By Stephan Gohmann, Ph.D.
Out of the 50 U.S. states and 10 Canadian provinces, Kentucky ranks No. 56 in economic freedom, as measured by the Frasier Institute’s Economic Freedom of North America Index. Among Kentucky’s surrounding states, only West Virginia ranks lower.
The index is a measurement of the size of government, amount of taxation and freedom of workers to engage in labor contracts.
Less economic freedom yields many less-than-desirable incomes:
- According to kidscount.org, only 39 percent of Kentucky’s young adults (ages 18 to 24) have enrolled in or completed college, compared with 42 percent to 53 percent in the surrounding states of Indiana, Illinois, Missouri, Tennessee and West Virginia.
- Kentucky’s median family income of $47,000 is second-lowest among surrounding states. Only Tennessee’s is lower at $45,700. The remaining surrounding states have median incomes ranging from $51,000 to $70,800.
- Kentucky ranks No. 45 in the percent of the population living in poverty.
In recent years, many economists have examined how institutions or “the rules of the game” drive these outcomes.
Some of the rules are cultural. Religious institutions and local heritage influence behaviors and can only change slowly.
But other institutions can be more easily changed. In particular, the problems created by government rules and regulations can be more effectively addressed if politicians are given the right motivation from voters.
Government policies can either make it easier for individuals to pursue their purposes or put roadblocks in the way.
So how can Kentucky improve? The index offers some direction:
- Reduce the size of state government.
Kentucky ranks No. 56 in the size-of-government category, which consists of the percentage of the GDP consumed by general consumption expenditures, transfers, subsidies and Social Security payments.
In 1981, the index value for Kentucky in this category was 7.2. By 2010, this value had fallen to 4.6 with a 1.7 point drop since 2007, indicating that the size of Kentucky’s government has been growing to the detriment of the commonwealth’s economy.
Any moves by Frankfort to reduce the size of government would increase the economic freedom of the people in Kentucky.
In the index’s takings and discriminatory taxation policy, Kentucky ranks No. 37 but has improved its index value from 5.4 in 1981 to 6.1 by 2010.
This category consists of the top marginal income tax rate, the income threshold at which it applies and the percentage of GDP comprised of tax revenue.
The recent push by some mayors to enact local sales taxes would move Kentucky in the wrong direction on this index. The impact of a local sales tax would be to push consumers to purchase products outside of the city and result in a negative economic impact.
In the labor-market freedom category, Kentucky ranks No. 35 and has improved the index value from 4.8 in 1981 to 6.9 in 2010. However, the value of this index fell from 7.5 in 2006.
One way for Kentucky to improve on this portion of the index is to follow its neighbors to the north and pass right-to-work legislation.
The index shows that taking these steps would increase economic freedom in Kentucky, allowing for higher incomes and more opportunity. Those 20 percent of states and provinces that are the least free had per capita incomes averaging $37,218 (Kentucky’s was $37,557) in 2010 while the freest 20 percent averaged $53,085.
The more roadblocks government erects, the less likely that entrepreneurs will start businesses, communities will thrive and individuals will be successful.
More economic freedom, on the other hand, is highly correlated with economic growth and is one of the most effective ways to fight poverty.
Stephan Gohmann, Ph.D., is BB&T Professor of Free Enterprise at the University of Louisville and is a member of the Bluegrass Institute Board of Scholars. Reach him at email@example.com.