21 April 2015

Unlocking prosperity potential


Picture America’s financial child, sitting on the knee of Uncle Sam: her hair falls in angelic ringlets and she chews away at a ‘prosperity’ popsicle. Through the door crashes the wild child, America’s moral offspring. He fires his pistol, ‘filthy literature’ and ‘bootleg’ alcohol in hand.

When this cartoon ‘Neglecting the Other Child’ appeared in the Los Angeles Times in 1926, America was in the grips of what it saw as an unparalleled age of prosperity. During Hoover’s 1928 presidential campaign, Republican literature boasted that ‘Republican prosperity’ had ‘put a chicken in every pot and a car in every backyard’. Prosperity and economic expansion were not only inseparable, but interchangeable.

We have since come to recognise, as the American cartoonists of the 20s were beginning to, that prosperity is not simply an economic construct, but includes ideas such as heath, happiness, and opportunity. Indeed, the Legatum Prosperity Index™ conceives of prosperity as a combination of wealth (GDP per capita PPP) and wellbeing (life satisfaction). Underpinning this prosperity are eight pillars: the economy, entrepreneurship and opportunity, governance, education, health, safety and security, personal freedom, and social capital. Economic success matters for prosperity, but so too do things like values, freedom, democracy, and education.

As we have come to reject the interchangeability of prosperity and economic growth, so too has hostility grown towards the engine of that growth: capitalism. Just as cartoons of the 1920s attacked American economic ‘prosperity’ for neglecting moral and social development, modern rhetoric attacks capitalism for failing to deliver ‘true’ prosperity, pointing to inequality, rampant consumerism and poverty as signs of its absence.

Indeed, across its 89 variables, the Index reflects these factors. Uneven economic development is included and has a strong and negative relationship with overall prosperity score. The principles of family, charity, and helping one another form a positive part of our social capital measure. People’s living standards and their access to food and shelter are an important part of our economy measure. Nations with uneven development, weak social values, and people without a roof over their head or food on their table are punished in the Index. Their prosperity suffers.

Yet the Index does not lay the blame at the door of capitalism. In fact, it implies we should do the very opposite. Even when we look at prosperity as wealth and wellbeing, as being about eight core pillars like opportunity, education and societal strength. Even then, at the very heart of prosperity, we find the core foundations of capitalism.

For the capitalist system to operate effectively, it needs a number of basic structural foundations. The first is the establishment of rule of law. Without property rights, capitalism cannot function. If I do not own myself, the products of my labours, and that which I barter or trade with others, capitalism is nowhere. Second, regulation cannot stifle enterprise. If the regulatory system does not permit the development of a flourishing private sector within the economy, again, capitalism itself cannot flourish. Finally, state operations must be intelligible to those they affect. This means not being subject to an inefficient, bloated, and corrupt bureaucracy. Government itself must be able to set its priorities transparently and implement them quickly and clearly.

The 89 variables in the Index are chosen not because of a direct link with ‘prosperity’, but because they are either statistically significant correlates of wealth, wellbeing or both. How individually they correlate with the final composite prosperity ‘score’ varies widely. Yet when we look at those with the strongest correlation with prosperity, we find these exact foundations of capitalism.

Both the ‘rule of law’ and ‘government effectiveness’ variables have a near perfect relationship with prosperity, with correlations of 91% and 93% respectively, the strongest relationships seen in the Index. At 87%, 4th in terms of strength, is the extent to which the regulatory environment allows a flourishing private sector. Put simply, the basic foundations of capitalism are the best predictors of all-encompassing prosperity of anything included in the Index.

The countries at the top for these indicators represent many different forms of capitalism, and the top echelons of global prosperity.

Nordic capitalism features strongly, showing that the market and the state can coexist successfully provided the presence of a large state does not erode the foundations of capitalism. Norway is consistently the most prosperous country in the world, and comes 1st for rule of law. Finland tops effective government, and, alongside Sweden, comes in the top five of all three measures. Overall, Finland ranks 8th for Prosperity, and Sweden 6th.

So too can the more usual form of capitalism be found. ‘Small state’ New Zealand, third overall in the Index, ranks highly on all three measures: 4th for regulation and rule of law, and 9th for government effectiveness. The authoritarian capitalism of Singapore also ranks it first for regulation, 2nd for government effectiveness and 10th for rule of law. Lower scores for social capital and personal freedom mean that Singapore is 18th for overall Prosperity though still in the top 20.

These are all capitalist nations with strong capitalist foundations. They rank as the most prosperous countries in the world, not based simply on their economics, but on their entire social and economic structure. Far from being found to have a deleterious effect on all-encompassing prosperity, the foundations and ideas of capitalism are some of its strongest correlates.

Prosperity does not put a chicken on every table and car in every backyard any more than it is simply having material success. The economics matter, but prosperity is also about having an awful lot more: good education, good health, freedom, democracy, strong society, opportunity, innovation, security. If we truly want to deliver such an all-encompassing prosperous state of the nation, we should be looking to strengthen capitalism, not demonise it.

Harriet Maltby is the Government & Economic Policy Researcher at the Legatum Institute.