METHODOLOGY
For 2014 the Index of Leftness (Rightness) of Economy was calculated based on seven sub-indices. IL(R)E – 2015 is a weighted average of six sub-indices (Social Expenditures Sub-Index is excluded):
• Public Finance Sub-Index (PF),
• Price Regulation Sub-Index (PR),
• Foreign Trade Sub-Index (FT),
• Licensing Sub-Index (L),
• Employment Regulation Sub-Index (ER),
• Minimum Wage Sub-Index (MW).
IL(R)E and its all sub-indices change in 0-1 interval. Zero indicates the extreme rightness of economy (absence of the government intervention), one – its extreme leftness (total government regulation). The indicators were brought into this interval by the formula (Vi - Vmin) / (Vmax - Vmin), and in some cases subtracted from 1.
For some forms of the government intervention in economy (i.e. for some sub-indices) an absolute rightness, of course, is possible, but in general, a national economy can’t take absolute right or left points. So all countries’ IL(R)Es are at a certain distance from 0 to the left and from 1 to the right.
Unlike 2014, in the calculations for 2015, the lowest possible value for each of indices that sub-indices are based on, is taken as Vmin, and their highest possible value – as the Vmax.
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Public Finance Sub-Index expresses the level of income redistribution through taxes, and is calculated as a simple average of two indices – Budget Expenditures Index and Business Tax Burden Index. The former is calculated through indexing of the share of budget expenditures in GDP. IMF’s World Economic Outlook Database is used as source for this information.* The latter is counted through indexing of the total taxes paid in a given year by a modeled company as share of its profit. Data is retrieved from the World Bank’s “Doing Business” report.**
If there weren’t resource exporters among the examined countries, the share of budget expenditures in GDP would albeit indirectly, but still adequately describe aggregate tax burden of businesses and citizens. In case oil and gas revenues transfers make up a significant portion of budget funds, there is need to take into account tax burden indicators separately.
Some research institutions calculate tax burden on the basis of top tax rates on individual and corporate income. But tax payments on top rates both by citizens and companies are not typical for most countries. This is why tax payments of a hypothetical company are accepted as indicators to calculate the Business Tax Burden Index. Theoretically, Public Finance Sub-Index must also reflect the redistribution of national income via individual income tax, but some countries apply proportional and others progressive tax system, and it would be a mistake to make them single measure.
For both indices Vmin = 0, а Vmax = 100.
* http://www.imf.org/external/pubs/ft/weo/2016/01/weodata/index.aspx
** http://www.doingbusiness.org/data/exploretopics/paying-taxes
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Price Regulation Sub-Index signifies the level of freedom of pricing (the right wing), and at the same time, the level of government interference in the price formation (the left wing). Approaching of PR Sub-Index of a country to 0 means that pricing is getting there more liberal, and in opposite, approaching to 1 means that government regulation of prices becomes more stringent. PR Sub-Index is calculated as a simple average of Price Freedom Index and Monetary Freedom Index. The former is estimated based on Fraser Institute’s (Canada) Economic Freedom of the World report for 2011 (following years data on freedom of companies in pricing was not developed as a separate set)*; the latter – based on data presented in 2014 Index of Economic Freedom report by the Heritage Foundation and The Wall Street Journal.**
For Price Freedom Index – Vmin = 0, Vmax = 10, and for Monetary Freedom Index – Vmin = 0, Vmax = 100. Since in the statistical bases used in calculation of both indices, higher scores express less government intervention, final values of PR Sub-Index are obtained by subtracting from 1.
* http://www.freetheworld.com/2011/reports/world/EFW2011_complete.pdf
** http://www.heritage.org/index
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Foreign Trade Sub-Index measures the freedom of foreign trade (the right side) and the rigidity of foreign trade regulations that in most cases are related to protection of domestic market (the left side). If FT Sub-Index of a country goes down to 0, it means that freedom of this countries’ companies to trade internationally is getting higher; if government regulations of foreign trade are becoming stricter then FT Sub-Index approaches to 1.
The concept relies on three principles. First, the foreign trade freedom should be measu-red by the freedom of imports, not exports. Second, as a rule, the higher the freedom of imports, the weaker the domestic market protection, but stricter regulations does not necessarily mean better protection. Third, for countries where natural resource exports constitute a significant part of the economy, foreign trade freedom can’t be measured through the absolute volume of export-import operations or their relative values (e.g. the exports and imports to GDP ratios).
FT Sub-Index is calculated as an average of three indices – Foreign Trade Freedom, Economic Value of Imports, and Trade Freedom. Foreign Trade Freedom Index is calculated based on Freedom to Trade Internationally ratings by the Fraser Institute (Economic Freedom of the World 2014)*. Economic Value of Imports Index is calculated based on Domestic Mar-ket Access scores by World Economic Forum’s the Global Enabling Trade Report 2014)**, and Trade Freedom Index is calculated based on the indices of the same name from the 2015 Economic Freedom Index jointly presented by the Heritage Foundation and The Wall Street Journal.***
For Foreign Trade Freedom Index – Vmin = 0, Vmax = 10, for Economic Value of Im-ports Index – Vmin = 1, Vmax = 7, and for Trade Freedom Index – Vmin = 0, Vmax = 100. In the statistical bases used in calculation higher scores express less government intervention, and therefore final values of FT Sub-Index are obtained by subtracting from 1.
* http://www.freetheworld.com/2014/EFW2014-POST.pdf
** http://reports.weforum.org/global-enabling-trade-report-2014
*** http://www.heritage.org/index/pdf/2015/book/index_2015.pdf
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Licensing Sub-Index. The evaluation of the leftness-rightness of an economy upon the ease or difficulty of licensing requires consideration of four parameters: a) number of economic activities obligatory to licensing, b) variety of licensed activities, c) validity time of licenses, d) licensing rules. The more favorable these parameters are for busi¬nesses (i.e. less number, narrower list, longer term and simpler rules), the righter is an economy. However, sufficiently accurate inter-country comparisons on any of these parameters are unobtainable.
Consequently, Licensing Sub-Index calculations lean on the World Bank’s methodology and are done using indicators of time and cost that the hypothetical company spends to obtain necessary licenses and permits for a construction (Doing Business 2015: Dealing with Construction Permits).* Licensing Sub-Index is a simple average of two indices calculated by using two respective series of data. The World Bank’s third indicator (number of procedures) is not considered as far as it distorts the overall picture of simplicity (complexity) of licensing.
For Licensing Time Index – Vmin = 0, Vmax = 1000, and for Licensing Cost Index – Vmin = 0, Vmax = 100.
* http://www.doingbusiness.org/data/exploretopics/dealing-with-construction-permits
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Employment Regulation Sub-Index measures to what extent a government intervenes in the relationship between employer and employee, and regulates the labor process. Unlike some conventional social programs, this interference directly aims social protection purposes. As a rule, the reinforcement of direct social protection of employee costs the limitation of employer freedom.
ER Sub-Index is calculated based on two indices – Rigidity of Employment and Redundancy Cost. The former, in turn, is the average of 3 indicators: difficulty (ease) of hiring, rigidity (flexibility) of working hours and difficulty (simplicity) of redundancy. Redundancy Cost is a sum of advance notice cost and severance payments. Considering the higher importance of the Rigidity of Employment Index, it is weighted as 0.75, and Redundancy Cost Index, accordingly, as 0.25. The statistical database of World Economic Forum 2015 is used in calculations.*
When evaluating business environment, the research institutions usually rank the coun-tries “from good to bad”, that is, from the countries with more favorable environment for business to those that complicate business activities with tough regulations. Classifica-tion of economies on the basis of leftness-rightness does not assume “bad or good” countries; this approach just indicates that there are countries with righter or lefter eco-nomy. The higher priority for the first ones is the freedom of companies, and for the second ones – the social protection of workers.
For both indices – Vmin = 0, Vmax = 100.
* https://www.weforum.org/reports/global-competitiveness-report-2014-2015
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Minimum Wage Sub-Index is the indexed version of share of legal minimum wage in GDP per capita (both with correction for PPP). The level of minimum wage directly affects the leftness-rightness of economy. Its increase, as of some other indicators, enhances both the leftness of economy and the degree of its social orientation.
The economies where the minimum wage level is regulated neither by law nor collective agreements are located on the absolute right (zero) point. The countries where its level is regulated only by collective agreements, but not by low are conditionally placed on 0.050 point, and the economies where it is regulated by government, but for a limited number of employees are located on 0.080 point.
Statistical data on annual minimum wage by countries is retrieved from the Wage Indicator* and Wikipedia.** GDP per capita indicators are extracted from the World Bank’s database.*** The minimum wages in national currencies are converted to US dollars using official exchange rates available at World Bank’s database.****
It is accepted that Vmin = 0, Vmax = 100.
* http://www.wageindicator.org/main/salary/minimum-wage
** http://en.wikipedia.org/wiki/List_of_minimum_wages_by_country
*** http://data.worldbank.org/indicator/NY.GDP.PCAP.PP.CD
**** http://data.worldbank.org/indicator/PA.NUS.FCRF
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As noted above, for 2015 the Index of Leftness (Rightness) of Economy is calculated in only one version with no Social Expenditures Sub-Index. The higher weight is given to Public Finance Sub-Index.
IL(R)Ei = 0.30*PFi + 0.14*PRi + 0.14*FTi + 0.14*Li + 0.14*ERi + 0.14*MWi
