Labor
The Economic Freedom Index lumps a number of policies related to a common ideological motive, but not necessarily all of them have the same weight of evidence that they achieve their intended purpose. The strengths of the features in the index - property rights, fiscal discipline, financial markets may provide statistical cover for extra measures added in that have weak or negative relationship with the prosperity measure. Two specific examples are terms of labor and size of government. In each of these cases the consensus of the literature is inconclusive or concludes the opposite of what is suggested by the measure yet these are included in the index.
Minimum wage and collective bargaining
Government labor regulations take a variety of forms, including minimum wages or other wage controls, limits on hours worked or other workplace conditions, restrictions on hiring and firing, and other constraints [..] Onerous labor laws penalize businesses and workers alike. Rigid labor regulations prevent employers and employees from freely negotiating changes in terms and conditions of work - Economic Freedom Index report, 2020
There is not a clear consensus however on the effects of minimum wage. Nobel Prize winners Card and Krueger panel analysis in the United States found negligible adverse response in the labor market to minimum wage (Card and Krueger, 1995). On the other hand, the World Bank Group cited 2 reports from Brazil and Indonesia that reported evidence of a drop in productivity and employment in response to minimum wage policy (World Bank Group, Doing Business 2020). The Legatum Prosperity Index Element “Labor Market Flexibility” includes measures that approximates minimum wage through survey, as well as an indicator of corporatist (collective bargaining) vs decentralized wage setting system (Legatum Institute, 2020). The effect of wage setting institutions on economic outcomes is also mixed and this is acknowledged in the Economic Freedom Report. “unions play an important role in regulating labor freedom and, depending on the nature of their activity, may be either a force for greater freedom or an impediment to the efficient functioning of labor markets” (Miller, 2020). Other studies of advanced economies have found mixed results on the impact of collective bargaining institutions on macroeconomic outcomes of unemployment, average real wages (OECD, 2004 ; Schettkat, 1999). An OECD study found the strongest impact of collective bargaining is on wage compression (equality). The study identified three dimensions of wage setting institutions - union density, union coverage, and centralization. Each of these factors are usually correlated with one another and they each show positive correlation with wage compression (OECD, 2004).
The statistical analysis in Appendix B found little statistical evidence linking the Element “Labor Market Flexibility” to the development performance outcomes, instead capital/credit markets appears as the dominant policy dimension responsible for the relationship with other prosperity measures.
The individual Elements from the Legatum Index closely related to liberalization reforms were tested for their relative correlation with “living conditions” (a proxy identified for generic social progress). The results of the analysis are presented in Figure B.4. By far the strongest correlation is the role of capital markets, while other listed policies areas have comparatively minor statistical significance.
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