One line of thought in development economics and political science emphasizes the need for state building to achieve economic growth and better outcomes throughout the developing world. Conventionally, this has been conceptualized in terms of “state capacity,” sometimes operationalized via the Worldwide Governance Indicators report. This paper proposes a simple alternative, using two of the five components of the Economic Freedom of the World report, with a greater emphasis placed on state power within an economy, as opposed to its capacity. This alternative measure, here called the “State Economic Modernity” index (SEM) is a combination of various measures of a state’s willingness and ability to perform its core public goods functions, and the state’s size relative to the economy. It is shown that the SEM index, in combination with the Economic Freedom of the World report, creates intuitive categorizations of economic institutions across countries. The SEM index is shown to relate to various measures of social capital and may be determined by them. Finally, while the SEM index is closely related to economic growth and output as seen in raw correlations, it appears to cause neither upon the inclusion of country fixed effects.
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Another framing is “private property institutions” versus “contracting institutions,” as in Acemoglu and Johnson (2005). “Private property institutions” relate to both “protection” or “supporting markets” and avoidance of “predation,” while “contracting institutions” relate to “protection” or “supporting markets.”
The closest antecedent to the methodology here is Sumner (2010), which constructs an index of “Egalitarian Neoliberalism” by using the Heritage Institute’s Index of Economic Freedom. Sumner deletes the corruption and taxation components of Heritage’s index, and inverts the government spending measure. In the course of the paper, he also considers Economic Freedom of the World for periods prior to the beginning of the Index of Economic Freedom data set, eliminating the size of government area while otherwise leaving it intact. These methods ultimately rank countries according to something of a combination of what is called economic freedom and state economic modernity in this paper.
As detailed in earlier editions of the report, other data sources were consulted for years before these reports came online.
There is an even higher correlation between just Area 2 and “Government Effectiveness” in 2015 (R = 0.899), which could be interpreted as an argument for using Area 2 as a measure of state building or state capacity. However, this high correlation is unlikely to hold in earlier periods when the data for Area 2 is less complete, and using Area 2 as a stand-in for “Government Effectiveness” is to conflate the effectiveness of the state with the institutional protection of property rights, which are two competing hypotheses within New Institutional Economics.
A more formal technique, k-means clustering, was attempted. It did not work as well since, with a few exceptions, the scatterplot is better thought of as a continuum than sets of clusters. However, some of the intuition for the groupings used draws on Huskinson and Lawson (2014).
The term “anacrocy,” taken from political science used to describe regimes with fundamentally contradictory sets of political institutions, is meant to mean something similar here.
The count of nine sets aside the possible use of overlapping 5 year differences when yearly data is collected by either WGI or EFW. A panel with much more time variation is more desirable, econometrically, regardless. For pointing out this issue raised by Kaufmann et al. (2010), I thank Kathleen Sheehan.
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See Table 12.
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Murphy, R.H. The state economic modernity index: an index of state building, state size and scope, and state economic power. Econ Gov 20, 73–101 (2019). https://doi.org/10.1007/s10101-018-00220-0
- State building
- State capacity
- Economic freedom
- Economic institutions
- Social capital