Association for Public Policy Analysis & Management

One might assume that more economic freedom would contribute to more happiness because it would provide individuals larger degrees of autonomy when engaging in economic activities. However, this relationship could be rather complex. This study explores the complexity of the effects of economic freedom on nations’ happiness and whether those effects would be moderated by cultural factors.

Conceptual framework:

Building on Helliwell et al. (2014)’s paper on how the quality of governance would affect nations’ happiness, my conceptual framework is threefold: First, when the economic freedom increases, it would unleash individuals’ potential and enhance their incentives to improve productivity, leading to a higher national income. This “prosperity effect” is supposed to promote people’s happiness. Second, more economic freedom would bring about more intense competition. Due to the large variations in individual characteristics, it is likely to widen the income gap and cause uncertainty in a society. Hence, this “anxiety effect” would undermine people’s happiness. Third, given the subtle influence of culture on individuals’ emotions and behaviors, I investigate if certain societies would demonstrate higher-than-expected levels of happiness after controlling for political and economic conditions.

Data and methodology:

The sample covers 141 countries and territories between 2005-2017 based on data availability. I first examine if economic freedom has a direct effect on happiness. Then, I construct a simultaneous equation model (SEM) in order to test the channels of “prosperity effect” and “anxiety effect”. Finally, I conduct a post-estimation analysis to identify the outliers.

Main findings:

• Average effects

The preliminary results using fixed-effect regressions show that the overall Index of Economic Freedom and most sub-indicators do not have a direct effect on happiness. The exception is market openness, which demonstrates increased competition would reduce people’s happiness keeping other factors as constant. The results based on the SEM support the “prosperity effect” through the channel of increasing GDP per capita. Although the channel effect of Gini is not fully supported by the SEM, the significant coefficients of market openness and Gini under different specifications indicate that a larger income disparity would undermine people’s happiness.

• Exceptions

Two groups of countries stand out as “bright spots” – Latin American and Caribbean countries and Central Asian countries adjacent to the west border of China. Interestingly, a few Chinese west regions (e.g., Xinjiang) with large ethnic minority populations also rank the highest in the post-estimation residuals of the within-China regression. The opposite image is shown in some East Asian societies and coastal regions in China. Despite their relatively high national income and economic freedom, people’s levels of happiness are lower than the world average.

Contributions:

This empirical work not only tests the direct impact of economic freedom on happiness, but also explores the channel effects of absolute income and relative income. Moreover, the post-estimation analysis suggests the role of cultural and (or) ethnic factors in influencing people’s happiness in certain societies. Delving into those exceptions would be helpful to deepen our understanding of the complex relationship between economic freedom and happiness across nations.