essential services, such as education and health. It creates the preconditions for markets to function effectively by maintaining macroeconomic stability, establishing sound regulations, providing basic infrastructure, and protecting individuals and investors from arbitrary state actions. And it balances diverse interests to solve common problems.

     Successful development requires that states complement markets, not substitute for them. States that foster a good investment climate—an environment that provides opportunities and incentives for firms, from microenterprises to multinationals, to invest productively, create jobs, and expand—are managing better in the global economy. Government institutions can support the development of markets in many ways—by providing information, encouraging competition, and enforcing contracts. By leveling the playing field, governments create opportunities for poor people to participate in markets and improve their standards of living, giving them hope for a better future for their children.

       How do governments get the balance right between society’s interests and firms’ incentives to invest? First, they restrain corruption by public officials, firms, and other interest groups. Second, they establish credibility by maintaining economic and political stability and preventing arbitrary behavior by the key agencies of the state. Third, they foster public trust and legitimacy through open and participatory policymaking, transparency, and equity. Fourth, they establish policies that reflect current conditions and continue to adapt to changing economic and business conditions.

      This section covers a broad range of indicators showing how effective and accountable government and an energetic private initiative create a sound investment climate. Its 12 tables cover three cross-cutting development themes: private sector development (including improving the investment climate), public sector policies, and infrastructure, information, and telecommunications.

Creating the conditions for private sector development and improving the investment and business climates 
     A good investment climate plays a central role in growth and poverty reduction by ensuring that contracts are enforced, markets function, basic infrastructure is provided, and people (especially poor people) are empowered to participate and manage better in the global economy. Although every country confronts different constraints, the main elements to get right are security and stability, regulation and taxation, finance, infrastructure, and labor markets. Governments that focus on creating a good climate for finance and infrastructure through sound regulation and private participation help to improve productivity and growth. Governments can also foster a better workforce by making education more inclusive, increasing equity in the workforce, and helping workers cope with labor mobility.

    
     During the past few years the World Bank, in partnership with local chambers of commerce or business associations, government statistics agencies, and a government partner, pioneered new measures of the investment climate derived from surveys of firms. The core survey has two parts. The main part deals with characteristics of the business and investment climate and is administered to the firm’s management or owners. It seeks business owners’ opinions on the business environment and their motivations for business decisions. The second part focuses on productivity measures, collecting information on the availability of physical infrastructure, the structure and functioning of factor and product markets, interbusiness relations and networking, industrial regulation, law and order, tax and customs administration, and other aspects of governance (table 5.2). The investment climate surveys measure specific constraints facing firms and relate them to measures of firm performance, growth, and investment. Some of the challenges of this new data initiative for measuring the investment climate are presented in box 5b.

    
     What are some of the major findings from these surveys? Although each country confronts different constraints, investment climate surveys show that firms in developing countries rate policy uncertainty as their major concern. Other important concerns are macroeconomic stability, tax rates and regulation, and tax administration.

    
     The annual Doing Business reports, produced by the World Bank–sponsored Doing Business Project, also shed light on the investment climate. These reports investigate the scope and manner of regulations that enhance business activity and those that constrain it. Quantitative indicators cover obstacles faced by an entrepreneur performing standardized tasks such as starting a business, hiring and firing workers, obtaining business licenses, getting credit, registering property, protecting investors, enforcing contracts, and closing down a business (table 5.3).

5a  

Source: World Bank 2005b.

The main findings in Doing Business in 2005, the second in a series, are:
     •  Businesses face much larger regulatory burdens in poor countries than in rich countries. They face three times the administrative costs and nearly twice as many bureaucratic procedures and delays, and they have fewer than half the protections of property rights of rich countries.
    • Heavy regulation and weak property rights exclude the poor from doing business. In poor countries 40 percent of the economy is informal. Women, young, and low-skilled workers are hurt the most.
    • The payoffs from reform appear large. A hypothetical improvement on all aspects of the Doing Business Indicators to reach the level of the top quartile of countries is associated with an estimated 1.4–2.2 percentage points more in annual economic growth.

Public sector policies and institutions can improve service delivery—and private sector business activities
     Improving people’s standard of living by ensuring access to essential services such as health, education, safety, water, sanitation, and electricity is widely viewed as government’s responsibility. An efficient and accountable public sector has institutions that are responsive to citizens, provide information, deliver services efficiently and equitably, and help to enforce people’s rights. Making services work better, especially for poor people who often do not get their fair share of public spending on services, is a challenge that can be met by governments, citizens, and private service providers working together.

    
     Good governance—sound management of a country’s economic and social resources, and strong institutions that support, regulate, and stabilize markets and ensure fair treatment of all citizens—strengthens the investment climate. Government functions and policies affect many areas of social and economic life: health and education, natural resources and environmental protection, fiscal and monetary stability, and flows of trade. Data related to these topics are presented in the respective sections. This section provides data on key public sector activities: tax policies, exchange rates, and defense expenditures (tables 5.6–5.8).

    
     Taxes are the main source of revenue for most governments. They are levied mainly on income, profits, capital gains, goods and services, and exports and imports. (Grants and other revenue are also important in some economies; see table 4.13.) A comparison of tax levels across countries provides an overview of the fiscal obligations and incentives facing the private sector. Central government tax revenues range from 2–3 percent of GDP in Myanmar to almost 30 percent in Israel and the United Kingdom (table 5.6).

    
     The level and progressivity of taxes on personal and corporate income influence incentives to work and invest. Marginal tax rates on individual income range from 0 percent to 50 percent or more. Most marginal tax rates on corporate income are in the 20–30 percent range (table 5.6).

Infrastructure is central to growth, poverty reduction, and achievement of the Millennium Development Goals
     Improved infrastructure such as roads, rails, power, telecommunications, water supply, and sanitation systems are important elements in the investment climate and are crucial for economic growth, competitiveness, poverty reduction, and achievement of the Millennium Development Goals (tables 1.2–1.4 and World view). New ways of providing infrastructure are expanding services to poor people. For example, private firms participating in infrastructure contribute capital and know-how and improve access to basic infrastructure services. In developing countries private firms invest mainly in the communications and energy sectors. Although investment in projects with private participation plays a role in delivering improved access and quality of infrastructure services, public investment (with accompanying policy reform) will likely be the main driver of increased service delivery going forward (table 5.1).     

    
     Quality infrastructure services such as safe water and sanitation systems are essential for sustaining life and maintaining health (tables 2.15 and 3.5). A good transportation network and reliable power are needed for businesses to operate efficiently and remain globally competitive. And good transportation and schooling advance gender equality and the empowerment of women (tables 1.5, 3.7, 3.8, and 5.9). But many people in developing countries, especially in rural areas, lack access to good quality services at affordable prices.

    New information and communications technologies are helping people everywhere improve their quality of life by creating, using, and sharing information and knowledge (tables 5.10 and 5.11).

    Assessing the impact of reforms in infrastructure sectors requires better data, including data reflecting the impact on people’s lives. Because there are no international agencies that specialize in infrastructure, definitions, methods, and data collection efforts for infrastructure have been fragmented. World Bank staff are compiling an infrastructure database from several sources and covering several policy dimensions: access, affordability, quality, efficiency, and fiscal sustainability. This effort complements the World Bank’s drive toward managing for results and recognition of the need for good quality statistical data and for continuing support for statistical capacity building. The World Bank’s Results Measurement System for assessing development progress in member countries of the International Development Association includes infrastructure indicators such as the share of population with sustainable access to an improved water source, fixed lines and mobile telephones per 1,000 inhabitants, access of rural population to an all-season road, and the household electrification rate.

Policy uncertainty dominates the investment climate concerns of firms

Challenges in measuring the investment climate