The moderating role of culture on the benefits of economic freedom: Introducing economic freedom enhances economic development if the population is oriented at long term benefits rather than short term gains

The moderating role of culture on the benefits of economic freedom: Cross-country analysis. Johan Graafland, Eelkede Jong. Journal of Comparative Economics, October 5 2021. https://doi.org/10.1016/j.jce.2021.09.005

Highlights

• Introducing economic freedom enhances economic development if the population is oriented at long term benefits rather than short term gains.

• High levels of uncertainty avoidance decrease the beneficial effects of economic freedom on economic development.

• Countries that benefit most from economic freedom are located in Asia.

• Countries that benefit least from economic freedom are located in South America.

Abstract: The implementation of pro-market policies and institutions is often suggested for enhancing a country's development. However, implementing pro-market policies and institutions has a mixed track record. Some have ascribed the bad results to the neglect of people's predispositions, often described as culture. In this study, we argue that successful implementation of pro-market policies and institutions requires that large parts of the population know how to use the resulting freedom in a way that can bring long term benefits. A panel analysis on a sample of 67 countries from 1970 to 2019 confirms this theoretical argument. We find that Long Term Orientation increases the effect of economic freedom on income per capita, whereas Uncertainty Avoidance weakens the positive relationship between economic freedom and income per capita. The policy implication is that the introduction of free market policies and institutions will particularly foster economic development in long-term oriented societies and in societies with low Uncertainty Avoidance.

Keywords: CultureEconomic developmentEconomic freedomUncertainty avoidanceLong term orientation

5. Conclusions and discussion

The main result of this study is that the positive association between economic freedom and economic development depends on the nation's culture. To support economic development, the culture should encourage individuals to take initiative and to act with a view to the long term consequences. An empirical study using Hofstede's cultural dimensions confirms these notions in that the interactions between economic freedom on the hand, and Uncertainty Avoidance (negative sign), and Long Term Orientation (positive sign) on the other are significant.

The results of this paper confirm the view that the introduction of economic freedom institutions and policies, as such, does not necessarily have an effect. The population should also be able and willing to put the economic freedom to good use. This would appear to be oriented toward future return and not toward short-term benefits. This outcome is of particular importance for international organizations (IMF, World Bank, EU), which provide advice to national governments. If a more market-oriented economy is requested, then suggesting institutions and policies be changed might not be the best advice. It could be that measures have to be taken beforehand to enhance the population's ability and willingness to take control of their own life. Consequently, a gradual process during which people can learn that as individuals they should take responsibility for action will deliver better results than a “big bang” solution targeted at implementing new rules and legislation only. Those who know how to deal with the newly created freedom could easily misuse the new regulation. As a result, in cases where the population at large does not know how to act properly, or is unable to do so, the chances are high for the creation of an elite that will enrich itself by buying assets at below market prices. Many of the countries of the former USSR stand as an example of this misuse of power. In many of these countries, oligarchs dominate the economy and politics and thus undermine both free markets and democratic policy making.

The results of this study are based on data from 67 countries. The cultural dimensions are derived from large surveys. This implies that the external validity is larger than that of experimental studies that make use of a limited set of students. The countries are also spread over different continents. However, due to data availability African countries are underrepresented. So extending the analysis to these countries would be interesting at such time as data become available. Furthermore, as discussed in our methodology section, our empirical analysis does not allow strong conclusions about the causality in the relationships between economic freedom and income per capita, because of the possibility of reverse causality. Future research should aim at developing proper instrumental variables that can theoretically be argued to causally drive economic freedom without affecting income per capita, and help identify the causality.