Macro Chapter 17 Institutions, Policies, and Cross- Country Differences in Income and Growth.

Macro Chapter 17

Institutions, Policies, and Cross-Country Differences in

Income and Growth

2 Learning Goals

1) Explain how economic freedom and growth are related

2) Identify the benefits of economic freedom

How Large Are the Income Differences Across Countries?

How Do Growth Rates Vary across Countries?

Why?

2 major reasons:

1) Institutions (see Chapter 16)

2) Economic Freedom

Economic Freedom as a Measure of Sound

Institutions

Combine with next section

Institutions, Policies, and Economic Performance

Economic Freedom

Method of organizing economy with the following characteristics:

1) Personal choice

2) Market-based voluntary exchange

3) Competitive entry into markets

4) Private property

Main point: the government’s policies and involvement in the economy are important, but too much government intervention can harm growth

Q17.1 Economic theory indicates that the size of government will be

1. unrelated to economic growth.

2. negatively related to economic growth at all possible sizes of government.

3. positively related to economic growth at all possible sizes of government.

4. positively related to economic growth at small levels of government but is negatively related to economic growth at large levels of government.

Major Conclusion:

The more free the economy is, the higher the growth rate will be

The 2012 EFW report reveals the US is now in 18th place with a rating of 7.69

“The United States, long considered the standard bearer for economic freedom among large industrial nations, has experienced a substantial decline 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 chainlinked 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 18th in 2010.”

Economic Freedom of the World

See www.freetheworld.com

Watch video: Economic Freedom-Part 1

Economic Freedom and Income

•The real per-person income (using a PPP adjustment) for countries ordered by economic freedom rating is shown here by quartiles.

•Note the strong positive linkage. Income per person in the freest quartile of countries was about eight times the figure for the least free. Least-Free

QuartileSecondQuartile

Most-FreeQuartile

$4,545

$14,961

$35,501

2009 GDP Per Capita, PPP(in constant 2005 dollars)

ThirdQuartile

$6,464

Economic Freedom and Growth

•The relationship between the economic freedom of a country and its growth rate (of GDP per capita) during the 1990-2007 period is shown here.

•Countries in the most free quartile grew at an annual rate of 3.1% compared to the 1.2% growth for the least-free quartile.

Least-FreeQuartile

SecondQuartile

Most-FreeQuartile

1.2%

2.4%

3.1%

Growth of GDP Per Capita 1990-2009(Annual %)

ThirdQuartile

2.3%

Economic Freedom and Poverty

•The extreme poverty rate in the most free quartile of countries was 2.7% compared to 41.5% in the least free quartile.

•The pattern in the data for the moderate poverty rate is the same.

•Clearly the countries with more economic freedom have lower poverty rates.

Least-FreeQuartile

SecondQuartile

Most-FreeQuartile

41.5%

7.8%

2.7%

Extreme Poverty Rate(2000-2005)

ThirdQuartile

21.3%

Least-FreeQuartile

SecondQuartile

Most-FreeQuartile

3.6%

36.3%

57.4%

ThirdQuartile

14.0%

Moderate Poverty Rate(2000-2005)

Economic Freedom and Life Expectancy

• People in the most economically free countries had almost 20 additional years of life compared to those in the least free economies of the world.

Least-FreeQuartile

SecondQuartile

Most-FreeQuartile

59.4

71.679.1

Years of Life Expectancy(at birth) 2007

ThirdQuartile

66.7

• The infant mortality rate in the least economically free countries was nearly 12 times greater than that of the most free economies.

Economic Freedom and Infant Mortality Rate

Least-FreeQuartile

SecondQuartile

Most-FreeQuartile

62.0

20.9

5.8

Infant Mortality Rate(per 1000 live births) 2007

ThirdQuartile

39.1

• Access to sanitary water increased with economic freedom.

Economic Freedom and Access to Sanitary Water

16.A3 Table in word file

Should fit in this space

Least-FreeQuartile

SecondQuartile

Most-FreeQuartile

74.2%

89.5%99.2%

Share of Population with Accessto Improved Water Source, 2006

ThirdQuartile

83.5%

• Studies have shown that the quality of the environment is strongly linked to income.

Economic Freedom and Environmental Quality

16.A3 Table in word file

Should fit in this space

Least-FreeQuartile

SecondQuartile

Most-FreeQuartile

64.5

76.5

84.8Environmental Performance Index

(2007/2008)

ThirdQuartile

71.6

• In the nations of the top quartile, the average income of the poorest 10% was more than eight times that of the poorest 10% from countries in the bottom quartile.

Economic Freedom Income of Lowest

10% of Earners

16.A3 Table in word file

Should fit in this space

Least-FreeQuartile

SecondQuartile

Most-FreeQuartile

$896

$3,269

$9,105

Average Income of Poorest 10%, 2007

ThirdQuartile

$1,744

• The incidence of political corruption was lower in the more free economies of the world.

• These numbers are a reflection of the higher quality legal systems of the freer economies.

Economic Freedom and Political Corruption

16.A3 Table in word file

Should fit in this space

Least-FreeQuartile

SecondQuartile

Most-FreeQuartile

2.6

4.3

7.5

Corruption Perceptions Index, 2007

ThirdQuartile

3.2

With few exceptions, when an economy is more free the country will achieve:

A higher growth rate

A more equal distribution of income

Better environmental quality

Better health outcomes

Higher standards of living

Watch video: Economic Freedom-Part 2

Q17.2 On average, countries that have a larger degree of economic freedom tend to have

1. higher per capita income levels but slower rates of economic growth than countries with less economic freedom.

2. lower per capita income levels but more rapid rates of economic growth than countries with less economic freedom.

3. both higher per capita income levels and more rapid growth rates than countries with less economic freedom.

4. both lower income levels and slower growth rates than countries with less economic freedom.

Question Answers

17.1 = 4

17.2 = 3