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How Business is Done in the Developing World: Deals vs Rules

The Doing Business Report, published annually by the World Bank, analyses laws, regulations and administrative requirements affecting various aspects of private enterprise in 189 countries. Lawyers, judges and notaries are the main data sources for this report due to its focus on legal and regulatory arrangements. This data is used to create a composite index to rank countries based on how pro-business their legal environment is. However, do de jure processes adequately represent the true functioning of an economy?

This question is addressed by Mary Hallward-Driemeier and Lant Prichett in their paper, How Business is Done in the Developing World: Deals vs Rules. They note that developing countries, despite having large amounts of red tape, often do not comply with their own policies. The real world relevance of the Doing Business rankings is thus questioned.

The results of the Doing Business rankings are compared to those of the World Bank Enterprise Surveys. Enterprise Surveys are nationally representative and have been carried out in 135 countries (although somewhat infrequently).  The main attraction of the Enterprise Surveys is that it collects firm level data; 150-360 observations in smaller economies and 1200-1800 observations in larger ones. The results are not estimates, but reported data.

The dissimilarity in the number of days required to obtain the construction permit in the two reports has been highlighted.  The median number of days estimated by the Doing Business report was 177 days, while the corresponding figure reported in the Enterprise Surveys was 30 days. The figure below suggests that the Doing Business report has consistently overestimated the time required to get a construction permit.

days to get a construction permit

The paper shows that there exists more variation between firms within a country than across countries. Data on the days required to obtain a construction permit from the Enterprise Surveys have been used to compare firms in the 10th and 90th percentiles.

construction- percentiles

Those in the 10th percentile (fast firms) tend to be able to get the job done despite their performance in the Doing Business rankings (despite the rules and regulations of the land).  Conversely, significant variation exists between the firms in the 90th percentile (slow firms). A level playing field is not created as the flexible policy environment generates room for large potential rents.

The paper highlights that the de jure policies may differ vastly from de facto practices. Furthermore, it suggests that the Doing Business ranking, like many other composite indices, fails to portray a complete picture in an attempt to condense the data into a single value.

The slideset on Composite Indices can be accessed here

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