Economic Freedom and Economic Growth

Abstract：The Index of Economic Freedom, published annually by the Heritage Foundation and The Wall Street Journal, measures how institutional and policy factors—such as business freedom, trade freedom, property rights, and government size—relate to economic development. High economic freedom often correlates with higher income, stability, and peace, but the index has limits: some high-ranking economies grow slowly, while some low-ranking ones grow rapidly. Indicators can also overlap or offset each other, and scoring may be subjective. Moreover, government actions—often overlooked by free-market advocates—can either hinder or stimulate growth. Objective analysis requires recognising both market and government roles.

A business student once asked me: “Economists study the economy, so why don’t they seem as rich as we imagine?” My answer: understanding economic laws is not the same as making money. The two should be seen separately. Knowing the rules doesn’t guarantee wealth, and being wealthy doesn’t mean understanding the rules. Otherwise, we wouldn’t need economists—we could just invite the people on the rich list to teach economics. In reality, even if you were a tycoon’s secretary and spent all day with them, you might still not learn how to get rich.

Similarly, even if an economist were in power, they might not manage a country well or drive economic growth. National development is influenced by many factors that must align—put simply, without enough “luck,” development may not happen. Economists thus try to identify the underlying factors that promote growth and explore the relationship between a nation’s prosperity and its causes.

1. The Economic Freedom Index: Seeking the Inner Drivers of GrowthSince 1995, the Heritage Foundation and The Wall Street Journal have published the annual Index of Economic Freedom for over 100 economies. This measures economic freedom, not development. In their view, freedom is the cause, development is the effect.

Rather than simply looking at GDP levels or growth rates, they assess institutional and policy factors, as well as the scope for personal and business competition—seeking the internal drivers of growth.

The index has ten dimensions:

• Business freedom (ease of starting a business)

• Trade freedom (low barriers to international trade)

• Monetary freedom (low price controls)

• Government size/spending (share of GDP)

• Fiscal freedom (tax burden)

• Property rights protection

• Financial freedom (independence from government intervention)

• Investment freedom (domestic and cross-border capital flows)

• Freedom from corruption

• Labour freedom (ability to form labour contracts freely)

Over 22 years, rankings have been stable—Hong Kong first, Singapore second. Regular top-10 economies include New Zealand, Switzerland, Australia, Canada, Chile, Iceland, the UK, the US, Denmark, and Taiwan.

The compilers argue that higher freedom correlates strongly with higher prosperity: the top 20% by freedom have double the per-capita income of the next 20%, and the ranking correlates with happiness and economic performance. They also find economic freedom reduces violent conflict more effectively than democracy.

2. Without Business Freedom, Prosperity is Hard to AchieveTake business freedom as an example: where starting a company is difficult and bureaucracy heavy, entrepreneurship cannot thrive, making prosperity unlikely.

Peruvian economist Hernando de Soto tested this by setting up a tiny workshop in Lima with two sewing machines. Registering it took four full-time staff, $1,231, and 289 days—equivalent to 32 months of minimum wages—an enormous barrier. He famously photographed the massive chain of documents required.

Similar logic applies to other indicators—trade freedom, property rights, investment freedom, etc.—all closely linked to economic growth.

3. We Still Haven’t Found the Fundamental Cause of GrowthHowever, the index has limitations. Some high-ranking economies, like Switzerland and Uruguay, don’t perform exceptionally well; others, like China, have sustained rapid growth despite low scores. This suggests there are success factors the index fails to capture.

4. Corruption Can Offset Price ControlsSome criteria overlap or counteract each other. For example, price controls (a negative) often breed corruption, but corruption can sometimes mitigate the harm of price controls. Thus, their effects can partially offset.

Scoring also risks being superficial or subjective, especially when data is lacking.

5. Don’t Ignore the Government’s RoleMany compilers are staunch supporters of market economies and tend to downplay government’s positive role. Yet, governments can significantly harm or boost economies depending on their actions.

If our aim is to objectively understand the link between institutions and growth, we must minimise ideological bias and assess evidence impartially.