The impact of economic freedom on economic growth in countries with high and low regulatory quality—lessons for Viet Nam

The study investigates whether and how economic freedom (EF) promotes economic growth across countries that differ in regulatory quality (RQ). Building on classical and modern economic theory that links freedom, competition, property rights, and limited intervention to growth, and acknowledging mixed empirical evidence in prior work, the authors aim to clarify the EF–growth nexus under varying institutional environments. Specifically, they: (1) test the effect of EF on GDP growth in two groups of countries split by the world average of RQ; and (2) examine Vietnam separately (a country in the low-RQ group) to identify country-specific deviations. The purpose is to inform policy on strengthening EF and complementary institutions to foster growth.

The paper reviews definitions and prior findings on economic freedom, economic growth, and regulatory quality. Economic freedom (as measured by Heritage Foundation, Fraser Institute, and Freedom House) encompasses rule of law, government size, regulatory efficiency, and open markets. Empirical studies often find a positive EF–growth relationship via mechanisms such as resource allocation efficiency, capital accumulation, trade and FDI, and investment climate improvements (e.g., Dawson 1998; Carlsson & Lundström 2002; Gwartney et al. 2004; Kacprzyk 2016; Ciftci & Durusu-Ciftci 2022). However, some studies report insignificant or negative effects for certain EF components or contexts (Doucouliagos 2005; Uzelac et al. 2020; Wu 2011 for China). Regulatory quality (World Bank RQ Index) reflects the government’s ability to formulate and implement sound policies and regulations. Better RQ is associated with stronger institutions, lower corruption, effective enforcement, and conducive business environments, generally supporting growth (La Porta et al. 1997; Cebula & Foley 2012; Ogbuabor et al. 2020). Governance dimensions including corruption control, rule of law, and political stability often correlate positively with growth, though exceptions exist (e.g., insignificant institutional effects in some Nigerian studies; non-monotonic effects of corruption). The literature suggests interactions among EF, RQ, and growth, motivating analysis by RQ strata and a Vietnam case study.

Data: Panel of 54 countries, annual observations from 2008–2022. Countries are split into two groups of 27 each based on whether their average World Bank Regulatory Quality (RQ) over the period is above or below the world average. Variables: Dependent variable is GDP growth rate (%). Key independent variable is Economic Freedom (EF) measured using aggregate indices (Heritage Foundation, Fraser Institute, Freedom House; Heritage described as 12 components averaged to 0–100, then standardized in analysis). Control variables include: Fixed capital formation (FCF, % GDP), Tax revenue (TAX, % GDP), Government expenditure (EX, % GDP), Control of corruption (CC), Government expenditure on education (GEOE, % of government outlays), Foreign direct investment (FDI, % GDP), Population growth (POP, %), Labor force participation proxy (LABOR, % of population 15+), Inflation (INF, %), Unemployment (UNE, %), and Financial development (FD). Data sources: World Bank/WDI, Transparency International, OECD, Heritage Foundation. Model: Bayesian panel regression estimated separately for high-RQ and low-RQ groups, with the following specification: GDP_it = α1*EF_it + α2*FCF_it + α3*TAX_it + α4*EX_it + α5*CC_it + α6*GEOE_it + α7*FDI_it + α8*POP_it + α9*LABOR_it + α10*INF_it + α11*UNE_it + α12*FD_it + ε_it. Estimation: Metropolis–Hastings MCMC with 10,000 iterations per model, reporting posterior means, standard deviations, and Monte Carlo standard errors (MCSE). Convergence diagnostics (trace, autocorrelation, mixing) indicate well-behaved chains with small MCSE (generally <5–6.5% of posterior SD). A separate Vietnam-specific Bayesian regression is also estimated to contrast country-specific effects with group results.

Two-group panel results (posterior summaries): - Economic freedom (EF) positively affects GDP growth in both groups. Posterior probabilities P(β_EF>0) ≈ 0.9984 (low RQ) and 1.000 (high RQ). Posterior mean coefficients: low RQ ≈ 1.241; high RQ ≈ 3.297. - Government expenditure (EX) negatively relates to growth in both groups: P(β_EX<0)=1. Posterior means ≈ −0.183 (low RQ), −0.202 (high RQ). - Positive contributors overall (with higher posterior support in low RQ): Fixed capital formation (FCF) P(>0)=0.995 (low RQ; mean ≈ 0.114), weaker in high RQ (P≈0.537; mean ≈ 0.004). Tax revenue (TAX) positive in both, especially high RQ (P≈0.9999; mean ≈ 0.186) vs low RQ (P≈0.900; mean ≈ 0.016). FDI weakly positive (low RQ P≈0.736; high RQ ≈0.507). Population growth (POP) positive in both (low RQ P≈0.988; high RQ P≈0.962; means ≈ 0.503 and 0.446). - Negative contributors in both groups: Labor (LABOR) P(<0)=0.652 (low RQ; mean ≈ −0.011) and 0.999 (high RQ; mean ≈ −0.182); Unemployment (UNE) P(<0)=0.900 (low RQ; mean ≈ −0.051) and 0.992 (high RQ; mean ≈ −0.162). Inflation (INF) tends to be negative: low RQ P(<0)≈0.670 (mean ≈ −0.019); high RQ P(<0)≈0.518 (mean ≈ −0.003). - Divergences by RQ: Corruption control (CC) positive in low RQ (P(>0)≈0.990; mean ≈ 0.982) but negative in high RQ (P(<0)≈0.979; mean ≈ −1.041). Financial development (FD) ambiguous in low RQ (P(>0)≈0.504; mean ≈ 0.010) but negative in high RQ (P(<0)≈0.998; mean ≈ −3.113). Government spending on education (GEOE) is weakly negative in low RQ (P(<0)≈0.603; mean ≈ −0.014) and strongly negative in high RQ (P(<0)≈0.997; mean ≈ −0.227). Vietnam case study (posterior probabilities all ≈1): - Positive effects: EF (mean ≈ 10.03), CC (≈ 9.79), GEOE (≈ 7.73), FDI (≈ 0.49), INF (≈ 1.85), FD (≈ 9.81), constant positive. - Negative effects: FCF (≈ −2.32), EX (≈ −1.00), POP (≈ −15.99), LABOR (≈ −1.34), UNE (≈ −2.18). Overall, EF robustly promotes growth regardless of RQ. Control variables show context-specific effects: CC and FD support growth in low-RQ settings but are associated with lower growth in high-RQ settings; education spending appears growth-dampening in the short run for most countries but not for Vietnam. Vietnam differs notably with positive effects from education spending and inflation, and negative effects from fixed capital formation and population growth.

The results confirm the central hypothesis that greater economic freedom fosters higher economic growth across heterogeneous institutional environments. EF likely enhances resource allocation efficiency, strengthens incentives, facilitates trade/FDI, and lowers transaction costs. The split-sample analysis reveals that institutional context conditions the roles of other determinants: in low-RQ countries, better corruption control and expanding financial systems correlate with higher growth—consistent with governance improving market functioning and access to finance; in high-RQ countries, marginal improvements in already-strong CC and deep financial sectors may coincide with tighter oversight, deleveraging, or diminishing returns, yielding negative associations. Short-run negative effects of education spending in most countries likely reflect intertemporal trade-offs, whereas Vietnam’s positive education effect suggests rapid human-capital gains aligning labor skills with evolving industrial structure. Vietnam’s positive inflation effect is consistent with accommodative policy within a developing economy’s corridor, while negative effects of FCF and population growth indicate potential inefficiencies in capital allocation and demographic pressures outweighing scale effects. These findings underscore that while EF is uniformly beneficial, complementary policies must be tailored to institutional quality and country specifics.

Economic freedom is a key driver of economic growth in both high- and low-regulatory-quality environments. Bayesian panel results for 54 countries (2008–2022) show robust positive EF effects. Capital formation, FDI, population growth, and tax revenue generally support growth, while government spending, unemployment, and (on average) inflation and labor-force variables weigh against growth. The most salient cross-group differences arise in corruption control and financial development: positive for growth in low-RQ settings but negative in high-RQ contexts. Vietnam mirrors the global EF–growth pattern but departs on several controls—education spending and inflation support growth, while fixed capital formation and population growth detract—highlighting country-specific dynamics. Policymakers should prioritize enhancing EF and align complementary reforms to institutional context to maximize growth gains.

The study analyzes two groups of 27 countries (total 54), which may not capture the full global diversity of economic, political, social, and environmental contexts. Data drawn from multiple organizations may not be fully up-to-date, potentially affecting timeliness. Future research should broaden geographic coverage, test alternative grouping criteria (e.g., EF strata, FDI roles), and include additional development metrics to provide a more comprehensive assessment and improve generalizability.