Must-Read: : Can We Get Rich by “Doing Business” Better?: “Below I’m going to get to the gory details of why the Doing Business (DB) indicators generally suck…
…But let me start with this note. The DB index [John] Cochrane uses is a ‘distance to the frontier’ index. Meaning you get a number that tells you how close to best practices in business conditions a country gets. If you are at the best practices in all categories, you’d get a 100. Cochrane says, and I quote, ‘If America could improve on the best seen in other countries by 10%, a 110 score would generate $400,000 income per capita…’. Stew on that for a moment. Think about how that DB frontier index is constructed.
Cochrane went there. He said it could go to 11….
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It Gets Worse: In the follow up post, Cochrane appeals to a graph from my textbook with Chad Jones… the relationship of an index of ‘social infrastructure’ and TFP…. I calculated it, graphed it, and stuck it on the slide that Cochrane linked to. I simply scaled and averaged the 6 different components of the World Bank’s governance indicators, much like the DB index. It has all the issues I described above, except worse. This figure tells us very little. Which is why in the book we immediately say that you cannot infer anything causal from it, and then go on to talk about some of the better studies done looking at specific institutions and their effects on economic outcomes…