35666 The Newsletter About Reforming Economies Beyond Transition April--June 2005 · Volume 16, No. 2 http://www.worldbank.org/transitionnewsletter Theme of the Issue: Poverty and Growth Global poverty reduction via expanding opportunities Timothy Besley, Robin Burgess, and David Donaldson 3 Interview with Alberto Alesina 4 Good bye Lenin (or not)? The effect of communism on people's preferences for redistribution. Alberto Alesina and Nicola Fuchs Schuendeln 6 Economic growth, income distribution and poverty in Poland during transition. Pierella Paci, Marcin J. Sasin, and Jos Verbeek 8 Latin America 1980 2005: institutions, growth and poverty Alvaro Garcia 10 Microlending to vulnerable groups: evidence from a recent UNDP survey Andrey Ivanov 12 Labor market distortions, rural urban inequality and the opening of China's economy Thomas Hertel, Fan Zhai 14 Urban poverty in Russia and social assistance to the urban poor Anastasia Alexandrova and Elena Grishina 15 Adjustment costs of trade liberalization for the Russian labor market Irina Denisova 18 Poverty effects of Russia's WTO accession Thomas Rutherford, David Tarr, and Oleksandr Shepotylo 20 New Findings Assessing legal systems: a catalyst for reform Michel Nussbaumer 21 Family background and schooling outcomes in the Baltic countries Mihails Hazans, Olga Rastrigina and Ija Trapeznikova 23 Voice A troubled country? The study by Institute of Urban Economics in Preston Smith 24 Moscow confirms that at risk groups for pover ty in Russia are households of nonworking World Bank \ IMF Agenda 25 retirees, large families, households with disabled members, poorly educated households, and New Books and Working Papers 27 those living in smaller cities. Conference Diary 30 2 · Beyond Transition -- The Newsletter About Reforming Economies From the Managing Editor: Many poor in the CEEC and the CIS have benefited from the high growth rates in recent years, but the impact on poverty varies substantially from country to country and from region to region. The pattern is neither new nor unique: one of the most striking features of global development is how even modest growth in some places has brought millions over the poverty line, while in others rapid growth has had little or no impact on the poor. Given the political importance of linking growth to poverty alleviation, it is remarkable how lit- tle we know, conceptually and empirically, about what explains the variations. This issue of Beyond Transition takes as its starting point recent work by Timothy Besley, Robin Burgess, and David Donaldson examining the international evidence and the record of Indian states. We also bring in experiences from Poland, China, Russia and Latin America. Of course, the differences in poverty impact reflect to some extent the differences in welfare sys- tems. The effectiveness of redistribution mechanisms in reaching the poor varies greatly across coun- tries, particularly within the CIS. In Russia, for example, more than half of benefits go to the richest 60 percent of the popula- tion. Alberto Alesina, in our interview, discusses differences in attitudes on redistribution and uses German reunification to show that attitudes change only slowly. But as Besley, Burgess and Donaldson emphasize, the distribution of production opportunities may be more important than redistribution of income in understanding the impact of growth on poverty. The transition out of agriculture into the secondary and, in particular, the service sectors dwarfs most other factors in its effectiveness in fighting poverty. This perspective shifts atten- tion to property rights and the quality of institutions protecting these rights. A focus on access to production opportunities also brings out the importance of human capital development and access to finance. Besley et al. demonstrate that regulation, even when pro-poor, can have a negative impact on the opportunities open to the poor. Interestingly, openness to trade does not come out as a strong factor in their analysis. To shed more light on this point, this issue includes two articles examining the Chinese and Russian experiences from trade liberalization. Perhaps the least understood channel between growth and poverty runs through politics. Besley et al. explore how issues of voice and accountability, for example, can affect the growth-poverty relationship. We also look at new comparative work on the role of different constituencies in bringing about important transitions, such as urban-rural migration or approaching the world technology frontier. Judging from Alvaro Garcia's article, the experience of Latin America is very different from that of Central and Eastern Europe, but perhaps not so different from that of Russia. Sustaining the high growth rates of recent years is a major challenge for the countries of Central and Eastern Europe and the CIS, but ensuring that the poor benefit from this growth is an even greater one. The experience reported in this issue suggests that more emphasis should be put on the institutions crucial to the creation of production opportunities, as a complement to redistribution systems. In any case, attitudes on redistribution are likely to be determined by factors such as history and ethnic heterogeneity, which are hard to affect through policy. What is required from the institutional environment will change, as countries move closer to the technology frontier and increasingly have to rely on their own innovative capacity. Another lesson is that regional variations in production technology and investment climate within countries may be at least as important as variations across countries. Large countries such as Russia may want to differentiate policies and experiment on a regional basis, in order better to understand impact. Beyond Transition is continuing its own transformation. We are gradually introducing more interactive features, to engage our readers in important debates about institutional change and development. In particular, we are inviting reactions to previ- ous features and contributions by policymakers and academics. We are also keen to increase content originating in the region. In order to bring down costs and ensure speedier delivery, we are moving to electronic publishing. We will maintain a small- er hard-copy edition, but during the fall the BT web site will be upgraded and the electronic version of the publication will be enhanced with more features. We welcome suggestions from readers for how best to make use of this opportunity. Erik Berglof, Managing Editor The World Bank· 3 Theme of the Issue: Poverty and Growth Global poverty reduction via expanding opportunities Timothy Besley, Robin Burgess, and David Donaldson W hich institutional and policy features have been only beginning to be understood. More striking is how the successful at reducing poverty? We draw on data poverty-reducing effects of growth vary markedly across Indian from international and subnational (Indian states) states. States such as Kerala have seen remarkable poverty reduc- sources to identify the features of economies in which tion off of relatively weak growth; others, such as Haryana, have growth is particularly pro poor. These features include well grown impressively but had much slower poverty reduction. protected property rights, accountable governments, access We find a number of correlations that may explain this het- to education and finance, and unregulated business envi erogeneity in the extent to which growth is 'pro-poor'. ronments. Structural change (as proxied by the share of non-agricultural We begin by considering how changes to inequality and output in total output) is associated with reductions in pover- growth affect poverty reduction on a cross-country level, using ty. While inequality is not correlated with poverty, there is World Bank household survey data. The growth effect is strong some evidence that lower inequality increases the poverty in every region of the world except Sub-Saharan Africa, but impact of economic growth. varies considerably between regions. The correlation between But how much have the institutional and policy reforms inequality and poverty is less pronounced, reflecting the fact adopted by different Indian states affected the extent to which that, historically, change to inequality has not been an impor- economic growth influences poverty? Which are the most tant source of poverty reduction. effective for reducing poverty? We can make use of the hetero- We also learn that the type of growth matters. "Structural geneity we found in our analysis to offer some tentative con- change", in which production shifts from primary to second- clusions about the microeconomics of poverty reduction. · ary and tertiary sectors, is correlated with growth but has an Property rights: Institutions that protect property especially strong correlation with poverty reduction. The terti- rights will be critical to encouraging investment, trade and ary sector is, on average, most important to poverty reduction, exchange and to ensuring the participation of the poor in eco- and reallocations out of agriculture are important. Still, varia- nomic growth. States that have had more land reforms have tions among regions persist. tended to have more rapid rural poverty reduction. · Institutional and policy features shape growth and poverty Voice and accountability: Mass media and democracy reduction, but the impact of these features on growth is much stand out. Newspaper circulation has had a critical bearing on better understood than their impact on poverty. We identify the degree to which state governments respond to droughts four `signposts' from the cross-country analysis -- factors that and floods via food distribution and relief expenditures. · seem most important for reducing poverty: enforcement of Access to finance: States with more rapid bank branch property rights, especially in relation to land; governance, expansion into un-banked areas have experienced faster rural accountability and voice, in particular the flow of information poverty reduction and higher rates of non-agricultural eco- and free media; access to productive opportunities, including nomic growth. Increasing access to financial services in rural human capital development, access to finance and bank avail- areas both increases the poverty-growth elasticity and encour- ability; government regulation that impacts a country's `busi- ages economic growth. · ness climate', such as pro-labor regulation, barriers to entry, Human capital: Investment in education has been cen- and restraints on international trade (though evidence of the tral to reducing poverty both by increasing poverty-growth effects of openness on poverty are less concrete). elasticities and by encouraging economic growth. States with We use these signposts to compare poverty reduction more female literacy and labor force participation have done effects at the state level in India. We assess the links between better at reducing poverty. · growth, poverty and inequality in 16 major Indian states, Regulation: Labor regulation is a key part of the busi- accounting for more than 95% of the Indian population, over ness climate in India. States with more pro-worker labor regu- the period 1960-2000. lation have tended to have slower growth in manufacturing Throughout India, real agricultural output per capita has and higher rates of urban poverty. been relatively flat over the period. However, around the mid- 1970s real non-agricultural output per capita began to acceler- The article is based on a presentation by Timothy Besley, ate, but this pattern varied highly across states. Some states, such Robin Burgess, and David Donaldson at a workshop in as Assam, Bihar, Jammu and Kashmir, have seen limited struc- Stockholm in March 2005. Robin Burgess is reader in eco- tural changes and economic growth; others, such as Gujarat, nomics, Timothy Besley is professor of economics and political Haryana, Kerala, Punjab and West Bengal, have seen impressive science, and David Donaldson is a doctoral candidate, all at non-agricultural growth. The sources of this heterogeneity are the London School of Economics and Political Science. 4 · BeyondTransition -- The Newsletter About Reforming Economies Alberto Alesina: "I don't think that transition economies can afford the kind of welfare system that Western Europe has" Alberto Alesina is Nathaniel Ropes Professor of Political Economics and Chairman of the Department of Economics at Harvard University. He has authored several books, including Fighting Poverty in the US and Europe: A World of Difference, published by Oxford University Press in 2004 (with Edward Glaeser). Prof. Alesina answered questions during his recent visit to Moscow, where he delivered a series of lectures at the New Economic School. Looking back a few decades, can you say that tors (e.g. racial fragmentation). Given Europe's the economists' understanding of poverty has historical electoral system and relative ethnic changed? Have there been any myths on poverty homogeneity, do you think European countries that careful economic analysis has uncovered will ever move to a low-tax, smaller state and and refuted? limited regulation system like in the US? What will it take? I'm not an expert on poverty in developing countries, but as for developed countries one I don't think that European countries will in issue that is now better understood is that a lot any foreseeable future move in the direction that of programs meant to reduce poverty and makes the structure of their welfare system any inequality have instead created "pockets of priv- closer to the US. There will be some reforms, ileges" for some people within the poor groups. some trimmings here and there, pension systems For example, some labor laws, meant to protect will have to be adjusted because some countries labor against capital, in reality brought privi- are not solvent, but I don't foresee any major leges for insiders and the unions and created barriers for entry changes. One interesting aspect, though, is that Western for young people into the labor force. Very generous pension Europe will become less homogeneous because of the wave of systems have been redistributing from the young to the old, immigration. The European welfare state will face a pressure with the old not being necessarily poorer, particularly as life similar to that in the US from political parties arguing that the expectancy has increased. What economists now better under- country cannot afford paying for welfare to immigrants, stand is that, when applied, certain redistributive policies in which will lead to discussions how not to incorporate immi- developed countries bring unintended effects, dividing the poor grants in the welfare state. What is going to happen then is dif- into insiders and outsiders and creating more inequality. ficult to predict. What policies, in your opinion, have worked well for the poor? Let me then ask, should they change their welfare system? Is it too big? I think growth in general is always better for the poor. So the example of pro-poor policies would be maintaining market Assuming we're talking about an efficient system (and competition, avoiding barriers to entry, reducing regulation, everybody agrees that a welfare system should be as efficient as avoiding monopolistic power, i.e. having policies that do not possible), the question of how much to redistribute is very interfere with market forces, make markets work and are much a political preference that is not "right" or "wrong". growth-enhancing. And a healthy growth in the economy However, what I find somewhat irritating and not useful is the makes taxing and redistributing feasible. However, if you have rhetoric in Europe: they claim that they would like to grow as high taxes and market impediments, then you grow much fast as the US, be as powerful in foreign policy, and at the same slower and actually increase inequality, because insiders and time keep the European welfare state, meaning working fewer those with connections get richer and richer. You get neither hours, having a much more regulated market, higher job secu- more equality, nor more growth. So my recipe would be: rity, a lot of redistribution, and early retirement. What I find defend the market at all costs, leave a lot of market competi- not useful in this political debate is the lack of recognition that tion, and then you can afford to redistribute. these goals are inconsistent. Choosing to have a European wel- fare system means that you should accept slower growth com- The approaches to fighting poverty in Europe and the US pared to the US, a smaller army, and therefore less power in have been very different, as even the title of your recent book foreign policy because you use all your taxes to redistribute. suggests, and this is despite similarities in economic fundamen- You should also accept that in 10-20 years countries like tals. Your research attributes these differences in welfare spend- Korea, Chile and Mexico will have a higher income per capita ing to political (institutional) and sociological/behavioral fac- because they are growing much faster. There is nothing wrong The World Bank· 5 with it. Western European countries are rich economies with at all. However, leaving aside the book, what transition politi- low poverty levels, they can certainly afford not to grow very cians should learn from Western Europe, I think, is that if you fast. But then they should stop talking about faster growth. build a system with excessive regulation, significant market intervention, high marginal tax rates, and generous pensions, Americans think the poor are lazy, Europeans think the then you may significantly interfere with growth, and in the poor are unfortunate. In your book you say that opinions and long run what really eliminates poverty is more growth. I don't beliefs result from politics and institutions. Could one say that think that transition economies can afford the kind of welfare a belief in a strong state that should take care of its population, system that Western Europe has. The generosity of welfare sys- which seems to be widespread in transition countries, may tems in Western Europe increased tremendously in the 1960s, change as institutions change? 1970s and early 1980s, when the level of per capita income was much higher than it is now in transition economies. My sugges- First of all, I would not say that institutions cause beliefs -- tion would be to reduce the most extreme manifestations of it goes both ways. I think that ideology and beliefs matter in poverty using the smallest amount of resources possible and tar- creating certain institutions, and then the institutions them- geting them extremely well. In developing countries there is cer- selves cement those ideologies. In a paper with Nicola Fuchs- tainly a lot of mistargeting in poverty reduction programs. A lot Schuendeln [see article on p. 6], where we compare the change of money is spent in cities on people who are reasonably well in attitudes about the role of the state after the unification of off, at least by developing countries' standards, while extreme Eastern and Western Germany, we find that attitudes do poverty in the countryside is completely unaddressed by the change, but not very quickly. It takes about a generation for the central government. So, focus on extreme pockets of poverty attitudes of former Eastern and Western Germans to become and target very well, protect the free market, and let everybody indistinguishable. So it will take quite a while for this belief take advantage of market capitalism. about the role of the state in transition economies to change. First, as I said, because attitudes change slowly, and second, Going back to the book's results, which findings have sur- because transition has generated a big increase in inequality prised you most? and those who have lost from transition create demand for state intervention. When we finished the book I found myself believing much What we say in our paper is that much has been said about more than when I started how deep-down the differences are short-run economic effects of the unification but perhaps a in the attitudes of Europeans and Americans towards poverty, political shock -- incorporation of 25% of the population ideology, and the role of Marxism, and how much these dif- strongly in favor of state intervention -- will have a much ferences explain. When I started the book, I would have placed deeper effect. So, for example, reforming the welfare state in much more emphasis on economic factors, institutions or race, Germany, which one might believe is important for achieving and I found surprising how important the attitudes were in higher efficiency and growth, becomes much more difficult due explaining policies. It was surprising how prevalent Marxist to this political shock. thinking, communist and socialist ideology are in Western Europe. Even though nobody would call himself a communist Is there a message in your book to policymakers in transi- or perhaps even a socialist any longer, these ideologies have tion countries? had a profound impact on the ways Western Europeans think, much more so than in the US, where there has never been a The book makes it very clear that we don't make any judg- significant socialist movement. These things may be obvious, ments, we don't say that the US system is good and the but before starting the book I didn't realize how important European one is bad, or vice versa. Our book is not prescriptive they were. National poverty line International povery line Country Survey year Population below Survey year Population below Population below the poverty line, % $1 a day, % $2 a day, % China 1998 4.6 2001 16.6 46.7 Georgia 1997 11.1 2001 2.7 15.7 Hungary 1997 17.3 2002 <2 <2 India 1999-2000 28.6 1999-2000 35.3 80.6 Kazakhstan 1996 34.6 2003 <2 24.9 Russia 1994 30.9 2002 <2 7.5 Ukraine 1995 31.7 1999 2.9 45.7 Uzbekistan 2000 27.5 2000 17.3 71.7 Source: The World Bank, World Development Report 2005 6 · Beyond Transition -- The Newsletter About Reforming Economies Good bye Lenin (or not)? The effect of communism on people's preferences for redistribution Alberto Alesina and Nicola Fuchs Schuendeln P references for redistributive policies differ significant 20-40 years needed for preferences to converge ly across countries. Do regimes differ solely because of the populations' different initial preferences for redis However, East Germans are becoming less pro-state over tribution? Or is there a feedback effect from the regime on time: Between 1997 and 2002, the probability of favoring state preferences? Post war Germany offers an opportunity to intervention for an East German declined by between 2.5 and analyze the effect of Communism on preferences. Our 5.8 percentage points. Assuming that convergence is linear, we empirical analysis, based on more than 18,000 year person estimate that it will take roughly between 20 and 40 years, or observations, reveals that the effects of Communism on one to two generations, for Eastern and Western preferences attitudes towards the role of the government are large and fully to converge. long lasting. It will take one to two generations for the pref erences of former East and West Germans to look alike. · Age effects. In the West, the older are progressively From 1945 to 1990, Germany was split into two parts for less pro-state than the young, a pattern also observed in the reasons that had nothing to do with Germans' individual pref- US. However, in the East the exact opposite is true. The quan- erences, desire for separation, or diversity of visions. Because titative implications of the age effects are large. While an East the political and economic systems have been the same in the German born after 1975 is only between 3 and 11 percentage eastern and western parts of Germany since reunification in points more likely to be in favor of government redistribution 1990, and were the same before 1945, West Germans consti- than a West German of the same age, the difference increases tute a meaningful control group for East Germans. Therefore, to between 21 and 49 percentage points for people born before comparing the differences in attitudes, beliefs and political 1945. The obvious interpretation of this strikingly different preferences for market capitalism and the role of the state after age pattern between East Germans and West Germans is that the reunification can give us a clue on the effects of having while age tends to make individuals less pro government in lived for 45 years under a Communist regime. West Germany, this effect is more than compensated for by the For our analysis, we use data from the German Socio- fact that elderly East Germans have lived longer under com- Economic Panel, an annual household panel. We use the origi- munism. nal sample established in West Germany in 1984 (11,400 year- · Decomposition of change over time. Is the above- person observations), and the sub-sample covering the territo- mentioned decline in East Germans' preferences for redistribu- ry of the former GDR (7,000 year-person observations) for tion between 1997 and 2002 simply a result of a shift in the two years, 1997 and 2002. In both years, respondents were cohort composition, or of changes in personal preferences? By asked about their preferences regarding the role of the state in including in the regression only individuals who answered the different areas of social security, namely in providing financial relevant questions in both 1997 and 2002, we are able to con- security for families, the unemployed, elderly, sick, and people clude that approximately two thirds of the convergence arises requiring long-term care. Two additional questions were from an actual change in preferences, while approximately one designed to capture respondents' beliefs on the role of alterna- third arises from a shift in the composition of the cohort. tive driving forces for success in life: individual effort versus · The effect of Communism: poverty or preferences? luck and/or social conditions. The poor tend to favor government intervention more than the The main explanatory variable is a dummy that takes on rich. Yet the fact that East Germans have on average lower the value of 1 if the respondent lived in East Germany before household income does not explain our results; they are robust reunification, regardless of current place of residence. We con- to the inclusion of current household income, expected house- trol for the age, gender, marital status, labor force status, and hold income, and the share of household income currently occupation of the respondent, the number of children, and the coming from government sources. In addition to personal number of adults in the household, as well as annual house- income, however, there might be an aggregate income effect; hold income. individuals living in regions poorer than average may prefer government intervention because of the active redistribution East Germans have stronger preferences for an active state role from richer to poorer regions. By including average per-capita income and unemployment rate of the state of residence, as Our analysis shows that an East German is significantly well as transfers received or paid by the state, we find that up more likely to have preferences for state intervention than a to one third of the "East effect" can be explained by the fact West German, even after controlling for household income. In that the East became poorer during Communism and is now a 1997, being from the East increased the probability of favor- net beneficiary of redistribution within Germany. ing state intervention by between 14 and 16 percentage points, · Migration and preferences. East Germans are certain- compared to being from the West. ly not a homogeneous group: 7% of them in our sample have The World Bank· 7 migrated to the West. When checking for differences among German has. The differences in attitudes will disappear due to East Germans, we find that East Germans living in the West the combination of two forces: favor government intervention more than "native" West · the death of the elderly and the coming of age of indi- Germans, although only half as much as East Germans who viduals born after reunification; this accounts for about one remained in the East. The latter could mean either a faster con- third of the convergence; vergence of preferences of East Germans who moved to the · real change in the preferences of individuals; this West, or a self-selection -- the group might have had lower accounts for the remaining two thirds of the convergence. preferences for state intervention to begin with. Note, e.g., that the average age of Eastern respondents who moved to the West We find that the difference in preferences between former is 34, while the average age of Eastern respondents who stayed East and West Germans is largely due to the direct effect of in the East is 45. All the convergence in preferences between communism: ideological indoctrination, e.g. via public schools 1997 and 2002 is driven by East Germans who stayed in the and TV, or an intrusive public sector, to which people became East. The preferences of East Germans who moved to the West accustomed. An indirect effect of Communism lies in making do not change significantly between 1997 and 2002. Again, former East Germany poorer than West Germany, and there- there are several possible explanations for this phenomenon. It fore more dependent on redistribution. could be that the preferences of East Germans who moved to An implication of the above is that the 1990 political shock the West converged initially, but that they reached their new in Germany has had, perhaps, much deeper and longer lasting steady-state level by 2002. In this case, we should likewise not consequences than the widely studied economic shock associ- expect full convergence for East Germans staying in the East. ated with the reunification. A country like former West On the other hand, it could be that those East Germans who Germany, with an already generous welfare state, heavy labor moved to the West not only had different preferences at the and goods market regulations, etc., which many believe needs time of migration, but that their preferences also exhibit dif- trimming, has received an influx equivalent to 25% of its pop- ferent convergence patterns. ulation, composed of people inclined towards an even more extensive role for the state. This will make any political Why do former East Germans favor state intervention? reforms aimed at trimming the welfare system especially diffi- cult. Those who believe that Germany's economic outlook will A possible answer to the question above is that East look brighter if certain "structural reforms" are carried out Germans are used to thinking, partly under the influence of should be especially concerned. Communist ideology, that it is "society's fault" if people are poor, unemployed or in need of help. Thus it is society's (i.e. the state's) obligation to take care of these problems. Alberto Alesina is Nathaniel Ropes Professor of political The probability of believing in the importance of social economics and Chairman of the Department of Economics at conditions for individual fortunes is 10 percentage points high- Harvard University. Nicola Fuchs-Schuendeln is assistant pro- er for an East German than for a West German. Older East fessor of economics at Harvard University. The full text of the Germans are more likely to believe in social conditions as a paper is to be published at the end of June as a Harvard major determinant of individual fortune than younger East Institute of Economic Research Discussion Paper. Germans, which is an effect of having lived longer under the Communist regime. In the West, the age effect goes in the opposite direction, but is not significant. Moreover, East Germans believe less than West Germans in an important role of luck. In other words, East Germans seem to believe much more than West Germans that an individual's life is defined by social conditions, which is a basic tenet of the Marxist way of thinking. However, even after controlling for beliefs regarding social conditions, former East Germans believe in state inter- vention more than former West Germans. Conclusions Our analysis demonstrates that East Germans believe sig- nificantly more than West Germans that the state should be responsible for the financial security of various vulnerable social groups, namely the unemployed, the sick, the elderly, families, and people in need of care. According to our results, it will take about one to two gen- erations (20 to 40 years) for the average East German to have the same views on the role of the government as a West 8 · Beyond Transition -- The Newsletter About Reforming Economies Economic growth, income distribution and poverty in Poland during transition Pierella Paci, Marcin J. Sasin, and Jos Verbeek T he beginning of Poland's transition in 1990 was From 1999 onward, however, this responsiveness appeared to marked by exceptionally difficult macroeconomic con weaken; poverty began to increase even though growth ditions, which included high inflation, a massive exter remained at 4% for 1999 and 2000 and was modestly positive nal debt, and a large segment of "value subtracting" enter (1%) thereafter. prises. Many predicted a crisis, arguing that enterprises Inequality also rose steadily throughout the second half of would not be able to cope with market conditions, bringing the 1990s. In 2002, the Gini coefficient for consumption mass bankruptcy and social upheaval. This did not happen. inequality was 0.28, which was moderately high compared to On the contrary, Poland turned out to be unique among the other CEE countries. large transition countries in having an unbroken record of When decomposing changes in poverty for Poland into growth once it resumed after the initial output collapse. their growth and inequality components, it is evident that eco- However, despite positive economic growth, Poland has nomic growth was a main driving force in poverty reduction. struggled to reduce poverty. In analyzing linkages between macroeconomic and economic growth variables, and their Two periods are readily distinguishable. During Poland's high- impact on poverty and income distribution, we recommend growth years of 1994-1998, the economic growth effect (5%) that Poland reduce its deficit and the size of the government far outweighed the negative effect of the increase in inequality budget. (-1%), resulting in a cumulative decline in poverty of about 4 percentage points. During the subsequent period of 1998- While many factors can account for Poland's record of 2002, a decline in mean consumption, the lack of growth (a growth, the main economic factor has been that the state has meager 1%) and increased inequality jointly resulted in a managed the macro-micro policy linkages well. At its core, cumulative increase in poverty of about 3 percentage points. this meant maintaining a combination of hard budget con- straints for enterprises, a competitive real exchange rate, and What is behind the increase in consumption inequality? a post-privatization governance structure that allowed busi- nesses, in particular small and medium-size enterprises, to To fully evaluate the role of growth in poverty reduction, it flourish. By reducing fiscal deficits and managing public debt, is important to note that household consumption -- as cap- Poland achieved a macroeconomic environment that was tured by the Polish Central Statistical Office's annual conducive to growth and that allowed a gradual decline in Household Budget Survey (HBS) -- performed much worse inflation. than the national accounts would suggest. This is not a phe- The macroeconomic environment, however, deteriorated nomenon unique to Poland and may be explained by the progressively at the end of the last decade. While monetary unusually high investment accumulation over the 1990s, as policy tightened during the second half of 2000, fiscal poli- well as by the country's relatively high export rate. cy eased considerably during 2001. This "tight monetary Changes in consumption inequality may result from a and loose fiscal" policy mix has also crowded out invest- number of factors. Four important factors include: changes in ment and moderated the potentially expansionary effect of the distribution of original income; changes in the progres- fiscal policy. siveness of the tax and benefit system; changes in the distri- The loss of export markets in the East as a consequence of bution of savings (not analyzed here due to limited data); and the Russian crisis in 1998, which cost Poland around 3 per- changes in the relative prices of the basket of goods bought centage points of GDP, triggered a new round of enterprise by households at different points along the income distribu- restructuring to curtail falling profitability. The resulting tion. improvements in productivity were brought about in large part Changes in the distribution of original income (income by reducing employment. This reduction, together with the before taxation and benefits other than old-age pensions). increasing number of newcomers to the labor market owing to From 1994 to 2002, inequality in original income, as measured the baby boom of the early 1980s, led to significant increases by the Gini coefficient, increased by around 7%, from 0.38 in in unemployment. In December 2002, more than 3.3 million 1994 to 0.41 in 2002, and accounted for just over half of the people (20% of the labor force) were unemployed. increase in the Gini coefficient for consumption (13%). The increase was surprisingly moderate, considering the degree of Did poverty respond to growth? transformation the country experienced. The main force behind this increase has been the growth of inequality in labor High growth rates from the mid-1990s to 1998 (at 5% or income. above) facilitated a decline in poverty in Poland, which sug- The role of taxes and social benefits (which may affect the gests a high responsiveness of poverty to economic growth. distribution of households' disposable income). The concentra- The World Bank · 9 tion index for taxes increased by 32.8% in Growth, employment and poverty in Poland, 1994 2002 1994-2002, which sug- gests that the tax burden Poverty change (%points) Employment (LHS, mn) 7% GDR growth (% y/y) No. of poor (RHS, mn) 6.6 has become more con- 16.0 6% centrated. At the same 6.4 time, the social benefits 5% mn mn, 6.2 system evolved more 15.5 4% poor strongly toward the 6.0 3% of poor. 15.0 Employment, No. 5.8 This implies that 2% 5.6 since the mid-1990s 1% Poverty increase changes in the tax and 14.5 5.4 0% benefit system have 5.2 counteracted the -1% Poverty decitne increased inequality in -2% 14.0 5.0 1995 1996 1997 1998 1999 2000 2001 2002 1994 1995 1996 1997 1998 1999 2000 2001 2002 original income, leading to a much smaller Sourse: Staff calculations based on GUS data Note: LHS=left-hand side; RHS=right hand side growth of inequality in disposable income (from 0.308 to 0.316). However, the num- roll taxes) as well as an increase in the flexibility of the labor ber of people relying on social transfers to close their poverty market. In the longer run, policies are needed that will close gap increased steadily after 1998, approaching 20% in 2002. the mismatch of skills between labor demand and supply, This means that headcount poverty would have been 20 per- which means promoting investment in human capital and centage points higher if social assistance had not been available education. as a safety net. Even though social transfers (excluding old age · Fiscal policy works best if it is pro-poor. The tax com- pensions) have a direct poverty reducing effect, the system is ponent of fiscal policy appears to perform its anticipated sta- extremely costly and inefficient. Less than half of social trans- bilization role. Any changes in the system to improve its pro- fers serve to bring household consumption up to the poverty poor impact should be considered carefully, so that they do not line level. A major portion of these resources (56%) does not further increase the distortions and the overall tax burden. The go to the most needy. elimination of exemptions and an overall reduction in payroll Inflation and exchange rate movements and expenditure taxes in at least a budget neutral way is a plausible recom- composition. The composition of food and non-food expendi- mendation. tures changed between 1998 and 2002, with every income · Although Poland's system of social transfers plays an group spending less of its consumption on food in 2002 com- important role in poverty reduction, it is more than costly and pared to 1998. During this period the food price index inefficient. Improving the targeting of social transfers is an changed 15 percentage points less than the overall CPI, indi- immediate necessity. Poor targeting not only leaves many of the cating that less of one's income needed to be used to provide vulnerable without the help of the state; it also skews incen- for one's daily bread and butter. Appreciation of the zloty dur- tives to work and places a significant burden on government ing the latter part of the period induced all expenditure groups finances. to spend less on tradable goods and more on non-tradable · As has been demonstrated, Polish society is still goods, indicating that the income effect dominates the substi- changing. The Polish economy is growing, but it is simultane- tution effect. ously becoming more polarized. Therefore, there is a strong case for good poverty/social monitoring, going beyond aggre- Policy recommendations gations and applying more complex analytical tools, such as various decompositions, growth incidence, benefit incidence, · Macroeconomic stability is a key component of a etc. Such monitoring can provide both the public and policy- growth-promoting environment and is therefore a foundation makers with a better knowledge of whether and how society is for any successful poverty reduction strategy. To prevent the re- changing, assessing winners and losers. An ex ante assessment emergence of economic imbalances, fiscal consolidation and of the impact of social programs on income distribution and the reduction of overall deficits are needed to complement the poverty could become a valuable policy tool. monetary easing in place since 2000. A parallel reduction in the size of the government budget would provide greater space Pierella Paci is lead economist for the Europe and Central for private sector development. Asia Region (ECA); Marcin J. Sasin is an ECA country econo- · In order for growth to be poverty-reducing, the link mist, and Jos Verbeek is lead economist for the Africa Region, between economic development and labor market improve- all at the World Bank in Washington, DC. The full text of the ment must be strengthened significantly. In the short to medi- paper may be accessed at http://papers.ssrn.com/sol3/papers. um term this would involve a reduction in the tax wedge (pay- cfm?abstract_id=643241 10 · Beyond Transition -- The Newsletter About Reforming Economies Latin America 1980 2005: institutions, growth and poverty Alvaro Garcia D espite the promises of democratic governments in in democratic institutions, such as the government, the judicial Latin America to implement reforms that would bring system, congress and political parties. Between 1996 and 2004 "equitable growth", the results have been quite dis the support for democracy decreased from 61% to 52% of the appointing. Since the 1980s, Latin American countries have population (as found by "Latinbarometro 2004, Una decada de been growing more slowly than the rest of the world. mediciones"). The population perceived that the worst prob- Moreover, both the share of population living in poverty and lems of democracy were poverty and inequality and also the level inequality have increased. What was missing from believed that governments were run for and by the wealthy and the reformers' agendas? Having analyzed failures and mis powerful. This meant that many democratic governments were takes, as well as the "success stories" in poverty reduction in unable to complete their mandates. Chile and Brazil, the author concludes that economic and socio political reforms need to go hand in hand. In particular, Why did the reforms of the 1980s fail to reduce poverty? more attention should be paid to building and strengthening the institutions that deal with distributional matters. A recent World Bank (2005) study offers some explana- In the last quarter century, Latin America underwent tions. First, the reforms did not touch upon labor issues, the important political and economic changes. The 1980s, known most crucial area in terms of income distribution. Second, as as the "lost decade" because of poor socio-economic perform- the ex-post analysis of the study shows, the reforms had very ance, undoubtedly had an important political impact by weak- little effect on growth. For instance, a sharp reduction of infla- ening the authoritarian regimes of the time (only three out of tion in Brazil (by 60 percentage points) increased growth by a 18 countries had democratic regimes before 1980). By the early mere 0.2% per annum. Added to this were "unexplained" vari- 1990s, all countries had restored democracies, and the newly ables, likely related to the external shocks during the 1990s elected governments came in with promises of economic (the so-called Tequila, Asian, and Tango crises). Besides, the reforms that would bring "equitable growth". The so called volatility of growth has increased with globalization, and Latin "first-generation economic reforms" were geared towards fos- America has been particularly unable to cope. tering national and international competition by reducing A second line of explanation is that the reforms were not trade barriers and fiscal deficits, fighting inflation, liberalizing deep enough, particularly in building up and strengthening prices, lifting credit constraints, privatizing, and reducing gov- institutions. The institutions are those related to voice and ernment intervention. accountability, political stability, government effectiveness, reg- However, the outcome of these economic reforms was dis- ulatory quality, rule of law, control of corruption and econom- appointing. While Latin American countries had enjoyed ic freedom. Corbo et al (2005) show that if all Latin American steady growth of about 5% per year over the preceding two countries had post-reform institutions similar to those in Chile, decades, in the 1980s the average fell to 1.3% per year, and their average annual rate of per-capita GNP growth would after an increase to 3.3% in the 1990s fell again to 1.5% in have been 1.6 percentage points higher. If the quality of insti- 2000-2003. Since 1980, the Latin American economy has tutions had been similar to that of Finland, per-capita growth grown half as fast as the rest of the world. would have been 2.3 percentage points higher. The social outcomes were even worse. According to These conclusions correlate with Rodrik's (1999) findings CEPAL, 42.9% of the Latin American population lived in that Latin American countries have been slower to recover poverty in 2004, a larger share than in 1980 (40.5%). The pro- after external shocks than the rest of the world, due to insti- portion of the poor increased throughout this period, as tutional weakness and, particularly, the inability of institutions income distribution became more concentrated. The Gini coef- to deal with the distributional impacts that external shocks ficient increased from 0.48 to 0.52 between the 1970s and the generate. This in turn creates political and economic instabili- 1990s and remains significantly higher than on all other conti- ty, prolonging the effect of the shocks. nents except Africa. Learning from successful experiences Reform failure decreased support for democracy The two Latin American countries that have fared best in Though extensive and painful, "first generation" economic terms of poverty reduction are Brazil and Chile. Brazil reduced reforms initially had strong popular support. But as the reforms the share of population living in poverty from 41.4% in 1990 failed to bring higher growth or reduce poverty, support waned to 29.9% in 2001, and Chile -- from 33.3% in 1990 to 18.8% for the reforms and the governments that implemented them. in 2003. Two other countries, Costa Rica and Uruguay, have Unfortunately, rising poverty and inequality reduced confidence also been quite successful: their poverty levels fell from 24% to The World Bank · 11 19% and from 12% to 9%, respectively, but they also had ters. Not incidentally, the three countries with the lowest pover- lower initial levels. Interestingly, Costa Rica and Uruguay also ty levels -- Uruguay, Chile and Costa Rica -- are also those have the highest support for democracy in Latin America. with the strongest institutions (according to Kaufmann et al, Although Brazil's and Chile's success in poverty reduction 2003). Brazil ranks fourth in poverty and fifth in institutions. is quite impressive, their rates of economic growth have been very different. Brazil's per-capita GNP hardly grew at all (0% Labor market and social security institutions essential in the 1990s and 0.1% in 2000-2003), while Chile's per-capi- ta GNP growth was quite substantial (4.1% per year in the The greatest challenge for the reformers is to create or pro- 1990s, and 2.1% in 2000-2003). These enabled Chile to reduce foundly transform important labor-market and social-security its per-capita GNP gap with developed countries by 30%. institutions. These include creating unemployment insurance, Attanassio and Szekely (2001) show that about 85% of the increasing the coverage of social security and worker training, poverty reduction in Chile is due to economic growth, while in introducing changes to labor and social security legislation, Brazil 70% of the decrease can be explained by income distri- and addressing labor standards and compliance issues. These bution. Despite very different paths, both countries undertook are crucial to dealing with distributional issues, particularly profound institutional reforms. Chile placed its emphasis on given the volatile growth that Latin America confronted over financial and economic institutions, while Brazil emphasized the last quarter century. Adequate financing is an absolute social reforms. requirement for the successful reform of labor institutions. Tax Successful poverty reduction also had a positive effect on reform is another area in which Latin America needs important politics, and both Brazilians and Chileans have strongly sup- changes. A crucial issue to deal with is the high level of tax eva- ported democratic governments. Presidents in both countries sion, which, if dealt with appropriately, could simultaneously enjoy the strongest public support in Latin America (over increase government revenues and allow for tax cuts. Other 70%). However, while support for democracy is growing in important areas, such as education, have already received Chile (from 54% in 1996 to 57% in 2004), it is decreasing in greater attention. Brazil (from 50% to 41.5% over the same period). It seems Labor and tax reforms are also among the most politically that growth combined with poverty reduction pays off more, sensitive issues, and this is probably why they have been post- in terms of political support, than distribution combined with poned in Latin America. In order to facilitate this process, an poverty reduction. However, neither of them by itself is suffi- institutionalized form of social dialogue (such as a socio-eco- cient to maintain political support: the perception that the gov- nomic council) can be very helpful. This has been the experi- ernment works for the rich is still large in both countries, but ence of almost all countries that have successfully combined higher in Chile (70%) than Brazil (65%). growth with distribution in recent decades. The challenge for Latin American countries seems to be to Growth, distribution and strong democratic institutions are integrate these two complementary objectives: growth and dis- the necessary conditions for progress in poverty reduction in tribution. Cornia (2005) shows that high inequality -- with a Latin America. Reaching these complementary goals requires Gini coefficient above 0.45 -- hinders growth. Additionally, placing a greater emphasis on institutional development and achieving this would mean fulfilling the political promises of going beyond the issues once favored by the "first-generation equitable growth made by all governments in the 1990s. Left reforms" in Latin America. The crucial institutions are those unfulfilled, they remain a major source of frustration for the that enable governments to deal with their very large and long population. overdue distributional issues. A clear conclusion of this analysis is that economic and socio-political reforms need to go hand in hand. In particular, Alvaro Garcia is the Chilean ambassador to Sweden, for- there is a need to pay more attention to building and/or mer Minister of the Economy and of the Presidency of Chile. strengthening the institutions that deal with distributional mat- He has contributed this analysis to the Newsletter. Country Life expectancy Mortality rate, infant Country Life expectancy Mortality rate, infant at birth, years (per 1,000 live births) at birth, years (per 1,000 live births) Armenia 74.98 30 Latvia 70.69 10 Belarus 68.17 13 Moldova 67.02 26 Brazil 68.72 33 Poland 74.6 6 Chile 76.44 8 Romania 70.09 18 China 70.8 30 Russian Federation 65.7 16 Croatia 73.99 6 Slovak Republic 73.39 7 Czech Republic 75.17 3.9 Slovenia 76.09 4 Estonia 71.18 8 Turkey 68.64 33 Georgia 73.47 41 Ukraine 68.29 15 Kazakhstan 61.32 63 Uzbekistan 66.68 57 Source: The World Bank, World Development Report 2005 12 · Beyond Transition -- The Newsletter About Reforming Economies Microlending to vulnerable groups: evidence from a recent UNDP survey Andrey Ivanov S uffering from poverty and high rates of unemploy lowed identical sampling and methodological guidelines. The ment, vulnerable groups such as the Roma depend survey classified the Roma as a distinct group, in order to heavily on social welfare and other government investigate to what extent their limited access to credit was transfer payments. To break out of the spiral of poverty and caused by ethnic discrimination, and to what extent this was unemployment, they could engage in small scale produc caused by depressed local economies. tion, farming or trade. For this they would need access to financing, which a number of organizations have come for Less access to bank credit for Roma and refugees ward to offer. A new UNDP survey shows, however, that the Roma have not gained from these efforts to improve access The results show that the three major factors limiting to microfinancing. At best, micro loans need to be part of a access to capital -- lack of collateral, lack of credit history, and broader array of support, including training and other serv lack of skills -- are more pronounced for the Roma and ices that are usually provided by business incubators. refugees/internally displaced persons (IDPs) than for the Typically, the poor have no access to formal lending insti- majorities living in close proximity to Roma. Data show that tutions because of the high costs in terms of time, money, and Roma, IDPs and refugees in the countries of Southeastern bureaucracy, the collateral requirements, and the unwillingness Europe have less access to credit from commercial banks than of these institutions to administer microcredits to the poor. The do the majority populations living nearby. Among the 3,537 poor do have access to informal money lenders, but they majority-population households surveyed, 910 (26%) said charge enormous interest rates and are often linked to organ- they had used some type of credit. By comparison, 15% of the ized crime. 3,534 Roma households and 19% of the 1,202 IDP/refugee For a commercial bank, microlending is not attractive for households said they had taken out loans. several reasons. First, small loans are more expensive to admin- Graph 1 shows the sources of loans for the three groups. ister and bring lower returns: administering a small loan is not The Roma rely more on informal borrowing from friends and much cheaper than administering a larger one, but the return family. They are also the least involved in credit cooperatives on the latter is considerably greater. Second, vulnerable groups, or credit unions, which further limits their access to microfi- especially the poor, have difficulties in providing collateral. nance services. Third, small entrepreneurs usually do not follow strict Examples from projects implemented in the region confirm accounting rules, making it difficult for bankers to assess their the survey conclusions. Indeed, the Roma tend to fall out of the creditworthiness. Fourth, most micro- and small-scale entre- scope of formalized channels of business support. In Bulgaria, preneurs, including the poor, lack the experience and the abili- for example, the UNDP has implemented a financial leasing ty to write the business plans that are required for bank loans. scheme within the JOBS (Job Opportunities through Business As a result, both banks and micro-entrepreneurs have rational Support) program. Under the scheme, which started in 2000, reasons to avoid each other. micro- and small loans worth a total of $3,788,233 have been Vulnerable groups do use credit. To shed light on what disbursed to 567 micro- and small-scale businesses, including opportunities exist for the microfinance industry, and what dif- food companies, furniture manufacturers, farmers and ficulties the Roma have in obtaining credit, the UNDP includ- agribusinesses, apparel and sewing enterprises, and various ed a section on access to capital in a recent major survey of service enterprises. The interest rate charged is the national vulnerable groups in Southeastern Europe. The survey covered interest rate plus 10 percentage points (currently, 12.36%). all the countries of the region, dividing respondents into three The unemployed are charged at a lower rate, 5 percentage separate samples: the Roma, refugees/internally displaced per- sons (IDPs) in countries with these groups, and the majority Graph 1. Sources of credit population living in close proximity to Roma. The survey was conducted in November 2004 in Albania, Bosnia and Refugees/IDPs in BiH, Cro, Mnt, Ser Herzegovina, Bulgaria, Croatia, Macedonia, Romania, and Serbia and Montenegro (with separate samples for Serbia, Roma Montenegro and Kosovo). In total, 8,273 households were sur- veyed, of whom the Roma and majority populations living in Majority in close close proximity to Roma accounted for about 43% each, and proximity to Roma the remaining 14.5% were IDPs and refugees. The individual 0% 20% 40% 60% 80% 100% profiles of 34,116 household members were recorded. In all Commercial bank Credit unions Friends / relatives countries, the survey used identical questionnaires and fol- NGO Informal lenders Other The World Bank · 13 Graph 2. Purpose of loans by group Graph 3. Size of loans by purpose 100% Other Small business Trade Purchase of durable goods 90% Personal matters 80% 7000 70% Durable goods 6000 60% 50% Family matters 5000 40% 4000 House improvement 30% 3000 20% Trade 2000 10% 1000 0% Small business Majority in Roma Refugees / 0% Majoity in close Roma Refugees / close proxim- IDPs proximity to IDPs ity to Roma Roma points above the national interest rate, or 7.36%. By ment. The data also show that the Roma borrow the least to November 2004, 111 loans had been paid back, totaling finance the purchase of durable goods, often small equipment $740,636. The portfolio at risk (over 30 days past due) is which tends to boost productivity. This also shows that the 2.78%, and the default rate is 1%. The problem is that only Roma borrow primarily for non-productive purposes. 2.12% of the borrowers are Roma entrepreneurs (accounting The data in Graph 2 show that the share of loans for busi- for 2.23 % of total loans), and 20.28% are women (with ness purposes as a portion of total loans for each surveyed 16.05% of the loans). group is more or less equal. This, however, is misleading. Graph These findings show that, although over-represented among 3, which illustrates the distribution of loans by size for three the unemployed, the Roma are usually underrepresented as purposes, clearly shows that the Roma are in a disadvantaged borrowers, even in projects explicitly designed to provide them position because the small size of the loans they receive is insuf- access to micro-credit. These results question to what extent ficient for anything beyond financing current consumption. small-business-oriented projects can tackle issues such as The results of the survey correspond to empirical evidence unemployment among the Roma. from UNDP projects. A Roma-oriented program in the north- eastern part of Slovakia illustrates these difficulties. An inte- Roma different from other vulnerable groups grated community-mobilization project called 'Your Spis' has been running for three years, sponsoring educational activities, Examples from other countries also provide evidence that training and local community-building efforts for the Roma. the Roma borrow less than other groups. This raises the ques- Initially, the program was running in eight municipalities, but tion, what is special about the Roma? Perhaps the answer has this number grew to 13 in 2004.A microlending component dis- to do with the fact that the Roma belong to 'first world' soci- burses microloans to individuals willing to start a business and eties but live in 'third world' pockets of poverty. In a lesser gain economic independence. A total of $50,000 was allocated developed society, a small loan can go much further towards for this purpose. The size of the loans averages $800, with a boosting people's economic situation and improving produc- 10% annual interest rate paid in monthly installments. Despite tivity. But the Roma live in developed economies, where a loan these favorable conditions, by the end of 2004 only 10 loans of a hundred or even a few hundred dollars is not more than a had been approved and disbursed. There was not enough inter- consumer loan. The most one can do with it is small-scale trad- est among the target beneficiaries to borrow. The major reason ing, with marginal added value. reported was the difficult market environment and borrowers' Loans to the Roma are primarily micro- and small loans, lack of confidence that their business would be successful. unlike for the majorities living in close proximity to Roma and for IDPs/refugees. This disparity is both a cause and an out- Conclusions come of limited business opportunities for Roma. The average size of loans for Roma is 706.5 euros, against 2,729.3 euros for A powerful tool for poverty alleviation elsewhere, the majority populations and 2,629.2 euros for IDPs/refugees. microlending still does not work for the Roma. The Roma's With various barriers to entry due both to low competitive- limited access to microloans is both a cause and consequence ness and discrimination, the Roma face difficulties generating of Roma poverty. We believe that microlending, on its own, the necessary revenues to pay back loans. Typically, they can cannot and should not be seen as the starting point to lift the apply for credit for crafts businesses, trade or subsistence agri- Roma out of poverty. However, it can contribute to poverty culture, but these are rarely marketable and liquid enough to reduction as part of a broader approach, including training and generate sufficient cash for repayment. other services usually performed by business incubators and The data support these conclusions. As Graph 2 shows, the other support systems for micro- and small-scale businesses. Roma borrow small sums primarily for personal reasons, usu- ally for unexpected health-related expenditures, and for family Andrey Ivanov is human development adviser at the UNDP matters, such as weddings. None of this is business oriented Bratislava Regional Center. He contributed this analysis to and thus cannot generate the revenues necessary for repay- Beyond Transition. 14 · Beyond Transition -- The Newsletter About Reforming Economies Labor market distortions, rural urban inequality and the opening of China's economy Thomas Hertel, Fan Zhai H ow will the further opening of the Chinese economy trade, and a productivity boost for the automobile sector, stem- affect rural urban inequality? The answer depends ming from the rationalization of production in the wake of in part on the functioning of factor markets -- in par increased foreign investment, as well as competition from ticular the market for labor. Currently, the ratio of urban to imports. rural incomes in modern China is extremely high by interna tional standards -- almost three to one, by World Bank esti Factor-market reforms increase migration mates. This is in part due to barriers to permanent migration in China -- the most important being the system of official The results of our simulation analysis show that both the registration (hukou) in urban areas and the absence of a elimination of the hukou system as well as the introduction of fully functioning land market. As a result, rural urban fully functioning land markets would serve to increase migra- migration, involving roughly 19% of the total rural labor tion from the lower-productivity agricultural sector to the force, or nearly 90 million workers, is mostly temporary. Our analysis highlights the key role of factor market reforms in higher productivity non-agricultural sector, and thus from determining the future of rural urban inequality in China. rural to urban economies. We find that China's WTO accession, if accompanied by fac · Land reform facilitates permanent movement out of tor market reforms, will not necessarily induce income agriculture without the economic loss that would ensue if inequality, but may instead significantly improve both effi these families lost the rights to their land as a consequence. By ciency and equality. permitting the land to be rented or sold, agricultural house- holds would be encouraged to determine whether to work on China's accession to the WTO has heightened concerns or off-farm, solely on the basis of relative returns to labor. As about increasing rural-urban inequality. Most analyses suggest a result, we estimate that 10.7 million additional workers that accession will exacerbate inequalities, as it will lower bar- would leave agriculture. These individuals would migrate to riers to grain imports and increase opportunities for manufac- the off-farm rural labor market, which in turn precipitates an turing exports and foreign investment in the urban-based serv- additional 7.9 million temporary rural migrants moving to the ices. However, the extent to which inequality will be affected urban sector. will depend on how easily rural workers will be able to move · Labor market reform: We capture the economic into the rapidly expanding urban and coastal economies. impact of the hukou system through a distribution of transac- Higher rates of labor mobility will ensure that the benefits of tion costs, capturing the burden placed on rural residents due WTO accession will be shared more widely. to their temporary migration to urban areas. We assume that The most important factor currently restricting perma- these costs would not be present if they could legally reside in nent migration is the system of official registration, whereby the urban areas on a permanent basis. When these extra costs households must have a hukou in order to reside legally in an are eliminated, rural-urban migration expands by 26.8 million urban area. Without this registration, access to urban ameni- workers. ties such as housing and education is limited and quite expen- sive. While highly skilled individuals and investors can pur- chase a "blue stamp hukou", this avenue is not open to the vast majority of rural residents. Another restricting factor is the absence of a fully functioning land market that would permit existing landowners to rent their land to others and migrate to the city, if they found wages there to be more attractive. Using newly available data from the Chinese National Bureau of Statistics, we develop a general equilibrium (CGE) model of China that incorporates disaggregated households in both the rural and urban areas. It permits us to assess the potential interactions between ongoing product-market reform and prospective factor-market reforms. The WTO accession scenario in our model includes the gradual reduction of import tariffs, the introduction of quotas for commodities (rice, wheat, cotton, etc.), the phasing out of textile and clothing quotas, a halving of barriers to service The World Bank· 15 · Aggregate GDP and economic welfare rise in both fac- Conclusions tor-market reform scenarios, by 2.1% and 1.8%, respectively. This is due to the fact that these reforms result in the move- Of the various factor- and product-market reforms consid- ment of labor from relatively low-productivity sectors into ered here, we find that reform of the hukou system has the higher productivity activities. most significant impact on aggregate economic activity as well · Rural-urban inequality, measured as urban-rural as income distribution. Whereas land-market reform primarily income ratio, declines from the current 2.59 to 2.27 in 2007. benefits agricultural households, eliminating the hukou restric- The national Gini coefficient also falls, as increased migration tions mainly benefits rural households currently sending tem- boosts rural wages and dampens urban incomes, particularly porary migrants to the city. By reducing the implicit tax on for unskilled workers. temporary migrants, hukou reform boosts their welfare and contributes to increased rural-urban migration. WTO accession combined with factor-market reforms In the potential interactions between labor market reforms boosts efficiency and WTO accession, a significant portion of the aggregate gain comes about by moving labor out of agriculture and into rela- China's WTO accession in combination with factor-market tively higher productivity activities in the manufacturing and reforms: service sectors. By reducing this productivity differential across sectors, labor market reforms dilute the gains under WTO · Boosts the wages of skilled workers, relative to those accession. When viewed as a combined policy package, how- of unskilled workers. This increase is fueled by the tendency for ever, the value of these reforms is far greater than that of WTO manufacturing and services sectors to expand at the expense of accession alone. Furthermore, rather than increasing inequali- agriculture; ty in China, the combined impact of WTO accession and labor- · Brings about additional out-migration from agricul- market reforms significantly reduces rural-urban income ture of 1.3 million workers; inequality. This is an important outcome in an economy cur- · Further increases GDP by 0.5% and welfare by rently experiencing historic levels of rural-urban inequality. 0.6%; · Benefits urban households more, and rural house- Thomas Hertel is professor and executive director at the holds somewhat less, than WTO accession in the absence of Center for Global Trade Analysis, Purdue University, US. Fan such reforms; Zhai is an economist at the Asian Development Bank in Manila, · Dramatically decreases the measure of inequality, in Philippines. The full text of the paper can be accessed at spite of the modest boost in the urban / rural income ratio. http://papers.ssrn.com/sol3/papers.cfm?abstract_id=625332 Urban poverty in Russia and social assistance to the urban poor Anastasia Alexandrova and Elena Grishina I n 2003, 62.7% of Russia's population lived in urban areas. We draw our picture of urban households on the basis of That high level of urbanization has an ambiguous effect data on households' social and demographic attributes, con- on citizens' welfare during periods of economic transfor sumption, and geographic distribution from the urban popula- mation, and, unlike in other Eastern European countries, tion subset of the National Household Welfare Study urban poverty in Russia is no less problematic than rural (NOBUS), conducted by the Russian Federal State Statistics poverty. Thus, according to data from the 10th round of the Service in 2003. Russian Longitudinal Monitoring Survey (RLMS), the lion's Education. A relatively high proportion -- one fourth -- of share of the poor live in cities other than the two capitals the adult urban population has completed higher education, (Moscow and St. Petersburg): 56% of the first income quin although the largest group (38.5%) have completed secondary tile (i.e., 56% of the lowest 20% by welfare) and 60% of the professional education. second quintile, or almost twice as many as in rural areas. Employment. Of the adult population, 53.6% are working, (The 'capitals' are home to only 5% of the first quintile and 9% of the second.) What factors influence the welfare of city while 27.6% are retired. Of those who are working, the vast dwellers, and what are the social risks of urban life? Which majority -- 84.3% -- are hired employees, while only approx- social programs, aimed specifically at supporting urban resi imately 3% are owners or entrepreneurs. Surprisingly, the dents, would be most effective? employment distribution is heavily weighted toward the state 16 · Beyond Transition -- The Newsletter About Reforming Economies and municipal sectors (47.9% and 14.9%, respectively), rather of food for 25% of capital-dwellers and 39.5% of residents than to private enterprise (26.7%). This represents a significant in other cities. departure from Goskomstat's nationwide data, according to which the state and municipal sector employs 36.8% of the Retired better off than families with children population, while 51.8% work in private enterprises. Unemployment, by ILO criteria, accounts for 4% of the work- By our calculations, the poverty index is quite high regard- force, while unemployment was lower in oblast capitals than in less of which indicator one chooses. This is due first and fore- other cities (3% versus 4.7%). most to our decision to use the so-called 'subsistence mini- Income. Urban households' income is dominated by mum' as a bench-mark, rather than the so-called 'recom- salaries (the main source of income for 67.1%) and pensions mended poverty-line indicator' (1,056 rubles in 2002), accord- (the main source of income for 27.8%). Various allowances, ing to which the World Bank estimated Russian poverty at subsidies, reimbursements and privileges are also listed as 25%. The relative poverty indicator includes the real distribu- important -- though not top -- sources of income. tion of consumption expenses, regardless of their relationship On average, in order "to live well and not deny oneself any- to the subsistence minimum, and we believe that this index is thing", households require a monthly per-capital income of closest to reality, particularly in light of the high degree of 19,768 rubles (approximately $700), while living "adequately" urban inequality. Notably, the proportion of the poor and the requires 5,356 rubles (approximately $190). City dwellers' extremely poor is almost without exception higher in the conception of an adequate level of consumption diverges 'other cities' category. strongly from the Russian 'subsistence minimum' of 2,137 The households of urban retirees appear relatively well off. rubles per month (approximately $76) and from current state However, it is important to note the significant divergence pensions of 1,637 rubles per month (approximately $58). between two subgroups: working and non-working retirees. Urban residents make fairly active use of their rights to var- The proportion of poor working pensioners by current con- ious privileges. In oblast capitals, the most widely used privi- sumption is only 18% (less than 5% by relative poverty), while leges are free use of public transportation (used by 26.1%, for non-working retierees the figure is 41.4% (11% by relative compared to 17.4% in other cities), and discounted utilities poverty). This suggests that advanced age, physical handicaps payments (used by 22%, compared to 20.1% in other cities). and other obstacles to work are quite significant factors in Allowances were granted to 12% of city dwellers, a larger pro- urban poverty. portion of which live in non-capital cities (13.6%, compared to Most frequently observed among the poor are households 9.8% in oblast capitals). with several children (85% of all poor households, and even Expenditures. By our calculations, urban residents spend 38.5% by relative poverty), single parents with children, other almost half of their resources on food (45.4%); this indica- households with children, and households that include handi- tor, meanwhile, is somewhat lower in oblast capitals than in capped or unemployed persons. On the whole, these data indi- other cities. Individual agricultural plots continue to be sig- rectly confirm the hypothesis about demographic factors as nificant sources of subsistence, likely due in part to their rel- symptoms of poverty. atively low cost to maintain; they are a supplemental source Evaluating the profile of poverty by comparing the 'contri- butions' made by various groups of households Table 1. Poverty Indices to the overall indicator, we find that residents of oblast capitals make up 41.3% of the total Of which number of poor, while residents of other cities All cities Oblast capitals Other cities account for the remaining 58.7%. This fits with the World Bank's finding that, "the smaller the poor, % poor, % city, the greater the proportion of poor peo- poor, % (extremely (extremely (extremely poor poor as % of ple". poor as % of as % of poor) poor) poor) Meanwhile, our analysis shows that social assistance does not always go to poverty allevi- By resources available 47.2 (13.6) 44.6 (24.3) 49.3 (31.7) ation. For example, benefits for housing, utili- ties and telephone services given to non-poor By current consumption 63.9 (32.8) 63.3 (29.8) 64.6 (35.0) households exceed those given to poor house- indicator holds by 1.3-1.8 times. If we turn to the quan- By relative indicator of 14.3 (18.5) tity of benefits, non-poor households receive 10.8 (17.3) 17.0 (19.1) current consumption (rel- 1.6 times more than the poor. The non-poor ative poverty indicator) also received 1.6 times more social services The 'by resources available' indicator includes data on expenditure on food, clothing, shoes, than the poor. All of these results speak to the services and other goods. It also includes expenditure on the purchase and/or lease of real necessity of shifting social assistance to a more estate, debt payments, debt, etc. targeted regime. The quantity and variety of The current consumption indicator includes the purchase of food, non-food goods other services provided to city dwellers suggests the than durables, and services, as well as privileges/subsidies and costs associated with the use necessity of cutting down their number in order of durable goods. The World Bank · 17 Table 2. Reduction in poverty levels as a result of various approaches well as for so-called 'influence sub-samples'. Total urban sample Influence sub-sample Influence sub-samples are All Oblast Other All Oblast Other those households that cities capitals cities cities capitals cities include an individual who Increase in educational attainment by one has undergone one or 2.07 1.18 3.64 degree* another transformation. For example, if we are Increase in educational attainment from sec- 1.37 0.72 2.50 2.44 1.41 4.20 modeling the result of ondary/professional to higher education lowering the level of unemployment, then the Increase in educational attainment from sec- 0.44 0.34 0.63 1.47 1.21 2.00 ondary/general to secondary/professional influence sub-sample would be those house- Increase in professional qualifications from 1.29 holds with unemployed 0.77 2.43 2.70 1.61 5.04 mid- to high-level members. Increase in professional qualifications from 0.58 0.30 0.99 4.37 2.59 6.65 The results of simulat- non-skilled worker to skilled worker ed calculations lead to the Decrease in the number of unemployed per- following conclusions: 0.22 0.11 0.38 2.80 1.52 4.12 sons in the household by one · An increase in the * The influence sub-sample is the entire urban population, but individuals who already have higher education remain level of education, qualifi- unchanged. cations and/or employ- ment has a stronger posi- to find a better fit both for the capabilities of public budgets, tive effect on the influence sub-sample in cities other than as well as for the most pressing needs of the poor population. oblast capitals, with the divergence ranging from 1.9 to 3.5 times; The risk of poverty increases with the number of dependents · Increasing educational attainment from secondary/ professional to higher education is more effective in reducing How is a household's welfare linked to its educational, pro- poverty than increasing educational attainment from sec- fessional, demographic and spatial characteristics? We built a ondary/general to secondary/professional. The higher return regression analysis using data on the employment status, posi- on investment from higher education reconfirms the notion tion and sphere of the head of the household. Spatial charac- that education is one of the most important aspects of teristics included the growth of regional turnover in the region human capital; and of inhabitance, the level of long-term unemployment in the · The effect of increasing the qualifications of non- region, and the regional subsistence minimum. skilled workers is insignificant for decreasing urban poverty, The results showed that, in 2003: although individual non-skilled workers may significantly · The risk of poverty grew in line with the number of increase their welfare by increasing their qualifications. children, retirees and handicapped persons in the household for Consequently, the goal of increasing welfare and alleviating those households headed by a woman or an unemployed per- poverty in Russia calls for programs designed to improve the son, as well as for those households with low educational quality of the workforce and develop the productive potential attainment; of the urban population. · The greater the sum of all benefits provided to the household for public transportation, utilities and telephone Conclusions service, the greater the household's welfare and the lower the risk of falling into poverty; and The problem of urban poverty in Russia, although an · Residence in an oblast capital had a positive effect on extremely widespread phenomenon given Russia's high level welfare. The growth of retail turnover and paid household of urbanization, is quite heterogeneous, both in degree and services in a region reduces the risk of poverty. And increasing in the characteristics of risk groups. No matter how the levels of long-term unemployment, as well as growth in the vol- numbers were calculated, the proportion of the poor and ume of industrial production in a region, increased the likeli- extremely poor was higher in cities other than oblast capi- hood that a household would fall into poverty. tals. Data on the extremely poor suggest that targeted urban What can be done to alleviate poverty? programs to support the poor would be feasible, on the con- dition that needs-assessment is benchmarked not against the We evaluate several approaches to decreasing the level of subsistence minimum, but against a lower indicator, reflecting poverty, both for the urban population sample as a whole, as the income distribution within the poor population. 18 · Beyond Transition -- The Newsletter About Reforming Economies A high level of educational attainment in 'other' cities has the portion of non-poor families receiving any given form of a much greater effect on welfare than in oblast capitals. This social assistance is not lower -- and is often higher -- than may be due to the higher concentration of highly educated the portion of poor families. What's more, the group that people in central cities and the greater degree of competition receives the lowest volume of social assistance has a higher on the market for qualified workers. At first glance, it would proportion of retirees and handicapped people than seem that opportunities for education in smaller cities are the group with the highest volume of benefits. This under- fewer, but, evidently, the few residents of small cities who do scores the necessity of shifting to a targeted system of social have higher education are more likely to find work with a sta- assistance and personal payments to replace subsidies and ble income. privileges. Thus, programs aimed at improving the quality of the workforce and developing the productive potential of urban Anastasia Alexandrova is director of Social Policy and populations can and should be part of the strategy for increas- Elena Grishina is expert in Social Policy at the Institute for ing welfare and alleviating poverty in Russia. Urban Economics in Moscow. The authors of this report Regardless of long lists of benefits and services, social would like to express their gratitude to German Yu. Vetrov, assistance is often given only to a quite small portion of the Igor B. Belyakov, and Mikhael M. Lokshin for their valuable urban population, around 1-2%. Moreover, in many cases advice and timely comments. Adjustment costs of trade liberalization for the Russian labor market Irina Denisova W hat are the effects of trade liberalization, includ tors and a lower demand in import-competing sectors. ing Russia's WTO accession, on the demand for Domestic industry protection measures, and tariff increases in labor and on wages across sectors? How does particular, bring the opposite results. trade affect the wage gap between skilled and unskilled The industries in our sample are grouped according to the workers? Using the balance sheets of 53,000 large and level of their exposure to foreign trade: medium sized enterprises in Russia from 1995--2001, we 1. Export oriented (with export share more than 30%, investigate the influence of tariff policy in the 1990s on the import share less than 30% and a low intra-industry trade, or level and volatility of employment and wages. Based on this ITT, index); analysis of previous trade shocks, we find that, overall, the 2. Import competing (with import share more than adjustment costs of anticipated trade liberalization are like 30%, export share less than 30%, and a low ITT index); ly to be much smaller than expected. 3. With high intra-industry trade (IIT index more than In the 1990s Russia underwent a dramatic foreign trade lib- 50%); and eralization, switching from non-market interventions in the 4. Non-trade. form of state monopoly on the majority of foreign trade oper- ations to market-based interventions, such as import tariffs. It turns out that for the entire sample a 10% increase in The distribution in time of tariff policy changes over the peri- real wages would diminish labor demand by 4%. With respect od 1994--2000 allows us to identify their influence on the to output, a 10% increase in output would cause a 2.2% Russian economy and, in particular, on the labor market. The increase in demand for labor. These estimated labor demand analysis of the responsiveness of Russian enterprises to tariff elasticities are lower than those in Poland, Hungary and increases makes it possible to evaluate labor market adjust- Czech Republic during transition, as well as in developed ments to expected trade liberalization and WTO accession, countries. It is widely acknowledged that, in contrast to most provided firms' reaction is symmetric to tariff rise and reduc- Eastern European countries, shocks to the Russian labor mar- tion. Labor market institutions have been relatively stable ket were absorbed mainly through reduction in real wages, throughout the period. including the accumulation of wage arrears. However, in the second half of the 1990s Russian enterprises became more Labor demand most volatile in export-oriented industries sensitive to economic shocks and somewhat faster than earli- er in adjusting. Labor demand is the key determinant of employment on Different industries have been adjusting to shocks at differ- the labor market. The increased openness of an economy is ent speeds: industries with high intra-industry trade were the likely to result in a higher demand for labor in exporting sec- slowest to adjust, while export-oriented industries were the The World Bank · 19 several regions, implying the effectiveness of 200% regional protectionist measures for domestic industry. 150% Workers in fuel and energy industries better Electricity & Fuel 100% Metallurgy paid Chemical & Petro chemical Machinery Trade shocks affect not only the employment 50% Timber, Paper & Woodworking Construction Materials structure of an economy, but earning profiles as Light well, and, thus, income inequality and poverty. 0% Food What is the correlation between trade exposure Other industries Agriculture and wage distribution? An analysis of around 4,000 households, 50% taken from the Russian Longitudinal Monitoring Survey (RLMS), shows that work- 100% 1995 1996 1998 2000 2001 2002 ers in fuel and energy industries earned from 40% to 180% (in different years) more and most flexible, i.e. had higher employment volatility (employ- agricultural workers earned 50-60% less than workers in ment inertia coefficients of 0.41 and 0.28, respectively). One retail and wholesale trade with the same observable charac- could attribute this difference to the influence of protectionist teristics. We are thus able to identify winners from trade lib- measures, and import tariffs in particular. Industries that are eralization (with the highest wage premiums): workers in less exposed to trade shocks are likely to demand a higher export-oriented sectors. number of workers and be more conservative in terms of Fuel and energy industries are known to have relatively low employment adjustment. tariff levels and a larger share of skilled workers, as well as In addition to indirect influence through output changes, larger profits and increasing demand for labor. These industries trade shocks could affect demand for labor directly. We find are situated in remote regions, where the supply of labor is lim- that higher import tariffs are associated with higher (lagged) ited due to low worker mobility. Therefore, employers in the demand for labor, and higher import penetration with lower fuel and energy and metals industries seem to compete for demand for labor. Hence, trade barriers have a positive impact employees by paying high wage premiums. on the number of workers demanded by the industry, and trade Wage premiums in food production, other light industries liberalization has a negative impact. The magnitude of this and agriculture, which have a large proportion of low-skilled effect is not high, however, and it is noteworthy that the effect labor, are low. First, these industries are not as profitable as the is only significant for import-competing sectors. fuel and energy and metals industries. Second, the large share of low-skilled workers decreases workers' ability to capture Regional industrial structure important for labor demand rents, and hence decreases the pressure for industrial wage pre- miums. Overall, we find higher labor demand elasticities in the Our analysis shows that tariffs do not have any significant northwestern parts of Russia. Divergences arise due to differ- effect on wages or wage premiums. Thus, the protection of ences in industrial structure, including the degree of industry domestic industry can be effective in terms of increasing concentration, on the one hand, and differences in the elastici- demand for labor, but it does not result in higher wages. ty of final demand for products, on the other. Rather, the difference in wage premiums is driven by market Let us consider two regions: northern and northwestern structure across industries (variation in concentration ratios Russia. Northern Russia has higher elasticities than the north- and exposure to domestic and international competition). If west: 0.34 vs. 0.22 for output labor demand elasticity, and workers were able to move to trade-exposed industries, they -0.55 vs. -0.18 for wage responsiveness. We believe that the dif- would not lose much from further trade liberalization. ference is driven by a significantly larger share of industries exposed to trade shocks and more volatile employment in the Do education and experience pay off? north: the share of metallurgy, petrochemical and timber industries in the region amounted to 58% in 1999, with the Theory does not provide an unambiguous answer as to the fuel industry accounting for another 16%, while the analogous effects of trade on the wage gap between skilled and unskilled shares in the northwest were 19.4% and 6.2%, respectively labor, and the question is left for a country-level empirical (based on Goskomstat data). The north has higher industrial analysis. This issue is of particular interest for Russia, given its concentration and labor markets with a significant degree of relatively low income and large endowment of skilled labor. monopsony, and so higher wage labor demand elasticities, i.e. Our estimations set the wage gap between skilled and unskilled more volatile labor markets. workers at 20% in 1995-2001. Turning to the effect of trade openness on labor demand, Among observable explanations, education has the largest higher trade barriers have a positive impact on employment in explanatory power: it accounted for 20-30% of the wage gap 20 · BeyondTransition -- The Newsletter About Reforming Economies in 1995 and 50% in 2002. Additionally, employment in man- to only a slight increase in the wage differentials between ufacturing industries, except the metals industry, tends to skilled and unskilled labor. Tariffs are found to have no signif- increase the wage gap, albeit modestly. icant effect on wages and wage premiums, and the claim that "workers in more protected industries earn relatively more" is Conclusions therefore ungrounded. The low responsiveness of demand for labor demand to The article draws on the paper "Adjustment Costs of trade shocks observed during the 1990s suggests that the Trade Liberalization: Estimations for the Russian Labor adjustment costs to expected trade liberalization in the form of Market", by Akhmed Akhmedov and Evgenia Bessonova changes in industrial labor demand and wages are likely to be (economists) and Irina Denisova (lead economist) at CEFIR much smaller than expected. Moreover, the shift from indus- at NES in Moscow, Ivan Cherkashin, Penn State University, trial employment to employment in services should have a and Elena Grishina, an expert with the Institute of Urban dampening effect on these costs. Trade liberalization may lead Economics in Moscow. Poverty Effects of Russia's WTO Accession Among the most important policy changes that By decomposing these overall gains into their sources, Russia may undertake in the near future are those that we find that the gains from the liberalization of foreign it will agree to as part of its accession to the World direct investment in services alone are 5.3% of the value Trade Organization. Policymakers are concerned not of Russian consumption, or more than 70% of the total only with accession's aggregate effects and its impact on value of the gains. The welfare gains from Russia's tariff productive sectors of the economy, but also with its reduction are estimated at 1.3% of consumption, and impact on the poor and its income and other distribu- improved market access results in gains of 0.7% percent tional effects. of consumption. Thus, while improving its offer to for- We evaluate these effects through the use of a com- eign service-providers within the context of the GATS has putable general equilibrium model of the Russian econo- been one of the most difficult aspects of Russia's negotia- my, with 55,000 "real household" agents (taken from the tion for WTO accession, our estimates suggest that the Russian Household Budget Survey) integrated into the most important component of WTO accession for Russia model. in terms of the welfare gains is liberalization of its barri- In the medium term, we find that virtually all Russian ers against FDI in the service sectors. households gain from WTO accession. The gains, aver- Despite these significant gains, during the transition aged over all households, are 7.3% of Russian con- period it is possible that many households will lose. sumption (or 3.4% of GDP). The gains typically range Displaced workers will have to find new employment. from a minimum of about a 2% increase in household They will suffer losses from transitional unemployment income to about 25%. The lack of virtually any losers in and will likely incur expenses related to retraining or relo- our model at the micro level is explained by the fact that cation. Some of the poorest members of the population we incorporate foreign direct investment in services with are ill equipped to handle these transition costs. Thus, endogenous productivity effects from the liberalization despite the likelihood of a substantial improvement in the of services and trade. We show that a constant-returns- standard of living for almost all Russians after accession to-scale model with no foreign direct investment would to the WTO, government safety nets are very important to find that 7% of Russian households would lose from help with the transition, especially for the poorest mem- WTO accession. bers of society, who can ill afford a harsh transition. The gains are rather evenly distributed across income groups, but we find that the poor gain slightly more Thomas Rutherford is professor of economics at the than the wealthy, because the wage rate of unskilled University of Colorado, USA. David Tarr is lead econo- labor increases more than the rate of return on capital. mist in the Development Research Group of the World Rural households gain less than urban households, Bank, Washington, DC. Oleksandr Shepotylo is instruc- because the wage rate of skilled labor increases more tor in the Department of Economics at the University of than the other factors of production, and rural house- Maryland, USA. The full text of their paper can be holds are less well endowed with skilled labor than accessed at: http://ssrn.com/abstract=647643, World urban households. Bank Policy Research Working Paper No. 3473. The World Bank· 21 New Findings Assessing legal systems: a catalyst for reform Michel Nussbaumer S ince the mid 1990s the European Bank for tiveness", i.e. the actual practice developed in the countries. Reconstruction and Development (EBRD) has been con This part of the process is methodologically very challenging, ducting assessments of the state of legal transition in as it is designed to capture facts, rather than rules, and to the countries of Central and Eastern Europe and the reflect the multitude of individual practices that may have Commonwealth of Independent States (CIS). As the single developed within a given jurisdiction. largest investor in the region, the EBRD has focused its assess Following recent trends in the international legal communi- ment programme on legal sectors directly relevant to foreign ty, the EBRD has based its assessment of law effectiveness on investments: concessions, corporate governance, insolvency, case studies, which serve as a proxy for the functioning of the secured transactions, securities markets and telecommunica relevant area of law. The first evaluation focused on secured tions. As a result of this process, the Bank has developed a transactions laws and was conducted in 2003, in collaboration unique collection of analytical tools relating to the commercial with local lawyers in the region. It addressed the enforcement of and financial laws of these countries. All assessment results are available on the Bank's web site. The EBRD's legal assess charges. Based on a simple scenario (a bank trying to enforce its ment work is part of the Bank's Legal Transition Programme, security against a defaulting debtor), the study revealed how the a significant component of which comprises direct technical systems worked in practice in each country: how much money assistance to national governments. could a creditor recover through the realisation of charged assets, how quickly, and how easily? Countries were ranked on Quality of the "laws on the books" the basis of these three variables. Hungary, Latvia and Slovakia topped the list, while Bosnia and Herzegovina and Armenia had Assessing legal transition in the countries of Central and the least efficient enforcement. A similar case study was con- Eastern Europe and the CIS is a two-step process. First the ducted on insolvency law in 2004 and on corporate governance EBRD evaluates the degree to which local legislation (the "laws in 2005. Studies of concessions and securities markets are on the books") complies with relevant international standards scheduled for 2006 and 2007, respectively. of best practice. This first criterion is referred to as the "exten- siveness" of the legal framework. To date, such extensiveness Aggregate country law ratings assessments have been carried out and published for conces- sions, corporate governance, insolvency, secured transactions Going one step further, the EBRD has combined the two and securities markets. A similar assessment of telecommunica- parts of its legal assessments available to date, i.e. the quality tions regulatory frameworks is planned for 2005-2006. of "laws on the books" and the effectiveness of their imple- The extensiveness analysis is conducted on the basis of a mentation, to arrive at an aggregate score for each countries in checklist of questions, which reflect the contents of the relevant which it operates (see Chart 2). The chart gives an idea of the international standards. Countries are given scores and put in general state of legal transition in 2005 in the commercial and different categories ranging from "very low compliance" to financial law sector of the EBRD region. "very high compliance". Chart 1 provides an example of such a ranking in the corporate governance assessment published in Chart 1. Compliance of legislation with OECD Principles of 2004, using as a benchmark the Organisation for Economic Corporate Governance Cooperation and Development (OECD) Principles of Very high High Medium Low Very low Corporate Governance. compliance compliance compliance compliance compliance (none) Armenia Albania Bosnia & Azerbaijan Law implementation Hungary Bulgaria Herzegovina Belarus Kazakhstan Croatia Georgia Tajikistan Interested observers are likely to argue that, although an Latvia Czech Republic Romania Ukraine assessment of the "laws on the books" provides a good Lithuania Estonia Turkmenistan overview of progress in legal reforms, it is not sufficient to give FYR Kyrgyz Macedonia Republic a full picture of the impact of those reforms. Rather, what actu- Moldova Serbia & ally matters in order to support a vibrant market economy is Poland Montenegro the way these laws are implemented by courts and other state Russia Slovak institutions. This is absolutely true. The EBRD is dedicated to Republic obtaining a full picture of legal transition in its region by also Slovenia Uzbekistan assessing the level of implementation of laws. This is the sec- ond step of the assessment process: an analysis of law "effec- Source: EBRD Corporate Governance Assessment 2004 22 · Beyond Transition -- The Newsletter About Reforming Economies Generally, Central European countries appear to be more Bank's 2003 Transition Report, the fact that Poland scored advanced than the so-called early transition countries, con- poorly did not go unnoticed. The case study highlighted the firming the broad correlation between progress in rule of law challenges that existed in that country in trying to enforce a and economic transition. In that sense, European Union inte- pledge through the local court system, the only available gration has played a positive role in pushing reform agendas. method for enforcement: secured lenders were likely to face a There are some less intuitive results, however: Poland comes in long, complex and expensive process. The procedure was last among Central European countries, likely the consequence described as more challenging than in any (then) EU candidate of an over-burdened court system, which makes it difficult for country, and even than in a number of early transition countries. investors to process their claims expeditiously. This view was compounded by the World Bank Doing Early transition countries such as Moldova and the Kyrgyz Business in 2004 and Doing Business in 2005 reports, which Republic, on the other hand, fare relatively well, probably concluded that it would take an average of 1,000 days to reflecting the substantial amount of technical assistance enforce a simple contract, and that the legal rights of borrow- received to upgrade their written laws. But despite these anec- ers and lenders scored a 2 on an index of 1 to 10. The coun- dotal points, the most striking feature of the chart is the huge tries at the top of the index are the UK, Hong Kong Special transition challenge that remains for the entire region. Administrative Region (SAR), and also Albania and Slovakia. Graphically, that challenge can be seen in the lighter top part Poland, with an index of 2, ranks alongside Brazil, China, of the bars, i.e. the gap that these countries need to bridge in Haiti, and Morocco. order to approximate the international standards advocated by Following these publications, the National Bank of Poland the EBRD. There remains a lot of work to be done. approached the EBRD with a request for assistance in assess- ing the impact of the legal framework on the credit sector in Impact of EBRD legal assessment work Poland and drafting recommendations for improvement. EBRD technical assistance is currently being provided, in con- Assessing country law in the region is a colossal enterprise junction with a World Bank project, "Reducing Legal Barriers that requires substantial resources, both in terms of human to Contract Enforcement". and financial resources. Why does the EBRD engage in this huge effort? The rationale is three-fold: Maintaining legal reform momentum · Firstly, the EBRD can make use of its knowledge of local law to inform its own investment decisions; The EBRD assessments reveal a need for pursuing legal · Secondly, by publishing country ratings and related reforms in the countries of Central and Eastern Europe and the information, the Bank can encourage other investors to ven- CIS. Although legal frameworks have been substantially ture into this part of the world by providing them with the upgraded since the early 1990s, much work remains to be done information necessary to make informed decisions; in order for these countries to approximate international stan- · Thirdly, and most importantly, legal transition assess- dards of best practice. In addition, and more significantly, ments can be a formidable tool for policy dialogue with local implementing legal provisions remains fraught with uncertain- governments. In other words, the publication of studies on ty in a majority of countries. Investors cannot, in many legal systems is likely to encourage national governments to instances, rely sufficiently on the ability of local courts to address the issues highlighted in the assessments and take uphold their contractual rights. Significant efforts are still appropriate steps. required to build legal institutions and increase judicial capac- An example will illustrate this motivational effect. When the ity in the commercial sector. By publishing detailed assessments case study on the enforcement of charges was published in the highlighting the areas that need overhauling, the EBRD seeks to encourage policy makers in Chart 2. General state of legal transition (commercial and financial laws) the region to take appropriate 100 steps. If requested, the Bank is also able to offer technical assis- 90 tance to conduct the necessary Advanced 80 reforms. 70 60 Michel Nussbaumer is head of 50 the Legal Transition Team at the 40 EBRD. He contributed this article 30 to BT. The contents of this article 20 reflect the opinions of the author 10 Deficient and do not necessarily reflect the 0 views of the EBRD. For more Rep Rep Rep information on the EBRD Legal HungaryEstoniaSlovenia LithuaniaBulgaria Latvia RussiaBelarus Georgia Romania PolandCroatia MoldovaUkraine ArmeniaAlbania CzechMacedonia Slovak Kazakhstan Kyrgyz Montenegro Azerbaijan Uzbekistan & Herzegovinaajikistan T Transition Programme, see Source: & FYR Turkmenistan EBRD 2005 Composite Country Law Index www.ebrd.com/law. Serbia Bosnia The World Bank · 23 Family background and schooling outcomes in the Baltic countries Mihails Hazans, Olga Rastrigina and Ija Trapeznikova O ne of the most interesting but least studied effects of the distribution of human capital across ethnic groups is found transition on inequality is its impact on intergenera in Lithuania, the only one of the three countries without sub- tional mobility. In the three Baltic countries, rapid stantial provision of Russian-language higher education, even changes have taken place in the process of human capital in the private sector. accumulation since the fall of communism. After 12 years of What are the likely reasons for the Lithuanian phenome- transition, a wide tertiary participation gap has emerged non? The first thing that comes to mind is that minorities are between the titular ethnicity in each country and sizable better integrated in Lithuania than in the other two countries: (predominantly Russian speaking) ethnic minorities. according to the 2000-2001 Population Census, 99% of the In all three Baltic countries, the total number of tertiary population held Lithuanian citizenship, compared to 80% in students increased sharply from 1995 to 2003. This can be Estonia and 74.4% in Latvia. Young non-Lithuanians also attributed to several factors: rising returns to education, which have better language skills than their peers in Estonia and provided strong new incentives to participate; the removal of Latvia. The fact that about half of Lithuanian minorities are quantitative supply constraints; the emergence of new fields of ethnic Poles may play a role. Indeed, the Polish minority, which study; the lower ability barrier for those willing to pay; and the was the least educated in Soviet times, has done more "catch- introduction of student loans. ing up" than others and is now ahead of other minorities in This historic change has also had another dimension. The tertiary enrollment. However, there is no significant difference Baltic countries have sizable ethnic minorities, predominantly in terms of secondary enrollment of 15-18 year olds and the Russian-speaking (also Polish in Lithuania): l6% in Lithuania, propensity to complete higher education for 21-31 year olds. 32% in Estonia, and 42% in Latvia (2002). Up to 1989, Thus, the Polish factor cannot be the major explanation. instruction in higher-education institutions was provided both In Estonia and to a lesser extent in Latvia, the ethnic gap in in the language of ethnic majority (the titular language) and secondary enrollment threatens to reinforce inequality in the Russian, in proportions roughly consistent with the population. distribution of human capital across ethnic groups. The differ- After regaining independence, instruction in state-financed ence between ethnic groups in the propensity to enroll in sec- higher education has switched to the titular languages. By 2002, ondary education in Estonia is currently more than 7 percent- the proportion of tertiary students (both state- and self- age points among 15-18 year olds. Moreover, a difference in financed) receiving instruction in Russian was about 10% in preference between general and vocational secondary educa- Estonia and Latvia, and less than 1% in Lithuania. tion does not contribute to the ethnic gap. The unexplained In studying the nature, strength and dynamics of correla- ethnic gap in human capital is the most pronounced and most tion between demographic characteristics, parental income and rapidly increasing in Latvia. education, and children's education, we address the following: The educational attainment of parents is found to have a strong positive effect on the propensity to enroll in and com- · Conditional on family background, are the schooling decisions and outcomes of ethnic minorities substantially dif- plete secondary and tertiary education, both in Soviet times ferent from those of the majority population? and during transition. Some evidence is found for a weakening of the 'mother's higher education effect' during the transition. · How have the effects of family background on school- ing outcomes evolved during transition? At the same time, the positive effect of one's father having Our data come from the 1999 Living Condition Survey completed higher education, and the negative effect of living in NORBALT II and from the 2001-2002 Labor Force Surveys. a fatherless household, strengthened in the 1980s and the During the transition, a wide tertiary participation and 1990s. This may reflect the increasing importance of family attainment gap emerged between the titular ethnicity in each income for schooling decisions. country and the ethnic minorities. In the 21-30 age cohort, the The short- and long-term income effects on postsecondary ethnic gap is 8 and 10 percentage points in Estonia and Latvia enrollment were found to be significant in late 1990s, although respectively, compared to 2 percentage points for the 41-50 the size of the effect was modest: doubling per-capita income year olds. In Lithuania the gap has increased only slightly, and increased the probability of participation in further education it has even become smaller in relative terms. For all three coun- by 6-10 percentage points. tries the gap in participation, and for Latvia and Lithuania also the gap in the propensity to complete higher education, Mihails Hazans is associate professor at the University of remains significant after controlling for parental education and Latvia and research fellow at BICEPS in Riga, Latvia; Olga (as far as tertiary enrollment is concerned) parental income. Rastrigina is a graduate of Central European University in Both the language issue and lower returns to schooling might Budapest, Hungary; Ija Trapeznikova is a PhD student at be among potential reasons. Northwestern University, US. The full text of the paper can be Remarkably, however, the least troublesome dynamics in viewed at http://ssrn.com/abstract=699443. 24 · Beyond Transition -- The Newsletter About Reforming Economies VOICE A troubled country? Preston Smith In March, Poland's prominent business daily, Puls Biznesu, even many journalists jaded, if not confused. The PKN Orlen released findings that companies see Poland and its public sec- scandal first began with the politically motivated arrest of tor as corrupt, while adding that these same companies also company CEO Andrzej Modrzejewski, yet it now encompasses bribe each other, perhaps even on a widespread basis. tales of military and police corruption, Russian interference in The news came as no surprise for Poles, who increasingly Poland's energy sector, and allegations directed at both seem to consider Poland a troubled country. Corruption has President Aleksander Kwasniewski and his wife, Jolanta become the deciding factor in Polish politics, and this is likely to Kwasniewska. continue through the September elections, especially consider- As bad as it seems, the perception of Poland as a corrupt ing a recent World Bank report noting a marked increase in the state may be misleading. Such riveting headlines are partly a perception that corruption had become a significant obstacle to result of an unexpected revolution in investigative reporting business in both Poland and Belarus. According to the daily's that began in the late 1990s, which has tainted -- fairly or figures, 53% of those polled see corruption as problematic, and unfairly -- Poland's reputation, and even how Poles see them- 61% of respondents stated that bribery during public tenders selves. Such "negative" coverage has been undeniably heavy. A was widespread. Taken together with an October Transparency scan of the archives of the daily newspaper Rzeczpospolita International report pegging Poland at only No. 67 in a cor- reveals no fewer than 365 such articles published since January ruption ranking of 146 countries, there is little doubt that the 2004. The independent televised media, Polsat and TVN, have perception of Polish corruption is at an all-time high. at least matched the output of the print media, with a number There is also little doubt that the press has played a role in of programs dedicated specifically to uncovering scandals on a increasing that perception. Since the winter of 2003 a parade weekly basis. Ironically, the focus on investigative work has of high-level political scandals has dominated Polish news -- also fed even more newsprint, including charges of irresponsi- scandals that not only helped end the career of former Prime ble journalism and lawsuits against journalists, ranging from Minister Leszek Miller, but which have also crippled, if not those filed by indicted or arrested suspects to President destroyed, the once dominant Democratic Left Alliance (SLD) Kwasniewski himself. as a viable political party. Yet unlike many countries, which see Meanwhile, the most common Polish reaction appears to waves of scandals fade with the ouster of political parties be that of general disgust with the current political scene. It is deemed to be corrupt, the Polish wave -- and the continued possible that Poland is in the process of a massive clean-up, boom in investigative reporting -- has shown no signs of let- and that levels of corruption will drop sharply over the next ting up. At first this wave seemed to crest with "Rywingate," a few years, but the current implications may be felt as soon as bribes-for-legislation scandal centering on film producer Lew presidential elections, scheduled for September. In May, Lech Rywin, the Agora media group, and Miller. Rywingate Kaczynski's right-leaning Law and Justice Party suddenly appeared to culminate with the resignation of Miller on May moved ahead of the business-first Civic Platform group, led by 2, 2004, one day after Poland's EU accession. However, the Jan Rokita, who was himself once thought of as a shoe-in for legacy of the SLD goes far beyond Rywin. Over the past two the role of prime minister in the next government. Instead, years the public has been bombarded with not only Rywingate, Kaczynski, backed by his twin brother and party leader but also a host of scandals related to state-controlled insurer Jaroslaw, has wrestled into the No. 1 spot in the polls, with Powszechny Zaklad Ubezpieczen (PZU) and the state-con- approximately 26% support, and is now the presidential trolled oil company PKN Orlen, as well as a plethora of favorite. His message has long been both simple and consistent, "minor" affairs and sub-scandals. stating that he plans to stomp out corruption in politics and For most countries this would be plenty, but even Poland's business wherever he can gain a public mandate. And if the longest-running affairs, such as PZU and especially PKN polls are to be believed, it appears that Polish politics may have Orlen, continue to mutate and grow more troubling. This has come to exactly that. Ironically, the political future of a coun- been exacerbated by what have appeared at times to be very try wearied by years of dishonesty will likely be decided by politically motivated parliamentary commissions. Critics have more debates on this very topic. And in the meantime, the claimed that the current PZU commission's primary goal is Kaczynski brothers seem to have found their ticket. simply to kick Dutch privatization partner Eureko out of a bogged-down privatization effort that has lasted since 1999. Preston Smith is editor of "Poland Monthly", an English- Likewise, few doubt that at least some in the PKN Orlen com- language monthly published in Poland. He contributed this mission have set their sights on President Kwasniewski himself. comment in response to corporate governance coverage in Finally, the haphazard approach of both commissions has left October-December 2004 issue of "Beyond Transition". The World Bank· 25 World Bank\IMF Agenda Global and Country Development Marketplaces There was general recognition of the substantial conver- gence of goals and measures embodied in the Millennium World Bank headquarters hosted its annual Global Development Goals, the Stabilization Association Program, Development Marketplace May 24 and 25, where 78 finalists and the PRSP, which are prepared by governments through a presented their innovative grassroots development projects. participatory process involving civil society and development The finalists included 10 representatives from seven European partners, including the World Bank and the International and Central Asian countries. The 31 winners included projects Monetary Fund. Forum attendees agreed that these various from Azerbaijan, Russia, and Bosnia and Herzegovina. The goals have to be brought together in one single nationally-driv- Bosnian project proposed insulating homes with otherwise en development framework for growth and poverty reduction. unusable coarse sheep's wool. The event was sponsored by the Government of Greece, the In addition to the global marketplace, several ECA coun- U.K. Department for International Development, the United tries have held development marketplaces on a national level. Nations Development Program, and the European Union, and Turkey hosted an extremely successful event on May 3, receiv- organized by the World Bank and the IMF. ing 765 entries from around the country. Of these, 35 propos- als falling under the theme "Social Inclusion and Progress on BTC Pipeline Opening May 25 the Way to Europe" were selected as finalists. Altogether, 23 projects will receive funding to implement their ideas over the The IFC-supported Baku-Tbilisi-Ceyhan oil pipeline, next 12 months. The winners included the development of a stretching from the Caspian Sea to Turkey, officially opened on Turkish form of sign language and bringing pen pals and May 25. The 1,760-kilometer pipeline is expected to transport monthly prison visits to juvenile detention homes. Georgia also up to 1 million barrels per day and will provide an alternative hosted its own Marketplace in March, and others, including to existing pipelines going through Russia. The IFC's contribu- Croatia and Lithuania, have hosted them in the past couple of tion to the US$3.6 billion project was two loans of up to $125 years. million, one extended on its own account and the other through commercial syndication. The BTC pipeline was con- Vice-President's Travels structed and began operations under the strictest environmen- tal and social standards, avoiding the need to resettle any home Shigeo Katsu, VP for Europe and Central Asia, visited or household along its route. In addition to the IFC, the Romania May 7-9 to meet with government officials and busi- pipeline is being sponsored by several national and interna- ness and think-tank representatives. He also visited the Social tional oil companies. Development Fund subproject in the village of Movila Oii, as well as the newly opened Public Information Center. On May Civil Society Forum in Bratislava, Slovak Republic, June 9-11 21 and 22, Shigeo attended the annual EBRD meetings in Belgrade, Serbia, and participated in a panel discussion on The ECA NGO Working Group, in conjunction with the investment in Southeast Europe and the World Bank's role in European Commission, the Government of the Slovak contributing to growth. Republic, and the World Bank, hosted a conference titled "Sustainability of the CSO Sector in Post-Accession Central Third Forum on Poverty Reduction Strategies, with Focus and Eastern Europe, the CIS, the Balkans and Turkey". CSOs on Labor Markets, May 27-28 from all across the region participated. The third forum on this topic, this forum addressed three primary objectives: building The third Forum on Poverty Reduction Strategies, or understanding and exchanging experiences among CSO lead- PRSPs, for the western Balkans was held in Thessaloniki, ers, governments, foundations, and intergovernmental agen- Greece, May 27-28. The Forum brought together government cies; promoting partnerships among these development actors and civil society representatives from countries with active to enhance cooperation between new EU member states and Poverty Reduction Strategies -- Albania, Bosnia and the rest of the region; and strengthening networking and pro- Herzegovina, and Serbia and Montenegro -- and representa- moting debate on specific themes within CSO communities. tives from UNMIK Kosovo and FYR Macedonia. This year, the Although the experiences of these countries differ sharply, they PRSP Forum was preceded by a one-day Conference on Labor all face similar problems of sustaining fledgling CSOs. The par- Markets, Growth and Poverty Reduction Strategies. ticipants cover a broad range of expertise, from human rights Participants noted that measures to promote competitiveness to children's issues, from the environment to agriculture. The were critical to promoting job creation and accelerated growth. program was structured around five main issues: the enabling These measures centered on policies for improving the business environment, the role of CSOs in public advocacy and policy environment, investing in market skills and human develop- dialogue, the role of CSOs in the delivery of social services, ment, and strengthening well-targeted social safety nets. financial sustainability, and cross-regional networking. 26 · Beyond Transition -- The Newsletter About Reforming Economies Europe Faces Pensions Crunch Western Europe, real currency appreciation, the end of one-time effects related to EU accession, and heightened political uncer- A new World Bank report, Pension Reform in Europe: tainty in the run-up to elections are all expected to lead to slow- Progress and Process, details the urgent need for pension er growth in the region.A troubling development is that stronger reform in both new EU member states and EU-accession coun- output growth has not been associated with higher employment tries in order to keep pace with rapidly-aging populations. and the alleviation of high unemployment rates, especially in Rising budget costs, changing patterns in contemporary socie- Poland and Slovakia. The authors point out that the high level ty, and the financial requirements for EU integration are driv- of labor taxes may be contributing to structural unemployment, ing the unavoidable case for comprehensive, pan-European which constitutes 50% of the unemployed in six of the coun- reform. Thus far, countries have opted for two different reform tries. Thomas Laursen, lead economist for Central Europe and approaches. The Czech Republic and Slovenia are using a para- the Baltic countries, states that "A decrease in the tax wedge, metric model, which seeks more revenues and reduces expendi- particularly for low-skilled workers -- in a budget neutral way tures while expanding voluntary private pension provisions. -- should be contemplated in order to boost employment and On the other hand, Bulgaria, Croatia, and others have followed reduce high unemployment in some countries". the paradigmatic approach, which requires fundamental changes in pension provision, typically by introducing a Czech Republic Graduates from World Bank Borrowing mandatory funded pension pillar and expanded opportunities for voluntary retirement savings and individual accounts. EU- On April 18, during the World Bank's spring meetings, the accession countries have been more inclined to follow the lat- Czech Republic announced its intention to graduate from bor- ter approach, perhaps because they "have undergone a pro- rower status from the IBRD. Instead of receiving financial and found crisis leading to a major ideological shift, while EU coun- technical assistance, the Czech Republic will now become a tries for the most part have not," explains Michal Rutkowski, partner and provider of development assistance. After with- a Social Protection Sector manager for the Europe and Central drawing from the Bank in 1954, Czechoslovakia rejoined in Asia Region at the World Bank. The report concludes that 1990, and three years later its successor states, the Czech and progress on reform thus far has been happening much too Slovak Republics maintained their memberships. From the slowly, while the EU-accession countries may perhaps help 1990s onward, the Czech Republic transitioned from structur- energize the current members. al reforms and modernization of the energy and telecommuni- cations sectors to knowledge partnerships focused on institu- Judicial Reform Study Launched June 20 tional reforms. It has been a donor to the International Development Association since 1993 and has recently pledged Judicial Systems in Transition Economies: Assessing the to increase its contribution to IDA replenishment by 30%. The Past, Looking to the Future, the World Bank's newest study of Czech Republic is also continuing to partner with the Bank in legal systems in 26 ECA countries, was released on June 15. the Decade of Roma Inclusion, among other initiatives. The study, based on surveys of managers of 10,000 firms throughout the region, emphasizes the lack of progress in judi- Central Asia AIDS Control Project Launched cial reform. Despite advances in other sectors, judicial reform has deteriorated in many countries. A greater reliance on courts The IDA-financed Central Asia AIDS Control Project was has not necessarily led to better judges and enforcement, even launched May 12 in Almaty, Kazakhstan, during a workshop in EU member states such as the Slovak Republic, Slovenia, and attended by representatives from the ministries of health, jus- Poland. At the other end of the spectrum, countries such as tice, foreign affairs, and social development, NGOs, interna- Belarus and Uzbekistan must focus first on economic reforms tional policymakers, and the private sector. The project, to be before their judiciaries can be strengthened. Overall, the report administered by the Central Asia Cooperation Organization, is recommends stronger accountability mechanisms, efforts to funded by a US$25-million IDA grant and a 1-million pound build operational independence, revisions to case processing grant from the UK Department for International Development. procedures to improve judicial control and efficiency, and The four countries involved -- Kazakhstan, the Kyrgyz improving access to courts and their security and operation. Republic, Tajikistan, and Uzbekistan -- have seen a dramatic The release coincided with a June 21-22 workshop in Warsaw increase in infection rates over the past four years, albeit from on "Contract Enforcement and Judicial Systems in Central and a low absolute level. The epidemic's main cause is intra-venous Eastern Europe," which convened public officials from 14 drug use, and it is concentrated among young people. The par- countries and donors to share experience, exchange informa- allel epidemic of tuberculosis, endemic in prisons, compounds tion, and lay the groundwork for future collaboration. the effects of HIV/AIDS. A Regional AIDS Fund has been set up under the project, to fund initiatives to contain the spread of EU8 Quarterly Report on Slow Growth HIV/AIDS and other sexually transmitted infections in Central Asia. The Fund will provide incentives for greater regional The April EU8 Report brought diminished growth prospects cooperation between governments, public and private sector for the EU new members, as factors that brought strong growth organizations, and public services, such as prisons and AIDS in 2004 are no longer present. In 2005, slower growth in centers. The World Bank· 27 New Books and Working Papers World Bank Publications China's Ownership Transformation: Process, Outcomes, Prospects June 2005 Information and orders: the World Bank, P.O. Box 960, Herndon, VA 20172, U.S.; tel.: +1-703-661-1580, fax.: 703- Over the past decade, China's economy has moved from reliance 661-1501, email: books@worldbank.org, www.worldbank.org/ on state-owned and collective enterprises to a mixed system, in publications, or visit the World Bank InfoShop at 701 18th which private enterprise also plays a strong role. In many cases, Street, N.W., Washington, D.C., tel.: +1-202-458-5454. this has involved full privatization. The book discusses the main players in this process and their motivation and incentives, pro- Nicholas Barr (ed.) viding an assessment of the outcomes, with a focus on employee Labor Markets and Social Policy in Central and Eastern issues, corporate governance and firm performance. Europe: The Accession and Beyond May 2005, 266 pp. James Anderson, David Bernstein, Cheryl Gray Judicial Systems in Transition Economies: Assessing the Past, The report summarizes social policy reform during the transi- Looking to the Future tion and EU accession processes and analyses the social policy June 2005, 135 pp. challenges that continue to face both old and new member states. The book amplifies two sets of arguments. First, social Joana Godinho, Adrian Renton, Viatcheslav Vinogradov, policy under communism was in important respects well-suit- Thomas Novotny, and Mary-Jane Rivers ed to the old order and -- precisely for that reason -- was sys- Reversing the Tide: Priorities for HIV/AIDS Prevention in tematically badly-suited to a market economy. Secondly, suc- Central Asia cessful accession is not the end of the story: economic and June 2005, 206 pp. social trends over the past 50 years are creating strains on social policy that will have to be faced by both old and new Joana Godinho, Jaap Veen, James Cercone, Jose Pacheco, members. Masoud Dara Stopping Tuberculosis in Central Asia: Priorities for Action Robert Holzmann and Richard Hinz June 2005, 216 pp. Old-Age Income Support in the 21st Century: An International Perspective on Pension Systems and Reform Ukraine's Trade Policy: A Strategy for Integration into Global May 2005, 242 pp. Trade June 2005, 280 pp. The past decade has brought increasing recognition of the importance of pension systems to the security of aging popula- Bernard M. Hoekman, Subidey Togan (eds.) tions and to the economic stability of the countries where they Turkey: Economic Reform and Accession to the European live. The World Bank has been involved in pension reforms in Union nearly 60 countries, and the demand for its support continues June 2005, 400 pp. to grow. This book incorporates recent experiences and research, which have significantly increased knowledge and Hermine De Soto, Sabine Beddies, Ilir Gedeshi insight regarding how best to proceed. Included is a section on Roma and Egyptians in Albania: From Social Exclusion to regional reform experiences in Latin America, Europe, and Social Inclusion Central Asia. April 2005, 312 pp. Francis Conway, Brien Desilets, Peter Epstein, Juliana Pigey, Graeme Frelick, and Fred Rosensweig Intergovernmental Fiscal Relations in Central and Eastern World Bank Working Papers Europe: A Sourcebook and Reference Guide http://econ.worldbank.org/ June 2005, 88 pp. Bernard Dafflon and Krisztina Toth Produced by the Urban Institute for the United States Agency Fiscal federalism in Switzerland: relevant issues for transition for International Development and the World Bank Institute, economies in Central and Eastern Europe the sourcebook provides electronic links to a large number of WPS 3655, June 2005 documents, which discuss the basic concepts and principles, and describe the evolution of intergovernmental finance in the Its highly fragmented structure of local governments and seri- region (includes the printed sourcebook and the CD-ROM). ous horizontal fiscal imbalances make Switzerland a surpris- 28 · Beyond Transition -- The Newsletter About Reforming Economies ingly powerful model for Eastern European countries that are zons at which the equilibrium exchange rate is assessed is con- currently facing the challenge of fiscal decentralization. ducted, combined with a careful analysis of country-specific Among other conclusions, the authors suggest that subnation- factors. A unified framework including productivity and net al authorities can effectively fend off recentralization attempts foreign assets, undertaken with a set of control variables such of the central government if they engage in spontaneous coop- as openness, public debt and public expenditures, is used to eration to enhance the efficiency of public service provision. compute total real misalignment bands. The authors also show that the principle of subsidiarity can best be safeguarded by anchoring the expenditure and revenue Jan Fidrmuc powers of subnational governments in the constitution or in a Labor Mobility during Transition: Evidence from the Czech similarly strong law. Republic WP No. 767, April 2005 William Davidson Institute Working Papers The paper analyzes the development of inter-regional mobility http://www.wdi.bus.umich.edu/ in the Czech Republic during the transition. The intensity of migration is low and has even fallen during the period, while Jan Bruha, Delia Ionascu and Byeongju Jeong regional disparities in unemployment rates and earnings have Organized Labor and Restructuring: Coal Mines in the Czech increased. More importantly, labor mobility is weakly effective Republic and Romania in facilitating labor market adjustment to employment shocks. WP No. 773, May 2005 While, at present, migration appears more of a social or demo- graphic rather than economic phenomenon, its economic role The authors examine the role of organized labor in the restruc- may strengthen in the future. turing experience of two coal mining regions in the 1990s: Ostrava in the Czech Republic and the Jiu Valley region in Romania. Under similar external circumstances, the Ostrava Centre for the Study of Economic and Social region undertook gradual restructuring from early on, whereas Change in Europe in the Jiu Valley there was no restructuring until 1997, fol- http://www.ssees.ac.uk/economic.htm lowed by massive layoffs over two years. A quantitative study that accounts for mine productivity, labor market conditions, Alena V. Ledeneva and the constraints in compensating laid-off miners shows that Leadership and Corruption in Russia, 2000-2004 the delay in restructuring in the Jiu Valley was inefficient: grad- WP No. 54 ual restructuring with compensation would have benefited both the miners and the government. The paper defines the key features of corruption and the per- ception of corruption in Russia under Putin. It provides a com- Alexei Goriaev and Konstantin Sonin parison of trends of the corruption perception index in the CIS Is Political Risk Company-Specific? The Market Side of the region and CEE countries and focuses on the specifics of Yukos Affair President Putin's policies in application. The analysis questions WP No. 772, May 2005 assumptions about informal practices and formal institutions and offers interpretations of the dependence of Putin's regime The Yukos affair provides an excellent opportunity for an on 'unwritten rules'. inquiry into the nature of company-specific political risks in emerging markets. News associated primarily with law Slavo Radosevic and Andrew Rozeik enforcement agencies' actions against the company's man- Foreign Direct Investment and Restructuring in the Automotive agers, not formally related to the company itself, caused signif- Industry in Central and East Europe icant negative abnormal returns for Yukos. The stock of less WP No. 53 transparent private Russian companies has been more sensitive to Yukos-related events, especially employee-related charges by The paper explores the effects of FDI on automotive industry law enforcement agencies. restructuring in CEE. The results suggest that the value-cre- ation potential of CEE as a global automotive location has not Balazs Egert yet been fully exploited. A combination of country-specific fac- Equilibrium Exchange Rates in Southeastern Europe, Russia, tors and the strategies of multinational automotive companies Ukraine and Turkey: Healthy or (Dutch) Diseased? has generated different country patterns. Improvements in pro- WP No. 770, May 2005 ductivity and technology transfer are significant in countries with large FDI in the automotive industry. Employment effects This paper investigates the equilibrium exchange rates of three are positive, particularly in the automotive supply industry. Southeastern European countries (Bulgaria, Croatia and Privatisation policy in the early 1990s, followed by a policy of Romania), two CIS economies (Russia and Ukraine), and attracting greenfield FDI on the eve of EU accession, is crucial Turkey. A systematic approach in terms of different time hori- in explaining country differences in the presence of FDI. The World Bank · 29 Other publications effort rises with positive shocks to oil prices (for oil exporters), when the economy grows above its potential, and in the pres- ence of an IMF-supported program. In contrast, high demo- Peter Sanfey and Utku Teksoz cratic accountability and strong and impartial bureaucracies Does transition make you happy? help lower market risk and hence lower the relative need for EBRD Working Paper #91, June 2005 fiscal adjustment. Finally, fiscal effort tends to decline when http://www.ebrd.org/pubs/econo/WP0091.htm too many constraints are faced by the executive. Using evidence from the World Values Survey, the paper analy- Jack Diamond ses life satisfaction in transition countries. The analysis shows Reforming the Russian Budget System: A Move to More that the happiest groups are females, people with higher levels Devolved Budget Management? of education, higher income-earners, and people who are self- IMF Working Paper No. 05/104, May 2005 employed. On average, however, people living in transition http://www.imf.org/external/pubind.htm countries are less satisfied with their lives than individuals in non-transition economies. The Russian federal government has recently initiated a funda- mental reform of its budget system, encompassing important Elisabetta Falcetti, Tatiana Lysenko and Peter Sanfey policy, procedural, and institutional changes. This paper Reforms and growth in transition: re-examining the evidence reviews this reform agenda with reference to the experience of EBRD Working Paper #90, June 2005 industrial countries and reveals a number of concerns. First, http://www.ebrd.org/pubs/econo/WP0090.htm the speed of the reforms appears overly ambitious. Second, the preparedness of budget institutions is questionable. Third, A positive link between progress in market-oriented reforms change management capacity needs strengthening, with a more and cumulative growth has been recorded across transition carefully defined strategy. Last, the scope and "big-bang" countries. This paper shows that progress in transition in one approach of the current reform plans may need reformulation period can significantly affect growth in the subsequent period, into a more sequenced strategy with clearer reform priorities. and this growth can act as an immediate spur to further reform. Dalia Hakura Are Emerging Market Countries Learning to Float? Rudiger Ahrend and William Tompson IMF Working Paper No. 05/98, May 2005 Fifteen years of economic reform in Russia: What has been http://www.imf.org/external/pubind.htm achieved? What remains to be done? OECD Economics Department Working Paper 430, May 2005 The paper finds that exchange rate flexibility in emerging-mar- http://www.oecd.org/publications ket countries has increased over the past decade. This "learn- ing to float" appears to have involved a strengthening of mon- The paper provides an overview of the course of economic etary and financial policy frameworks aimed at directly reform and the performance of the Russian economy since the addressing the key vulnerabilities that give rise to the "fear of early 1990s and an analysis of the structural reform challenges floating." The results suggest that the trend toward greater ahead. Three major conclusions emerge. First, while the exchange rate flexibility, alongside a strengthening of banking Russian authorities have embarked on some impressive 'sec- supervision, has afforded emerging-market countries more ond-generation' reforms, many 'first-generation' reforms have monetary policy independence. yet to be completed. Secondly, the central challenges for Russia are primarily concerned with reforming state institutions. Thirdly, the pursuit of reforms across a broad front could Patrizia Tumbarello enable Russia to profit from complementarities among various Regional Trade Integration and WTO Accession: Which is the strands of reform. Right Sequencing? An Application to the CIS IMF Working Paper No. 05/94, May 2005 Abdul Abiad and Taimur Baig http://www.imf.org/external/pubind.htm Underlying Factors Driving Fiscal Effort in Emerging Market Economies This paper analyzes the appropriate sequencing of accession to IMF Working Paper No. 05/106, June 2005, the WTO and the implementation of the Eurasian Economic http://www.imf.org/external/pubind.htm Community (EAEC) customs union, and whether the latter facilitates or delays WTO accession for some member coun- Using a panel dataset of 34 emerging market countries for the tries of the CIS. If EAEC members pursue a coordinated period 1990-2002, the paper examines the roles of various eco- approach toward WTO accession, this may cause delays that nomic, political, and institutional variables in determining fis- benefit some countries at the expense of others. The results of cal effort, as proxied by the primary surplus. It finds that while a simulation of welfare effects show that, from a consumer sur- fiscal effort increases, as expected, with the level of lagged plus standpoint, it would be preferable to join the WTO ahead debt, this effect tapers off beyond a certain threshold. Fiscal of the EAEC customs union. 30 · Beyond Transition -- The Newsletter About Reforming Economies Conference Diary 6th International Conference on Financial Development and Empirical research, case studies and discussion sessions are Governance sought, addressing such topics as comparative analysis of con- August 22-23, 2005, Moscow ditions of market entry in CEE countries, market entry through exports versus market entry via capital investment, acquisi- The conference is organized by Enrico Perotti (University of tions as opposed to joint ventures in CEE, marketing strategies Amsterdam, Netherlands), Erik Berglof (Stockholm Institute of to reach CEE consumers, marketing-mix decisions for markets Transition Economics, Sweden), Stijn Claessens (University of in CEE, financial strategies for opening CEE markets, and case Amsterdam), and Sergei Guriev (New Economic School, studies of CEE experiences by western firms. Moscow) and is sponsored by Amsterdam Center for Research in International Finance, the NES and SITE. Topics to be dis- Abstracts of papers, in English, should be received by cussed: liberalization, growth and crises; elections, special September 15, 2005. For more information or to send abstracts interests and the fiscal costs of financial crisis; political econo- contact either of the conference sponsors: my; politicians and financing; and corporate governance and managerial risk taking. Prof. Dr. Reiner Springer, Wirtschaftsuniversitet Wien, Althanstr. 51, 1090 Wien,Austria, Phone: + 43-1-313 36/4377, More information: Enrico Perotti, Chair professor of interna- FAX: + 43-1-313 36/751. E-mail: Reiner.Springer@wu- tional finance, University of Amsterdam, email: wien.ac.at or Prof. Dr. Petr Chadraba, Department of E.C.Perotti@uva.nl; and Sergei Guriev, associate professor of Marketing, College of Commerce, DePaul University, 1 East corporate finance, rector, NES (local organizer), email: Jackson Boulevard, Chicago, Illinois 60604,USA, Phone: +1 sguriev@nes.ru. 312 362-6889, FAX: +1 312 362-5647. E-mail: pchadrab@depaul.edu The 20th Annual Congress of the European Economic Association Inclusion and Exclusion. Diverse and innovative approaches to August 24-27, 2005, Amsterdam, Netherlands Central and Eastern Europe The 7th Annual International Postgraduate Conference on The Program Chair is Prof. Lucrezia Reichlin (ECARES, Central and Eastern Europe, School of Slavonic and East Universite Libre de Bruxelles, and European Central Bank). European Studies, University College London, London, Philippe Aghion and Marco Pagano will deliver keynote February 18-20, 2006 addresses. The conference aims to discuss the economic, political, cultur- Information: http://www.eea2005.org/eea_amsterdam.html al and social factors, both past and present, which have given rise to the problematic informing practices of inclusion and CEPR Annual Public Policy Symposium exclusion. Papers on the following themes are invited: September 9, 2005, Bocconi, Italy · Political: Migration, crime and punishment, corrup- tion, the politics of transition, religion and the state, NATO This conference will be the sixth meeting of the Public Policy expansion, EU integration and enlargement. programme. Its goal is to provide a forum for high quality · Economic: Natural resources, economic growth, work in public economics and to bring together economists in property rights, corporate governance. the field from across Europe, as well as key researchers from · Social: Gender, health and education reforms, chil- outside the region. Papers are invited in any area of public eco- dren, citizenship and ethnicity issues; nomics (including political economy and public policy issues in · Cultural: Fine and performance art, confessionalism, general). bridging the gap between elitist and demotic approaches, national revival and national collapse. Info: http://www.cepr.org/Meets/diary/listyear.asp?year=2005 The conference is directed towards research students, although the participation of interested persons in the diplomatic and Business and Marketing Strategies for Central & Eastern media communities, as well as from governments and organi- Europe sations, is encouraged. December 1-3, 2005, Austria Paper abstracts and/or panel proposals of 300 words should be The 13th annual joint conference of the Department of sent along with a resume to pgconference@ssees.ucl.ac.uk Marketing of the College of Commerce, DePaul University and/or to SSEES Postgraduate Conference, School of Slavonic Chicago, and the Department of International Business, Vienna and European Studies, Senate House, Malet Street, London, University of Economics and Business Administration, Austria. WC1E 7HU, United Kingdom. The World Bank · 31 Bibliography "Good-bye Lenin (or not)? The effect of Communism on people's Rozelle, Scott, Guo Li, Minggao Shen, Amelia Hughart andJohn preferences for redistribution" by A. Alesina and N. Fuchs-Schundeln Giles, 1999. "Leaving China's farms: Survey results of new paths and Alesina, Alberto and George-Marios Angeletos, 2005. "Fairness remaining hurdles to rural migration", in China Quarterly 158, 367-393. and Redistribution", in American Economic Review, forthcoming. Shi, Xinzheng, Terry Sicular, and Yaohui Zhao, 2002. "Analyzing Alesina, A. and E. La Ferrara, 2005. "Preferences for urban-rural income inequality in China". Paper presented at the Redistribution in the Land of Opportunities", in Journal of Public International Symposium on Equity and Social Justice in Transitional Economics, forthcoming. China, Beijing, July 11-12. Corneo, G., 2001. "Inequality and the State: Comparing US and Sicular, Terry and Yaohui Zhao, 2004. "Earnings and labor mobil- German Preferences", in Annales d'Economie et de Statistique, 63-64, ity in rural China: Implications for China's accession to the WTO", in 283-296. China and the WTO: Accession, Policy Reform, and Poverty Strategies, Corneo, G. and H.P. Gruner, 2002. "Individual Preferences for D. Bhattasali, S. Li and W. J. Martin (eds.). Washington D.C.: World Political Redistribution", in Journal of Public Economics, 83, 83-107. Bank and Oxford University Press Ravallion, M. and M. Lokshin, 2000. "Who Wants to Yang, Dennis T., 1997. "China's land arrangements and rural Redistribute? The Tunnel Effect in 1990 Russia", in Journal of Public labor mobility", in China Economic Review 8(2), 101-116. Economics, 76, 87-104. Zhao,Yaohui, 1999. "Leaving the countryside: Rural-to-urban migra- tion decisions in China", in American Economic Review 89, 281-286. "Economic Growth, Income Distribution and Poverty in Poland During Transition" by P. Paci, M. Sasin, and J. Verbeek "Urban poverty in Russia" by A. Alexandrova and E. Grishina Bourguignon, F., 2002. "The Growth Elasticity to Poverty Alexandrova, A., and E. Grishina, 2004. "Analysis of Rural Reduction: Explaining Heterogeneity across Countries and Time Poverty in Russia" (in Russian). Report for the World Bank, Moscow. Periods", in T. Eicher and S. 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Ravallion, M., 1994."Poverty Comparisons", Harwood Academic World Bank, 2002. Transition: The First Ten Years. Washington, Publishers, Chur, Switzerland, 1994. D.C.: World Bank. World Bank, 2003. Poland: Towards a Fiscal Framework for "Adjustment Costs of Trade Liberalization for the Russian Labor Growth: A Public Expenditure and Institutional Review. Washington, Market" by I. Denisova D.C.: World Bank. Arellano, M. and S. Bond, 1991. "Some Tests of Specification for Panel Data: Monte Carlo Evidence and an Application to Employment "Latin America 1980-2005: institutions, growth and poverty" by Equations", in The Review of Economic Studies 58: 277-297. A. Garcia Brown, J. David and John S. Earle, 2001. "Gross Job Flows in Attanasio, O. and M. Szekely (eds.), 2001. "Going Beyond Income: Russian Industry Before and After Reforms: Has Destruction Become redefining Poverty in Latin America", in "A Portrait of the Poor: An More Creative". SITE, Stockholm School of Economics, CEU Asset-Based Approach", Baltimore, John Hopkins University Press. Goldberg, P.K. and N. Pavcnik, 2004. "The Effect of Colombian Corbo, Hernandez y Parro, 2005. "Institutions, economic policies Trade Liberalization on Urban Poverty", in Ann Harrison (ed.), and growth: lessons from the Chilean experience." Central Bank of Globalization and Poverty. NBER Chile Working Papers 317. Goldberg, P.K. and N. Pavcnik, 2001. "Trade Protection and Cornia, G.A., ed., 2005."Inequality, Growth and Poverty in an era Wages: Evidence From the Colombian Trade Reforms", NBER of Liberalization and Globalization". Oxford, Oxford University Working Paper No. 8575. Press. Konings, Jozef and Hartmut Lehmann, 1999. "Going back to Kaufmann, D., A. Kraay and M. Mastruzzi. 2003. "Governance Basics: Marshall and Labor Demand in Russia". LICOS, Centre for matters III: Governance indicators for 1996-2002." World Bank. Transition Economies, Economics Department Catholic University of Rodrik, D., 1999. "Where did all the growth go? External shocks, Leuven. social conflict, growth collapse", John F. Kennedy School of Matusz, Steve and David Tarr, 2000. "Adjusting to Trade Government, Harvard University. Liberalization," in Anne O.Krueger (ed.), Economic Policy Reform: World Bank, 2005. "Economic growth in the 90s. Learning from a The Second Stage. Chicago: The University of Chicago Press decade of reform". Chapter 2. "Assessing Legal Systems: A Catalyst for Reform" by Michel "Labor Market Distortions, Rural-Urban Inequality and the Nussbaumer Opening of China's Economy" by T. Hertel, F. Zhai Simeon Djankov, Rafael La Porta, Florencio Lopez De Silanes, and Chan, Kam Wing and Li Zhang, 1999. "The hukou system and Andrei Shleifer, 2002. "Courts: The Lex Mundi Project", World Bank, rural-urban migration in China: Processes and changes", in China Washington, DC. Quarterly 160, 818-55. 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