New Index Links Development to Strong Institutions

The role of quality institutions in economic development is unquestionable. Transparent, efficient, and predictable institutions impact economic growth, individual prosperity, and political development. But despite their importance to citizen well-being, very few international indicators exist to holistically assess the quality of a country’s institutions. In fact, other than a few perception-based indicators, no comparable cross-country indices measure and compare institutional frameworks.

Responding to this lack of research and analysis, 18 think tanks throughout Latin America, including Fundación IDEA of Mexico, launched the first Institutional Quality (IQ) index this month. The meta-index uses other indices to assess and rank each country’s institutional framework according to several criteria: protection of property rights, citizen participation in economic activities, guarantees of freedom of speech, and enforcement of the rule of law. Not surprisingly, it confirms that a country is more likely to achieve a higher level of economic development and greater citizen well-being when the majority of the population has its freedoms protected and can access formal property rights.

 Traditionally, international indices, such as the Index of Economic Freedom, rank countries using a single policy area or topic. The IQ index, however, uses other indices to assess the institutional framework and policies in a variety of areas. We should not be surprised, then, that considerable differences emerge between the IQ index results and other rankings. For example, Hong Kong and Singapore, two countries that usually appear at the top of both the Heritage and Fraser economic freedom indices, fall to numbers 20 ^{and 27 in the IQ index, respectively. Their lowered rankings are largely explained by challenges in areas such as freedom of the press.}

IQ index scores are drawn from country rankings found in the following international indices:

• Political Risk Service Rule of Law Index

• World Bank Government Accountability Index

• Freedom House Freedom of the Press Index

• Transparency International Corruption Perceptions Index

• World Economic Forum Global Competitiveness Index

• World Bank/International Finance Corporation Doing Business Report and Ranking

• Fraser Institute Economic Freedom Index

• The Heritage Foundation/Wall Street Journal Economic Freedom Index

 Using a simple average of percentile scores found in these indices, the IQ Index ranks countries based on a composite score. Many Scandinavian countries hold top positions, with Switzerland, Denmark, Finland, New Zealand, and Iceland holding the top five positions, respectively. Of note, the United States (8), Great Britain (10), and Canada (11) also fare quite well in the index.

The rankings of Latin American countries range from 22 (Chile) to 164 and 165 (Cuba and Haiti). After Chile, the top-ranking countries in the region are Uruguay (50), Costa Rica (54), and Belize (56). Looking at the three largest Latin American countries, Mexican institutions (75) appear to be of the highest quality, followed by Brazil (90) and Argentina (93).

But Mexico’s position also reflects the challenges faced by both its citizens and government. The greatest potential for improvement is in the areas of freedom of the press and the rule of law—two issues at the forefront of Mexican concerns over the past several years. In recent months, a growing number of Mexican journalists have lost their lives in retaliation for honest reporting about corruption and drug trafficking. Shortcomings in the rule of law are highlighted by street vendors crowding sidewalks to sell pirated goods and newspapers reporting stories of certain politicians disregarding the law they were elected to uphold.

Still, this does not mean that Mexico is performing well in other components of the IQ Index. For example, opening a formal business is an extremely slow, expensive, and difficult process, and monopolies, private and state-owned, still control important sectors of the economy. While Mexico ranks comparatively well compared to the region’s other large economies, it still faces a long road ahead before achieving a truly accountable government.

Over the course of time, poor institutions have had a significantly negative effect on regional development. Two hundred years ago, GDP per capita in Latin America was reasonably close to that of the United States. Today, despite abundant natural resources, antiquated institutions promote policies that reinforce inequality and contribute to the region holding the unfortunate position as one of the poorest and most unequal in the world. To make matters worse, and as a response to the inability to transform and change institutions, some Latin American countries are now being led by authoritarian-leaning governments that often govern without regard for institutional precedence.

Latin America needs to develop institutions that promote external and internal competition, remove barriers to economic activity, protect property rights and individual freedoms, and enforce the rule of law. If not, it will be increasingly difficult to compete in today’s world and reap the benefits necessary for improving individual lives. The IQ index confirms that countries throughout the region face a difficult challenge in their quest to boost economic and social growth in the years ahead.

Alberto Saracho Martínez is the executive director of Fundación IDEA—a leading public policy think tank in Mexico. More information about Fundación IDEA is available at: www.fundacionidea.org.mx