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Big government is good for economic freedom

July 24th, 2004

Over at Marginal Revolution, Alex Tabarrok recently presented a graph showing a positive correlation between UN measures of gender development and the Fraser Institute’s Economic Freedom Index. Of course, Alex presented the usual caveats about causation and correlation, but he concluded “at a minimum the graph indicates that capitalism and gender development are compatible contrary to many radicals”

This prompted me to check out how the Economic Freedom index was calculated. The relevant data is all in a spreadsheet, and shows that the index is computed from about 20 components, all rated as scores out of 10, the first of which is general government consumption spending as a percentage of total consumption. Since the Fraser Institute assumes that government consumption is bad for economic freedom, the score out of 10 is negatively correlated with the raw data.

Looking back at Alex’s post, I thought it likely that high levels of government expenditure would be positively rather than negatively correlated with gender development, which raised the obvious question of the correlation between government consumption expenditure and economic freedom (as defined by the Fraser Institute index). Computing correlations, I found that, although it enters the index negatively, government consumption expenditure has a strong positive correlation (0.42) with economic freedom as estimated by the Fraser Institute. Conversely, the GCE component of the index is negatively correlated (0.43) with the index as a whole. By contrast, items with a strong ideological component, like labour market controls, were very weakly correlated with the aggregate index.

It immediately struck me that this could be the basis of some snarky pointscoring. But on reflection, I thought that it might be more useful to look seriously at the issues.

First, it’s necessary to explain the results. A large slab of the index consists of things like the absence of military interference in the rule of law. There’s also an entire section of the index devoted to sound money (low and stable inflation). These are both features characteristically provided by strong democratic governments, and not by weak ones, regardless of whether they are interventionist or laissez-faire. It seems pretty clear that a principal components analysis would show a dominant component associated with the characteristics of developed mixed economies, characteristics that include high levels of public expenditure, combined with relatively light-handed forms of government intervention in the private sector, compared to those characteristic of weak governments in less developed countries.

This is scarcely surprising. State capacity tends to rise with income, so in wealthy countries the state can achieve more, with less obtrusive use of power, than in poor countries. It is strong and not weak states that produce economic freedom.

The same principles that lead to support for separation of powers within the state with clearly defined roles for the judiciary, legislature and executive (including the military!), also yield support for a mixed economy against the alternatives of comprehensive central planning and unfettered corporate power. The mixed economy produces more economic freedom for the average person than does the minimal state. Despite its own presumption to the contrary, the Fraser Institute’s analysis supports this conclusion.

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  1. assman
    July 25th, 2004 at 04:09 | #1

    Correlation does not equal causation fool!!! Go back to elementary school and learn some basic science.

    Remainder of comment deleted due to obscenity and offensiveness. The [anonymous] commenter might want to reread the first para of the post before favouring us with his wisdom in future

  2. July 25th, 2004 at 07:49 | #2

    John, now I’m not sure, and correct me if I’m wrong, but I suspect the previous comment slightly oversteps your usual rules of civility.

    You might want to lead it and enter it in Sedge’s competition.

  3. Tony Healy
    July 25th, 2004 at 11:28 | #3

    On a related subject, American blogger Mark Schmitt makes the interesting observation that US states with low levels of unionisation have high levels of litigation against business.

    http://markschmitt.typepad.com/decembrist/2004/07/lawyers_or_unio.html

  4. July 25th, 2004 at 17:10 | #4

    THe best test of economic freedom is surely the frequency or issue and diversity of scale in economic enterprises.
    A free economy would obviously put minimal constraints on the start up of economic enterprise and would also not especially favour one form of free enterprise over another.
    Which economic region does best by the metrics of economic vitality and pluralism?

  5. July 27th, 2004 at 14:32 | #5

    Another problem with associating social democracy with economic freedom occurs at the other end of the spectrum.
    Just as the least social democratic OECD nation (America) enjoys the most vital free-enterprise culture, it is also likely that the most social democratic OECD nation (Sweden) suffers from a lack of free-enterprise vitality.
    But proper metrics of this are required.

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