Information Booklet for IMANI's Economic Freedom Audit

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Information Booklet for IMANI’s Economic Freedom Audit

Ghana’s Rank on the EFW Index

Historically, Ghana’s economic freedom, as reported by the Economic Freedom of the World has generally been rising. In recent years however, Ghana’s economic freedom has declined. Figure 1 depicts Ghana’s growth in economic freedom between 1975 and 2015. As shown by the graph, economic freedom has been on the decline since 2009.

In the 2017 EFW annual report, Ghana ranked 103 out of 159 countries in the world. Ghana was the 16th most economically free country in Africa following countries like Mauritius (1st) Rwanda (2nd), Seychelles (3rd), Botswana (4th) and Liberia (9th). Ghana however beat West African neighbours like Nigeria, Cote d’Ivoire and Togo. Figure 2 shows Ghana’s overall economic freedom and Ghana’s rank in the 5 key areas of economic freedom, namely size of government, legal systems and property rights, sound money, freedom to trade internationally and regulation.

Source: Economic Freedom of the World (2017), Fraser Institute

Individual areas of economic freedom in Ghana

Size of Government

The ‘Size of Government’ indicator is among the five areas studied under the Economic Freedom of the World Index. Overly large government spending and taxation can crowd out other economic activity and limit people’s economic freedom. Ghana appears to do modestly well in this area as Ghana ranked 55 out of 159 countries (this rank is based on data from 2015). However, undisciplined spending threatens Ghana’s fiscal future. The figure below shows Ghana’s historical performance on the size of government indicator.

Source: Economic Freedom of the World Report (2017), Fraser Institute

The EFW index indicates high government consumption in Ghana (See Table 1.) Also, worryingly high are government enterprises and investment and taxes. Five variables were considered under size of government. The variables are explained below:

Government Consumption: This component is measured as general government consumption spending as a percentage of total consumption. Countries with a larger proportion of government expenditures received lower ratings. Table 1 shows the data on government spending as a percentage of GDP and Ghana’s score for 2015. According to the World Development Indicator however, government consumption fell by about 7% in 2016. It must be noted that government spending in Ghana in 2016 was under restrictions by the International Monetary Fund (IMF) through the extended credit facility.
Transfers and Subsidies: This component is measured as general government transfers and subsidies as a share of GDP.
Government Enterprises and Investments: Data on government investment as a share of total investment were used to construct the zero-to-10 ratings. Countries with more government enterprises and government investment received lower ratings.
Top marginal income tax rate: Countries with higher marginal tax rates that take eﬀect at lower income thresholds received lower ratings based on the matrix below.
Top marginal income and payroll tax rate: Countries with higher marginal tax rates that take eﬀect at lower income and payroll thresholds received lower ratings based on the matrix below.

Table 1 shows the data on the five variables under size of government (discussed above) and Ghana’s score for 2015. Comparisons are made with other countries as well.

Table 1: Economic Freedom Under Size of Government

Source: Economic Freedom of the World, Fraser Institute

* Columns marked “score” contain the economic freedom score 0 – 10, where higher values indicate higher levels of economic freedom; columns marked “data” contain the raw data. For example, in government consumption Hong Kong has a score of 8.0, reflecting government consumption equal to 12.7 percent of GDP.

Sample Questions to be discussed during the audit:

Is government spending in Ghana efficient—in other words, do the people of Ghana get value for money?
Is spending politicised—in other words, is the money used to carry out essential government functions or is it used to curry favour with various interest groups and enrich those in government?
Has the government been able to use funds to provide essential services such as an honest rule of law and efficient regulation?
How can government consumption be reduced?
What projects and programmes receive government transfers and subsidies?
Are government transfers and subsidies put to optimal use?
Are there private sector alternatives for these programmes and projects that receive government transfers and subsidies? What can government do to enhance private sector interest in these projects?
Is tax collection fair and broad-based?
What are the key challenges to broadening the tax base?
How does the national identification system and digital addressing systems help? What gaps still exist?
What are the main drawbacks to systems put in place to curb tax avoidance?

Legal Systems (Rule of Law) and Property Rights

Though Ghana’s score is ahead of both the West African and Other Africa averages, it is well behind other African countries such as Botswana, Rwanda, and Liberia and very far behind the top 10 in this indicator. An efficient market economy is not possible without a sound and predictable legal structure that protects property rights and contracting for all, equally and fairly. Despite the relatively good rank (69 out of 159 countries), improvement here may be Ghana’s greatest challenge and opportunity. No nation, except perhaps some petro states, has achieved rich nation status without a strong rule of law.

Unfortunately, the rule of law in Ghana has been up and down, but mostly down since 1995, and this is a significant danger signal. (See Figure 1.) In particular, lack of impartial courts and protection of property rights, military interference, problems with the integrity of the legal system, weak enforcement of contracts, and business costs of crime (Table 1) hold Ghana back.

There are nine variables under the rule of law and property rights. They are explained below:

Judicial Independence: This component is from the Global Competitiveness Report question: “Is the judiciary in your country independent from political inﬂuences of members of government, citizens, or firms?” According to the 2017-2018 Global Competitiveness Report, Ghana’s score remained unchanged in 2016 for the judicial independence variable.
Impartial Courts: This component is from the Global Competitiveness Report question. It measures the extent to which “the legal framework in your country for private businesses to settle disputes and challenge the legality of government actions and/or regulations is inefficient and subject to manipulation’’. According to the 2017-2018 Global Competitiveness Report, Ghana’s score improved by about 4%, moving from 5.04 to 5.25 in 2016. Lack of impartial courts and problems with the integrity of the legal system can politicise the legal system and give special privileges to the rich and powerful, weakening the economic freedom of other members of society.
Protection of Property Rights: This component is from the Global Competitiveness Report question: “Property rights, including financial assets, are poorly defined and not protected by law or are clearly defined and well protected by law?”. According to the 2017-2018 Global Competitiveness Report, Ghana’s score improved by about 1%, moving from 5.45 to 5.50 in 2016.
Military interference in rule of law and politics: This component is based on the International Country Risk Guide Political Risk Component G, Military in Politics: “A measure of the military’s involvement in politics”. Since the military is not elected, involvement, even at a peripheral level, diminishes democratic accountability.
Integrity of the legal system: This component is based on the International Country Risk Guide (the Political Risk Component I for Law and Order): “Two measures comprising one risk component. Each sub-component equals half of the total. The ‘law’ sub-component assesses the strength and impartiality of the legal system, and the ‘order’ subcomponent assesses popular observance of the law”.
Legal Enforcement of Contracts: This component is based on the World Bank’s Doing Business estimates for the time and money required to collect a debt. According World Bank Doing Business Report, since 2013, time and cost to enforce contracts in Ghana has remained unchanged at 710 days and 23% of the claim. Contract enforcement is also crucial. Lack of appropriate contract enforcement discourages people and businesses from entering into freely agreed contracts, since it leaves the parties uncertain whether the contracts will be fairly enforced and disputes properly handled by the legal system. Such uncertainty reduces the space for freely made agreements.
Regulatory costs of the sale of real property: This sub-component is based on the World Bank’s Doing Business data on the time measured in days and monetary costs required to transfer ownership of property that includes land and a warehouse. According World Bank Doing Business Report, since 2007 time and cost to register a property in Ghana has remained unchanged at 47 days and 6.2% of the property value.
Reliability of the Police: This component is from the Global Competitiveness Report question: “To what extent can police services be relied upon to enforce law and order in your country?” According to the 2017-2018 Global Competitiveness Report, Ghana’s score improved by about 6%, moving from 6.14 to 6.5 in 2016. Lack of police reliability and the high cost of crime add huge expenses to business, increase risk, and, at worst, expose business people to violence and destruction.
Business costs of crime: This component is from the Global Competitiveness Report question: “To what extent does the incidence of crime and violence impose costs on businesses in your country?” According to the 2017-2018 Global Competitiveness Report, Ghana’s score improved by about 3%, moving from 5.34 to 5.5 in 2016.
The Gender Disparity Adjustment* is a new measure of the extent to which economic freedom extends to women, whether a nation’s laws treat women equally in economic matters—for example, starting a business, employment, and so on. It is scored from zero to one. Ghana almost scores a one; it is rounded to 1.0 at one digit but it is actually 0.976, low enough to rank Ghana 49th in the world since a large number of nations score 1.0. This means that at least one law on the books that discriminates against women.

Notes: The gender disparity adjustment is scored on a 0 to 1.0 scale rather than 0 – 10. The score is used to adjust the rule of law score. Nations that receive less than 1.0 have their rule of law score multiplied by the Gender adjustment.

Table 1 shows the data on the nine variables under legal systems and property rights (discussed above) and Ghana’s score for 2015. Comparisons are made with other countries in Africa as well as world averages.

Table 1: Economic Freedom in Legal Systems (Rule of Law) and Property Rights

Sample questions to be discussed at the audit:

How can the impartiality and integrity of courts be increased?
How can time and cost of contract enforcement be improved?
How can the legal system be made fair to all, the rich and powerful and the poor and weak alike?
How can police reliability be increased and the costs of crime decreased?

Sound money

Inflation erodes the value of rightfully earned wages and savings. Sound money is thus essential to protect property rights. When inflation is not only high but also volatile, it becomes difficult for individuals to plan for the future and thus effectively utilise economic freedom, and this also suppresses investment and job creation. Ghana scores below all the comparison groups and nations. This has resulted in persistent high levels of inflation. Unfortunately, Ghana’s score in this area has also been declining in recent years. (See Figure 1.)

As well as problematic monetary policy, Ghana’s score here is weakened by restrictions on foreign bank accounts which undermines people’s freedom to control their own resources. The importance of this can be seen from the fact that all top nations have a 10 for this variable, along with Botswana.

The sound money area of economic freedom considers four variables, explained below:

Money Growth: The component measures the average annual growth of the money supply in
the last five years minus average annual growth of real GDP in the last ten years.
Countries where growth of the money supply greatly exceeds growth of real output receive lower ratings.
Standard deviation of Inflation: The component measures the standard deviation of the inﬂation rate over the last five years. Generally, the GDP deﬂator was used as the measure of inﬂation for this component. When these data were unavailable, the Consumer Price Index was used.
Inflation – most recent year: Generally, the CPI was used as the measure of inﬂation for this component as it is often available before the GDP deﬂator is available. When these data were unavailable, the GDP deﬂator inﬂation rate was used. Ghana’s inflation has reduced quite significantly in recent times. Inflation in Ghana has fallen from 15.4% in December 2016 to 9.6% in April, 2018. Efforts must be increased to consolidate gains made.
Freedom to own foreign currency bank account: When foreign currency bank accounts were permissible without any restrictions both domestically and abroad, the rating was 10; when these accounts were restricted, the rating was zero. If foreign currency bank accounts were permissible domestically but not abroad (or vice versa), the rating was 5.

Table 1 shows the data on the four variables under sound money (discussed above) and Ghana’s score for 2015. Comparisons are made with other countries in Africa as well as world averages.

Table 1: Economic Freedom of the World (Sound Money Indicator)

* Columns marked “score” contain the economic freedom score 0 – 10, where higher values indicate higher levels of economic freedom; columns marked “data” contain the raw data. For example, in Hong Kong, money grew by 5.1% reflecting a score of 9.

Sample questions to be discussed at the audit

Is Ghana taking appropriate measures to deal with the threat of inflation?
Is the recent reduction in inflation sustainable in the long term?
What accounts for the relatively high volatility in inflation in Ghana?
What specific restrictions exist in holding foreign currency bank accounts?
What can be done to permit Ghanaians to hold foreign currency bank accounts?

Freedom to Trade Internationally

Just as individuals and businesses in Ghana should be able to buy from and sell to whom they wish in their own nation, they should have the globe as their marketplace. Ghana’s score has declined in recent years and in 2015, the most recent year for which data are available, Ghana ranked 115th, creating a barrier to prosperity growth. (See Figure 1.)

To become prosperous, Ghana needs to be able to sell to the 7.5 billion people on the planet, not only the 28 million citizens of Ghana. Ghana is well behind the top country of the EFW index, the world average, and Botswana and just ahead of the West and other African averages (See Table 1). Much of the problem lies in red tape and inefficiency, with Ghana getting low marks in non-tariff barriers, compliance costs, and regulatory barriers. However, formal barriers to trade are also too high. Foreign ownership restrictions and, particularly, capital controls weaken foreign direct investment, which was the engine of growth in their early years for some of the most advanced nations today.

The freedom to trade internationally considers nine variables, explained below:

Tariffs (Revenue from trade taxes as % of trade sector): This sub-component measures the amount of tax on international trade as a share of exports and imports.
Tariffs (Mean tariff rate): This sub-component is based on the unweighted mean of tariﬀ rates.
Tariffs (Standard deviation of tariff rates): Compared to a uniform tariﬀ, wide variations in tariﬀ rates indicate greater eﬀorts towards central planning of the economy’s production and consumption patterns.
Non-tariff trade barriers: This sub-component is based on the Global Competitiveness Report survey question: “In your country, tariﬀ and non-tariﬀ barriers significantly reduce the ability of imported goods to compete in the domestic market. 1–7 (best)”.
Compliance Cost of Importing and Exporting: This sub-component is based on the World Bank’s Doing Business data on the time (i.e., non-money) cost of procedures required to import a full 20-foot container of dry goods that contains no hazardous or military items.
Black Market Exchange rates: This component is based on the percentage diﬀerence between the official and the parallel (black-market) exchange rate.
Foreign ownership or investment restrictions: This sub-component is based on the following two questions from the Global Competitiveness Report: (1) “How prevalent is foreign ownership of companies in your country? 1 = Very rare, 7 = Highly prevalent”; (2) “How restrictive are regulations in your country relating to international capital ﬂows? 1 = Highly restrictive, 7 = Not restrictive at all”.
Capital controls: The International Monetary Fund reports on up to 13 types of international capital controls. The zero-to-10 rating is the percentage of capital controls not levied as a share of the total number of capital controls listed, multiplied by 10.
Freedom of foreigners to visit: This component measures the percentage of countries for which a country requires a visa from foreign visitors.

Table 1 shows the data on the nine variables under the freedom to trade internationally (discussed above) and Ghana’s score for 2015. Comparisons are made with other countries in Africa as well as world averages

Sample questions to be discussed at the audit:

What obstacles are there in Ghana to international trade?
Why are compliance costs so high for trade?
How can barriers to trade, both official and unofficial, be removed?
How can Ghana be opened up to international investment.

Regulation

Ghana ranks 90th in the world in red tape, which limits the dynamism of the economy (See figure 1). Its score has been mostly declining in recent years (See figure 9a). The regulations indicator of economic freedom studies regulations in three main areas: regulations in credit, regulations in the labour market, and regulations in business.

Regulation of Credit

Access to credit is essential to building a successful economy. Ghana is behind the averages of all groups in the sample (Table 1a) and ranks 124th in the world (Figure 1). Reform is much needed.

Three variables are considered under this indicator. They are defined below:

Ownership of Banks: Data on the percentage of bank deposits held in privately owned banks were used to construct rating intervals. Countries with larger shares of privately held deposits received higher ratings.
Private sector credit: This sub-component measures the extent of government borrowing relative to borrowing by the private sector. Greater government borrowing indicates more central planning and results in lower ratings. If available, this sub-component is calculated as the government fiscal deficit as a share of gross saving.
Interest rate controls/ negative real interest rates: Data on credit-market controls and regulations were used to construct rating intervals. Countries with interest rates determined by the market, stable monetary policy, and reasonable real-deposit and lending-rate spreads received higher ratings.

Table 1a shows the data on the three variables under regulation of credit

Sample questions to be discussed at the audit:

How can private sector credit be increased in Ghana?
What are the obstacles to obtaining credit in Ghana, particularly for small and medium sized businesses?

Regulation of Labour Markets

Red tape, restrictions and regulations are weakening job growth and opportunity in Ghana’s labour market. Ghana ranks 69th (See Figure 1). In an economically free nation, one should be able to hire whom you wish and work for whom you wish and not have to wait through needless delays and cut through miles of red tape. Lack of freedom in the labour market excludes many from the dynamism of a growing market economy. It suppresses job growth by making hiring expensive and risky. This is particularly true of dismissal costs—where Ghana scores a remarkable zero. At first glance, making dismissal costly may appear to protect jobs but it actually prevents job creation. Businesses are reluctant to hire since they cannot reduce their labour force if an employee fails to work out or if sales decline. Such regulations can often keep the poorest and the most disposed out of the formal labor market. This not only reduces economic growth but also fuels social tensions.

Six variables are considered under this indicator. They are defined below:

Hiring regulations and minimum wage: This sub-component is based on the “Employing Workers” section of the World Bank’s Doing Business and uses the following components: (1) whether fixed-term contracts are prohibited for permanent tasks; (2) the maximum cumulative duration of fixed-term contracts; and (3) the ratio of the minimum wage for a trainee or first-time employee to the average value added per worker.
Hiring and firing regulations: This sub-component is based on the Global Competitiveness Report question: “The hiring and firing of workers is impeded by regulations (= 1) or ﬂexibly determined by employers (= 7)”.
Centralised collective bargaining: This sub-component is based on the Global Competitiveness Report question: “Wages in your country are set by a centralized bargaining process (= 1) or up to each individual company (= 7)”.
Hours regulations: This sub-component is based on the “Rigidity of Hours Index” in the World
Bank’s Doing Business, uses the following five components: (1) whether there are restrictions on night work; (2) whether there are restrictions on holiday work; (3) whether the length of the work week can be 5.5 days or longer; (4) whether there are restrictions on overtime work; and (5) whether the average paid annual leave is 21 working days or more.
Mandated cost of worker dismissal: This sub-component is based on the World Bank’s Doing Business data on the cost of the advance notice requirements, severance payments, and penalties due when dismissing a redundant worker with 10-years tenure. Data on the use and duration of military conscription were used to construct rating intervals. Countries with longer conscription periods received lower ratings

Conscription: Data on the use and duration of military conscription were used to construct rating intervals. Countries with longer conscription periods received lower ratings

Table 1b shows the data on the six variables under regulation of the labor market

Sample questions:

What are obstacles to hiring in Ghana?
What are the obstacles to firing?
Are laws protecting the labour market in Ghana implemented efficiently?

Regulation of Business

Overly stringent regulation can slow business expansion and weaken profits, which are both the means of further investment and the motivation for further investment. Ghana ranks 73rd in the world in business red tape. Its score has been more or less stagnant though there have been small improvements in recent years (See figure 9d). Administrative requirements, bureaucracy costs, and the cost of tax compliance all slow business formation and weaken existing businesses.

Cutting this thicket of red tape would diminish the big problem in this area, extra payments, since heavy administrative requirement and bureaucracy costs feed corruption by giving officials an opportunity to demand bribes in exchange for cutting through the red tape. Often, the red tape and delays are intentionally created by the bureaucracy to create the opportunity for bribes.

Six variables are considered under this indicator. They are defined below:

Administrative requirements: This sub-component is based on the Global Competitiveness Report question “Complying with administrative requirements (permits, regulations, reporting) issued by the government in your country is (1 = burdensome, 7 = not burdensome)”.
Bureaucracy costs: This sub-component is based on the “Regulatory Burden Risk Ratings” from IHS Markit, which measures “the risks that normal business operations become more costly due to the regulatory environment”. This includes regulatory compliance and bureaucratic inefficiency and/or opacity.
Starting a business: This sub-component is based on the World Bank’s Doing Business data on the amount of time and money it takes to start a new limited liability business.
Extra payments or bribes or favouritism: This sub-component is based on the Global Competitiveness Report questions: (1) “In your industry, how commonly would you estimate that firms make undocumented extra payments or bribes connected with the following: imports and export permits, connection to public utilities, annual tax payments, awarding of public contracts (investment projects), getting favourable judicial decisions among others.”
Licensing restrictions: This sub-component is based on the World Bank’s Doing Business data on the time required per year for a business to prepare, file, and pay taxes on corporate income, value added or sales taxes, and taxes on labour.
Cost of tax compliance: This sub-component is based on the World Bank’s Doing Business data on the time required per year for a business to prepare, file, and pay taxes on corporate income, value added or sales taxes, and taxes on labor.