November 30, 1999

November 30, 1999 | News Releases on Foreign Aid and Development

Global Economic Freedom Advances in 1999, Survey Shows

WASHINGTON, NOV. 30, 1999 - Nearly twice as many countries expanded economic freedom during the past year than curtailed it, The Heritage Foundation and The Wall Street Journal report today in their annual "Index of Economic Freedom."

Of the 161 countries rated, 57 granted their citizens more economic liberty and 34 imposed new restrictions, according to the 2000 edition of the Index.

"Although many theories exist about the causes of economic growth, the findings of this study are straightforward: Countries with the most economic freedom have higher rates of long-term economic growth and are more prosperous than those with less economic freedom," according to Index editors Gerald P. O'Driscoll, a former Federal Reserve Bank vice president who now directs Heritage's Center for International Trade and Economics, Kim R. Holmes, a Heritage vice president and director of the think tank's Davis International Studies Center, and Melanie Kirkpatrick, assistant editorial page editor of The Wall Street Journal.

The 2000 Index, published jointly by The Heritage Foundation and the editorial page of The Wall Street Journal, shows that scores for three regions-North America and Europe, Latin America and the Caribbean, and North Africa and the Middle East-improved. Scores for the remaining two regions-Asia-Pacific and Sub-Saharan Africa-declined. Latin America again showed the most improvement, with 13 of 26 countries improving their scores and only three posting declines.

Despite these gains, the 2000 Index reports that most of the world's economies remain unfree. Overall, the economies of 73 countries were rated as "free" or "mostly free," while 88 earned ratings of "mostly unfree" or "repressed." Most of the freest economies are concentrated in North America and Europe, while a majority of the world's economically repressed countries are in Asia and Africa.

Other major findings of the 2000 Index are:

  • the rule of law is a better predictor than a country's type of government in charting economic growth;
  • corruption flourishes more in statist than in capitalist economies;
  • a country's progress toward economic freedom is a solid predictor of future wealth; and
  • foreign aid does nothing to promote growth in countries with little economic freedom.

Rankings: Best and Worst

Hong Kong retained its No. 1 ranking. In response to the Hong Kong government's August 1998 stock-market intervention, the editors of last year's Index warned that the region could forfeit the top spot in the 2000 Index. It was penalized for the intervention but rewarded for having lower inflation, leaving its Index score unchanged.

Despite its still-strong showing among the world's economies, Singapore saw its score decline in the 2000 Index because of an increase in the marginal tax rate paid by the average taxpayer.

The editors partially credit the 1992 Maastricht Treaty for Europe's overall improved performance in this year's Index. The treaty set strict monetary guidelines for would-be member states of the European Monetary Union (EMU). Some countries such as Luxembourg (No. 1 among European nations and tied for fourth place overall) used the introduction of the Euro to enact structural reforms that have made their economies freer. The monetary policies of all 11 EMU countries received the best possible rating, though many continue to saddle their citizens with a high "fiscal burden of government" (tax rates plus government expenditures).

The United States tied with Bahrain and Luxembourg for fourth place on the 2000 report, behind New Zealand and ahead of Ireland. For the first time, Australia made the top 10. Angola and Uzbekistan did poorly enough to displace Bosnia and Vietnam in the bottom 10. Among those listed as last year's 10 worst, only Bosnia and Cuba improved their scores.

The 10 Most Free

Hong Kong (1st overall)
Singapore (2nd)
New Zealand (3rd)
Bahrain (4th)
Luxembourg (4th)
United States (4th)
Ireland (7th)
Australia (8th)
Switzerland (8th)
United Kingdom (8th)

The 10 Least Free

North Korea (161st overall)
Iraq (160th)
Libya (159th)
Somalia (158th)
Cuba (157th)
Congo (156th)
Laos (155th)
Iran (154th)
Angola (153rd)
Uzbekistan (151st)

The Methodology

Ratings on the Heritage Foundation/Wall Street Journal "Index of Economic Freedom" are based on an analysis of 50 different economic variables, grouped into 10 broad categories: banking, capital flows and foreign investment, monetary policy, fiscal burden of government, trade policy, wages and prices, government intervention in the economy, property rights, regulation, and black-market activity. Countries are rated one to five in each category, one being the best, five the worst.

To provide the most accurate possible snapshot of a nation's economy, the editors made several changes this year to better assess economic freedom. For example, the "taxation" category of previous editions has become the "fiscal burden of government" and includes not only personal and corporate tax rates but also the amount a government spends as a percentage of national economic output. Because of this and two other revised categories-government intervention and monetary policy-the editors recalibrated previous Index scores. Whether a country improved or declined from last year is based on a comparison with its updated 1999 score.

Regionally, the 2000 "Index of Economic Freedom" showed the following:

North America and Europe:

The United States and Luxembourg are tied as the most economically free countries in the North American and European region. Luxembourg displaced Switzerland this year for the top spot in Europe. Ireland, Switzerland, the United Kingdom, Austria, the Netherlands, and Belgium are the next most free in Europe. Canada moved up in the rankings from 12th to 11th place globally.

The Czech Republic and Estonia tied for 22nd place overall and remained significantly ahead of other former communist countries, although Latvia (44th) and several others improved their scores. Belarus and Bosnia had the worst rankings (145th and 151st, respectively). In addition to Russia, nine former communist countries remained "mostly unfree": Albania, Armenia, Bulgaria, Georgia, Moldova, Romania, the Slovak Republic, Slovenia and Ukraine. Lithuania (61st) improved its score enough to join Estonia in the "mostly free" category, while Hungary moved from 69th to 41st place. Albania's score worsened for the third year in a row. Russia's score declined for the second year in a row, due mainly to increased government involvement in the banking sector.

Overall, 19 countries in the region did better in 2000 than in 1999, while five received worse scores.

Asia and the Pacific:

Although Asia has four of the top 10 freest economies in the world-Hong Kong, Singapore, New Zealand and Australia-economic freedom regressed in Asia over the past year. Singapore retained its No. 2 ranking. Taiwan's score also declined modestly.

Although maintaining its ranking as a "mostly free" economy, Japan saw its Index score worsen. Higher inflation and increased government intervention in the economy caused the country's score to slide, tied at 19th place with Iceland and the United Arab Emirates. Government involvement in Japan's banking system is expected to remain high for the next several years as the country struggles to emerge from recession.

The economies of Indonesia (110th), South Korea (33rd) and Thailand (46th) also declined last year, as government intervention in the economy and inflation rose. Significantly lower inflation, on the other hand, helped China improve its ranking from 116th to 100th place. Vietnam continued to rank near the very bottom, 148th out of the 161 countries rated.

Of the 32 Asia-Pacific countries graded on the 2000 Index, only five improved their scores, while nine posted declines.

Latin America and the Caribbean

For the third year in a row, this region made the most overall progress toward economic freedom. The Index editors credit the high number of countries that are controlling inflation. Of the 26 countries graded, 13 improved their scores, while only three regressed. Chile and El Salvador are tied for 11th place as the most economically free countries in the region, followed by Argentina (17th), Bahamas (22nd), Trinidad and Tobago (31st), Panama (33rd), Peru (36th), Barbados and Jamaica (tied for 37th). Argentina's success at controlling inflation helped its monetary score improve by one full point. Brazil's score worsened, due to higher taxes and increased government expenditures, causing the largest South American nation to drop from 95th to 110th place in the world rankings.

Despite the fact that Cuba remains one of the most economically repressed countries in the world, an increase in foreign investment allowed it to improve its Index score.

Africa and the Middle East:

Economic freedom in North Africa and the Middle East improved during the past year, largely reversing the previous year's decline. Seven of the 18 countries graded, including Syria (139th) and Lebanon (90th), received better scores, and only two received worse scores-Egypt (110th) and Saudi Arabia (71st). Even Yemen (134th) continued to improve. Bahrain is still the most economically free nation in the region, due mainly to a lack of taxation on personal income and business profits.

Meanwhile, sub-Saharan Africa-already the poorest and most economically unfree region of the world-went from bad to worse. Of the 42 sub-Saharan African countries graded for this year's Index, only seven received ratings of "mostly free" (Benin, Botswana, Mali, Mauritius, Namibia, South Africa and Zambia), while 28 were "mostly unfree" and seven were rated "repressed." Overall, 13 countries improved, while 15 declined.

The Rule of Law: More Important Than Democracy

U.S. foreign policy has long rested on the notion that promoting democracy around the world is the best way to ensure economic prosperity. But as Professor Robert J. Barro of Harvard University points out in a major new chapter in the 2000 Index, the overall relation between economic growth and democracy-as measured by electoral rights-is statistically weak. His research shows that a well-functioning legal system (the "rule of law") and a respect for property rights are the key factors that influence economic growth in any nation.

"Since people are, to a considerable degree, self-interested, they tend to undertake hard work and investments only if they have a reasonable probability of enjoying the fruits of their efforts," Barro says. "Thus, if property rights are insecure-for example, because of high crime rates or high rates of taxation or high chances of government expropriation-people tend to work less and invest little."

Which explains why a fledgling democracy such as Russia, with free elections but rampant corruption and a weak rule of law, continues to rank low on the Index, while a monarchy such as Bahrain, with non-existent democracy but a strong rule of law, ranks high.

According to the Index editors, a well-established rule of law keeps many North American and European countries among the freest and most prosperous in the world. Even when their scores decline due to inflation or some other cause, they still profit from a strong rule of law that preserves a solid base for economic development. "Although not the only valid route, Anglo-American capitalism by and large has led to a high level of economic freedom," the editors write.

Economic Freedom: A Major Deterrent of Corruption

The tendency toward corruption observed among certain nations trying to implement market reforms (most notably Russia) has led some critics to claim that capitalism, by its very nature, breeds corruption. But in another new Index chapter, Dr. Alejandro Chafuen, president of the Atlas Economic Research Foundation in Virginia, and Professor Eugenio Guzman, director of political programs at the Libertad y Desarrollo (Liberty and Development) Institute in Santiago, Chile, show the opposite: that economic freedom discourages corruption.

Indeed, their analysis finds that corruption is rife in areas that severely curtail economic freedom, such as sub-Sarahan Africa. Interventionist policies, such as cut-rate loans to favored groups, state ownership of utilities and natural resources, and foreign trade restrictions, lead to corruption, Chafuen and Guzman note. They conclude that, on average, the higher the level of economic freedom, the lower the level of corruption.

Economic Freedom Leads to Higher Growth-and Investment Returns

Past editions of the Index have demonstrated a strong correlation between economic freedom and economic growth, and the 2000 Index is no exception. Countries with the most economic freedom consistently show higher rates of economic growth and more overall prosperity than countries that curb economic liberty. It is no coincidence, as Wall Street Journal columnist Holman W. Jenkins Jr. points out in his chapter on economic health, that the highest-ranking countries on the Index are also the richest in per-capita income.

Jenkins recommends that speculators who use the Index as a guide for the best countries to invest in keep the "Buffett Principle" in mind. Legendary stock-picker Warren Buffett has said the best time to invest in a company is when it faces serious but soluble problems. The same holds for countries, Jenkins says. "A nation with terrible policies moving toward better policies is a nation likely to produce outsized returns for investors," he writes. Examples include France (37th overall) and Greece (49th overall).

While published originally to provide Congress with data to evaluate the effectiveness of foreign aid, the Index has become a valuable tool for investment analysts. Global Investment magazine, for example, has praised the Index, saying it offers "surprising insights on why some markets may be chained to the ground while others are set for takeoff."

Foreign Aid: No Panacea

As the Index editors note, the continued poor economic health of sub-Saharan Africa strongly contradicts those who argue that increased foreign aid will rescue the region from its fiscal woes. The Index shows that the region continues to worsen every year, despite receiving some of the highest levels of foreign aid in the world. Rising levels of corruption consume ever-larger amounts of this aid and undermine efforts to establish market economies in sub-Saharan Africa and other regions.

"The people of Angola, Haiti, Mozambique, and Ukraine are not poor because wealthy people in the West do not share their riches with them," the editors write. "They are poor because their governments pursue destructive economic policies that depress free enterprise or allow corrupt practices to derail the rule of law."

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