they were often applied to streetcar lines.

As William K. Jones explains in his 1979 Columbia Law Review history of CON laws, Progressive Era proponents offered five main justifications for these restrictions, they would:

1. prevent “wasteful duplication” of services,

1. prevent “ruinous competition,”

1. ensure that regulated entities would continue to serve out-of-the-way customers,

1. promote private investments in public service industries,

1. forestall certain kinds of externalities.

Many economists and social theorists of the time believed competition was economically inefficient because it wasted resources on, say, multiple railroad lines between the same destinations.  Worse, they thought competition fostered the “boom-and-bust” cycle that drove out investment and ultimately left customers without the products and services they needed.

Possibly the most foolhardy CON requirements are laws that apply to hospitals. Originally adopted to prevent what economists saw as inefficient over-expansion of hospitals, the laws were soon captured by established interests that used them to raise the cost of medical services. In the 1970s, 49 states imposed CON requirements on hospitals, leading to higher costs and less innovation in medical care. Economist Thomas E. Getzen wrote in 1997 that “almost every well-established, wealthy, and politically connected hospital that applied for certification eventually got it, while denials fell disproportionately on outsiders that threatened the status quo or weaker institutions that lacked a constituency.”

Federal CON requirements were repealed in the 1980s, but many states still employ them. For example, Hawaii bureaucrats held up construction of a new $220 million private hospital on Maui for years, forcing the island’s 144,000 residents to depend on a single, state-run facility or on clinics. The State Health Planning Development Agency rejected a 2007 proposal to build a new, state-of-the-art facility, denying it a certificate of need because it would negatively affect the existing government-run hospital.

Occupational licensing laws are among the most common abridgments of economic liberty, but CON rules are more pernicious.  They do not even pretend to protect public safety by ensuring that practitioners are educated or skilled; they exist for the explicit purpose of preventing competition. Whatever merit that might have in the context of public utilities or natural monopolies, there is no reasonable foundation for applying such rules to moving companies, taxi companies, or hospitals. In these markets, CON restrictions unfairly favor entrenched private interests, increase the cost of living for consumers, destroy economic opportunity for the most vulnerable entrepreneurs, and in the case of hospitals, threaten Americans’ very lives. Certificate of necessity laws are arbitrary, discriminatory, and economically foolish.

The National Conference of State Legislatures has a brief description of CON laws along with a discussion of individual states statutes.  There is also a "pros and cons" chart:

http://www.ncsl.org/issues-research/health/con-certificate-of-need-state-laws.aspx

This passage from the "pros" section of the chart is interesting:

Advocates of CON programs say that health care cannot be considered as a “typical” economic product. They argue that many “market forces” do not obey the same rules for health care services as they do for other products. In support of this argument, it is often pointed out that, since most health services (like an x-ray) are “ordered” for patients by physicians, patients do not “shop” for these services the way they do for other commodities. This makes hospital, lab and other services insensitive to market effects on price, and suggests a regulatory approach based on public interest.

In the above defense of CON laws we find a government program (CON) is promoted to cure the unintended consequences of a previous government program (third party payer insurance coverage).  Obviously if the patient were paying for the cost of service (or a portion of the cost of service) they would "shop" for these services the way they do for other commodities.

For our friends who live in Hawaii you can find out how to apply for a Certificate of Necessity by studying this website:

http://hawaii.gov/shpda/certificate-of-need

If you are confused by the wording on the above page or you are frustrated that the application is 17 pages long, have no fear as the State of Hawaii has prepared a flowchart for this process (who would like to bet that it takes longer than 90days?):

And so that those of you who live in Illinois do not feel left out you can submit your application for a Certificate of Necessity after reading this page:

http://hfsrb.illinois.gov/conprocess.htm

Certificate of Necessity is an unnecessary and unconstitutional intervention into commerce by state governments.  It is perpetrated by existing businesses using the power of government to restrict competition.  We are all worse off because of these statutes.  The statutes must be repealed but more importantly we must explain to our fellow citizens why it is never better to let government make decisions that should be made by individuals.

The Machine

The Moving Picture Institute has produced an new short video titled "The Machine".  The subject is teacher unions, taxes, and politicians.  The run time is 4 minutes 30 seconds.  Watch the video at this link:

http://youtu.be/mVyNlJUKgug

Happy Capital Day

Lawrence W. Reed is president of the Foundation for Economic Education.  He recently published this essay: 

http://www.fee.org/articles/happy-capital-day-2/

Here are some of the highlights of this essay:

Any good economist will tell you that as complementary factors of production, labor and capital are not only indispensable but hugely dependent upon each other as well.

Capital without labor means machines with no operators, or financial resources without the manpower to invest in. Labor without capital looks like Haiti or North Korea: plenty of people working but doing it with sticks instead of bulldozers, or starting a small enterprise with pocket change instead of a bank loan.

Capital can refer to either the tools of production or the funds that finance them. There may be no place in the world where there’s a shortage of labor but every inch of the planet is short of capital. There is no worker who couldn’t become more productive and better himself and society in the process if he had a more powerful labor-saving machine or a little more venture funding behind him. It ought to be abundantly clear that the vast improvement in standards of living over the past century is not explained by physical labor (we actually do less of that), but rather to the application of capital.

But this year on Labor Day weekend, I’ll also be thinking about the remarkable achievements of inventors of labor-saving devices, the risk-taking venture capitalists who put their own money (not your tax money) on the line and the fact that nobody in America has to dig a ditch with a spoon or cut his lawn with a knife.

Labor Day and Capital Day. I know of no good reason why we should have just one and not the other.