How much difference do the Doing Business indicators make?

The World Bank’s Doing Business indicators have drawn attention to the regulatory burdens on business, leading to hundreds of reforms worldwide to improve the business environment. The OECD’s Stephen Thomsen looks at the pros and cons of this approach.

The Doing Business indicators have had unparalleled success in drawing attention to the regulatory burdens that businesses face in different countries, leading to hundreds of reforms worldwide to improve the business environment. These burdens perpetuate informality and can potentially dissuade foreign firms from investing when faced with more welcoming environments elsewhere. At the same time, the indicators have been criticised for the underlying assumption that less regulation is always better, thus ignoring the potential social benefits of regulation.

The World Bank is careful in how it presents its indicators to try to prevent over-interpretation of the results, but the worldwide success of Doing Business has meant that the indicators have taken on a life of their own. Governments seek improvements in their country’s ranking in the belief that it will automatically have an impact on the ground, not just on domestic investment but also on foreign direct investment. Many are likely to be disappointed. An investment climate is a complex organism, requiring interventions in many areas to keep it in good health. For this reason at the OECD we use the Policy Framework of Investment which takes a holistic approach to investment climate reform covering 12 different policy areas. Focusing reforms on certain aspects of business regulation because of the worldwide visibility of Doing Business may not always be optimal when capacity constraints within governments require a choice of which reforms to prioritise.

Doing Business looks at the regulatory burden for a local limited liability company operating in the largest business city. The indicators look at the number of procedures, time and cost of starting, operating and closing a business. These include starting a business, dealing with construction permits, getting electricity, registering property, getting credit, protecting minority investors, paying taxes, trading across borders, enforcing contracts and resolving insolvency. Labour market indicators are provided separately and are not included in the ranking. A distance to the frontier measure is also compiled which evaluates each country’s distance from the best performer in terms of good regulatory practice.

Several studies have used the Doing Business indicators to demonstrate that lower levels of regulation tend to stimulate growth. One study (Eifert, 2009) looks at specific components of Doing Business and finds that improved contract enforcement stimulates growth. Another study (Klapper and Love, 2011) finds a link between significant reforms and new firm registration and also shows that lagging countries are likely to require relatively larger reforms in order to see a significant impact. A World Bank (2013) study estimates that “moving one percentage point closer to the frontier regulatory environment is associated with USD 250-500 million more in annual FDI inflows”.  Not all studies have found a robust relationship, however, particularly with respect to FDI inflows. Jayasuriya (2011) finds that, “on average, countries that undertake large-scale reforms relative to other countries do not necessarily attract greater [FDI] inflows”. For developing countries, he finds an insignificant (albeit positive) relationship.

Critiques of the Doing Business methodology can be found within the World Bank itself. An independent panel review commissioned by the World Bank president in 2013 criticised the data gathering methodology, by relying primarily on legal experts who were likely to have only a certain category of firms as clients and hence a narrow perspective. It also cited potential measurement errors owing to the variation in the number of experts consulted in each country. Doing Business indicators can also lead to “rank seeking” behaviour whereby governments “manipulate the indicators by altering the proxies that are the focus of the rankings, instead of changing the underlying factors that the proxies are attempting to assess”. Furthermore, categories such as “getting credit” give the impression of being a comprehensive measure of access to credit, instead of being based on “two specific legal structures in credit markets”.

The panel also pointed to the inevitable gap between the regulations and day-to-day practice, as reflected in the discrepancy between the Doing Business rankings and the findings of the World Bank Enterprise Surveys which are based on the experience and perceptions of a broad sample of firms. Hallward-Driemeier and Pritchett (2011) compare the results of the two methodologies and find that firms surveyed generally report actual times for complying with regulations which are much less than what is reported in Doing Business. In fact, they find little correlation between the two measures, even when looking at changes over time. What they find instead is that there is as much variation in treatment of firms within countries as across them. Favoured firms in the worst ranked countries in Doing Business do much better that the disfavoured firms in the best performing countries. Thus, countries looking for best practice might consider the treatment they accord to the most privileged firms and try to replicate it to the extent possible throughout the economy, rather than pursuing the goal of imitating Singapore or New Zealand who are at the top of Doing Business.It is possible that consistency may matter more than the actual amount of regulation. Hallward-Driemeier et al. (2010) find that firm performance is more a function of the variability in policy implementation than it is of the level of regulation.

The lesson from this experience is that Doing Business is a useful tool but only captures one part of what makes a good investment climate and may in some cases significantly misrepresent the situation on the ground for many investors. At the very least, improvements in a country’s ranking can have a potential signalling effect on foreign investors, but the most significant impact of regulatory reforms is likely to be on informality, as smaller firms are the least able to afford the cost and time of registering. Doing Business indicators can point to areas of potential weakness in the regulatory environment and serve as a catalyst for reform, but ultimately, regulatory reforms should be informed by regulatory impact assessments rather than by international rankings.

Links and References

The World Bank Doing Business Project 

OECD Investment Policy Reviews

The Policy Framework for Investment

Foreign Direct Investment statistics

Eifert, Benjamin (2009), “Do regulatory reforms stimulate investment and growth?: Evidence from the Doing Business data, 2003-07”, CGD Working Paper 159, Washington, D.C.: Center for Global Development, January.

Hallward-Driemeier, Mary and Lant Pritchett (2011), “How business is done and the ’Doing Business’ indicators: the investment climate when firms have climate control”, Policy Research Working Paper, World Bank, February.

Hallward-Driemeier, Mary, Gita Khun-Jush and Lant Pritchett (2010), “Deals versus rules: what is policy uncertainty and why do firms hate it?” NBER Working Paper 16001.

Jayasuriya, Dinuk (2011), “Improvements in the World Bank’s Ease of Doing Business rankings: Do they translate into greater foreign direct investment inflows?” Policy Research Working Paper, World Bank, September.

Klapper, Leora and Inessa Love (2011), “The impact of business environment reforms on new firm registration”, World Bank Group, Washington, DC, December.

World Bank (2013), “Does Doing Business matter for foreign direct investment?” Doing Business 2013, Washington, DC.

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