Economic Theory

Free-market reforms insulate against economic crises and electoral defeat


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New IEA research shows that free-market reforms insulate countries from the worst effects of economic crises

There is no need for a government to choose between reforming the economy and remaining popular, according to new research released today by the Institute of Economic Affairs and Timbro.

In Renaissance for Reforms, Stefan Fӧlster and Nima Sanandaji lay out the evidence, gathered from OECD countries around the world, that governments who carry out free-market reform are more likely to be re-elected – especially if they are made up of left-wing parties. Looking at the pace and direction of reforms in 29 OECD countries between the mid-1990s and the end of 2012, and an analysis of 109 governments, voter backlashes appear more common for governments that fail to introduce growth reforms.

These pro-growth, free-market reforms can also insulate countries during periods of economic upheaval and prevent people experiencing long periods of unemployment during a recession, such as in Poland, Estonia and Lithuania during the recent economic crisis.

The key findings of the book include:

·         Institutional reforms, particularly those that increase economic freedom, can often prove difficult to implement due to special interest groups arrayed against them – for example, European royalty working with farmers to protect the Common Agricultural Policy.

·         It is often Centre-Left parties, such as the Liberal Party in Canada and the Labor Party in Australia, who benefit most from introducing free-market reforms while in office. Analysis shows that left-wing parties who introduce or extend free-market, pro-growth reforms are more often re-elected than those who seek to enact big spending, big-state policies.

·         Reforms are easier to introduce in countries with higher levels of national solidarity, as opposed to high levels of interest group solidarity – for example, farmers in Northern Europe are less likely than the French to strike over farming benefit reforms.

·         Crises can drastically lower the ‘reform threshold’- or the level of public acceptance of free-market reform – but in order for the reforms to bed in and remain popular, the government must continue to make the case for them as a positive good – not merely as a response to a crisis.

·         Arguments over Keynesianism miss the fundamental points – that the most effective government response to a crisis is to ensure a sound and sustained fiscal policy; any response should focus on creating long-term growth, even if there can be short-term pain from reforms.

·         Successful reforms lower a nation’s resistance to further changes, while failed efforts raise the resistance.

·         Countries who enacted pro-growth free-market reforms prior to crises – including the current financial crisis – were better insulated from the effects of those crises. This insulation stems from the preservation of human capital, thanks to more business start-ups as the wider economy begins to improve. For example, both Australia and Canada, after major structural reforms in the 1980s and 1990s, have weathered the recent financial crisis particularly well.

Commenting on the research, Mark Littlewood, Director General at the Institute of Economic Affairs, said:

This well-researched book clearly shows that the government should stop being afraid that free market, pro-growth reforms will be a vote loser at the ballot box. Voters around the world, including in Britain, have woken up to the fact that living beyond our means is no longer possible and are prepared to reward governments who are willing to make the big decisions. However, it also provides a warning to the current government – enacting reforms as a crisis response is all very well, but failing to make the case for the long-term benefits of those reforms means they become politically untenable.”

Notes to editors:

To arrange an interview about the report please contact Camilla Goodwin, Communications Officer, [email protected] or 07821 971443.

The book can be purchased from here.

Stefan Fӧlster is Director of the Reform Institute and adjunct Professor at the Royal Institute of Technology in Stockholm. Nima Sanandaji is a Swedish author of Kurdish origin who holds a Ph.D from the Royal Institute of Technology in Stockholm.

Timbro is based in Stockholm, and has advocated free markets, free trade and free societies since 1978.

The mission of the Institute of Economic Affairs is to improve understanding of the fundamental institutions of a free society by analysing and expounding the role of markets in solving economic and social problems.

The IEA is a registered educational charity and independent of all political parties.