W½5,DP,COZ7 2O9R World Bank Discussion Papers Evolving Legal Frameworks for Private Sector Development in Central and Eastern Europe Cheryl W. Gray Recent World Bank Discussion Papers No. 150 Successful Rural Finance Institutions. Jacob Yaron No. 151 Transport Development in Southern Chitta. Clcl G. Harral, editor, and Peter Cook and Edward Holland, principal contributors No. 152 The Urban Environment and Population Relocation. Michael M. Cernea No. 153 Funding Mechanismsfor Higher Educationi: Financingfor Stability, Efficiency, and Responsiveness. Douglas Albrecht and Adrian Ziderman No. 154 Earnings, Occupational Choice, and Mobility in Segmentted Labor M'larkets of Inidia. Shahidur RI. Khandkcr No. 155 Managing Extemal Debt in Developing Countries: Proceedings of ajoint Seminar,Jeddah, AMay 1990. Thomas M. Klein, editor No. 156 Developing Agricultural Extension for Women Farmers. Katrine A. Saito and Daphne Spurling No. 157 Awakening the Market: Viet Nam's Econo,nic Transition. D. 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Nadarajah Shanmugaratnlam, Trond Vedeld, Anne Mossige, and Mette Bovin No. 176 Public and Private Sector Roles in Agricultural Research: 7Theory and Experience. Dina L. Umali No. 177 The Regulatory Impediments to the Private Industnial Seaor Development in Asia: A Comparative Study. Deena Khatkhatc No. 178 China: Reforming Intergovernitental Fiscal Relations. Ramgopal Agarvala (Continued on the inside back cover.) 2 9 0 World Bank Discussion Papers Evolving Legal Frameworks for Private Sector Development in Central and Eastern Europe Cheryl W. Gray The World Bank Washington, D.C. Copyright C 1993 The International Bank for Reconstruction and Development/THE WORLD BANK 1818 H Street, N.W. Washington, D.C. 20433, U.S.A. All rights reserved Manufactured in the United States of America First printingJuly 1993 Discussion Papers present results of country analysis or research that is circulated to encourage discussion and comment within the development community. 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Pernission to copy portions for classroom use is granted through the Copyright Clearance Center, 27 Congress Street, Salem, Massachusetts 01970, U.SA The complete backlist of publications from the World Bank is shown in the annual Index of Publications, which contains an alphabetical title list (with full ordering information) and indexes of subjects, authors, and countries and regions. The latest edition is available free of charge from the Distribution Unit, Office of the Publisher, The World Bank, 1818 H Street, N.W., Washington, D.C. 20433, U.S.A., or from Publications, The World Bank, 66, avenue d'1ena, 75116 Paris, France. ISSN: 0259-210X Cheryl W. Gray is senior economist in the Transition and Macro-Adjustment Division of the World Bank's Policy Research Department. Library of Congress Cataloging-in-Publication Data Evolving legal frameworks for private sector development in Central and Eastern Europe / Cheryl W. Gray ... [et al.]. p. cm. - (World Bank discussion papers ; 209) ISBN 0-8213-2588-4 1. Commercial law-Europe, Eastem. 2. Property-Europe, Eastern. 3. Europe, Eastem-Economic policy-1989- 4. Investments, Foreign- Law and legislation-Europe, Eastem. I. Gray, Cheryl WiDiamnson, 1954- . II. Series. KJC2045.E96 1993 346.47'07-dc2O 93-26652 [344.7067] CIP iii CONTENTS Abstract .................................................. v Foreward .................................................. vii Acknowledgments . ............................................ ix Legal Frameworks in EAerging Market E .omein ......................... I Bulgaria ................................................... 23 with Peter G. Ianachkov The Czech RepubUc .............................................. 47 Hungy ................................................... 65 with Rebecca J. Hanson and Michael A. Holer Poland ................................................... 95 with Rebecca J. Hanson, Michael A. Holler, Petor G. lanichkov, and Daniel T. Ostas Romania ................................................... 115 with Rebecca J. Hanson and Peter G. Ianachkov Slovenia .................................................. 133 with Franjo D. Stiblar I v ABSTRACT The legal framework in a market economy supplemented as the countries move toward a has at a minimum four basic economic private market economy. Extensive progress has functions: been made in putting private ownership and business activity on an equal footing with that of * to define the universe of property rights in public enterprises and in freeing up the entry of the system, new private firms through company and foreign * to set a framework for exchanging those investment law. Progress has also been made in rights, strengthening protections for intellectual * to set the rules for the entry and exit of property and in defining clear exit mechanisms actors into and out of productive activities, through bankruptcy law. The most difficult and and contentious challenges involve allocating real * to oversee market structure and behavior to property rights, designing rules for the exit of promote competition. ailing firms, and creating the conditions for free and fair competition, largely because they tread These four basic tasks of a legal system can be so heavily on existing vested interests. Progress loosely related to specific and well-recognized so far in CEE shows that setting impersonal areas of law. Property rights are defined in the legal rules-such as rules of property ownership, constitution of a country and in more specific contract, or entry-is relatively easy. Actually laws dealing with real, tangible, and intellectual choosing winners and losers through judicial or property. Exchange is covered generally by administrative action-whether it involves contract law. Entry is governed by company property allocation, bankruptcy adjudication, or and foreign investment law, while bankruptcy enforcement of competition norms-is more and liquidation laws govern exit. Finally, difficult. antimonopoly and unfair competition laws are Furthermore, although the legal structure is intended to promote competition. These basic evolving rapidly in most areas, practice is still areas of law are joined by many other important very uncertain. The generality of many laws ones-such as labor, taxation, and banking, to leaves wide discretion for administrators and name just three-in the rich and intricately courts, and there has not yet been time to build interconnected web of laws that comprise the up a body of cases and practice to further define complex legal frameworks for private sector the rules of the game. The wide discretion and activity in advanced market economies. general lack of experience create legal This discussion paper uses this general uncertainty that hampers private sector classification to analyze the evolving legal development in the short-run. Legal drafting is framework for private sector development in six only the beginning, and CEE countries have transforming socialist economies of Central and made great progress. Efficient enforcement is Eastern Europe-Bulgaria, the Czech Republic, the harder challenge and will take longer to Hungary, Poland, Romania, and Slovenia. It achieve. suggests some fundamental questions such analysis should address and provides a summary of developments in these countries. The CEE countries have a rich legal tradition dating from pre-socialist times. This tradition was suppressed but not eliminated during its 40 years of socialism, and it is being revised and vii FOREWORD The economies of Central and Eastern bankruptcy, antimonopoly law, and the Europe are in the midst of an historic transition development of judicial institutions. from central planning and state ownership to This volume is an initial attempt to document market-driven private sector development. This such experience. Through further work, we transition requires comprehensive changes in the hope to delve deeper into specific areas touched "rules of the game"-i.e. the legal framework in this volume, including property rights, for economic activity. This volume is the corporate governance, bankruptcy, and culmination of a year-long project on reform of competition law and policy. the legal framework for private sector development in Central and Eastern Europe (CEE). The project was financed in part by a grant from the Japanese Grant Facility and was organized and carried out by the Transition and Macro-Adjustment Division, Policy Research i/O Department (PRDTM), with input from the Europe and Central Asia Division, Legal Department (LEGEC). Its intended audience Nanc Birdsall includes both policymakers in reforming socialist Director economies and economists and lawyers working Policy Research Department on issues of private sector development in the CEE region. The volume fulfills four purposes. First, it provides a precise definition of the term "the legal framework for private sector development" in this context and suggests how one might go about studying it. The term "legal framework" is often used in the Bank, although its exact meaning and scope are not always clear. Second, it describes in some detail the progress six CEE countries have made to date in reforming their legal frameworks for private sector development touching on the major legal and institutional issues in the areas studied. Third, it provides guidance to policy makers in these CEE countries on how outsiders (including potential investors) view their progress on legal reform and where the greatest problems remain. Finally, it provides information and guidance for policymakers in other reforming socialist countries (including the former Soviet Union), who may be just beginning to initiate reforms. They can learn from CEE experience in areas such as property rights (including restitution), company and foreign investment law, ix ACKNOWLEDGEMENTS Much of the information in this volume was of International Law and Policy 7:3 (Spring obtained from direct interviews with policy 1992); Gray and Stiblar, "The Evolving Legal makers, lawyers, judges, and business persons in Framework for Private Sector Activity in the countries studied. We sincerely thank all of Slovenia, " University of Pennsylvania Journal of the people who offered us their time, assistance, International Business Law 14:2 (Spring 1993); and valuable insights. In particular we would Gray and lanachkov, "Bulgaria's Evolving Legal like to thank the extensive assistance offered by Framework for Private Sector Development," Lachezar Stefanov and Misho Valchev The International Lawyer, forthcoming (Winter (Bulgaria); Gerhardt Bubnfk, Vladimfr Fisera, 1993); Gray, Hanson, and Heller, "Legal Pavel Florian, Daniel Futej, Milan Ganik, Milos Reform for Hungary's Private Sector," The Kolacek, Ludvik Kopac, Thomas Samii, Jaroslav George Washington Journal of International Law Sodomka, Richard Surrey, and Carol Welu and Economics 26:2 (Spring 1993); Gray, "The (Czech Republic); Izak Atiyas, Ted Boone, Legal Framework for Private Sector Activity in Richard Hirschler, Peter Paczolay, and Ferenc the Czech Republic," Vanderbilt Journal of Vissi (Hungary); Andrzej Burzynski, Stanislas Transnational Law, forthcoming (May 1993). Dwernicki, Wojciech G6ralczyk, Mariusz Finally, we would like to thank Alan Gelb Jakubowski, Micha} Kulesza, Jerzy for his support of this work and Maxine Berg Modrzejewski, Dariusz Oleszczuk, Leon for her patient assistance in preparing the Paczyiiski, Eugeniusz Piontek, Roman Rewald, manuscript for publication. Pawel Rytel, and Peter Swiecicki (Poland); Doina Fulop, Donald de Keiffer, Grigore Florescu, Teodore Stolojan, Victor Tanasescu, Cornel Tarhoaca, and Nicolae Zaharia (Romania); Aleksandra Janeli6, Janez Kopac, Nina Plavsak, and Bojan Zabel (Slovenia). Variations in the depth of coverage of particular topics across countries reflect differences either in the priorities of those countries (and thus in the degree of legislative activity) or in the availability of information to the researchers. All of the country chapters have been published in slightly different forms in law journals. Detailed citations to country-specific legislation can be found in these publications. We would like to thank the respective journals for permission to republish amended versions of these papers: Gray et.al., "The Legal Framework for Private Sector Development in a Transitional Economy: The Case of Poland," Georgia Journal of International and Comparative Law 22:2 (Spring 1992); Gray, Hanson, and lanachkov, "Romania's Evolving Legal Framework for Private Sector Development," The American UniversityJournal LEGAL FRAMEWORKS IN EMERGING MARKET ECONOMIES The countries of Central and Eastern Europe This book uses this general classification to (CEE) are moving rapidly to transform their analyze the evolving legal framework for private economies from socialist systems based on sector development in six transforming socialist centralized ownership and planning to market economies of Central and Eastern systems based on decentralized ownership and Europe-Bulgaria, the Czech Republic,' relatively unregulated economic activity. These Hungary, Poland, Romania, and Slovenia.2 changes are being accompanied by political This first chapter suggests some fundamenta& reforms to disperse political power and introduce questions such analysis should address and democracy. Both sets of changes-economic provides a short summary of developments in and political-need to be supported by a wide these countries. More in-depth country-specific range of institutional reforms, including changes analysis follows in later chapters.3 in the legal framework. The CEE countries have a rich legal tradition The legal framework in a market economy dating from pre-socialist times. This tradition has at a minimum four basic economic was suppressed but not eliminated during its 40 functions: years of socialism, and it is being revised and supplemented as the countries move toward a * to define the universe of property rights in privatemarketeconomy. Extensiveprogresshas the system, been made in putting private ownership and - to set a framework for exchanging those business activity on an equal footing with that of rights, public enterprises and in freeing up the entry of 3 to set the rules for the entry and exit of new private firms through company and foreign actors into and out of productive activities, investment law. Progress has also been made in and strengthening protections for property, whether * to oversee market structure and behavior to real, moveable, most difficult and contentious promote competition. challenges involve allocating real property rights, defining and enforcing clear exii These four basic tasks of a legal system can mechanisms through bankruptcy law, and be loosely related to specific and well-recognized creating the conditions for free and fair areas of law. Property rights are defined in the competition, largely because they tread so constitution of a country and in more specific heavily on existing vested interests. laws dealing with real, tangible, and intellectual Furthermore, although the legal structure is property. Exchange is covered generally by evolving rapidly in most areas, practice is still contract law. Entry is governed by company very uncertain. The generality of many laws and foreign investment law, while bankruptcy leaves wide discretion for administrators and and liquidation laws govern exit. Finally, courts, and there has not yet been time to build antimonopoly and unfair competition laws are up a body of cases and practice to further define intended to promote competition. These basic the rules of the game. The wide discretion and areas of law are joined by many other important general lack of experience create legal ones-such as labor, taxation, and banking, to uncertainty that hampers private sector name just three-in the rich and intricately development in the short-run. interconnected web of laws that comprise the complex legal frameworks for private sector activity in advanced market economies. 2 Legal Frameworks In Emerging Market Economies Constitutional Law medical care (Bulgaria and Romania), pre- and post-natal care for women (Hungary), and the Although not necessarily dealing with the right to housing (Slovenia). Most give special private sector per se, a country's constitution is attention to land, sometimes including the bedrock of its legal and political system. It prohibition on foreign ownership (Bulgaria, defines the philosophy, structure, and degree of Romania, Slovenia). None impose specific interventionism of the public sector, and in turn restrictions on government powers, other than profoundly influences the role and viability of the duty to abide by law. the private sector in an economy. Three CEE Constitutions also lay out the structure of the countries-Bulgaria, Romania, and public sector and specify voting rules for Slovenia-adopted new post-socialist choosing leaders and passing laws. The new constitutions in 1991. Hungary did not adopt a CEE constitutions-for Bulgaria, the Czech new constitution, but it passed extensive amend- Republic, Hungary, Romania, and Slovenia-all ments in 1989 that abrogated approximately 80 adopt similar parliamentary systems, with a percent of the 1949 version. Poland also made balance of power between an elected parliament some basic amendments to its socialist (unicameral in Bulgaria and Hungary, bicameral constitution but has not yet adopted a new one. in the Czech Republic, Romania and Slovenia) The Czech Republic adopted a new constitution and a "government" headed by a prime minister. in December 1992; the process was stalled by Each also has a president, but the power of this political disagreements over govermnental office tends to be relatively weak. structure and the distribution of powers among Representation by political parties in the the republics and between levels of government, parliament is generally proportional to the and it could not proceed further until basic popular vote received, thereby reinforcing the questions on union or disunion were resolved. tendency in an emerging democracy toward a proliferation of parties.' What fimdamental tenets and structures for the political and economic system are embedded in Does the constitution provide for the the constitution? independence of the judiciary? forjic4al revze ? A private market economy depends on the acceptance of certain core values, the most The judiciary needs independence from important being the freedom of individuals to political interference if it is to gain the trust and own and exchange property and to associate in respect of the private sector. Furthermore, the private commercial ventures. The right to ability of the judiciary to review the actions of collective bargaining and certain social and the legislature ("judicial review") provides a environmental protections may also be enshrined powerful check to assure that laws follow the in the constitution, as may basic principles letter and spirit of the constitution. To revive concerning the role of the government vs. the checks and balances on government that role of the market.4 disappeared during the socialist period, all of the The new or amended constitutions of the CEE countries have sought to guarantee renewed CEE countries all enshrine the most basic values freedom for the judiciary, with judges generally of a democracy and a market economy, appointed for life. Rather than granting powers including not only protection of basic human of judicial review to regular courts, however, rights but also protection of private property the CEE countries have opted for the model of rights, including compensation in the event of a separate constitutional court, with power to expropriation.5 Some also promise certain overturn laws deemed unconstitutional. The social benefits such as free education and exact powers of the various constitutional courts vary considerably. Hungary's is the most 3 powerful, with extremely wide jurisdiction and possibilities than civil law systems (under which, absolute veto power over laws. The others have for example, a leasehold is not a property right, more limited jurisdiction in that only other as it is in common law, but a contract right). courts or selected officials can bring cases. Furthermore, the "bundle" of rights that accrues Furthermore, the decisions of Poland's and to a particular property owner and the rules of Romania's constitutional courts can be overruled priority among conflicting rights may vary from by a two-third's majority in Parliament. They system to system. still serve the new and important function, however, of providing a check on government The socialist legacy. A unique feature of power. socialist property law was its concept of a hierarchy of property rights based on ownership. Rights to Real Property Four categories of property were typically distinguished. "State" or "social" property, Markets presuppose a set of property rights which included virtually all urban industrial and and a system of laws or customs that enable the commercial property, was considered the exchange of those rights. Real property rights "highest" form and was accorded the greatest involve a vast legal terrain. Not only must the level of legal protection. Yet actual rights to use law define basic rights, but the transition from this property and exclude others from using it socialism to capitalism requires that property were often unclear. Socialist property was rights formerly owned by "the state" or "the typically considered to belong "indivisibly to the people" be allocated to specific owners, whether State. " Under this theory, neither local in the public or private domain. governments nor state-owned enterprises owned Reform of property rights has lagged behind the property they used; rather they had the legal reforms for general business activity in the ownership-like right of "operational last few years in the CEE countries. administration." Because property was Compensation laws to reverse prior indivisible, ownership was indeterminate; those expropriations are creating tremendous who "operationally administered" property could uncertainty, land registration and court in some cases lease it but never sell it. adjudication systems are underdeveloped, and The other three forms of property were all transfer laws for state property are sparking subordinate in principle and practice. Following conflict among levels of government. Many state property was "cooperative" property, most specific procedures for real estate development prevalent in the agricultural sector7 and and transfer are either missing from the current typically governed by a special cooperative law. legal framework or are cumbersome and in Cooperative property often remained nominally practice unenforceable. Developing under private ownership, but all rights of use economically and environmentally sensible real were given to the cooperative. Next came property regulations and removing current legal "personal" or "individual" property, which was bottlenecks is critical for sustained private sector typically limited to one residence of a particular development. size, one vacation house, and incidental personal belongings. Lowest on the ladder was "private" How are rights to property defined? property, meaning private ownership of means of production, which was considered a negative Perhaps the most basic role of property law remnant of capitalism and was accorded little is to define the types of property tenure and the legal protection. When allowed at all, private 'bundle" of rights that attaches to each. property in urban areas was generally limited to Concepts of tenure vary among different systems rental housing and property of small, of law; for example, common law systems individually-run shops and businesses. appear to have a richer array of tenure 4 Legal Frameworks In Emerging Market Economies Redefining property rights. All CEE ownership of specific pieces of property, thereby countries have moved since 1989 to eliminate stalling the process still further. this hierarchy of property and replace it with the principle of equal legal protection for all What are the rights of former owners and property, both through amendments to existing how are competing claims decided? The CEE Civil Codes or Property Laws and through countries have all taken steps to reverse the abolition of socialist regulations that gave nationalizations of the socialist period by paying precedence to state property. The Civil Codes compensation or restituting property to former have essentially returned to their pre-war roots owners. Bulgaria, the former CSFR, and and now follow closely the civil law models of Slovenia adopted laws providing for extensive Western Europe in their basic definitions of restitution of land, housing, and enterprises, property rights. either in-kind (if possible) or through substitute property, securities, or money. Romania has How are rights to property currently assigned to also moved aggressively for in-kind restitution of specific owners? agricultural land. Hungary has opted against in- kind restitution in favor of coupons that can be Once basic rights to private property have used to purchase privatized property. Poland is been defined, the next steps in moving towards the only CEE country that has not taken decisive a private market economy are to link those steps in this area. Although Poland also favors rights with specific owners and then to begin the some form of restitution, legislation has been process of transferring state-owned rights to the delayed by political difficulties. private sector through privatization. This is the Restitution-in-kind is complex and leaves most controversial aspect of reform as it raises many problems in its wake. The legal the possibility of a redistribution of assets that precedence typically given restitution over could decidedly influence the pattern of wealth privatization has created great uncertainty among for the foreseeable future. potential investors and has complicated privatization, particularly in the case of small Who is the public owner? Assigning state businesses and housing. It is also leading to property to specific government owners is many disputes that are beginning to clog the proving to be one of the most complex courts. In Romania, for example, restitution of challenges in the transition to a market agricultural land has led to more than 300,000 economy. The approach being taken in most court cases.' In the case of housing, tenants in CEE countries is to divide socialist property restituted apartments are clashing with new among three owners. State enterprises are given owners over rights and responsibilities; some ownership rights over the land and buildings argue that they too should be eligible to they occupy. Ownership of the enterprises participate in existing or anticipated programs of themselves (and thus ultimate control over their housing privatization even though their particular real property) is then assigned to a specific arm residence is no longer in state hands.'0 In the of the national government, such as the State case of small businesses, interested private Property Agency in Hungary. Finally, parties are afraid to purchase businesses due to ownership of the bulk of remaining state-owned fear of restitution claims. real property, including apartment buildings, commercial space, and other state-owned How are property rights registered? buildings, is assigned to municipal governments. While this concept may be clear in theory, Developing an adequate registry to determine problems arise in the actual implementation, as legitimate title for privately-owned property is disputes arise among various public actors as to less controversial than allocating property, but it 5 is no less fundamental. All CEE countries How is the freedom to use property limited by inherited real property registries from pre-war law? days. Those registries continued to be maintained during the socialist period for There are a myriad of ways that laws can remaining privately-owned property (primarily limit the use of property, generally for reasons housing), because buyers still had some of public policy. The regulatory framework in incentive to register their purchases in the all of the CEE countries needs a thorough property registry to claim priority over other overhaul to bring it in line with the needs of a claimants. Some private buyers, however, market economy. Major changes are needed, avoided registration if their individual holdings for example, in land use planning. During the exceeded permissible levels. Furthermore, socialist period, CEE's static land use planning nationalizations by the state and transfers among and large-panel construction methods resulted in public owners were not typically recorded in the highly inefficient patterns of urban land use. land registry, nor were individual flats registered Clusters of high-rise residential units tended to in many large state housing developments. be separated from the urban core, resulting in Agricultural land records are in the poorest high infrastructure and transport costs. In the condition in most CEE countries because of absence of market signals, the government often extensive nationalizations and regrouping of converted good agricultural land to industrial use cooperatives. Missing records, inadequate staff, rather than utilize lower-quality land within a and lengthy delays in the land registration municipality. The development of a private process add to uncertainty in real estate market in land and buildings will slowly help to transactions. correct these inefficiencies in land use, if accompanied by more dynamic and generally Are there iumits on who can own property? less restrictive zoning rules. The large fines now applied on the conversion of agricultural While some restrictions on property rights land to other uses should be phased out as may be justifiable on policy grounds, too many market mechanisms and complementary zoning restrictions create costly distortions in property regulations develop. markets and may inhibit investment and growth CEE governments also need to rethink rent of the private sector. The primary restriction and eviction restrictions. Rent controls often do imposed by all CEE countries is on foreign not allow owners-whether public (generally ownership of land. In no country can a local governments) or private (imcluding owners foreigner freely own land without limitation. of newly restituted property, as in the Czech The constitutions of Romania and Slovenia and Republic) even to cover maintenance costs, the foreign investment law of Bulgaria prohibit much less service debt on infrastructure. The foreigners from owning land.11 Similarly, the lack of functioning foreclosure and eviction foreign exchange law of the former CSFR has systems prevents the development of a mortgage prohibited foreigners from purchasing real finance system, stunts the growth of a private estate. Hungary prohibits foreigners from rental market, and constrains commercial real owning agricultural land, although they may estate development. In Hungary, for example, own non-agricultural land and immovable foreclosure and eviction is a cumbersome and property if they obtain permission from the futile endeavor. Those seeking to carry out Ministry of Finance. In all countries, foreign- evictions must provide alternative living owned domestic companies are permitted to buy quarters, which can be very difficult given the land, albeit sometimes within certain shortage of available housing. Because evictions limitations.12 can take up to five years to clear all procedural hurdles, there are few, if any, cases of foreclosure resulting in eviction. 6 Legal Frameworks In Emerging Market Economies Not only is there a surfeit of potential All three products are relatively easily copied regulatory authority in some areas, but there is and are crucial for economic development. a problematic lack of it in others-such as Although this debate is alive across the CEE commercial subdivision of undeveloped land or region, policy makers are opting in practice in the financing of infrastructure for private land favor of strict protection of intellectual property development. It will take time and effort to rights. develop a modem land use planning and regulation system that offers clear procedures, How are rights to intellectual property defined? wide discretion to the market, and a dispute resolution mechanism that fairly balances lhe socialist legacy. Laws on intellectual interests of neighbors, developers, and local property had little meaning in the domestic government. economies of the CEE countries during the socialist period. State control over the economy Rights to Intellectal Property was pervasive, and inventors and creators tended to work within the state apparatus. Inventors Given their need for western technology, were given credit for their inventions in the their desire to integrate their economies into the form of lump-sum cash awards, calculated western commercial community, and prodding generally as a percentage of the savings achieved they are receiving from the West," CEE by the design or a percentage of the net return countries are moving rapidly to extend their on the investment. The socialist organization legal protection of patents, trademarks, and upon whose behalf or within whose contractual copyrights. It is worth noting at the outset that relation the invention was created obtained an the protection of intellectual property in "authorship certificate," which gave it the right developing and transitional economies is a to use the invention and apply for patent controversial subject. On the positive side, protection abroad. Because the rights to the intellectual property protection not only helps invention remained essentially with the state, spur domestic invention and creation,1' but it there was little experience with the enforcement also helps to attract foreign investment, because of private patents, which will be the challenge of an investor is more likely to invest in a country the new intellectual property regimes. where property is protected. Foreign investment Recent legislaive changes. Recent reforms brings not only technology, but also in the intellectual property legislation of most employment, foreign exchange, and management CEE countries have generally brought the legal talent-all urgently needed in Central and protection of intellectual property more or less Eastern Europe. Some observers argue, up to international norms. For example, patent however, that intellectual property protection is protection has typically been extended to essentially a one-way street-that it protects previously-excluded products, such as drugs, industrialized countries (where most inventions chemical compounds, and plant or animal and creations originate) at the expense of varieties, and copyright protection has been countries who must import most technology. extended to computer software. The terms of Granting monopoly rights to proprietary patent and copyright protection have typically knowledge tends to raise the price of that been lengthened to the international norms of 20 knowledge by giving "owners" the sole right to and 50 years, respectively. Some controversial use or license it, and thus it can slow provisions, such as compulsory licensing,"6 technological and economic development in have remained in certain cases. lesser-industrialized countries."5 The most Although protection for new inventions may contentious areas tend to be patents for be relatively clear, many issues loom in the pharmaceuticals (where lives are often at stake) transition from the old to the new system, and copyrights for computer software and books. 7 particularly with regard to rights previously of information about the company. It also tries conferred through authors' certificates. Do to encourage entrepreneurship by setting limits those certificates continue to confer rights? If to the liability of investors. Because the notions so, who owns those rights, particularly in the of private capital, private investment, and case of newly privatized entities? Does prior private commercial liability are relatively new in usage by others confer any rights? What reforming socialist economies, all of these happens if an invention was made and functions of company law are also relatively new recognized, but never actually used? These are in the CEE context. the types of transition questions that are yet to Every CEE country now provides a modem be resolved in the move to a new intellectual and open legal framework for the establishment property regime. of companies, whether domestic or foreign. All of the CEE countries are signatories to New company laws have been recently adopted the major international conventions on in Bulgaria, the former CSFR, Hungary, and intellectual property, including the Paris Romania, and the old pre-war company law has Convention for the Protection of Industrial been revived in Poland. Slovenia inherited Property,"' the Madrid Agreement Concerning Yugoslavia's recently-enacted Enterprise Law the International Registration of Marks,1" and and is about to enact a new, more the Beme Convention."9 These conventions comprehensive version. provide little protection, however, in the absence of well-designed and enforced domestic laws. Wfhatforms of prvate companies are recognized by law? How are rights to intellectualproperty enforced? The CEE countries follow continental Enforcement capacity is an issue in all areas European models of company law. They of intellectual property law. Although a generally provide for four types of companies. registration procedure exists, can a holder of The most formal is the joint stock company, intellectual property rights actually protect those which resembles the French 'societe anonyme' rights if another person infringes them? In the (SA), the German "Aktiengesellschaft" (AG), socialist state this was not much of an issue, and the American publicly held corporation. because most rights-particularly in the case of This form allows for various classes of shares, patents and trademarks-were held by the state. with different rights and powers, and imposes Enforcement of intellectual property legislation relatively strict oversight, audit, and disclosure will emerge as a critical issue as the private rules. It is most appropriate for companies sector and foreign investment grow. Giving true seeking a large number of shareholders and/or meaning to these rights will require institutional anticipating public offerings. In most countries strengthening in the registration agencies and the the minimum capital required of a joint stock courts to insure that infringements can be company is high-the local currency equivalent identified, halted, and punished as appropriate. of some $18,000 in Poland, $35,000 in Czechoslovakia, $40,000 in Bulgaria, and Company and Foreign Investment Law $130,000 in Hungary.' While substantial minimum capital requirements reassure potential Company law plays a central role in market creditors, they could act as barriers to entry to economies. It sets guidelines for the internal new entrepreneurs.21 organization of private companies and for The limited liability company is the other systems of corporate governance. Together with company form in CEE company law that offers securities legislation, it tries to protect outside limited liability to all owners. It resembles the investors and the public by specifying minimum French 'societe a responsibilite limitee" (SARL) requirements for capital and for the publication and the German "Gesellschaft mit beschrankter 8 Legal Frameworks In Emerging Market Economies Haftung" (GmbH) and has fewer formal CEE foreign investment laws have followed suit. requirements than the joint stock company. This These tax incentives have been widely criticized form is popular because of its simpler structure by outside observers, both because they and lower capital requirements, ranging from the discriminate against domestic investment and local currency equivalent of under $1,000 in because they can lead to substantial revenue loss Poland, Romania and Slovenia to $13,000 in and severely complicate tax administration.' Hungary. It is primarily intended as an Furthermore, it is not clear that tax holidays do investment vehicle for a relatively small group much on the margin to attract foreign of investors who know and deal with each other investment. Firms look most for stability and on a regular basis. In general an investor must potential markets. Above all, they want to avoid obtain approval from the other investors to sell major losses, and holidays do nothing to further his or her stake to an outside party. that goal; firms that succeed in making profits In addition to these two forms, CEE are often not so adverse to paying moderate company laws typically recognize general and taxes (particularly if they are from countries limited partnerships. In the general partnership, with foreign tax credit systems that would all partners are jointly and severally liable for otherwise tax them at home, albeit perhaps with the partnership's liabilities. The limited some deferral). Of course, firms will take partnership consists of limited partners, whose anything that is offered. With their precarious liability is limited to their contribution to the budgetary situations, CEE countries can hardly partnership, and one or more general partners, afford significant revenue loss, nor can they who are responsible for actively managing the afford to complicate the already daunting task of company and whose liability is unlimited. Both developing a competent and modem tax forms are quite flexible, as partners are able to administration. They should open their doors to negotiate their own arrangements concerning foreign investors but provide no better or no capital contributions, distribution of profits and worse than national treatment-including a losses, and allocation of voting and managerial moderate level of taxation. Hungary-the first rights. In most CEE countries (with the CEE country to offer serious tax exception of Poland and the former CSFR), incentives-was also among the first country to neither type of partnership is a pass-through attempt to eliminate those incentives; they are to entity and thus both are subject to tax at the be available only to companies that are entity level. substantially in production before the end of 1993. Do special rules apply to foreign firms? What type of corporate governance is envisioned The CEE countries have all opened their in the company law and related legislation? doors to foreign investment in recent years. All have adopted liberal foreign investment regimes, Corporate governance is a critical issue in all allowing up to 100 percent foreign ownership, CEE countries as they move to privatize large removing restrictions on profit repatriation, segments of their economies. Many variables in guaranteeing full compensation in the event of an economy-including the dispersion of share expropriation, and generally abolishing pre- ownership, the type of owner, and the tightness approval requirementse (except in the case of of other market-based constraints on certain specifically-designated sectors). Forms managers-have an effect on corporate of investment are governed by domestic governance."' Company laws are also company law. important, because they provide the framework Foreign investors are in most cases eligible in which owners actually exert their influence in for special tax incentives. Hungary's 1988 law monitoring managerial behavior. was the first to grant such incentives, and other 9 What oversight bodies are required? CEE decisions, although either requirement can be company laws generally follow the German changed by company statute. The company laws model of oversight for joint stock companies, of other CEE countries generally have quorum providing for hands-on management by an and majority voting rules of 50 percent, unless administrative board (sometimes called a Board the company's articles provide otherwise. Most of Directors or Management Board) and of the CEE laws require supramajority (two- oversight functions by an independent thirds or three-quarters) votes at the general supervisory board.' Persons may not serve on meeting for some important decisions, such as both boards simultaneously. For larger changes in the companies articles, changes in the companies independent auditors may also be rights of certain classes of shareholders, or sale, required. In both law and practice, the division merger, or dissolution of the company. of responsibility among these various bodies can Third, proxy rules can enhance the ability of vary greatly by company (within general active and informed shareholders to vote the guidelines set out in the laws). Management and shares of passive shareholders. Most company oversight structures are generally simpler for laws in the CEE countries provide for proxy limited liability companies, reflecting their voting if a shareholder cannot attend a general smaller number of owners and the underlying meeting. It is unclear whether or not an assumption that the owners know each other and intermediary-such as a mutual fund or a have regular contacts. custodial bank-can vote proxies for affiliated shareholders on a regular rather than case-by- How are voting rights distributed? The case basis" or can easily obtain access to voting rules contained in company laws translate shareholder lists to try to influence proxy voting. a firm's ownership structure into shareholder influence. The company laws of CEE countries Wh other laws limit the acivities of provide extensive flexibility to each company to directors and managers? The activities of adjust voting rights to suit its own needs. First, directors should in principle be limited not only shares can be assigned different voting rights. by shareholder oversight, but also by laws on In Poland, for example, one share can have up fiduciary responsibility, conflicts of interest, to 5 votes. In the Czech Republic, Hungary, insider trading, and fraud. Yet legal principles and Romania, the total votes of certain such as these are underdeveloped in the CEE shareholders can be limited in the company countries. Furthermore, the legal provisions that statute. In this way ownership can be widely do exist are difficult to enforce in practice given dispersed yet more active and/or experienced the shortage of well-trained lawyers and judges shareholders can have greater weight in and the difficulties of obtaining evidence (due in corporate decision-making. part to underdeveloped "discovery" rules). The Second, quorum and/or majority voting rules weakness of the legal sanctions for misconduct can be adjusted to shift the powers of corporate makes corporate governance even more difficult voting blocks.' Low quorum or majority vote in this setting than in mature market economies. requirements (say 30 percent) give minority blockholders more power to push through their Contract Iaw own initiatives if other shareholders are passive; high requirements (say 70 percent) give minority The ability to contract freely with others and blockholders more power to veto the majority the assurance that contracts will be enforced are will by not "showing up" or by voting against a among the most basic requirements of a legal proposal. The Czech company law, for framework for a market economy. Freedom of example, provides a quorum rule of 30 percent contract allows resources to gravitate to their and requires a simple majority for most most valuable uses. On the other hand, freedom 10 Legal Frameworks In Emerging Market Economies of contract often conflicts with other social Post-socialist reforms. Since 1989, CEE concerns, such as protection of the labor force contract law has developed primarily by from harsh employer policies, protection of widening the scope for transactions governed by consumers from warranty disclaimers, and, more the relevant Civil Code. Although the socialist generally, protection of weaker parties from one- Civil Codes often contained extensive socialist sided contracts. Striking a proper balance phraseology and certain uniquely socialist among these various competing interests and principles, they also contained many legal imposing constraints to that end on pure freedom principles common to continental European legal of contract is a primary function of contract law systems. These Codes have been amended to in market economies. create a level playing field for all types of property (as noted earlier) and to delete many of Are there clear rules and standards governing the specifically socialist sections. Contracts exchanges of property through the market? among all types of entities have been brought within their jurisdiction, and both the special Features of socialist contract law. Three regulations and the special arbitration institutions major characteristics distinguished CEE contract associated with central planning have been law during the socialist period from that of abolished. Although all of the CEE countries Western market economies. First, socialist are making plans to replace their old Civil ideology dominated contract law. Contracts that Codes entirely, none has yet done so.' were consistent with the law but considered The most interesting changes in contract law inconsistent with the "rules of socialist co- may come in the form of re-interpretation of existence" could be nullified. Second, contracts existing doctrine. For example, contracting among private parties were treated differently under central planning officially embraced the than contracts among state enterprises. Civil principle of "freedom of contract," yet in Codes generally governed contracts in the practice there was very little freedom. Contracts limited (generally non-commercial) sphere open were set by the plan and were subject to the to private sector transactions, while contracts political needs of the state and the principle of among socialized enterprises tended to be social co-existence. Practice under a market governed by separate legislation or by system will bring new meaning to this principle. administrative orders and decrees of the Similarly, reinterpretations are likely in most government. Third, the idea of contractual areas of private interaction. freedom (though proclaimed in theory) was in The task of redrafting formal contract laws is practice subordinated to the needs of the central highly complicated and technical. Yet the plan. The plan was adopted annually and had problems associated with such a task pale in the force of law. Every other related law was comparison to the difficulties of teaching an drafted in such way that the priority of the plan entire society to think in market terms. It will over individual contracts was assured. TMere take time to change attitudes and build was even a specific category of "pre-contractual" knowledge, experience, and a body of legal disputes in which the subject matter was not the interpretation and thus create adequate certainty fulfillment or breach of contract but the very in the decentralized contracting process for a willingness of one of the parties to conclude the market to function effectively. contract. Virtually the only way for a party not to conclude such a contract was to prove that the Bankruptcy production capacity to fulfill it was not available. Contractual disputes between state Bankruptcy as practiced in market economies enterprises were resolved pursuant to a system was unknown and unneeded in centrally planned of state arbitration, not in the courts. ones. In Central and Eastern Europe, debtors 11 and creditors were generally arms of the state or group is the newly emerging private sector, ultimately supported by the state, and thus the whether enterprises or banks. For this group, inherent conflicts of interest that drive bankruptcy law is part of a wider set of legal bankruptcy proceedings did not exist. For rules-which also includes provisions defining example, state-owned banks had little incentive legally-enforceable security interests and to collect on bad debts because state guarantees methods of foreclosure-that increases the explicitly or implicitly supported such debts. potential for debt collection and thus facilitates And workers were guaranteed jobs, steady the flow of private credit in an economy. Such income, and related support systems whether or credit is essential for the success of new private not their particular firms thrived. Measures in business. lieu of bankruptcy, including financial Thus serving two "masters", bankruptcy law "rehabilitation" and "compulsory settlement" is seriously overburdened in reforming socialist (i.e. pro-rate debt reduction) were relied upon to countries. Expecting it to play a major role in keep ailing firms alive and preserve the solution of the systemic problems of employment. enterprises and banks carried over from This situation must change as the CEE socialism may be more than can be asked of a countries adopt market-based reforms. As the judicial procedure; these systemic problems may private sector grows, true conflicts of interests instead require systemic solutions outside of will emerge among debtors and various bankruptcy proper.' In most market categories of claimants, including banks, economies, in contrast, the bankruptcy process suppliers, the government (as tax collector), and works at the margin for the relatively few firms shareholders. Orderly rules of priority are that cannot make it in an otherwise healthy needed to reassure creditors and thus spur the economy. Such a role is important to the second flow of credit from new private banks to new "audience" in the CEE countries-the newly private firms. Working systems of bankruptcy emerging private sector. are needed to allow the orderly liquidation of insolvent firms, to impose discipline on How broad is the bankruptcy law? Does it enterprise managers, and to facilitate the allow for reorganization as well as liquidation? development of the financial system. The trend in the last 20 years in mature ho is bankruptcy designed to serve? market economies has been toward reorganization in lieu of liquidation. The most Bankruptcy is one of the most contentious extreme example is perhaps the United States, areas of legal reform in the CEE countries. where Chapter 11 of the Federal Bankruptcy This is in large part because of the conflict and Code gives debtors extensive powers vis-a-vis confusion between two different sets of potential creditors to design and implement reorganization "users" of bankruptcy procedures. The first is plans and thus remain as going concerns. the large group of state-owned enterprises in Germany, in contrast, uses its judicial need of restructuring or liquidation. For these bankruptcy proceedings almost exclusively for state-owned firms, bankruptcy procedures and liquidations, leaving reorganization to pre- the threat of liquidation are thought to provide bankruptcy workout procedures. Although either the means to close hopelessly inefficient reorganization is clearly preferable to liquidation firms that drain the public budget or the in some cases of insolvency (and may play a motivation to restructure those with some central role in the case of many CEE potential as a going concern. However, the enterprises), the Chapter 11 approach has been social costs of widespread liquidation of these criticized in the U.S. as slow, cumbersome, firms are often considered to be too high to let expensive, and heavily biased toward existing bankruptcy proceed unabated. The second management.30 Not only does debtor 12 Legal Frameworks In Emerging Market Economies management remain in day-to-day control and compulsory settlement but not reorganization-is formulate the reorganization proposal, but expected to be adopted in mid-1993. creditors are often fragmented and poorly represented by the representatives of the Are the rules ofpriority reasonable? creditors' committee. In practice, the great bulk (about 90 percent) of reorganization cases in the The typical order of priority in bankruptcy U.S.-especially for small and medium-sized laws in advanced market economies gives firms-end eventually in liquidation anyway. secured creditors first priority with regard to the Numerous reforms have been proposed to secured property, and then gives priority to Chapter 11, and other innovative ideas have salaries, tax and other public liens, suppliers' been put forward as alternatives to the traditional credits, and general unsecured creditors, with judicial approach." At a minimum, to the shareholders being the residual claimant. The extent reorganization is included as an option in supremacy of secured creditors is important to the CEE countries, steps should be taken to the flow of credit in the economy. In the new reduce the power of company managers and Hungarian law, these rules of priority are shifted strengthen the voice of creditors, perhaps by to place the claims of workers for salaries and imposing strict time limits and/or allowing the severance pay (considered here as liquidation submission of competing restructuring plans. costs) above that of secured creditors. This is The CEE countries are moving at different likely to dampen the incentives of secured speeds to reform bankruptcy law and practice. creditors to initiate bankruptcy, reduce the role Hungary has taken the strongest steps toward of banks in enterprise restructuring, and reform, adopting a far-reaching law with ultimately constrain the development of secured comprehensive coverage, extensive provisions credit as a financial instrument. for reorganization as well as liquidation, and strict time limits. Its courts were flooded with How onerous are the procedural barriers to over 14,000 cases in the first 12 months after bringing bankruptcy cases? the law's adoption in January 1992. Slovenia inherited a fairly traditional 1989 Yugoslav law Under current law, the procedural barriers to that provides for liquidation and compulsory creditor filing of bankruptcy cases are often settlement but not active reorganization. The enormous in CEE countries. First, the creditor application of this law was in effect suspended, must often bring a case and get a court judgment however, in mid-1992 due to the fear of that a claim exists. This can take up to several economic disruption that would result from the years. Then, the creditor must often prove that growing number of cases. The former CSFR it cannot recover in any other way, which takes also adopted a similar law in 1992 but then still more time. If this is proved, the creditor suspended its application until April 1993. Even must deposit money to cover the costs of the after the suspensions were lifted, neither bankruptcy case itself-sometimes reaching into Slovenia nor the Czech Republic had a flood of the local currency equivalent of thousands of cases as in Hungary, because their laws have dollars (which is theoretically later reimbursable fewer mandatory trigger mechanisms. Poland from any bankruptcy proceeds). It is little and Romania still depend on old, pre-war wonder under these conditions that relatively few bankruptcy legislation that emphasizes cases are brought. Lowering the procedural liquidation, with the possibility of pro-rata debt barriers to the filing of cases should be an reduction through compulsory settlement. important focus of reform. Bulgaria's first major post-socialist legislation, Decree 56, provided a rudimentary bankruptcy procedure, and a more extensive bankruptcy draft law-again providing for liquidation and 13 Are there alternatives to bankruptcy for debt the capital market is well enough developed to collection and ext? permit takeovers of poorly run but potentially viable firms, and whether conditions (including There are alternative "exit'" mechanisms to the disclosure of necessary information) are bankruptcy for existing firms in mature market conducive to such takeovers. Securities markets economies, including voluntary dissolution, are still extremely undeveloped in all CEE friendly sales, and hostile takeovers. Many countries, and it will be some time before aspects of the legal framework-including takeovers are a disciplinary force or an collateral, banking, foreclosure, and securities alternative "exit" mechanism. laws, as well as modes of corporate governance envisioned by company laws more Antimonopoly Law generally-affect the mode and timing of exit of ailing firms. As of yet, these areas of law are The CEE countries have inherited a highly as underdeveloped as that of bankruptcy in the concentrated industrial structure with many CEE context. monopolistic or oligopolistic firms. In fact, one First, the state of collateral law determines of the biggest impediments to the growth of the whether clear mechanisms exist for establishing new private sector is the dominant role of the the priority of claims on assets, and the state of public sector. Small private firms often deal foreclosure law determines whether creditors can only with public enterprises, who exert market readily foreclose on bad debts by means other power and may impose unfair or onerous than bankruptcy. Furthermore, if secured credit conditions. and foreclosure laws provide more favorable Markets require competition to function priority than bankruptcy law, they may be a efficiently, and monopolistic distortions need to preferred route of creditors. In all CEE be corrected through the pressures of countries these areas of law are undeveloped in international trade, through domestic laws that practice, and there is very little experience with limit monopoly behavior, through laws that secured lending and debt collection through force the production of information needed for foreclosure. While Civil Codes generally market players to make informed decisions, and provide that both real and movable property can through public ownership or regulation of be used as collateral, only security interests in natural monopolies. Low tariffs can themselves real property can be publicly registered. Even go a long way in promoting competition by then, land records are often out-of-date and importing world prices (adjusted for transport unreliable, and the difficulty of eviction makes costs) as an effective ceiling on domestic prices, foreclosure on residential property practically but they should be complemented by domestic impossible. laws against monopoly behavior. However, Second, banking law determines whether these newly emerging market economies should banks can own equity interests in the firms they move very carefully in applying competition law lend to; if their interest is solely as creditor, in order to avoid overzealous enforcement and they are perhaps more likely to seek foreclosure resulting bureaucratic dampening of healthy and liquidation than if they also hold an equity competition. interest (and can thus profit from preserving the All of the reforming socialist economies in firm as a going concern). The role of banks in Central and Eastern Europe have adopted or are equity ownership is still very much an open considering adopting antimonopoly laws. question in practice,32 deeply entwined in the Hungary and Poland passed laws in 1990, debate over bank and enterprise restructuring followed by the former CSFR and Bulgaria in and privatization. early 1991 and Slovenia in early 1993. Romania Third, the state of the capital market and has yet to adopt antimonopoly laws, although related securities laws helps determine whether drafts are being considered. 14 Legal Frameworks In Emerging Market Economies What behavior is forbidden by antimonopoly some time to need extensive training and legislation? continued efforts to expand dissemination of their activities and decisions in order to increase Monopoly can be defined either with visibility and facilitate public oversight. reference to market structure or with reference to specific types of conduct. In the former case, Might a narrower definition of forbidden the law typically imposes ceilings on market behavior be appropriate given scarce share, imposes break-ups on overly dominant administrative resources? firms, and regulates merger activity. In the latter case, the law tries to prevent such conduct Perhaps the biggest problem with these laws as collusive agreements, predatory pricing, price and their administration is inherent to the subject discrimination, and vertical restraints on trade. itself; even industrial countries have found it notoriously difficult to differentiate a restraint of The CEE laws generally follow U.S. and trade that reduces efficiency from a legitimate Western European models in addressing both business deal that raises efficiency in the short- behavior and structure. They all prohibit or long-run. Sophisticated economic analysis in horizontal and vertical restraints to trade (some the U.S. and Europe shows that many vertical differentiating among these better than others) restraints (such as tying of sales, resale price and the abuse of a "dominant" position (typically maintenance, refusals to deal, discriminatory defined as 30-40 percent of the relevant market), pricing) may enhance efficiency under certain and they all give central authorities the power to circumstances-typically when market structure block anticompetitive mergers. Tne Polish and is competitive and the firms imposing the Czech laws also authorize intervention to break restraints are not in a dominant position. As a up monopolistic firms, particularly in result of this economic analysis, enforcement of conjunction with the privatization process. In U.S. antitrust law has softened in the 1980s33, most cases the approach appears to be "rule of and the Department of Justice refuses to reason" (meaning the illegality of the activity is prosecute many cases it would have brought in judged on a case-by-case basis) rather than "per earlier times. The OECD is also recommending se" (meaning the activity is illegal under any that European jurisdictions relax certain circumstances), giving the authorities almost competition laws to look at each case on a "rule unlimited discretion to choose which cases to of reason" rather than a "per se" basis.' prosecute or to whom to grant exemptions in Given the difficulty of administering particular cases. antimonopoly legislation, some observers argue that CEE countries should keep their What institution is charged with enforcing interventions at a minimum, depending heavily antimonopoly legislation? on international trade to promote competition. For example, perhaps the competition offices Given the technical expertise needed for good should focus primarily on a few tasks: breaking administration of antimonopoly laws, specialized up the most egregious monopolists (particularly agencies are likely to be the preferred choice, if as they are privatized), overseeing merger their powers can be strictly limited and their activity to prevent the formation of new activities kept visible to the public. All of the monopolies, prohibiting clearly collusive CEE laws provide for special competition horizontal agreements, and intervening offices, with power of appeal of the offices' aggressively if large public firms refuse to deal decisions to the regular judiciary. The offices in with new private entrepreneurs. These offices Hungary, Poland, and the former CSFR have also have a very important role to play as an been in existence for over two years. While this advocate for competition in the economy at is a good start, the offices will continue for 15 large. In this regard they should publish all real property rights (particularly related to decisions and the reasoning behind them and restitution), intellectual property rights, and should lobby actively with policymakers to bankruptcy are increasing dramatically. promote the lowering of barriers to international Although courts were not generally involved in trade and domestic competition. economic matters during the socialist period, they do have certain strengths on which they can Judicial Institutions now draw. First, the European tradition of rule by law survives in large part, and the public Laws by themselves are only paper; the legal takes the written law seriously. Second, judges framework will "come to life" only when the are generally considered honest, and corruption legal and administrative institutions can enforce does not appear to be a major problem. Third, the laws and readily resolve the disputes that many judges from the socialist period have been they inevitably spur, and when the public replaced by new judges with a fresh perspective accepts that the laws are indeed binding. and a firm commitment to market principles. Furthermore, the laws are by necessity general On the other hand, existing judicial frameworks only. Their content needs to be institutions face many challenges in adjusting to filled in by more detailed regulations and the task at hand. Few judges have had extensive practice in individual cases. Among the biggest training or experience with the legal issues challenges now facing Central and Eastern common in private market economies. Judges Europe is that of building up the capacity of tend to have little prestige and relatively low their judicial institutions to set legal standards, pay, and many of the best ones are finding more enforce the myriad of new laws now being lucrative opportunities in the private sector. adopted, and resolve economic disputes. Modern principles and techniques of litigation are virtually nonexistent. Resources to expand What is the role and competency offormal legal and upgrade support services are scarce. As a institutions? result, the wait can be long-often several years-for a civil case to be decided, and in Formal legal institutions (whether general there is scant written documentation to which the courts or specialized legal entities) need private sector can turn to when seeking to expertise, resources, integrity, and independence discern legal norms of conduct. Legal to play an objective and professional role in uncertainty is still pervasive and will be reduced interpreting and enforcing laws and resolving only with time and experience. "Borrowing" disputes. If legal institutions are unreliable, concepts from industrialized market economies businesses may restrict activities to certain types (assisted by legal exchange programs and legal (such as current cash transactions) with certain technical assistance from abroad) could help to people (depending on personal knowledge or speed up the process. reputation) to ensure that agreements are enforceable and property rights protected. Such Wat aternative avenues exist for enforcement restrictions on the scale of activities could well and dispute resolution? dampen private sector growth. Furthermore, weak institutions will be incapable of correctly In light of the problems of the courts, interpreting and enforcing laws-such as arbitration may be an attractive and efficient constitutional, antimonopoly, or bankruptcy alternative form of resolving domestic laws-designed to protect the public interest. commercial disputes.3' Moving toward Formal legal institutions are quickly being arbitration away from litigation in effect drawn into the center of economic activity in "privatizes" dispute resolution itself, which can Central and Eastern Europe.' For example, be highly desirable when government capacity is the numbers of claims in such economic areas as severely stretched. Arbitration is already the 16 Legal Frameworks In Emerging Market Economies preferred form of international dispute system of judicial oversight to limit government resolution, because it provides participants with interference. Real property rights are being a neutral forum. Domestic arbitration is redefined, and large amounts of property are increasing in popularity in more advanced being returned to former owners or privatized to market economies, primarily because it new owners. Laws on intellectual property are circumvents problems common to national court being amended to bring their levels of protection systems. Arbitration is usually speedier than in line with that of the most advanced market litigation, not only because tribunals are set up economies. New company laws lay out modern ad hoc (thus avoiding court back-log), but also and flexible structures for companies (whether because arbitral decisions are final and not domestic or foreign), although they are subject to appeal. Arbitrators are usually well- sometimes compromised by continuing versed in commercial matters, as opposed to bureaucratic interference through other laws and judges sitting in courts of general jurisdiction. regulations. The sphere for freedom of contract Although the court systems of CEE countries is being enlarged by an expansion in the typically include an economic branch, tho applicability of existing Civil Codes (as amended judges' lack of experience in private sector to delete socialist rhetoric and principles). New disputes makes arbitration more attractive, competition laws are beginning to provide because parties can choose arbitrators with frameworks for antimonopoly protection, while specific experience with private sector disputes new bankruptcy laws are attempting to provide of various types. Yet arbitration does not at least the beginnings of a legal framework for substitute completely for a well-functioning the restructuring or liquidation of nonviable judicial system, because local judicial institutions enterprises. Judicial institutions are beginning to must still be willing and able to recognize and develop the capacity to adjudicate economic enforce arbitral awards if needed. cases, and arbitration, though still in its infancy, On the international front, arbitration has is beginning to develop as a private substitute long been relied upon in CEE joint venture for litigation. contracts, and most CEE countries are party to Yet there are major challenges ahead to at least some of the important international implement the new laws that are now on the conventions.37 On the domestic front, books. The interests of former owners of however, CEE countries are just beginning to property are clashing with those of current encourage the development of arbitration as an tenants, leading to a surge in new disputes now alternative to litigation. Their Chambers of entering the courts. The surge in cases is likely Commerce, who were often involved in to be exacerbated as claims under the new international arbitration during socialist bankruptcy and intellectual property laws and economies, are leading this effort. While still commercial codes come on stream. The courts, very new, these efforts deserve the active suffering from understaffing as well as generally support and encouragement of the international low pay and prestige, are unlikely to be able to community. handle this surge. The specialized offices handling intellectual property and antimonopoly Swmmary concerns are also facing daunting challenges adjusting to the radical changes in policy and All of the CEE countries are moving rapidly thinking now sweeping the CEE countries. to create legal frameworks conducive to private Their areas of concern are complex, and they sector development and the growth of a market will need continuing resources to train their staff economy. New or amended constitutions to understand the issues and keep up with the proclaim the new market orientation of these growing workload. All in all, it is a time of economies, provide a level playing field for all great progress, great confusion, and great forms of property ownership, and establish a challenge. 17 Endnotes 1. Essentially the same legal framework 5. Such compensation was also guaranteed in exists in Slovakia as in the Czech Republic, socialist constitutions, but was subject to the although the two could diverge significantly in higher "interests of socialism." the years ahead. 6. The most common alternative is a district- 2. This book focuses on the main areas of based "winner-take-all" system, which tends to law noted above. It does not discuss certain concentrate parliamentary power in 2 or 3 major other areas of law that are also important to the parties. See D. Mueller, supra note 4. private sector, including privatization, banking, taxation, and labor law. Privatization is 7. While agricultural land was always considered a transitional issue, whereas the considered a means of production under socialist paper seeks to address the longer-term legal law, its categorization varied in different structure. The other areas of law are omitted socialist systems. For example, the Soviet due both to space limitations and to likely Union took the position that land must be coverage in other World Bank or external exclusively under state socialist ownership. In studies. Bulgaria and Romania, agricultural land was not owned by the state but was "contributed" to 3. Although the structure of the various cooperatives, with private owners retaining only country chapters is similar, the emphasis placed nominal property rights. In Poland and on any particular topic may vary due to Yugoslavia, in contrast, private ownership of information constraints or different policy land remained the rule, not the exception. agendas in the countries concerned. 8. There were typically four main forms of 4. Government's economic role in housing ownership under socialist law: (1) State neoclassical theory is in principle limited to the rental apartments were typically allocated to provision of "public" or "merit" goods (such as families, who then had near-ownership rights of law and order, military, basic infrastructure, tenancy and inheritance but circumscribed rights basic health and education) and correction for to sublease and no right to sell (although they market failures (such as monopoly behavior) or could "trade" for units occupied by other externalities (through, for example, pollution families); (2) Employee housing was allocated control or public immunization programs). For according to the employment relationship; (3) a discussion of government's role, see World Cooperative housing units in multi-family units Bank, World Development Report 1988. There took one of two forms determined at the time of is also a case for more specific limits on the allocation: (a) tenancy, which was non-alienable, powers of government, such as constitutional non-transferable to successors (other then those limits on taxation, public spending, or public registered as living on the property), and not deficits. D. Mueller, "Choosing a Constitution subject to execution or (b) ownership, which was in East Europe: Lessons from Public Choice," alienable, transferable and subject to execution; Journal of Comparative Economics 15:2, June (4) Private housing (individual houses or 1991. apartments) was limited to a single unit for family use, i.e. personal property. Additional private units were "private property" and were heavily regulated, with the state allocating 18 Legal Frameworks In Emerging Market Economies tenants, setting rents, and determining the 16. A compulsory license allows the state to landlord/tenant relationship. issue rights of use to third parties (with compensation) if a patent has been unjustifiably 9. T. Stolojan, "Private Sector Development: unutilized or underutilized for a period of time. Romania's Case," World Bank, unpublished Compulsory licenses are well-known throughout manuscript, January 1993. the world and are allowed by the Paris Convention. The policy behind compulsory 10. Housing tenants in Slovenia are entitled to licensing is that countries granting monopoly receive 30 percent of the value of the apartment rights in intellectual property deserve something plus a housing credit of the same amount if they in return, namely, use of those inventions. vacate within 2 years. Purchasers of small Practically speaking, however, compulsory businesses in the Czech Republic acquire the licenses are often ineffective without the right to rent the premises for 3-5 years at fixed cooperation of the patentee, due to the necessary rent regardless of who might become owner, technological know-how in the possession of the after which the rental contract is subject to patentee. Furthermore, in many cases there may renegotiation. be no third party interested in obtaining a license to the patent. Thus, the compulsory license 11. There is a minor exception for land provision may not significantly reduce the patent acquired through inheritance, if there is protection. Rather, it provides the government reciprocity in the home country of the heir. with a tool to prod the holder of an unused patent when a potential licensee meets resistance 12. For example, in Bulgaria no domestic to any efforts to negotiate a licensing company with more than 50 percent fbreign arrangement. participation may own arable land, and in Poland purchases of land by majority foreign- 17. The Paris Convention is the major owned firms require the approval of the Interior international treaty protecting patents and Ministry. trademarks. The two most important rights granted by the treaty are national treatment of 13. Specific conditionality on intellectual foreigners and right of priority in registration. property is included, for example, in U.S. trade The right to national treatment obligates agreements with the former CSFR and Poland countries to treat foreigners as they would their and in EC association agreements with the own nationals under their own laws. The right former CSFR, Hungary, and Poland. of priority gives the holder of a patent or trademark one year or six months, respectively, 14. In addition to spurring invention by to file in other member countries without losing eliminating the "free rider" problem and thus priority rights over other potential claimants to increasing the economic returns to basic the invention. However, the criteria for research, another economic rationale for patent patentability is still a question of domestic law. law is to prevent socially-wasteful over- Thus, the Paris Convention would do little to investment in research. R. Posner, Tk protect patents without a domestic law that Economic Analysis of Law, Little, Brown and provided reliable substantive patent rights. The Co., Boston, 1986, pp. 36-37. Paris Convention does, however, provide a bit more substantive protection for trademarks than 15. Only one percent of existing patents are for patents by automatically protecting well- held by nationals of developing countries. known marks, apparently without requiring that OECD, Economic Arguments for Protecting the mark be registered in other member Intellectual Property Rights Effectively, Paris, countries. 1989. 19 18. The Madrid Agreement protects both more extensive property or contract rights (i.e. trademarks and service marks by allowing contingent or "collateral" rights on moveable members of signatory countries to register their property) can replace distortionary direct trademarks with the International Bureau of the controls (i.e., high minimum capital World Intellectual Property Organization requirements). (WIPO) in Geneva. The mark must first be registered in the country of origin, whose 22. C. Gray and W. Jarosz, "Foreign administration applies for registration with Investment Law in Central and Eastern Europe," WIPO. The effect of WIPO is that the World Bank, PRE Working Paper 1111, March trademark is protected in all signatory countries. 1993. Only Romania continues to require prior Upon notification of the registration of a approval, and if no ruling is issued in 30 days, trademark, national administrations may still be approval is deemed granted. authorized by national law to declare that certain trademark protection cannot be granted in that 23. Foreign firms know many ways to shift territory. Thus, like the Paris Convention, the income into and expenses out of the tax holiday Madrid Agreement depends ultimately on period, thereby effectively stretching out the tax domestic law in protecting substantive rights. holiday period and the corresponding revenue loss, often for many years. Because tax 19. The Berne Convention protects literary, authorities tend to ignore firms in holiday scientific, and artistic works. The most recent periods, they do not build up the records and revision of the Berne Convention is the Paris firm history needed to tax these firms effectively text of 1971, which extends the period of when the holidays expire. protection from 25 to 50 years. The convention traditionally includes computer software, which 24. For a more thorough discussion, see C. is the most controversial subject of international Gray and R. Hanson, "Corporate Governance in copyright protection. Under Berne, no Central and Eastern Europe: Lessons from formalities are required to protect a work in Advanced Market Economies," World Bank, other member countries. Whereas in the PRE Working Paper, forthcoming, 1993. country of origin protection may depend on registration, no central registration exists for 25. Bulgaria has a hybrid system, in that a international protection; upon creation, works joint stock company can have either a "two-tier" are protected. As with the other treaties, system (management and supervisory boards) or however, Berne allows countries to deny a more simple "one-tier" system (a board of protection of certain works through domestic directors only). Romania differs from the others legislation, even if they are covered by Berne. in that its company law does not provide for a supervisory board, although its "board of 20. All figures are based on exchange rates in administration" may delegate some of its powers late 1992. Minimum capital requirements are to a managing committee, thus in effect creating lower in Romania and Slovenia, although in the something like a U.S.-type system. latter case they will be raised under the new company law soon to be enacted. 26. An example of the importance of this flexibility can be seen in negotiations in 1991 21. Minimum capital requirements tend to be between the Polish Post Telegraph and quite high in Western Europe but low to Telephone ("PPTT") and two foreign investors nonexistent in the U.S. An alternative means to to create a joint venture to build and operate a protect creditors is to increase the availability cellular telephone system in Poland. Polish and credibility of collateral through changes in telecommunications regulations required that laws, institutions, and attitudes. In such a way PPTT maintain majority ownership of the 20 Legal Frameworks In Emerging Market Economies venture, yet the foreign partners-providers of more votes cast in the German model, but the both the capital and the technology for the votes of passive shareholders are more likely to venture-wanted to have de facto control over be cast in their best interests Most passive the decisions of the company. The parties shareholders who vote in the U.S. vote along negotiated an arrangement that (a) gave PPTT with management, even though management's 51 percent ownership of the shares in the proposal may not be compatible with the company but (b) gave the foreign investors the shareholder's interest. In the German model, right to choose a majority of the members of the passive shareholders' votes will support the supervisory and management boards and (c) custodial bank's recommendation and are more increased the threshold for the quorum and likely to be in line with shareholders' interest. majority vote needed to validate the shareholder's general meeting from 51 to 60 28. The former CSFR, however, augmented percent. the general provisions of its Civil Code with extensive provisions governing commercial 27. A comparison of the U.S. and German contracts in its new Commercial Code. systems shows the importance of proxy rules. In the U.S., incumbent managers prepare ballots 29. Poland and Slovenia are two CEE and make formal recommendations on the items countries that are designing extra-judicial work- submitted for shareholder vote. The shareholder out procedures between creditors and problem then has the opportunity to vote in person or debtors (i.e., the existing stock of loss-making through a proxy (to which the shareholder may state-owned firms). give specific voting instructions or may delegate the voting decision). If the shareholder does 30. See, for example, M. Bradley and M. nothing, that vote is never counted. Access to Rosenzweig, "The Untenable Case for Chapter shareholder lists in the U.S. tends to be 11," Yale Law Joumlrn 101:1043, 1992. controlled by incumbent managers and directors (who are required to disclose them only to 31. An interesting and more far-reaching shareholders with a "legitimate business alternative to traditional liquidation and purpose"), making it hard for dissident reorganization has been suggested in recent shareholders to lobby others to vote against literature. The alternative essentially involves incumbent's recommendations. In addition, the following steps: dissident candidates and proposers of resolutions must pay for the reproduction and mailings of (1) Upon bankruptcy filing (by the debtor their proxy ballots, whereas management's are or creditor), the debt of the company is paid for by the corporation. In contrast, immediately converted to equity and all of German rules on both proxies and custodial the company's equity is given to the senior rights give banks, in their status as custodians to creditors. shareholders, great power to recommend positions independent from those of (2) Simultaneously, a court-appointed management. Banks submit their own expert solicits bids from any party (outsiders recommendations to the shareholders for whom or insiders) to buy the firm as a going they serve as custodians. Unless those concern. These outside bids provide shareholders specify voting instructions, the important information about the going- banks are entitled to vote those shares according concern value of the company. The burden to their recommendations. Thus, in Germany the on the judicial system is kept to a minimum, vote of a passive shareholder is voted by an because much of the valuation and decision- active shareholder, whereas in the U.S. the making is in effect privatized. passive shareholder's vote is lost. Not only are 21 (3) Once the bids are received, the next 35. In the CEE countries these typically junior class of creditors can elect to buy the include the court system (with three levels of equity held by the senior creditors and pay courts-local courts, regional courts, and a off their debts. Then the next junior class Supreme Court) and specialized agencies set up has the same right (to take the equity and pay to enforce certain laws, such as antimonopoly off the two more senior classes), and on laws or laws on intellectual property. down the line through all classes. Finally, the company's original shareholders (before 36. When discussing arbitration in CEE step 1) have the option of taking the equity countries, it is important not to confuse ad hoc and paying off all creditors. This step #3 is arbitration with state economic arbitration, the essentially a way for each class of creditors administrative mechanism by which disputes to evaluate, given the bids received from between state-owned enterprises were resolved inside and outside, how much they think the during socialist times. This form of arbitration company is actually worth as a going was centralized in state arbitration committees concern. If the company does not have that served both judicial and administrative enough worth even to pay off senior functions. In their judicial capacity, they settled creditors, no junior creditors will get individual disputes. In their administrative anything in any case. Whoever ends up capacity, they worked on the source of the owning the equity (whether the senior dispute in an effort to ensure fulfillment of the creditors or claimants of lower priority who state economic plan. pay off those above) can decide what to do with its equity-sell it to one of the bidders, 37. The following are among the important liquidate the company, or keep and try to international conventions on arbitration: restructure it. Through this scheme, creditors and debtor management are put on (1) 1923 Geneva Protocol on Arbitration a more equal footing that in a Chapter 11- allows parties to submit claims against type system, and each creditor is free to foreign parties to arbitration in other evaluate the situation as it sees fit. See P. signatory countries. Aghion, 0. Hart and J. Moore, "The Economics of Bankruptcy Reform," paper (2) 1958 New York Convention on the presented at NBER conference, February Recognition and Enforcement of Foreign 1992. Arbitral Awards ensures the cooperation of all signatory countries in recognizing and 32. Legal frameworks in most CEE countries enforcing arbitral awards granted in other follow the German model of universal banking, signatory countries. allowing banks to own equity interests in firms. This model is essentially untested in practice, (3) 1961 Geneva European Convention on however, in these settings. International Commercial Arbitration lays out general guidelines on arbitration in Europe. 33. See. e.g., J. Kwoka and L.J. White, ed., The Antitrust Revolution, 1989. (4) The Convention on the Settlement of Investment Disputes between States and 34. Opponents of the rule of reason approach Nationals of Other States (1965) guarantees argue that businesses need certainty above all, a forum to resolve disputes between one and that the rule of reason approach leaves too Contracting State (or one of its subdivisions much uncertainty as to what is permitted and or agencies) and a national of another what is not, and therefore inhibits business Contracting State. Parties must have activity. 22 Legal Frameworks In Emerging Market Economies consented to ICSID's jurisdiction before the dispute in order to be heard there. (5) A number of bilateral investment protection treaties also provide for arbitration. 23 BULGARIA Bulgaria has made impressive strides since property as "individual property," a category 1990 to enact laws designed to support a market reserved primarily for residential real estate. economy. There is, however, still a long way to Extensive nationalization began in 1948. The go in formulating a comprehensive legal collectivization of agricultural land into framework and in creating and reorienting the cooperatives, completed in the early 1950s, legal institutions needed to implement it. As in concluded the process of transformation of the the other countries of Central and Eastern Bulgarian economy into a centrally planned and Europe, defining real property rights and bureaucratically regulated system. creating the conditions for free and fair In 1966, the 9th Congress of the Bulgarian competition are perhaps the most contentious Communist Party decided to draft a new and confused legal areas. Furthermore, constitution to transform the state from "a State privatization, although not discussed in detail in of proletarian dictatorship" into an "all-people's this book, is proceeding slower in Bulgaria than State." This resulted in the constitution of in most other CEE countries. Other areas of 1971-the constitution of "mature socialism." law, including intellectual property, company, According to Article 5, "national sovereignty, foreign investment, and contract law, are less unity of power, democratic centralism, socialist problematic. democracy, legality and socialist internationalism" were the main principles of Constitutional Law Bulgaria's political system.3 The constitution consolidated the role of the Communist Party as 7he Historical Seting the guiding force in society. Although adopting some seemingly democratic provisions, the The first Bulgarian constitution (known as the document further centralized state power. It Turnovo Constitution) was adopted by the established a new body, the State Council, Constituent Assembly of Bulgaria in the old designed to be a permanent collective head of capital Turnovo in 1879.1 Although it state. Although not mandated by law, the State established a constitutional monarchy, it Council was in fact presided over by the contained many democratic principles and Secretary General of the Communist Party. The contributed to the creation of parliamentary forty members were elected by the National institutions in the country. Private property, Assembly and were members of the Assembly as universal male suffrage, and separation of well. The Council had broad legislative powers powers were elaborated as basic principles. The and could issue decrees when the Assembly was constitution failed, however, to provide strong not in session-some 350 days a year! Such checks against authoritarian tendencies and was decrees, when endorsed by the Parliament, held suspended twice (in 1881-1883 and in 1934- the power of law. In this way the legislative 1938) and finally replaced by the first socialist process was "streamlined"; in fact, the constitution in 1947. legislative power of the National Assembly was The socialist constitution of 1947 created the reduced to rubber-stamping and virtually legal base for the transformation of Bulgaria into transferred to the State Council. The economic a one-party state with a centrally planned system continued to be based on the public economy.' It granted public property extensive ownership of the means of production, with the protection and imposed limitations on private aim of preventing the "exploitation of one property. Several laws adopted pursuant to the human being by another" and of developing the constitution reclassified remaining private economy in a planned manner (Article 13). 24 Bulgaria The New Constitution enterprise4 and that domestic and foreign investment are to receive equivalent treatment. The constitution of 1971 was amended The law is obliged to prevent unfair competition several times in 1990 and finally replaced in and the abuse of monopoly power. July 1991 after the ouster of the communist Article 21(1) declares land to be a basic part regime. The present Bulgarian constitution of national wealth that will receive special represents a radical departure from its socialist protection from the state and society. Arable predecessors. Most socialist phraseology is land can be used only for agricultural purposes, gone, replaced by democratically-oriented legal with conversion to nonagricultural uses only on principles and values. In general the new an exceptional basis and as strictly regulated by constitution provides reasonable protection for law. Foreigners may not own land except the property and economic rights of individuals through inheritance (in which case the property and creates a favorable legal basis for the must be subsequently transferred to Bulgarian development of the private sector for the first nationals) (Article 22).5 As noted in Chapter time since the end of the World War H. 1, this provision could deter foreign involvement The constitution contains 169 Articles in the economy if it limits the ability of foreign organized in ten chapters: lenders to take security interests in real property. The power to tax is more strictly limited in I. General Principles; the new constitution than in the old one. Article ll. Fundamental Rights and Obligations of 60 obliges all citizens to pay taxes and other fees the Citizens; as established by law (and only by law). Article III. National Assembly; 84(3) then states that "the National Assembly IV. President of the Republic; establishes the taxes and tax rates." This is an V. Council of Ministers; important guarantee against the liberal VI. Judicial Power; interpretation of similar provisions of the former VII. Local Autonomy (Self-government) and constitution, under which the Council of Local Administration; Ministers was authorized to grant tax exemptions VIII. Constitutional Court; and in some cases to set tax rates. IX. Changes and Amendments of the Although reduced in scope from those in the Constitution. Adoption of New socialist constitution, the new constitution Constitution; and continues to provide certain social guarantees, X. Coat of Arms, Seal, Flag, Anthem and including free elementary and secondary Capital. education (only in public schools) and free medical care (Articles 52 and 53).6 Under Chapters I and 2 define the rights and certain conditions (to be elaborated in a later obligations of citizens. The enumerated human law) university education may also be free.' rights are those accepted by most democratic Although desirable from society's standpoint, societies-including equality before the law, these guarantees may prove expensive. On guaranty against arbitrary arrest and economic grounds, a good case can be made for imprisonment, and freedom of expression, some user charges, particularly for curative religion, association, and movement. Private health care and higher education, with targeted property rights are guaranteed, and private subsidies for low-income families. property is declared inviolable (Article 17). It With regard to the structure of the public may be nationalized only for state and municipal sector, the old idea of unitary and indivisible needs, only if those needs cannot be met in any power has been abandoned. Returning to the other way, and only with prior and equivalent pre-war tradition, a balance of power among the compensation. Article 19 states that the unicameral Parliament (or "National economy of Bulgaria is based on free Assembly"), the executive branch (or 25 "Government"), and the judiciary is re- responsible for the implementation of the budget established as a basic principle of the and for the management of State property. It constitution. Nevertheless, the structure of the has the right to issue decrees (Ordinances- public sector is similar to that under the last rnocTaHoBJeHHq), executive orders version of the former constitution, with the (pa3niopeK2aHHu) and decisions exception of the judicial sector, which will be (pelueHHs), based on authority delegated by radically restructured. law. In the past the Council of Ministers used The National Assembly has one chamber with this delegated legislative power extensively due 240 representatives elected on a proportional to the generality of many laws. A constant basis. Although this structure is similar on stream of decrees, often at odds with law and paper to that of the previous socialist Assembly, sometimes unpublished, created a very uncertain the role of the new parliament is very different. legal environment. The Government still issues During socialist times, the Assembly met only many decrees and regulations, butthe underlying twice a year for several days, essentially to laws tend to have more substance (thus better rubber-stamp the numerous decrees of the confining the scope of decree making authority), former State Council or laws prepared under the and regular publication is the norm. supervision of high-ranking officials of the As in other reforming socialist economies, the Communist Party. In contrast, the new role of local authorities in designing and Assembly is a full-time institution designed to implementing local policy is expanding rapidly have final authority over lawmaking. Bills can in Bulgaria. Formerly the municipalities were be introduced by the Government or by any of subordinated to the government and under the the 240 members of the National Assembly.! strong influence of local committees of the To become law, a bill must be approved by a Communist Party. Their property rights were simple majority of those present in the National unclear. Although sometimes charged with Assembly (with a required quorum of a least administering state property, they rarely owned 120) and signed by the President.9 The property in their own name. Under the National Assembly must also authorize all constitution, municipalities are for the first time contracts for public borrowings (Article 84) and supposed to have clearly defined property rights ratify all international agreements that include and their own budgets. financial obligations for the State (Article 85). The new constitution radically restructures the The functions of the President (an office judiciary. While repeating previous provisions introduced in March 1990) are primarily regarding judicial independence," it adds some representative in nature. The President is Head important new guarantees, including life tenure of State. After consulting with parliamentary (after 3 years in office) and the same immunities groups, he proposes as candidate for prime- accorded a member of the Parliament. Judges minister the person designated by the biggest are by the Supreme Judicial Council (Article parliamentary group (Article 99).1o The 130), which will consist of 25 members, of National Assembly elects the Prime Minister which 22 will be elected (11 by the National and, upon his proposal, the ministers, the Assembly and 11 by the judicial authorities) and President of the National Bank, and the heads of 3-the Chairman of the Supreme Cassation other public institutions. The President also Court, the Chairman of the Supreme calls general elections for the National Assembly Administrative Court and the Attorney and local authorities and sets up the dates for General-will be members by law. referenda called by the Assembly. The role of judicial institutions is further The Council of Ministers has executive power strengthened by the formation of a new in Bulgaria. It is responsible for public order Constitutional Court, whose roles are to rule and national security, public administration, and (upon request) on the constitutionality of new foreign policy (Article 105). It is also laws,'2 to provide binding interpretations of the 26 Bulgaria constitution, and to rule on the constitutionality basic civil law concepts common to European of international agreements and their consistency capitalist systems of the period. with previous agreements. The Court has 12 After World War II, Bulgaria moved quickly members, one-third elected by the National to strict central planning and control, Assembly, one third appointed by the President, and-unlike Yugoslavia, Poland, or Hungary-it and one-third elected by the general meeting of remained tightly centralized throughout the the judges of the Supreme Court. Members socialist period. In addition to adopting a new have single 9-year terms, with one-third replaced socialist constitution (with extensive provisions every three years. Cases can be brought upon on property), the pre-war laws on property and request of 1/5 of the members of the Parliament, obligations were explicitly abrogated in 1951 the President, the Council of Ministers, the and replaced by socialist legislation in line with Supreme Cassation Court, the Supreme Marxist doctrine. The 1951 Property Act Administrative Court," or the Attorney replaced the pre-war version in defining property General. The powers of the Court may be rights and relations of individuals. Although changed only with an amendment of the maintaining many civil law concepts, it also constitution. Although this is a very new added certain new principles and provisions to institution for Bulgaria, it could grow-as it has, fit the needs of a socialist state. for example, in Hungary-to be a decisive check As noted in Chapter 1, one of the unique on the power of the executive and legislative features of socialist property law was its concept branches of government. of hierarchy of property based on ownership. The two socialist constitutions of 1949 and 1971 Rights to Real Property defined the three main categories of ownership. "Social" ownership-ownership by all the people The reform of property rights is the most in theory, by the state in practice-was the complicated legal challenge in Bulgaria. The highest category of ownership and received country faces problems similar to those in other special protection. Such property included CEE countries emerging from socialism. virtually all urban industrial and commercial Marxist attitudes towards property, which property,1' mineral resources, and public shaped the entire economic system of every utilities. Although in theory regulated by law, socialist state, were profoundly different from it tended to be managed in practice through those of market economies. Reversing these decisions of the Council of Ministers. Because attitudes and the laws and institutions that this kind of property was excluded from embody them is a sine qua non for private sector individual transactions under the constitution, it development. was not covered by the provisions of the 1951 Property Act. Defining Basic Ownership Rights The other two forms of property were "cooperative" and "individual" property. Unlike other CEE countries, Bulgaria did not Cooperative property included most agricultural have a comprehensive unified Civil Code land and was governed by the law on governing both property and contract relations cooperatives. "Individual" real property was among private individuals in the decades prior to limited to one residence and one vacation house the socialist period. Rather, individual property per household (but not a separate rental house, rights were governed by the Property Act, and which was considered a means of production). contracts were governed by the Law on Individual property rights and transfers were Obligations. Both were based loosely on governed during the socialist period by the 1951 German civil law, and thus both embodied the Law on Property." Because of the superiority of social property, the two socialist constitutions provided 27 practically unrestricted rights to the State to As noted in Chapter 1, ownership of social expropriate individual property. In urban areas property was indeterminate during the socialist these right was widely used. All industrial period. Neither local governments nor state- property and much residential property was owned enterprises ("SOEs") owned the property nationalized pursuant to the nationalization laws they used, managed, or transferred; rather they of 1947 and 1948, and small private plots of had the ownership-like right of 'operational land were gradually expropriated to secure the management." State-owned enterprises that land needed for large-scale residential and public "operationally managed" property could in some construction (and very often also for the needs cases lease it but could never sell it. The of the Communist Party and other public relevant overseeing ministries had ultimate organizations). Although the state kept firm decision-making authority with regard to such control of commercial property, almost all property. Municipalities had somewhat more residential property nationalized or later built by indendent authority than SOEs. Under the the state was sold to tenants at low prices in the Property Act, the chairman of the local 1950s and 1960s. municipal council could transfer state-owned The Bulgarians moved quickly in 1990 and residential property within municipal boundaries 1991 to change the basic legal concepts to individualse6 (at prices fixed by the Council underlying property ownership. The hierarchy of Ministers17). of property was eliminated with the amendment Ownership of SOE property became a major of the old constitution in 1990 and the adoption issue in 1990 as Bulgaria began its economic of the new constitution in 1991. As noted transition in earnest. The 1990 amendments to earlier, the new constitution grants full and equal the 1970 Constitution removed the prohibition protection to all property regardless of against individual ownership of commercial ownership, and it forbids expropriation except property, and Decree 56 (discussed in greater for carefully-defined public purposes and with detail below) for the first time permitted SOE's full and adequate compensation. The Property to enter into joint ventures with private partners. Act was also amended in 1990 to eliminate some For a brief period in 1990 and early 1991, some of the socialist overlay added in 1951. It now Bulgarian's thought that SOE's would be able on refers to private property and state property, their own initiative to transfer real property to rather then individual and social property. The the private sector, in particular to contribute real law reflects the basic civil law framework of its property to a joint venture. However, the Law pre-war predecessor and is thus generally on the Formation of State Property Sole adequate to govern property rights and relations Proprietorship Companies of June 27, 1991 in the private sector. It does not adequately essentially barred such transfers of property by address, however, the entire panoply of difficult SOEs. The law gave the Council of Ministers problems relating to state-owned property. all rights as sole owner of the SOE (as defined under the Commercial Law), including control Eliminating the Monopoly of State Ownership over all real property. Although this clarification of ownership rights was an A major challenge in developing a market important first step in managed privatization," economy in Bulgaria is to eliminate the virtual it clearly slowed down the development of a monopoly of the state over commercial property private real estate market just as it slowed the that existed during the socialist period. This privatization process more generally). entails both privatizing commercial property (or At present all parties accept the basic "reprivatizing" it to previous owners) and principle that the Council of Ministers controls developing an active rental market in property real property attached to SOEs, while municipal still held by the state. governments have the power to transfer other property within municipal boundaries. This 28 Bulgaria means, for example, that private entrepreneurs expropriated for development purposes by the seeking leases of commercial space generally state, provided that the property (if a building) know with whom they must negotiate. still exists or (if a plot of land) is suitable for However, there is still considerable uncertainty single home construction. about the exact powers of municipalities with Restitution of large, industrial properties is respect to the property they control-including not as big an issue in Bulgaria as it is in East what property they actually own (rather than just Germany or the former CSFR, for example, administer) and who sets sale prices and is because Bulgaria's economy was primarily entitled to sale proceeds. These issues are now agrarian before World War II. Although no law being debated and negotiated in the political has yet been passed, the intention of the arena. Bulgarians is to treat those industrial properties that were nationalized the same as urban Restitution. The issue of restitution of property, in essence returning them to former previously-nationalized property is the subject of owners (either legal persons, if they still intense debate in Bulgaria, as in all other CEE exist,"' or their former partners or countries. In December, 1991, Parliament took shareholders). Such solution, however, may a first, limited move by passing a law providing make little sense given the enormous changes for the restitution of certain small shops and that are likely to have occurred in the business other business premises. Specifically, under this over the past 40 years. Some kind of monetary law former owners can reclaim all business compensation would perhaps be more premises bought by the State at artificially low reasonable. prices pursuant to Ordinance #60 (1975) of the Because of its traditionally heavy reliance on Council of Ministers. Because the number of agriculture, land was always considered the most such properties is relatively small, this law has important means of production in Bulgaria. not caused extensive uncertainty and disruption Land was never extensively nationalized as it in property markets. was in the Soviet Union, although large farms Restitution of residential property nationalized were confiscated in 1946-47, broken up into after the war is more difficult, because most smaller plots, and returned to the peasants. such property was subsequently sold to new Rather than set up state farms, the state tenants in the 1950s and 1960s. Former owners pressured farmers to contribute their land to of residential property that remained unchanged cooperative' farms, and they gradually lost and in state hands can claim restitution under the contact with the property. Massive migration to Restitution of Nationalized Real Property Law, the cities resulted in further loss of attachment to passed by the Parliament on February 5, 1992. the land. Though many former owners Former owners whose property was preserved their titles to land, the registration subsequently sold to private parties or changed system lost its importance and fell into disuse. in other ways are entitled to alternative Former land owners in every CEE country compensation, supposedly to be specified in a have been pressing the state for restitution of later law. agricultural land, and Bulgaria is no exception. Another restitution law was also passed on On March 4, 1991, the General Assembly February 5th, 1992-the law for "Restitution of passed the Ownership and Use of Farm Land Property Rights over Property Alienated Act. The law seeks to return land to those Pursuant to the Urban Regulation Law, the farmers (or their heirs) who owned it just after Planned Urban Construction Law, the Urban the post-war agrarian reform. Farmers who Development Law, the State-Owned Real Estate never owned land before are also eligible to Law, and the Property Law." Its purpose is to receive it. Each household is limited to 20 return to former owners real property that was hectares (approximately 50 acres), or 30 hectares (approximately 75 acres) in certain areas of 29 "intensive land use."21 In an attempt to prevent serious incentive, transfers of state-owned land speculation, the law originally prohibited property were not always recorded. As noted recipients from transferring their plots again for earlier, registration is in particular disarray in three years, although this prohibition was rural areas, where state-controlled cooperatives recently lifted. The restitution is to be carried were often merged and reorganized during the out by the National Land Board and 269 local socialist period. As land and buildings are land boards. The period for submission of privatized, incentives should reemerge for claims was one year from the passage of the careful registration of ownership in both urban law, later extended to 15 months. By the end of and rural areas. January 1992, some 512,000 claims had been submitted. Mortgage Lending. Mortgage lending has The land boards have faced many problems to long been common in Bulgaria.' Lending date in implementing the law. Proving former conditions under socialism were not, however, ownership can often be difficult, particularly for those likely to prevail under capitalism, and the former owners who have lost old titles. Because transition to a new system will be difficult. of the mergers of cooperatives (especially after During the socialist period, housing was 1971) and the neglected registration system, relatively inexpensive due to controlled prices borders of rural property are often unclear. The and subsidized interest rates, and the debt process of issuing legal titles has also been very burden of mortgages was therefore relatively slow. By April 1, 1993, some 1.07 million easy for families to bear. Furthermore, because hectares (23 percent of total arable land) had both banks and employers were state-owned been restituted, but legal titles had been issued companies, banks could readily garnish wages to for only one-half of that land. satisfy overdue mortgage payments or, as a last There is also concern for agricultural resort, could expect to be subsidized by central efficiency, especially in the case of crops that authorities if nonpayments cut into bank profits. cannot be grown efficiently on small plots. Eviction was possible but rare, both because of Rather than try to preserve large farming units, these alternative avenues for bank collection and however, Bulgarian policy makers are depending because of the paternalistic attitude of the state. on the voluntary re-creation of cooperatives in To evict an owner, a bank would had to follow the old Bulgarian tradition but in a form that is long drawn-out procedures, and the state acceptable to the new private farmers now generally had to find alternative housing.' emerging. It appears that the overwhelming Homelessness was not a socially-acceptable majority of new owners (some 90 percent) in outcome. some form intend to participate in agricultural A private market economy has very different cooperatives. features from that described above. Market- determined housing costs are likely to be much Revising the Regulatory Framework higher, creating more of a burden on households and thus greater likelihood of default. Private Land registration. The system for registering banks will not be readily able to garnish wages individual real property was never interrupted (particularly wages paid by private employers) to during the socialist period and continues to work satisfy debts, and they will not be able to count quite well. There was, and still is, a strong on state bail-outs on bad debts. Foreclosure on personal interest in recording all transactions the property-and thus the possibility of dealing with private property (mainly residential eviction-will become a necessity if truly private buildings), and the system-computerized in the mortgage lending is to emerge. This will clearly mid- 1980s-is relatively efficient and accurate in take a major change in attitude as well as a this private sphere. However, due to lack of 30 Bulgaria rethinking of the legal framework for eviction within state-owned enterprises-were given and foreclosure. credit for their inventions in the form of "authorship certificates," which were one-time Land use. As described in Chapter 1, cash awards calculated generally as a percentage Bulgaria followed the general socialist pattern of of the "economic effect", or savings achieved by static land use planning and large-panel the design or a percentage of the net return on construction methods that resulted in a highly the invention.' These awards were typically inefficient pattern of urban land use. Clusters of quite small, providing little incentive for high-rise residential units were built outside the inventive behavior. Patents could in principle be urban core, resulting in high infrastructure and obtained by the socialist organization with whom transport costs. In the absence of market the inventor worked, but in practice domestic signals, good agricultural land was often put to patents were rare.2' Patents could also be industrial use rather than utilize lower-quality obtained to protect Bulgarian inventions land within a municipality. The development of abroad,' even if only an "authorship a private market in land and buildings will certificate" had been issued in the country. slowly help to correct these inefficiencies in land Foreigners have always been able to register use, if accompanied by more dynamic and patents in Bulgaria, which signed the Paris generally less restrictive zoning rules. The large Convention in 1923. fines now applied on the conversion of This 1968 patent law was still in force until agricultural land to other uses (adopted in lieu of early 1993, although many of its provisions were market forces) should be phased out as market no longer used. The existing framework clearly mechanisms and complementary zoning needs adjustmnent to fit the needs of a private regulations develop. market economy. A new Patent Law that provides patent protection similar to that in Rights to Intellectual Property industrialized countries was passed by the National Assembly in March, 1993. Bulgaria is moving steadily to adopt western- Enforcement and dispute resolution procedures style intellectual property laws. An important must also be developed for any new law to have recent development in Bulgaria is the signing of a meaningful effect in practice. There is the Trade Agreement with the United States, virtually no experience with the enforcement of which obliges Bulgaria to enact the modern private patents, which will be the major legislation with full protection of intellectual challenge of Bulgaria's intellectual property property. regime as it moves to a market economy. Patents Trademarks During the socialist period, patent law had Bulgarian trademarks and industrial designs little meaning in Bulgaria's domestic economy. are protected by the Law on Trade Marks and State control over the economy was pervasive, Industrial Designs of 1967. The law is also one and inventors worked within the state apparatus. of the first in Central and Eastern Europe to The basic framework for patent rights was protect appellations of origin, which is important provided by the Law on Inventions and for many Bulgarian agricultural products, Innovations of October 18, 1968. This law was especially the quality wines. Under the law, firmly based on socialist principles and was thus trademark protection lasts for 10 years and is strongly oriented towards the protection of the renewable (Article 19). The right of exclusive rights of the state. For a large category of use of an industrial design lasts for five years products,2' inventors-generally employees (Article 29). Trademarks are protected upon registration at the Institute of Inventions and 31 Innovations. Limited protection is also available little action is being taken despite the existence for non-registered trade marks with common and of the appropriate provisions in the Criminal long standing usage. If someone else tries to Code. Very few lawyers specialize in protection register the same or essentially similar mark, the of intellectual property outside of the few state prior user may apply for registration of the mark institutions active predominately in the within three months. The trademark law does protection of copyrights. Enforcement will not appear to need major overhaul. On the emerge as a critical issue as the private sector international front, Bulgaria is signatory to the and foreign investment grow. most current text of the Madrid Agreement Concerning the International Registration of Company Law Marks (Stockholm, 1967). Historical Background Copyright The first Bulgarian company law was the The Copyright Law is one of the oldest Commercial Law of May 29, 1897. It was Bulgarian laws in force. It covers works of based on German Commercial Law but also literature, science and art that are the product of borrowed from other continental legal systems. creative activity and are published or expressed It was amended several times before 1946, and in any form. Protection does not depend on related laws were passed-including the Law on "aesthetic content" or originality.2' This wide Limited Liability Companies (1929), the Law on definition makes the law potentially applicable to the Cooperatives (1907), and the Law on the certain commercial products, includingcomputer Stock Exchange (1912 and 1928). software. Protection grants the owner the right In 1951 all commercial laws in Bulgaria were of public recognition (Article 3), the right to abolished and replaced by a legal system publish the work and to authorize the translation designed to meet the needs of a centrally and publication in other languages (Article 4). planned economy. For the next four decades, Protection lasts for the life of the author and for the activity of Bulgarian enterprises was fifty years after his or her death. The copyright regulated through constantly changing (and passes to the heirs by law, or to heirs designated sometimes contradictory) decrees of the Council by the will of the author. If there are no heirs of Ministers. Market-oriented company law left, the copyright passes to the State (Article ceased to be taught at the only law school in 18). On the international front, Bulgaria is a Bulgaria-the University of Sofia. Only a few signatory to the Berne Convention (Paris text of Bulgarian lawyers maintained exposure to 1971), which protects literary, scientific, and market-oriented company principles while artistic works for 50 years. working for foreign trade companies or the few Enforcement capacity is an issue in all of the companies with Bulgarian participation areas of intellectual property law discussed registered abroad. A few joint-stock companies above. Although a registration procedure exists, continued to be formed by decree of the Council can a holder of intellectual property rights of Ministers, but in practice they operated like actually protect these rights if another person other state-owned enterprises. Several infringes them? The enforcement capacity of the companies with foreign participation were existing Bulgarian agencies varies for the formed under State Council decree 535/1980, different areas of intellectual property. While but their activity was limited. copyright has been successfully protected for The State Council's issuance of Decree 56 in some time, the lack of experience in dealing January 1989 was a watershed event in with patent or trademark protection over the last Bulgaria's transition to a market economy, even 40 years makes those areas more problematic. though at the time it was issued the move to a Trademark infringements are growing daily, but market economy was not a clearly-defined goal. 32 Bulgaria Decree 56 represented Bulgaria's first attempt to The new Bulgarian Commercial Law was the restructure and decentralize the management of first post-war law drafted by a team of Bulgarian state enterprises,2' as well as its first move to lawyers in line with prewar legal tradition, and allow private investment in commercial in general it is fully satisfactory for the needs of activities. Decree 56 re-established most forms a market economy. While following in general of companies that existed in the prewar the pre-war law, an attempt was made to Commercial Law, including the joint stock introduce post-war company law concepts from company, the limited liability company, and the western Europe. These concepts aim primarily "unlimited liability firm" (similar to a limited for flexibility-for example, flexibility in partnership).0 State-owned firms were establishing managing bodies, in assigning supposed to reorganize into joint stock or limited voting rights, and in converting bonds into liability companies. Private and foreign shares in joint-stock companies. Most investment could be structured as of these more provisions concerning Articles of Association are formal entities or more informally as optional and may be changed by the partners. "individual", "collective", or "partnership" At the same time, care is taken to protect "firms of citizens". Of these only the various interests, especially small investors and partnership firm of citizens was a registered and creditors. taxable legal entity. The individual firm was The law recognizes the five types of essentially a sole proprietorship and the companies that are common in European civil collective firm was essentially a "pass-through" law jurisdictions. The joint-stock company general partnership. The first version of the (JSC) resembles the French SA, the German Decree restricted the rights of private companies AG, and the Anglo-American public to participate in foreign trade or to hire workers, corporation. The limited liability company but these restrictions were subsequently (LLC) is similar to the French SARL and the removed. German GmBH, and to some extent to the Decree 56 succeeded in decentralizing some private (closed) corporation under Anglo- decision making within state enterprises and in American law. These two are the investment stimulating the beginnings of private vehicles most likely to be used by the majority entrepreneurship in the economy. It was of medium and large investors. In addition, accompanied by other reforms to the same end, limited partnerships (equivalent to the German including a reduction in central price controls "Kommanditengeselschaft" or the French and revisions in tax and accounting rules. "societe commandite") or partnerships limited by However, it had many shortcomings. First, its shares ("societe commandite par accion" or "KG philosophy was somewhat schizophrenic, in that mit Actionen") may be formed for specific it attempted to combine continuing state control purposes as described below. Small businesses with economic liberalization and private may operate through general partnerships. entrepreneurship.3" Second, it was too broad Another law, the Law on Obligations and and thus too general, designed as a Contracts, provides the traditional form of the comprehensive business code and thus covering civil partnership, which has no legal personality. not only company formation and liquidation but also taxation, bankruptcy, foreign investment, Characterisncs of a Joint-Stock Company and even currency regulation and social security. A document of 126 Articles and about 30 pages Capital and share requirements. At least two was clearly too short and too general to cover founders are necessary to set up a JSC (or one if these complex areas adequately. Subsequent the State is a founder) (Articles 61, 63, 159). implementing regulations issued by the Council Capital requirements are high relative to those in of Ministers also failed to clarify outstanding other CEE countries. Minimal capital of BGL issues. 33 (Bulgarian Lev) I million (about $40,000) is rights form a separate class, and restrictions of required, or 5 million (approximately $200,000) the rights of such class may only be taken with if raised by public offering.' This may the consent of the meeting of this class of include the value of in-kind contributions, as shareholders (with at least 50 percent of the evaluated by three experts appointed by the shares represented and at least three-fourths Court upon request of the founders and consent of those represented). contributors (Article 72).3 The entire capital of the company must be subscribed, but only Corporate governance. The system of 25 % must be contributed prior to the registration corporate governance is similarly very flexible, (Article 174). Capital can be increased by allowing either one-tier (Board of Directors issuing new shares, by appreciation of the only) or two-tier (Board of Directors and nominal value of shares already issued, by Supervisory Board) systems.' The former is conversion of convertible bonds into shares likely to be more appropriate for companies with (Article 192), or by partial capitalization of fewer shareholders who can readily oversee profits upon a decision of the general meeting of management, while the latter may be preferable shareholders (Article 197). Bonds (including for companies with a larger number of convertible bonds if so provided by the Articles shareholders. In the latter case the supervisory of Association) may be issued, but their value board in supposed to provide an additional check may not exceed 50 percent of deposited capital. on management without being involved directly Reporting requirements are designed to in management decisions. promote transparency and the flow of information to shareholders and creditors. Characterisics of aLimited Liability Company Financial data on the company must be included in the Articles of Association and made available The limited liability company is an to the court prior to registration. They must intermediate form, designed to avoid the also be entered in the Commercial Register and cumbersome procedures and public disclosure published (Article 174). Raising capital through requirements of a joint-stock company and the public subscription requires a detailed unlimited joint and several liability of the prospectus. partners in a general partnership. It was The law provides great flexibility in assigning introduced for the first time in Bulgaria in 1924 shareholders' rights. Both registered and bearer and was popular among small and medium-sized shares are allowed and may be exchanged for companies during the prewar period because it one another. Shares are transferable, but the provided flexibility while reinforcing strong articles of association may impose conditions on personal contacts between the partners. The the transfer of registered shares besides the entry number of limited liability companies already into the share register (Article 185). formed under the new Commercial Law suggests Shareholders are entitled to dividends and that it will again be a very popular company liquidation proceeds in proportion to their capital form. contributions. Interest bearing shares are not The limited liability company can be formed allowed. A share entitles the shareholder to one by one or more persons (Article 113). There is vote in the appropriate meetings (Article 181), no maximum number of partners as in some although shares with special voting rights can be other countries. Minimum capital of BGL issued if so provided by the Articles of 50,000 (about US$2,000) is required. Rules are Association. Preferred shares entitled to very flexible. The partners are free to negotiate guaranteed or additional dividends or liquidation the distribution of voting rights and profits, the proceed are also allowed (Article 182). The quorum needed for the general meeting, and the Articles of Association may provide that such majority vote required for particular decisions. shares will be non-voting.3' Shares with equal 34 Bulgaria The share of the partner in the company is Setting up a Company proportional to his contribution, but this provision can also be changed (Article 127). At Establishing a company in relatively easy in the moment of registration only 70 percent of Bulgaria from a legal and administrative the capital must be effectively contributed, with perspective. Prior to registration, the founders some partners contributing as little as one-third of a company must draft the Articles of (Article 119). While not reducing the liability Association, the first general meeting of of partners in the longer-run, this flexibility can shareholders must approve the Articles, the relieve financial pressure in the short term. The management must be appointed, and the minimal articles of association can then establish under capital contribution must be made. The Articles what conditions the capital of the company will of a JSC or LLC need not be approved by a be called up (Article 115 para 4). notary as in many other European countries, Shares are freely transferable among partners. although partnership deeds require notarial However, transfers to third persons are approval. The founders then apply to the conditional on approval at the general meeting. relevant district court for approval of the Such limitation on outside transfer, designed to Articles and for registration in the Commercial preserve strong personal links among the Register. This generally takes less than a week partners, is one of the basic features of the if all documents are drafted properly. The European LLC. The number of the partners in company is deemed incorporated as of the day it the company is not limited. is entered in the Register. Upon approval by the court, the decision must be published in the Characteristics of the Four Partnership Forms Official Gazette and the company must register with the tax authorities. Four partnership forms currently exist under Bulgarian law-the general partnership, the Foreign Investment limited partnership, the limited partnership divided by shares, and the "civil" partnership.3' On January 16, 1992, the National Assembly The first three are governed by the Commercial passed a new foreign investment law-the Law Law and the last by the Law on Obligations and on the Business Activity of Foreign Persons and Contracts. Two major differences among the the Protection of Foreign Investment. The new four forms concern taxation and liability. The Government, formed after the elections in three forms governed by the Commercial Law October, had declared that removing obstacles to are considered taxable legal entities, while the foreign investment would be a top legislative civil partnership is not.37 With respect to priority.3" The new law is extremely liberal, liability, all partners in the general and civil imposing almost no constraints and offering partnerships-but only the general partners in generous incentives for foreign investment. the limited liability forms-have unlimited joint and several liability. The liability of the rest of Forms of Investment the partners in the limited forms is limited to the amount of their agreed contribution (Article 99). Unlike its predecessor, the applicability of the The limited partnership divided by shares, like new law is reasonably clear. Non-residents, the joint-stock company, can raise capital excluding Bulgarian nationals, are considered through public offerings and is subject to the foreigners for purposes of the law. Resident same requirements in so doing. foreign nationals are not considered foreigners and have unconditional national treatment. Bulgarian nationals with a second dual nationality who are resident abroad may choose how to be treated for purposes of the law 35 (Article 2, para 2). Foreign-owned companies service payments, and other proceeds (including set up and registered in Bulgaria are Bulgarian liquidation or sale proceeds) from the investment legal persons and are not considered foreigners. (Article 13). Forms of investment are governed by domestic law. Foreign investment can be Tax Incentives organized in any of the forms recognized in the Commercial Law (as discussed above) or as a Tax incentives are covered not by the foreign civil partnership under the Law on Obligations investment law but by Decree 56.42 This and Contracts. In addition, foreign persons and decree provides, among other things, five-year partnerships without legal personality can be tax holidays for companies with foreign recognized in Bulgaria for purposes of the participation that operate in high-technology Commercial Law if registered in their country of industries, agriculture, food-processing and residence (Article 3, para 6). The share of tourism, as well as companies with foreign foreign ownership is not limited. Foreigners can participation operating in free-trade zones.43 participate in joint ventures with Bulgarian Because the government has not provided a entities or can operate through wholly-owned specific list of "high-tech" sectors, the incentives entities. Foreign companies can also set up are in practice available to most if not all branches in Bulgaria. investors. The same tax incentives are not, No investment approval is needed except in a however, available to domestic investors, even few areas (as specified in a negative list). if they operated in the same kind of business. The abolition of the complicated and unclear Thus, the system discriminates against domestic approval procedures of the former law is one of investors. Custom regulations provide for the most important features of the new one. exemption from custom duties of imports to be used for export-targeted production as well as Profit Repatriation and Other Rights and relatively low duties on imports to be used for Guarantees investment. In general these customs regulations apply equally to foreign and domestic investors. Foreigners receive national treatment in all areas except land ownership. No foreigner may Contracts own land (Article 5, para 2), and no domestic company with more than 50% foreign Features of Socialist Contract Law participation may own arable land. Foreigners may, however, own buildings and acquire rights Bulgarian contract law during the socialist (including long-term leases) over land if needed period varied in several important ways from its for business activity.'4 Foreigners may own pre-war predecessor. First, the idea of residential property with a "construction right" contractual freedom (though proclaimed in on the underlying land.'1 theory) was in practice subordinated to the needs In line with constitutional guarantees, the law of the central plan, as discussed in Chapter 1. allows expropriation only for important public The annual plan had the force of law, and every needs that cannot otherwise be met (Article 10). related law was drafted to assure the priority of Any expropriation of foreign property must be the plan over individual contracts. Second, authorized by the Minister of Finance, and prior contracts among private parties were treated compensation is required, either in-kind or (upon differently than contracts among state the consent of the foreigner) in money (Article enterprises. The Bulgarian contract law 10, para 7). Expropriation decisions can be applicable to the limited (generally non- contested in court. commercial) sphere open to private sector The law guarantees full repatriation of profits transactions was the Law on Obligations and (in domestic or foreign currency), foreign debt Contracts of 1950. The law in theory applied to 36 Bulgaria socialized enterprises, but in practice contracts book has recently been completed as is currently among such enterprises tended to be governed awaiting Parliamentary approval. It includes, by separate legislation or by administrative most commercially-oriented sections of the Law orders and decrees of the Council of Ministers. on Obligations and Contracts, as well as some Although the law contained extensive socialist types of transactions that were introduced in phraseology and certain uniquely socialist Continental law after World War II, such as principles (especially with regard to the priority leasing and franchising. The task of redrafting of the plan), it reflected many legal principles and restructuring the law has been accomplished common to continental European legal systems. quickly. It will take more time to build experience with the law, enforcement capability The Current Situation and a body of judicial interpretation in the courts, and the strict discipline for contract The law on Obligations and Contracts remains fulfillment in the population. the contract law of the country. Although the central planning agency was closed and central Bankruptcy planning abolished in 1990, no changes were made in the law until 1993. Until then the law Bulgaria had a well-developed legal still formally distinguished between contracts framework for bankruptcy before World War II. among individuals and contracts among It was incorporated in the Commercial Law and socialized enterprises, but all transactions after was modeled after the French, Italian and 1990 were regulated by the general provisions Romanian Commercial Codes, but with some applicable for individuals. These distinctions original provisions. After being adopted in were finally eliminated in the 1993 amendments. 1897, the bankruptcy section of the Commercial As noted earlier, this law reflects generally- Law was amended several times, the last time in accepted civil law concepts of contract and thus 1934. Considerable practice and a body of court has provided an acceptable legal framework for decisions were built before the bankruptcy private sector activity. It covers quite a wide provisions were abolished with the rest of the breadth of topics, including security interests Commercial Law in 1951. (Section VII-Guarantees) and negotiable These prewar bankruptcy regulations, though instruments (Section XVIIl-Promissory Notes, comprehensive, suffered from the same Bills of Exchange and Checks). However, some problems of other European systems-long and important commercial concerns-such as expensive court procedures, low recovery rate, securities and bankruptcy-that were covered in and the availability of loopholes through which the pre-war Commercial Law were omitted the debtor could transfer property before during the 1951 drafting of the Law on initiation of the proceedings. Bankruptcy was Obligations and Contracts, because they were no harsh and meant certain closure of the debtor longer considered relevant in a socialist firm; reorganization was not an option in these economy. prewar systems. A Law on Mutual Agreement Rather than updating the Law on Obligations Procedure ("Concordat") was, however, passed and Contracts, the aim of Bulgarian lawmakers in 1932 to provide an alternative path for since 1990 has been to restore the pre-war insolvent debtors-a framework to negotiate Commnercial Law in full, adding a second book proportional debt reduction with all creditors and to the new Commercial Law to accompany the thus continue in operation. Similar laws were first book on companies and thus create a passed in most CEE countries during the prewar comprehensive legal framework regulating period. commercial activity. Only private non-business transactions are to be covered by the existing Law on Obligations and Contracts. This second 37 Current Situation The bankruptcy procedures under Decree 56 have only rarely been applied. Not only are Along with its many other tasks in connection they slow and cumbersome, but there is still with the transition to a market economy, Decree little incentive to use them. A well-functioning 56 of 1989 attempted to reintroduce the concept bankruptcy systems requires a true conflict of of bankruptcy. Although still the relevant law in interest between debtors and creditors, and this this field, the bankruptcy framework provided still does not exist in the state-owned sector. by Decree 56 is ill-equipped for the needs of a Indeed, it is unlikely ever to exist as long as the market economy. It reflects the extensive bulk of creditors and debtors are owned by the involvement of the state in enterprise decision state. For that reason, it can be argued that making that existed in 1989 when the Decree bankruptcy as known in advanced market was adopted. It also reflects a desire to keep economies will only take firm root in insolvent enterprises afloat if possible. Not only transforming socialist economies when the does it anticipate state assistance to rescue private sector has grown sufficiently to develop insolvent enterprises (without setting precise an extensive network of links between private guidelines for such assistance), but it erects debtors and private creditors (whether banks or barriers to creditor initiation of bankruptcy suppliers). procedures. First, 60 days of nonpayment is required before a firm is eligible for bankruptcy. The New Draft Bankruptcy Law Second, before bankruptcy can be initiated, creditors must negotiate with the debtor to try to Recognizing the shortcomings of Decree 56, reach conciliation. Although supposedly limited the Bulgarians have prepared a new bankruptcy to one month, such negotiations can be law that is expected to be approved by the extended. Third, even if such negotiations fail parliament in mid-1993." It does not allow for and bankruptcy begins, the court cannot appoint "Chapter 1I-style" reorganization but only for a liquidator and take actions to stop the firm's liquidation of a bankrupt firm. Liquidation can transactions until the debtor produces a detailed be avoided only if the debtor and creditors can list of its assets and liabilities. These negotiate a work-out agreement through which preliminary steps can in practice delay debts are reduced. Pre-bankruptcy work-out bankruptcy indefinitely, thereby risking even agreements are governed by a companion law further loss of assets and unnecessarily similar to the prewar model, while work-out burdening creditors (particularly in such a highly agreements in the course of bankruptcy are inflationary environment). governed by Chapter XI of the bankruptcy law. Once bankruptcy begins, a liquidator is The requirements for a post-bankruptcy work- appointed to collect the list of claims and out agreement are quite strict. In particular, all liquidate assets to satisfy such claims to the creditors must agree if the debtor is to satisfy extent possible. Claims are to be satisfied in the less than 40 percent of outstanding claims. In following order: wages, tort liabilities, claims of practice, unsecured creditors rarely recover close the state, claims secured by lien or mortgage, to 40 percent in bankruptcy cases around the and unsecured claims. As noted in Chapter 1, world. The new draft law closely follows the this order to priority is problematic, in that it bankruptcy provisions in the original 1897 places secured claimants below worker or state Commercial Law. claims and thus lowers the value of security In addition, the draft law reinforces the interests. Furthermore, the extensive limits negative stigma traditionally attached to bankrupt placed on the sale of certain categories of firms. Not only does bankruptcy (even if caused assets-most notably real estate-used by state through negligence) appear to be considered a enterprises but owned by the state places a crime, but conclusion of a bankruptcy case does further barrier to the satisfaction of claims. not appear to rid the debtor of potential claims. 38 Bulgaria Creditors can continue to pursue debt collection virtually all goods. During the socialist period even cfter the debtor's assets have been the Bulgarian private sector was very small and liquidated, unless creditors and debtors have operated primarily in retail trade and some agreed to a work-out under the mutual services. agreement procedure. This harsh treatment On May 2, 1991, the National Assembly again contrasts with more recent thinking in passed the Law for the Protection of many industrialized countries, where bankruptcy Competition. The law regulates both laws try to remove the stigma of bankruptcy monopolies and unfair competition. It (assuming no criminal intent). Modem laws establishes broad principles concerning illegal implicitly recognize that the very essence of behavior and sets up a specialized office-the capitalism is risk-taking. Some ventures are Commission for the Protection of certain to fail, and the economy gains if those Competition"-to prosecute cases, with the who lose through risk taking are allowed a possibility of appeal to the Sofia City Court. In "fresh start" free from past burdens and stigma. addition, the law allows individuals, companies, Finally, the draft gives a central role in the Competition Commission, or the District administering a bankruptcy proceeding to the Attorney to bring claims under the law directly judge. For example, the judge is in charge of to district courts.' Although the law is quite attaching the property of the estate, investigating imprecise and unclear in its wording, it is a questions concerning the bankrupt or its useful start in this very difficult area of law. property, and overseeing the sale of the debtor's The antimonopoly section of the law applies property. Given the shortage of capacity in the exclusively to entities deemed to hold a Bulgarian court system and the burgeoning monopoly position either they have the exclusive number of cases likely to arise in the future, the legal right to carry on a particular business (for Bulgarians should be careful to conserve scarce example, the existing tobacco monopoly) or judicial resources. In this regard more of the because they account for market share of over burden of adm.iinistration could fall to the trustee, 35 percent (Article 3).47 The creation of and more decisions could be made without monopoly by government (Article 4) or through requiring meetings and approvals. merger (Article 5) is not forbidden per se but The major dilemma faced by policy makers in only if it "restricts free competition and/or Bulgaria, as in other CEE countries, is what to pricing." On the other hand (and perhaps in do with the large stock of illiquid or insolvent contradiction to Article 5), Article 8 bans cartel state enterprises carried over from socialism. agreements that would establish explicitly or As noted in Chapter 1, a separate extra-judicial implicitly a domestic monopoly. procedure, linked to privatization and bank Once a monopoly exists, it is forbidden from restructuring, is likely to be needed, to avoid misusing its position, and the definition of flooding the courts with an impossibly large misuse is extremely broad. Article 7 defines as number of cases. misuse: (a) restricting the growth of a market or access thereto; (b) applying inequitable standards Antimonopoly Law or contract terms on others, or selling goods and services that are below common quality Because it was one of the most centrally- standards; (d) conditioning a contract on the controlled economies during the socialist period, acceptance by the other party of unrelated terms Bulgaria started its reform process with a highly ("tie-ins"); (e) "resorting to economic constraint concentrated industrial structure. To lower the to cause other firms to dissolve, split up, merge transaction costs involved in implementing a or transform"; and (f) monopoly pricing above central plan, the socialist government explicitly cost for a considerable period of time. Article created large state-owned monopolies that 8 bans market-sharing agreements among dominated both production and distribution of competitors if they restrict competition or harm 39 consumers, and Article 10 prohibits contracts concluding a similar contract with a third party", granting exclusive downstream distribution if it hurts the competitive position of the original rights. Article 9 allows competitors to adopt counterpart. unified forms for commercial contracts only if Interpreting and applying the new Bulgarian approved by the Competition Commission. law effectively is an enormous challenge, These various categories of wrongdoing, though particularly given the lack of clarity in the law stated in rather unusual terms, presumably could itself and the broader set of problems with be interpreted to encompass most of the major antimonopoly legislation in general. The horizontal and vertical restraints of trade competition office will need to tread lightly at commonly addressed by antimonopoly regulation first. As well as handling individual complaints, in industrialized countries. While the law is all- it should concentrate on its other important encompassing, it adopts explicitly or implicitly missions: educating the public about the a "rule of reasonN approach in most cases, distortions caused by monopoly behavior and giving virtually unlimited discretion to the lobbying the government and Parliament to antimonopoly office to decide which cases to minimize barriers to international trade-the prosecute. Yet the wording implies that the most powerful antimonopoly force of all. Given named practices are prima faci illegal, i.e. that, the importance of industrial structure in if charged, the burden of proof lies with the determining monopoly behavior, and the office company. Given the imprecise and somewhat should also be given a mandate to review confused wording of the law, it is likely to be privatization proposals (as is done in Poland and very difficult to know in practice what is the former CSFR) to try to stop public permitted and what is not. Thus there is monopolies from becoming private ones. tremendous scope for misapplication, which would do particular harm if it were to stifle Judicial Institutions legitimate business practices in the emerging private sector. The implementation of the new set of If any of these practices are ruled business-related laws discussed above will be the anticompetitive, the Competition Commission greatest challenge facing the judicial system in has broad powers to nullify relevant government Bulgaria in the next few years. The lack of enactments or impose sanctions on offenders. judicial experience, if not dealt with adequately On it recommendation, the Council of Ministers through technical assistance and training, could can enforce maximum and/or minimum prices prove to be a serious obstacle to market reforms. on the monopoly firm. The law does not give the Office the authority to break up a firm in a lhe Court System monopoly position, nor does the office have the authority to review all proposed mergers and Under socialism the judicial system was not acquisitions except those carried out by firms independent but was supposed to serve the goals that are already in a monopoly position (Article of the state. Although central control over the 6). judicial system relaxed somewhat in the mid- Chapter 4 of the Law bans unfair and late 1980s, local communist party competition, defined at length in Article 12. committees continued to have decisive influence Although the definition is very broad, specific over the appointment and promotion of judges. examples focus primarily on misinformation- Judges in courts of first instance had greater whether misleading advertising, concealment of independence than those in higher positions. deficiencies in products, circulation of false facts Courts in Bulgaria were not involved in about competitors, or misuse of trademarks or commercial cases during socialist times. The brand names. Also banned more generally is private sector was almost non-existent, and "non-compliance with ... a contract ... aimed at disputes between state enterprises were dealt 40 Bulgaria with in specialized state arbitration boards under between Bulgarian and foreign persons, Decree the Council of Ministers. These boards have 56 (Article 98) explicitly allows private been dissolved, and most arbitrators have joined arbitration between domestic parties if both newly-created commercial sections of regular parties agree in writing. How a decision courts. Unfortunately, the experience gained by reached pursuant to Decree 56 would be these arbitrators-primarily oriented to executed is, however, unclear. implementing the central plan-has little relevance today. Not only is the subject matter Lawyers of future commercial litigation likely to differ markedly, but legal procedures are likely to As in other CEE countries, the Bulgarian differ as well. In the past, enterprises had little legal profession was divided into two branches incentive to win a case, and little outside during the socialist period-lawyers belonging to evidence was ever used to resolve disputes. a bar association (advocates) and legal advisers Modem principles and techniques of litigation within state enterprises (urisconsults). The were virtually nonexistent. jurisconsults handled virtually all commercially- The Bulgarian court system is still organized related legal work, while lawyers were not according to the provisions of the Constitution of generally involved in commercial areas. There 1971, although it will soon be reorganized to is now somewhat of a tug-of-war between these comply with the new Constitution. The highest two groups as to who is the more qualified to judicial body is the Supreme Court, which used emerge as the private commercial lawyer of to be elected by the National Assembly. It has tomorrow. three chambers-Civilian, Criminal and Military. Setting up private commercial law practice Its important decisions are published and widely has been allowed in Bulgaria since 1989, and it used by practicing lawyers as references. Below has grown considerably since then. Until the Supreme Court are the District courts, and recently it was subject to certain regulations below them are the Regional (general) courts. carried over from the previous regime. For District courts have appellate jurisdiction in example, persons with legal training could not matters covered by the regional courts, and appear in court if they are not employed by original jurisdiction in certain cases. Time and particular enterprises as 'jurisconsults" or were training is needed at all levels of the court not members of a particular bar association. system to develop the capacity and experience to Passage of the bar examination, required of all handle the plethora of new commercial issues legal practitioners, was not synonymous with emerging as the economy moves toward a membership in the bar, which until recently was market system. regulated by the state. Recently the Arbitration could be a useful alternative to requirements for private legal practice have been court procedures as a means to resolve clarified and simplified. The profession is fully commercial disputes among private parties. As privatized, and the Bar is no longer controlled in other CEE countries, the Bulgarian Chamber by the state. On the other hand, many legal and of Commerce and Industry has an arbitration ethical issues surrounding the practice of law in commission that specialized during the socialist indutrial economies-such as liability for advice period in the settlement of international trade given, confidentiality, and conflicts of disputes. A broader mandate and proper interest-have not yet been addressed. technical support could help this body develop into a viable alternative means for dispute Condusion resolution. The legal basis for private arbitration between domestic parties is unclear. The Bulgarian government is working steadily Although the Code of Civil Procedure (Article to create a legal framework in which the private 9) restricts private arbitration to disputes sector can develop. Many new laws-including 41 a new Constitution and new laws on companies, foreign investment, and competition-have been adopted over the past 2 years, and more are now being drafted and debated. Bulgaria's pre-war legal framework was quite modem for its time, and most of these new laws draw on pre-war Bulgarian tradition. However, the administrative and judicial machinery for implementing those laws is slower to develop. Laws by themselves are only paper; the legal framework will "come to life" only when the legal and administrative institutions can enforce the laws and readily resolve the disputes that they inevitably spur, and when the public accepts that the laws are indeed binding. Furthermore, the laws are by necessity general frameworks only. Their content needs to be filled in by more detailed regulations and practice in individual cases, a process which by necessity takes time. The challenge of legal development in Bulgaria and the other CEE countries is as immense as that of economic reform, and the two are inexorably intertwined. 42 Bulgaria Endnotes 1. For detailed references to Bulgarian the land on which the house sits can also be legislation mentioned in this Chapter, see Gray acquired. Although even this limited ownership and Ianachkov, "Bulgaria's Evolving Legal of land by foreigners would appear to Framework for Private Sector Development, contravene the constitution, it has apparently not "The International Lawyer, forthcoming (Winter been contested. Foreign-owned companies 1993). registered in Bulgaria are Bulgarian legal persons and thus do not fall under the 2. The Bulgarian Communist Party was constitutional prohibition on land ownership. declared the leading force in society. All other traditional parties were dissolved, and the once 6. Private alternatives in education and health powerful Bulgarian Agrarian People's Union care are to be regulated by the state. was reduced to an "ally" of the party in the construction of socialism. The BAPU, however, 7. This is yet another unclear provision participated in all post-war Bulgarian calling for further clarification in a separate law. governments. Though the law on education has not yet been passed, fees are already being collected in some 3. As in most socialist constitutions, many of state and emerging private universities. the constitutional provisions lacked an exact legal meaning but were rather general political 8. The only exception is the annual budget statements repeating basic Marxist theoretical bill, which must be prepared and presented by concepts. the Government. 4. All mineral deposits, beaches, public 9. The President cannot veto a bill but can roads, bodies of water, and forests and parks return it for reconsideration within 15 days after (including archeological sites) of national passage. A majority vote of all representatives importance remain the exclusive property of the (at least 121 votes) is then required for the bill State (Article 18). Although not required, the to become law. state may establish a monopoly (with the possibility of concessions to private operators) 10. If successive candidates are unsuccessful over the railroads, the national post and in forming a government, the Parliament must telecommunication networks, nuclear energy, be dissolved and new elections called within 2 and the production of radioactive materials, arms months. and explosives, and biologically active substances. 11. Although judges were nominally independent and subordinated only to law under 5. Foreigners may acquire rights to use or the previous constitution, local party committees build on land, and foreign nationals resident in had decisive influence over appointment, recall, Bulgaria may acquire residential property. and promotion. Furthermore, foreign nationals who are not permanent residents in Bulgaria are able to 12. No institution had such power of judicial acquire residential property if they obtain review before or during the socialist period. permission from the Ministry of Finance. If the residence is a house rather than an apartment, 43 13. Other courts may not rule on the 19. Former legal entities are unlikely to still constitutionality of laws but should instead refer exist except in the case of some religious and such questions to the Constitutional Court. political organizations. 14. Until 1990, the socialist constitution did 20. The Bulgarian cooperative movement had not permit individuals to own commercial a strong and well-developed tradition even property. The 1990 amendments removed this before the war. After the war, however, restriction. collectivization was very often forced, and cooperatives became increasingly inefficient, 15. During the socialist period other laws overburdened by bureaucracy and centralization. suspended temporarily the application of the Property Act to particular transactions, types of 21. These limits reflect the limits applied in property, or regions of the country. One the 1947 agrarian reform. "Intensive land use" example was the residential property law-The is not defined, but specific areas are likely to be Property of the Citizens Act (1971)-which designated as was done in the agrarian reform attempted to limit individual ownership and law (The Earned Land Property Act of March 9, provide affordable housing to all through 1946). It is unclear whether a household can administrative means, and in effect displaced the subsequently acquire and own more land than Property Act (except in small and relatively the limits set in this law. unpopulated rural areas) for some 20 years. Widespread application of the Property Act was 22. Unlike some other socialist economies, restored only with the 1990 partial repeal of the Bulgaria has long had the concept of Property of the Citizens Act. individually-owned units in multi-family buildings-i.e. the concept of condominium 16. Although the Property Act did not apply (although not with that specific name). Defining to property (including virtually all commercial the unit for mortgage purposes was therefore not property) used or transferred exclusively within a problem as it could be, for example, in the the public sphere (on the theory that this was no case of cooperative housing. transfer, because the owner was still the state), it did apply to property transfers between the Cooperatives were more common in building state and private individuals, as referred to here. construction than in ownership. In the 1950s Bulgaria developed a specific form of housing 17. Because of relatively low prices, the right construction-the Residential Construction to buy state-owned land was a highly sought- Cooperatives (KCK). The idea of the after privilege. A heavy bureaucracy existed to cooperatives was to engage the efforts of future check whether the applicant was qualified to buy owners in the construction of multi-family the land, and buyers often waited for years for housing and to make them responsible for the the transaction to be concluded. This also led to final works, the landscaping, and the corruption related to assignment of the right to maintenance. This form was widely used, but obtain the property. construction was hindered by the lack of materials, restrictions on the use of hired labor, 18. The law was in fact intended to curb the underdeveloped systems of contracting, and process of "spontaneous privatization"--pursuant costs well above official calculations (the latter to which SOE managers could sell SOE assets to based on fixed state prices). The cooperatives private firms they controlled at artificially low were usually built on land expropriated by the prices--and replace it with more managed "top- State and allotted to the cooperative. The down" privatization. former owners were compensated with apartments in the new building. The members 44 Bulgaria of the cooperative acquired rights to the 28. See Eric S. Schwartz, "Recent building, but the land remained state-owned. Developments in the Copyright Regimes of the When construction was completed, the Soviet Union and Eastern Europe," 38 J. cooperative was dissolved and the participants Copyrigh Sociey 123-133 (1991). became owners of individual apartments. 29. An earlier, unsuccessful attempt was made 23. This obligation to find alternative housing in 1987-88 to transfer state enterprise property also applied to evicted renters pursuant to the to employees. Law on Rent. 30. General partnerships could be formed 24. This category included all chemical under the Law on Obligations and Contracts. substances, all substances used for pharmaceutical purposes, for food and in 31. Unlike in some other CEE countries, cosmetics (obtained by chemical or non-chemical economic reform to some degree preceded methods), all methods used for medical political reform in Bulgaria. The desire to purposes, the new varieties of crops or new maintain central power reflects the fact that the breeds of animals, technical solutions to comrmunist government was still in firm control problems related to nuclear technologies, and all when Decree 56 was passed. inventions made as part of the work assignment by a "socialist organization" or related to the 32. For banking and insurance companies the defence or the security of the country (Article minimal capital is BGL 10 million. 14). 33. A subscriber who does not accept the 25. The enterprise was obliged to implement evaluation is free to contribute in cash or the invention and pay 50 percent of the withdraw from the company. Although this remuneration not latter then two months after the procedure is designed to protect outside creditors beginning of the implementation. The balance from overvaluation of in-kind contributions, it is of the remuneration was due after one year and somewhat cumbersome and does restrict the was supposed to correspond to the actual negotiating freedom of the investing parties. "economic effect". Litigation between the enterprise and the inventor concerning the 34. If a dividend is not paid to them for two amount of such effect was common. consecutive years, non-voting shares acquire the right to vote until the dividend is paid (Article 26. Although hardly ever done in practice, the 182 para 3). 1968 law allowed the state's patent office to issue a compulsory license to third parties with 35. In the former the general meeting of compensation if a patent registered in Bulgaria shareholders elects the directors, while in the had been unjustifiably unutilized or under- latter the general meeting elects the supervisors, utilized for three years following the publication who in turn elect the directors. One person date of the patent or four years from the day of cannot be both a director and a supervisor. filing the patent application (Article 37). 36. Although widely used in Bulgaria, the 27. Bulgarian nationals were able to obtain term "civil partnership" is imprecise, because patents abroad only through the Institute for these entities can also engage in commercial Inventions and Innovations. The use of the activity. foreign exchange acquired from foreign licensing of the patent was subjected to further 37. While not very flexible, the civil bureaucratic regulation (Article 46). partnership is sometimes used by foreign 45 investors because of its favorable tax Chairman and Vice-Chairman) are elected by consequences. the National Assembly (Article 2). 38. The new law replaced the previous foreign 46. This joint jurisdiction of both the investment law, which had only been in force Commission and the regular courts in for 6 months. The old law was quite restrictive competition cases is unusual. Although the same in comparison to similar laws in other CEE model is followed in the U.S., in many countries countries. a specialized agency has exclusive primary jurisdiction, with courts handling only appeals. 39. Article 5 (Restrictions). Most of the areas Although providing two avenues of redress may on the negative list are 'sensitive" industries for promote more vigorous enforcement of the law, which licenses are also required of domestic it also opens up greater possibility of conflicting investors. These include the manufacture and interpretations or misapplication of the law-a trade of arms, ammunition and military particular problem given the complexity of the equipment; banking and insurance, including the topic. acquisition of shares in banking or insurance companies; and exploration and exploitation of 47. Setting a minimum size level (as a share natural resources in the territorial sea, the of the entire domestic market) that will trigger continental shelf, or the exclusive economic action under the law helps to save on zone. administrative resources by targeting administrative action on those firms most likely 40. Foreign persons or foreign-controlled to restrain competition. However, the threshold companies may not acquire real property in of 35 percent, like any figure, is arbitrary, and some regions of the country, as designated by may or may not reflect a dominant position in the Council of Ministers (Article 5, para 3). any particular market. Much depends on the definition of the product (and to what extent 41. Such "construction right" is typically close substitutes exist) and the reach of the granted to owners of apartments in buildings actual market (including its openness to built on state-owned land. It provides that such international competition). land cannot be expropriated without regard to the building on it. 42. Decree 56 will continue to govern taxation until new tax laws are introduced, perhaps later in 1993. 43. The companies operating in free trade zones were to be subject to a 20 percent rate of tax after the expiry of the holiday period. 44. These comments refer to the original draft law. It may be modified substantially by the government or by Parliament before being finally adopted. 45. The Commission for Protection of Competition is independent from the Government. Its 10 members (including the 47 THE CZECH REPUBLIC After its "velvet" revolution in late 1989, the adopt a new constitution after the 1989 Czech and Slovak Federal Republic (CSFR) revolution, although the Federal Assembly moved steadily to create the conditions for the elected in June 1990 was supposed to draft a development of a private market economy. Not new constitution within its two-year term. The only did it free up the conditions for entry of process was stalled by political disagreements new private firms, but it also took innovative over governmental structure and the distribution steps to return nationalized property to former of powers among the republics and between owners and privatize large parts of its state- levels of government, and it could not proceed owned industry. This chapter surveys legal further until basic questions on union or developments in the Czech Republic. disunion were resolved. However, numerous Essentially the same legal framework exists in amendments were made to the 1960 Constitution Slovakia, although the legal frameworks of the to bring its provisions in line with the needs of two could diverge considerably in the coming a private market economy. The Constitutional months and years. Law on Fundamental Rights, adopted in January CSFR was somewhat different from its 1991, granted all persons the right to own and Central and Eastern European (CEE) neighbors, inherit property, and provided equal protection particularly Poland and Hungary, in that its pre- for all types of ownership rights. It provided war legal system was more thoroughly abrogated for expropriation only "in the public interest" during the socialist period. There are thus fewer and only according to law and with people (in or out of government) who are compensation.2 It further provided that familiar with market-oriented legal principles "everyone has the right to freely choose their and practices. On the other hand, in 1989 the profession ... [and] to undertake other economic CSFR had the advantage of starting with a activities." Thus, although governmental relatively "clean slate" on which to craft modern structure was still an open question, the laws. In some areas of law, such as company, constitutional barriers to private ownership and contract, and antimonopoly law, legal reform in private entrepreneurship were quickly removed the Czech Republic is relatively well-advanced through amendments to the old socialist and could serve to some degree as a model for constitution. other reforming socialist economies. In others, The Czech National Council adopted a new including constitutional and real property law, Czech constitution on December 16, 1992, legal reform has lagged behind developments in which took effect on January 1, 1993. The new some neighboring countries. Institutional Constitution is relatively short and concise, capacity in the judicial system appears to be consisting of 113 Articles in 8 Chapters: relatively weak-ill-prepared to cope with the skyrocketing demands now emerging in the I. Basic Provisions newly reformed system. II. Legislative Power m. Executive Power Constitutional Law IV. Judicial Power V. The Supreme Inspection Office CSFR's first constitution was adopted in VI. The Czech National Bank 1920. A new constitution, based firmly on VII. Territorial Self-Administration socialist principles, was adopted in 1948, and a VII. Temporary and Final Provisions second socialist constitution was adopted in 1960 and amended in 1968.1 The CSFR did not 48 The Czech Republic It deals primarily with governmental structure Civil Codes of other CEE countries during the and powers; rather than restate basic protections socialist period, this Code originally established of private property rights, it explicitly a hierarchy of property rights among state, incorporates the Constitutional Law on cooperative, personal, and private property. Fundamental Rights referred to above. It State property, the 'highest'" form, encompassed provides for a bicameral Parliament, with a major means of production and was accorded Chamber of Deputies and a Senate. The former special legal status. Personal property included has 200 members elected for four-year terms, the family house (up to a size of 120 square while the latter has 81 members elected for meters) and small items for personal use. staggered six-year terms (Article 16). Private property, the lowest of the hierarchy, Parliament elects the president, who in turn referred to private ownership of means of appoints the prime minister and other ministers. production (in practice mostly real estate). As in other CEE countries, the Czech Although the 1964 Code continues in force, constitution provides for an independent major amendments made at the beginning of judiciary and a separate Constitutional Court. 1992 abolished the socialist hierarchy of The latter has fifteen judges appointed by the property and equalized the legal status of state president for ten-year terms (Article 84). It has and private property. A thorough overhaul of the power to annul laws or their individual the Civil Code is being planned but will take provisions if it finds them unconstitutional or at several years. variance with international agreements, an to annul regulations or other public decisions or Eliminating the Monopoly of State Ownership acts that run counter to the constitution or to individual laws or international agreements Unlike in Poland and Yugoslavia, where a (Article 87). The decision as to who is eligible significant amount of real property remained in to bring complaints to the Court is left to a private nands, the state owned or controlled separate law (Article 88). almost all real property in Czechoslovakia during the socialist period. Industrial enterprises Rights to Real Property and the real property they occupied was all under state ownership, as were most apartment Rights to real property are in a tremendous buildings. Although agricultural land was never state of flux in the Czech Republic. As the officially expropriated during the socialist basic legal framework of real property rights is period, rights of use and transfer were allocated being redefined, the clash of competing claims to state farms and cooperatives. The only real of current tenants, former owners, and new property that remained in private hands was would-be purchasers is creating widespread single-family housing, a few apartment uncertainty. Meanwhile, the land registry and buildings, and the land on which these were regulatory institutions left over from the socialist built (including small adjacent yards). period are in need of major overhaul. A real Changing the basic definition of property estate market is just beginning to emerge and is rights to expand the scope for private property is still in disequilibrium.3 the first, and in some sense the easiest, step in reforming real property rights. Actually Defining Basic Ownership Rights implementing these changes in rights, primarily by eliminating this virtual monopoly of state Apart from the general constitutional ownership, is much more problematic because of principles discussed above, the primary the tremendous distributional implications. The legislation defining property rights in detail in process entails privatizing commercial property the Czech Republic is the Civil Code.' The through restitution to previous owners or existing Civil Code dates from 1964. As in the transfers to new purchasers, and developing an 49 active rental market in property still held by the could apply to as many as 3.5 million title- state. holders, despite the fact that less than 500,000 are still engaged in agriculture. There is Restituton. CSFR moved quickly after its widespread concern that this restitution not 1989 revolution to reverse the nationalizations of disrupt agricultural production. The deadline for the socialist era by returning both real property claims was December 31, 1992. and businesses to former owners. Four laws Finally, a fourth law, adopted by the govern the restitution process. The first, the Parliament in April 1992, returns land "small" restitution, applies to property (mostly confiscated from ethnic Germans and Hungarians apartment houses and small businesses) after World War II, as long as the former nationalized between 1955 and 1961 by two sets owners remained in the country and regained of government decrees that contravened existing their citizenship. law even at that time. The deadline for claims This patchy and complex legal framework has under this first law was April 1, 1991, and an left many problems in its wake. First, the heavy estimated 70,000 properties were involved. reliance on restitution-in-kind (particularly in the Because the original takings were illegal, first law) has led to many disputes-often restitution under this law has primarily been in- between competing claimants or between former kind. owners and current tenants-that are now The second, the 'large' restitution law, beginning to clog the court system. Second, the covers property (mostly companies, including legal precedence given restitution over any real property owned by them) nationalized privatization has created great uncertainty among from individuals5 under prevailing law after the potential investors and has complicated Communists came to power on February 25, privatization, particularly in the case of small 1948. It involves 5-10 percent of all state businesses and housing. Finally, restitution is property, significantly more than the first law. poorly coordinated with other laws that restrict However, it does not cover most of the major the ownership rights of new owners. The most nationalizations of large industrial enterprises, important of these involve housing. New private which were undertaken by the interim owners of apartment buildings are still subject to government between 1945 and 1948. The rent control and limitations on eviction, yet they deadline for claims under the second law was must assume the costs of maintenance and October 1, 1991. Restitution under this law has repairs. primarily been financial (mostly in vouchers that can be invested in newly-privatized companies or Privatzaton. Business or residential real shares in the companies themselves) rather than property that is not returned in-kind to former in-kind, reflecting the promise of compensation owners is potentially available for sale to new in the 1948 nationalization law that was in fact owners. In the case of land and buildings used never paid. Emigres were eligible to claim by state-owned enterprises, privatization of real restitution under the first law, but claims under property is one part of the larger task of the second were limited to resident citizens. privatizing the firms themselves. Privatization Although many claims under these two laws of state-owned firms is proceeding rapidly in the have been settled, many disputes (often between Czech Republic, perhaps more rapidly than in restituted owners and existing tenants) are now any other CEE country. Two laws cover the entering the courts. privatization process. The first is the "small The third restitution law concerns agricultural privatization" law, pursuant to which some and forestry land. The land law gives use and 100,000 small enterprises in the former CSFR transfer rights to such land back to the legal (such as retail shops and restaurants) have been owners, provided they are resident citizens. It sold by local authorities through public auction. 50 The Czech Republic Most sales under this law have involved only housing rents extremely low, far out of line with machinery, furniture, or inventories. Rights to rents that would prevail in a free market and real property have been included in only a small even too low to support basic upkeep and minority of these cases because of the existence maintenance. Although permissible rents were or fear of competing restitution claims. raised in 1992,11 they are still very low. However, a purchaser does acquire the right to Combined with this rent control are tight rent the premises for 3-5 years at fixed rent, restrictions on eviction. A tenant cannot be after which the rental contract is subject to evicted unless alternative equivalent housing is renegotiation. found. Given the acute shortage of commercial Privatization of larger firms, and the real space in Prague (caused in part by these rent and property on which they sit, is also affected by tenancy regulations that prevent housing from restitution claims, but to a somewhat lesser being converted to commercial space), extent than in the case of small firms. Over speculation in Prague is leading some private 3000 large companies (over 2000 in the Czech enterprises to buy up available space at very Republic) are being privatized through the "first high prices, sometimes paying tenants large wave" of the "large privatization' effort in the sums to leave voluntarily or actually building two republics, and a second wave of similar alternative housing in other areas of the city to magnitude will be privatized in 1993. meet the legal requirements for eviction. The Privatization of the large firms is being shortage of space and resulting high prices make accomplished through direct sale to individual it difficult for small entrepreneurs to find purchasers, auction to the public in exchange for affordable space in which to open new vouchers,6 restitution to former owners,7 or in businesses. many cases some combination of these 3 routes. Unlike in the case of small Land registration. Another critical challenge privatizations, the real estate owned by the firm is updating and modernizing the land registry. is generally transferred along with other assets. Although some transfers and encumbrances Privatization of state-owned housing has been continued to be registered in the land registry stalled. The last Parliament failed in May, 1992 during the socialist period, not all were to pass a draft law pursuant to which houses not registered, and thus the land records for that already returned to former ownerse and period are not fully reliable. In particular, many apartments would be sold by local transfers to and among state entities were not governments10 to tenants. The main stumbling recorded. point was price-how it would be determined, The land register in the Czech Republic was how much subsidy it would reflect, who would originally designed on the Austrian model, while provide credit, and at what rate of interest. The that in Slovakia followed the Hungarian one. newly-elected legislators are expected to take up All transfers made until 1951 were duly entered the issue again in 1993. in the old register, because such entry was the decisive step in gaining firm title under the old Revising the Regulatory Framework Civil Code. From 1951 (when a new Civil Code was adopted) until 1964, the old cadastre Rent and tenancy restrictions. The Czech continued to exist, but entry in the register was Republic faces an array of regulations on real no longer decisive in proving title. Rather, a property that have been carried over from the contract of real estate transfer was decisive if socialist period but need rethinking as the registered with the state notary. The period economy is transformed to a market-based one. from 1951 to 1964 is the most unreliable with Rent and tenancy regulations are among the regard to the accuracy of land transfer and most distortionary. Rent control has long kept ownership records. In 1964, when the most 51 recent Civil Code was adopted, the old cadastre Rights to Intellectual Property books were closed and a new land register was opened. Registration of real estate contracts The CSFR moved in the late 1980s and early with the state notary continued to be the decisive 1990s to update its intellectual property step in obtaining firm title. However, because legislation to adapt it to the needs of a market the state notary had a duty to send all contracts economy. A new trademark law was passed in for entry in the new register, this register is 1988,12 and the existing patent and copyright thought to be quite an accurate record of real laws underwent major amendments in 1990. estate transfers and encumbrances after 1964. The 1990 amendments came on the heels of the U.S.-Czechoslovakia Trade Agreement, which Mortgage Lending. Real estate mortgages included specific conditionality in this area in were rarely used after 1949. As in other CEE return for "most-favored nation" status."3 countries, there was little need for mortgage These changes have brought Czech legislation financing during the socialist period. Housing generally in line with international norms. In costs were low, and foreclosure was not a viable the patent area, for example, the amendments option due to the near impossibility of eviction. establish a 20-year term for patents (extended Because both banks and employers were state- from 15 years under the previous version), owned, banks could readily garnish wages if extend protection to products and processes in needed to satisfy any overdue payments. The all areas of technology, limit the use of concept of a mortgage (or pledge) was omitted compulsory licenses, and make decisions of the altogether from the Civil Code in 1964. patent office subject to judicial review. In the These conditions are changing rapidly, and area of copyright, the amendments extend mortgage lending will need to develop as an protection to computer programs and data bases, independent and viable instrument of finance as audiovisual works, and sound recordings. the real estate market grows through restitution, On the international front, the former CSFR privatization, and increased rental of state-owned has long cooperated in international conventions, space. This will require the growth of market- although (as noted in Chapter 1) the protection oriented financial institutions, a reintroduction of these conventions provide in the country has concepts of collateral security into law and generally been a matter of domestic law. In the everyday practice, the eventual phase-out of patent and trademark area, the former CSFR heavily subsidized interest rates, and an easing (and now the Czech Republic) is signatory to of foreclosure (and thus presumably eviction) (among others) the Paris Convention for the procedures to transform real estate collateral into Protection of Industrial Property (1883) and the a true instrument of security. The concept of most current text of the Madrid Agreement collateral was reintroduced by a 1988 Concerning the International Registration of amendment of the Civil Code in the form of a Marks (Stockholm, 1967). In the copyright pledge on immovable property, and it was area, the former CSFR is a signatory to the further expanded to moveable property in the Universal Copyright Convention and the Berne new Commercial Code. In the case of Convention (Paris texts of 1971). immovable property, the land record is supposed As noted in Chapter 1, many uncertainties to serve as a central registry to inform third remain in the transition from the old to the new parties and determine priority. It will take time system (particularly with regard to rights and practice, however, to transform this concept previously conferred through authors' into a practical and widely-used form of certificates), and enforcement capacity is an security. issue in all areas of intellectual property law. Although a registration procedure exists, it is often slow,1' and how a holder of intellectual property rights can in practice protect these 52 The Czech Republic rights if another person infringes them is still Characteristics of a Joint Stock Company uncertain and untested. The most formal type of company provided Company Law for in the Commercial Code is the joint stock company, or 'akciova spolecnost" (abbreviated Historical Background as "akc. spol." or "a.s."). It resembles the German AG, the French SA, and the American Czechoslovakia's pre-war company law was public corporation. This form is intended to be contained in its Commercial Code, which used by large firms, in which ownership is followed European norms of the time and was widespread and thus necessarily separated from fully in line with the needs of a market management. Tighter regulations and more economy. The pre-war Commercial Code was extensive reporting requirements apply to this abolished in 1950 with the adoption of a new form, primarily to protect the public in public Civil Code. Both were then replaced in 1963 by offerings and to give shareholders tools to 3 new Codes-Civil, Economic, and oversee management. About 3000 joint stock International Trade-which were supposed to companies had been registered by the end of represent the full achievement of socialism. Of 1991, most being either state-owned enterprises these, only the International Trade Code or foreign joint ventures. followed generally accepted western ideas of contract, as found, for example, in the Hague Capital and share requirements. Minimum Convention of 1964, the New York Convention capital of 1,000,000 Kcs. (approximately on Prescription of 1973, and the Vienna $35,000) is required to set up a joint stock Convention on sales contracts of 1980. company. This level of minimum capital is in The CSFR adopted a new company law-the the middle range for European countries but Commercial Code-on January 1, 1992. It is very high by U.S. standards. It represents a the most comprehensive and arguably the best ten-fold increase from the 100,000 Kcs. under such law to emerge in Central and Eastern the previous joint stock company law. Existing Europe. This Code covers both company law firms were given one year under the law to and commercial contracts, replacing the increase their capital to the 1 million Kcs. Economic and International Trade Codes passed minimum or change their form. in 1963, the Law on Joint Stock Companies of Capital contributions can be either in money 1990,15 and former laws on cooperatives. It or in kind. The value of in-kind contributions applies equally to domestic and foreign must be supported by an expert assessment entrepreneurs and thus also replaces former (Para. 165 (2)). At least 30 percent of monetary legislation specifically tailored to foreign contributions must be paid in before the first investment. It also has a section on unfair general meeting of shareholders, with the competition. remainder due within one year (or shorter period The company section of the Code (Part 10 if so provided in the company's statutes)(Para. generally follows the German model and sets out 177). In addition to minimum capital, each four types of companies-the joint stock company must maintain a reserve fund in readily company, the limited liability company, the realizable assets, initially 10 percent of capital, "comandite" company, and the unlimited liability to be supplemented each year by at least 5 company. A separate chapter then covers percent of net profits up to 20 percent of cooperatives. capital.16 The law provides great flexibility in structuring ownership interests in a firm, although it is likely to be some time before 53 widespread use of elaborate share structures company statute. The flexibility to change these emerges in the Czech setting. Registered or rules, plus the ability to limit the maximum bearer shares are allowed (Para. 156), and the number of votes per shareholder, gives the company may, with some limitation,17 also company wide latitude to separate the power of issue employee shares with certain advantages. corporate governance from shareholding status. Up to one-half a firm's equity may be in the This might be useful, for example, in form of preferred shares (i.e. with a dividend negotiations between a foreign investor and local preference and with or without voting investors or the government, if the domestic rights)(Para. 159). Interest-bearing shares were partner wants to maintain majority ownership permitted in the 1990 joint stock company law but the foreigner requires veto power over major but are not permitted in the Commercial Code corporate decisions. In such case, high quorum (Para. 159 (2)). The law also allows companies and/or supramajority voting rules can be used to to issue debentures that are convertible into give the minority shareholder effective veto shares within a certain time period (Para. 160). power, or the voting power of the majority Shares entitle the holder to dividends and a shareholder can be limited to equalize voting percentage of assets upon liquidation. Although power per shareholder. a one share-one vote rule generally applies, the company statutes may set a maximum number of Characteristics of a Limited Liability Company votes per shareholder. Unlike in Poland, however, it is not possible to assign more than The limited liability form of company, or one vote per share. "spolecnost s rucemin omezenym" ("spol. s r.o." or "s.r.o."), is less formal than the joint Corporate governance. In line with the stock form. It resembles the German GmbH and German model, the Code provides that each the French SARL. Because it offers the benefits joint stock company must have both a Board of of limited liability to all investors yet minimizes Directors1" and a Supervisory Board. The regulatory and reporting requirements, it is Board of Directors must have at least three preferred by most small and medium-sized members, and they are elected by the general entrepreneurs. The maximum number of meeting of shareholders (or by the supervisory participants is 50 (Para. 105 (3). Minimum board if so stipulated in the company statutes) capital is 100,000 Kcs. (approximately (Para. 194). The Supervisory Board, which $3500),21 with at least 20,000 Kcs. from each oversees the Board of Directors, must also have participant (Para. 109 (1)) (at least 30 percent of at least 3 members. In companies with more which is paid in upon registration (Para. 111)). than 50 employees, one-third of the supervisory Because it is intended to be a vehicle for board's members (or up to one-half, if the investment by a small group of investors who company statutes so provide) are elected by the are acquainted with one another, one participant employees (following the German model of cannot transfer his share except with the "codetermination"), with the remainder elected approval of the others (Para. 115). by the general meeting of shareholders (Para. Rules on corporate governance and reporting 200). Quorum and voting rules determine the requirements are much simpler than in the case power of individual shareholders to influence of the joint stock company. Rather than a Board outcomes at the general meeting. Pursuant to of Directors, the limited liability company is the law, the presence of shareholders owning at managed by one or more "statutory least 30 percent of company equity constitutes a representatives" appointed by the general quorum (Para. 185 (1)),'9 and most decisions meeting from among the participants or other require majority vote,' although either the persons (Para. 133). As with the joint stock quorum or the voting rule can be changed by company, rules on required quorum (generally one-half of all voting rights represented) and 54 The Czech Republic voting majority at the general meeting (generally with notaries or the Commercial Registry, simple majority) are set in the law but can be although the latter in particular can be a bit altered by company statute. A supervisory cumbersome.' Rather, businessmen and board is not required but can be set up if the lawyers are now concerned with another law that company agreement so stipulates (Para. 137). came into force January 1, 1992-the "Law on the Pursuit of Trade Activities". This law Characteristics of the Two Partnership Forms requires most companies' to obtain a business license before they can register with the The two partnership forms, the "unlimited Commercial Registry. Although in theory liability company" and the "comandite" designed to insure professional competency in company, are analogous to general and limited technical areas of work, the law appears far partnerships in the U.S. In the more encompassing and restrictive than such a former-"verejna obchodni spolecnost" purpose would justify. For example, in many ("ver.obch.spol." or "v.o.s." or surnameplus "a cases the law requires 3 years of apprenticeship spol." [& co.]), all partners have unlimited joint before a license can be obtained. The annexes and several liability with regard to the specify certain activities covered by the law, but partnership's obligations, and they share equally even unspecified activities require general in company profits unless the company licenses. A separate application is reportedly agreement stipulates otherwise. Participants needed for each business activity, and a fee of choose a commercial director from among 1000 Kcs. is charged for each application. The themselves, and all have full access to the books applicability of the law and procedures for and records of the company. In the obtaining licenses are still being worked out, but "comandite" company-"komanditini local lawyers report that the law is causing spolecnost" ("kom. spol." or "k.s."), one or confusion and delay. more participants (the general partners) have Furthermore, companies must fulfill other unlimited liability and responsibility for bureaucratic requirements before a business management, while the liability of the others license will be issued. For example, a permit (the "sleeping" partners) is limited to their from the local council is needed to open a capital contribution. In other respects it is business office. To get this permit the business similar to the unlimited liability company. Both must show that it has a lease and that the forms of partnership have an important property has been zoned as "commercial" space. advantage over the joint stock and limited If the space is zoned as residential, the owner liability company forms: they are not subject to will have to apply for a "change of use" permit tax at the entity level under the new tax law in under the Construction Act before the lease will force as of January 1, 1993.Y be approved by the local council. If the company is foreign, it must also have a Setting up a Company notarized deed of incorporation from its home government with a certified translation into Although the new Commercial Code Czech, and it must show a notarized power of establishes a modern and well-designed legal attorney for local proxy. If it wants to appoint framework for the establishment of companies, a foreign manager, it must obtain a residence the process of actually setting up a company in permit' from the Ministry of Interior, which in the Czech Republic can be very complicated turn requires a police statement showing a clear indeed. The firm must prepare the company's criminal record, a medical certificate showing an founding contract and statutesP in the form of absence of infectious diseases, and a signed and a notarial deed,' and apply for registration notarized lease agreement (and, in the case of a with the commercial registry.' The main sub-lease, a certificate from the owner that the bureaucratic complaint at the present time is not tenant has the right to sublease). In sum, 55 there are still many bureaucratic hurdles to the liabilities (within limits) that are unknowable at opening of a business. They must be satisfied in the time the venture is negotiated, but whether succession and together are cumbersome and this will suffice in practice is still unclear. time-consuming. Czech authorities would be As in most other CEE countries, foreigners well-advised to review the applicability of this cannot own real property in the Czech Republic. law and related requirements and limit them to This prohibition is contained in the foreign the extent possible, in order to reduce the exchange law, which states that a foreign barriers to entry for new private entrepreneurs. exchange expatriate may acquire ownership rights in real property "by inheritance, marriage, Foreign Investment swap, or only when stipulated by a special act." A 100-percent foreign-owned Czech company, As noted above, the new Commercial Code in contrast, can purchase immovable property. applies to both foreign and domestic investors, thus supplanting the previous foreign investment Contracts law.' The Czech Republic and Slovakia are the only CEE countries so far to have thus Features of Socialist Contract Law eliminated specialized foreign investment legislation from their legal frameworks Czechoslovakia's prewar legal system was altogether.' Thus, foreigners can generally abrogated more completely and systematically freely invest in the countries without limitation during the socialist period than that of many of on size of holdings, sphere of activity,31 or its socialist neighbors. While the pre-war repatriation of profits, and without prior contract regime survived to some extent in most approval from any government agency. Until other CEE countries, Czechoslovakia fully 1993 foreign investors received special tax replaced its prewar regime with laws reflecting incentives not available to domestic socialist principles. The first change caine with entrepreneurs, including lower income tax the adoption of a new Civil Code in 1950. rates32 and discretionary tax holidays.3 Although this code contained extensive socialist Beginning January 1, 1993, both domestic and phraseology and gave directives of state organs foreign entities are subject to the same tax rate the force of law, it still retained many traditional of 45 percent. contract principles and types. This Civil Code Most foreign investment is entering the Czech was then replaced in the early 1960s by three Republic as part of the privatization process, as laws-the Civil Code, the Economic Code, and foreign companies bid to purchase all or part of the Code of International Business firms being privatized. The country attracted Transactions-that were supposed to represent foreign investment commitments of more than the full achievement of socialism. The Civil $5 billion from about 180 foreign firms through Code governed the limited (generally non- its first "wave" of privatization (covering more commercial) sphere open to private sector than 900 large companies and 100,000 small transactions, the Economic Code of 1964 ones). Of this, American companies had governed contracts among legal entities, and the committed some $1.4 billion as of mid-1992, Code of International Business Transactions and German companies some $2.5 billion.34 governed contractual relations between domestic Although the basic legal framework for such and foreign parties (individuals or firms). Of investment is clear, one unclear area of major the three, only the last followed principles of concern to these companies is the question of contract common in Western market economies. responsibility for environmental liabilities incurred in the past. The Czech authorities are trying to resolve this question by promising indemnification for existing environmental 56 The Czech Republic The Current Situation under the law as in the U.S. ("Chapter 11") or in the new Hungarian law, although a pro-rata The old legal basis for contracts has been reduction in outstanding claims of radically transformed since 1990. Czech law on creditors-requiring approval of those commercial contracts is now contained in two creditors-is envisioned as a way to keep the sources, the Civil Code and the new firm operating as a going concern in lieu of Commercial Code. The Civil Code was liquidation.5' extensively amended in 1991 to put private While a more active reorganization option property and private contracts on an equal may be advisable, by far the biggest challenge in footing with public ones and to reinstate the area of bankruptcy will be equipping the traditional principles of contract law found in judicial system to deal with the surge in cases market economies. This law provides that is likely to emerge as real restructuring of underlying general principles of contract, such the enterprise sector occurs over the coming as offer and acceptance, fraud, duress, mistake, months and years. As noted in Chapter 1, a and impossibility, and is considered a broadly different-perhaps extrajudicial-mechanism acceptable framework within which the practice may be needed to handle the stock of bad debt of private contracting can grow. Although there of enterprises and banks carried over from are plans underway to adopt a new Civil Code socialism, thus freeing the judicial bankruptcy altogether, the process is likely to take several procedure to deal with ailing firms in the newly years. emerging private sector. The new Commercial Code goes into more Linked to the legal framework for bankruptcy detail by providing specific legal rules governing is that of pre-bankruptcy debt collection, various types of commercial contracts. It including the possibility for registering and addresses not only general contractual concerns, foreclosing on collateral. The system of such as what constitutes fulfillment of a contract collateral in the Czech Republic is and remedies for breach, but also provides underdeveloped both in law and in practice. detailed regulations on many types of Although lenders are in theory able to take contracts-including agreements on the purchase mortgages on real property and register them in of goods, credit, license of industrial property, the land registry, this has not been a common storage, contractual work, proxy, commission, means of securing loans, primarily because of inspection, transport, and commercial the impossibility of evicting tenants or residents representation. It also covers agreements in the from housing combined with the availability in financial area such as letters of credit, safety practice of other forms of security (such as deposit, bank accounts, traveler's checks, and garnishment of wages). With regard to security interests. The law thus provides a moveable property, the Civil (Para. 151a) and detailed legal framework that fits into the Commercial (Paras. 297-302) Codes provide a mainstream of market-oriented commercial legal basis for using such property as collateral, practice. but because there is no central registry, it is difficult-short of transfer of possession or Bankruptcy title-to inform third parties about the claim and thus ensure priority. Providing viable means to The CSFR adopted a new law on Bankruptcy mark property serving as collateral, or setting up and Settlement in 1992. The law has not yet a central registry for collateral interests in been widely used due to a moratorium on claims moveable property (as in the U.S.), would help against state-owned enterprises in effect until increase the security of loans and improve debt April, 1993.Y The law is based on prewar collection. German and Austrian law and focuses on liquidation. Reorganization is not an alternative 57 Antimonopoly Law With regard to mergers, Section 8 requires prior approval from the Competition Office of Until recently the private sector has been very merger agreements that would give the new firm small in the former CSFR, even by CEE a market share of over 30 percent. The office is standards. In 1991 it accounted for an estimated to approve the merger if "the loss, which may 8 percent of GDP and 16 percent of occur due to the restriction of competition, will employment.37 The economy still continues to be outweighed by the economic benefits be dominated by the public sector, primarily provided by the merger." large public enterprises. Promoting competition In line with European emphasis on in this environment will require strong and "dominance," Section 9 requires any firm with concerted action to break up public monopolies, at least a 30 percent market share to inform the privatize public firms, open any remaining Competition Office. It prohibits that firm from barriers to foreign competition (both trade and "abusing' that dominant status through unfair investment), and prevent anticompetitive contract terms, "tied" sales, discrimination behavior or mergers among competing firms. among purchasers, or monopolistic restriction in Programs of privatization and trade liberalization production, sales, or technological development. are both progressing steadily. Breaking up In delineating the various types of public monopolies and preventing anticompetitive behavior, the law does not anticompetitive behavior lie within the mandate distinguish between "horizontal" and "vertical" of antimonopoly law. restraints, although antimonopoly theory in the The CSFR antimonopoly law, the Law on the U.S. and to some extent Europe tends to see Protection of Economic Competition, was passed horizontal restraints as the most egregious January 30th and took effect March 31, 1991. inhibitors of competition. Nor is there a clear It follows closely German and EC law and is distinction between behavior that is always quite similar to the Polish antimonopoly law. It illegal (the 'per se" approach) and behavior that is concerned primarily with cartel agreements, is illegal only under certain conditions (the "rule mergers, and "dominant" behavior. With regard of reason" approach). In almost all cases to cartel agreements, Section 3 prohibits (except perhaps Section 9) the approach appears agreements among entrepreneurs to set prices, to be "rule of reason," because the Office has limit production or sales, divide markets, 'tie" almost unlimited discretion to grant exemptions purchases of certain products to purchases of from the prohibitions in the law. other unrelated ones, discriminate against certain Because of the former CSFR's federalist purchasers, or restrict others' access to markets. structure, the law set up not one but 3 These prohibitions do not apply if the market Competition Offices-one in each republic and share of the participants is less than 30 percent a federal one to deal with cases that affect at of the "relevant market." Section 4 then deals least 40 percent of the market in both republics with licensing of intellectual property rights and (Section 10 (1)). The existence of 3 offices prohibits licensing agreements that impose complicated the administration of the law, both unrelated conditions on the transferee. because of the diminution in expertise among However, Section 5 allows the Competition them and because of unavoidable confusion Office to exempt certain agreements from the concerning their respective jurisdictions. The prohibitions in Sections 3 and 4 for a set time federal office was abolished in late 1992 in upon request of the parties "as long as the preparation for the country's split. All cases in restriction of competition ... is necessary for the Czech Republic are now handled by the reasons of public interest, especially in the Czech Competition Office. The powers of this production of goods or in support for office are broad. It can bring cases on its own technological or economic development." initiative or on the request of an outside party, investigate and decide those cases, and impose 58 The Czech Republic fines or demand specific action to undo an Judidal Institutions identified wrongdoing (Section 11). Its decisions can be appealed to the court by any As in other CEE countries, judicial party within 30 days (Section 13 (2)). institutions in the Czech Republic are ill- One positive aspect of the law is its linkage prepared to cope with the rapidly emerging with the privatization program. Section 19 challenges of a market economy. The plethora requires that the government analyze the market of new legislation in the past 2 years has bred conditions likely to result from a privatization many new types of disputes never before seen by proposal and "to stipulate specific conditions this generation of judges and lawyers. In 1991, which, when they are met, will terminate the some 121,000 commercial cases were filed in monopolistic status of the former enterprise or the Czech Republic (48,000 in Prague alone). will prevent the creation of the monopolistic That number is rising rapidly as new restitution status of newly created enterprises" (Section 19 cases enter the courts and as the moratorium on (1)). The analysis must be submitted to the bankruptcy claims is lifted. relevant Competition Office for comment before A new law passed in late July, 1991-the a final decision is made on the privatization. Law on Judges and Courts-restructured the This link is intended to help prevent public court system to help prepare it for its new role. monopolies from becoming private ones. Courts are divided into 3 levels-the Supreme As in Hungary and Poland, the impact of the Court, 12 regional courts, and about 120 local antimonopoly law will depend on how it is courts.'S The Supreme Court hears appeals applied in practice. As noted in the introductory from the district courts, while the district courts chapter, it is notoriously difficult-even in the hear appeals from the local courts and are the advanced market economies-to distinguish a courts of first instance for cases with over restraint of trade that harms efficiency from a 50,000 Kcs. at issue. Pursuant to recent legitimate business initiative that enhances it. legislation, the Supreme Court and the district Overzealous enforcement, particularly courts each have 4 departments-for criminal, enforcement that specifically attempts to regulate civil, administrative, and commercial39 cases. prices, could do great harm by overruling Property and restitution cases are handled by the reasonable business decisions and more generally civil departments (which, together with criminal inhibiting entrepreneurship throughout the departments, were carried over from the economy. On the other hand, it is clear that previous system), while company and contract certain types of highly restrictive monopolistic cases under the new Commercial Code are behavior-such as price fixing among handled by the newly-established commercial competitors or aggressively freezing new departments.'4 As of January 1, 1992, the competitors out of the market by refusing to deal newly-established administration departments with them-need to be stopped. Furthermore, can handle citizen's complaints against civil the Competition Offices can fulfill a very servants once internal avenues of redress have valuable public service by being the "advocate" been exhausted, thus potentially providing an for competition, both by publicizing their own important new avenue of protection against initiatives and decisions and by lobbying more arbitrary government acts. generally for freer international trade. Helping In addition to restructuring the court system, to change public attitudes and educate the public efforts have been made both to give existing and about the benefits of competition may be their new judges greater independence41 and to most important mission at this time. remove judges clearly compromised by the socialist regime. As a result of the purge, combined with the generally low pay and prestige of the profession and the growth of opportunities in private legal practice, there is 59 now a serious shortage of judges. While demand skyrocketed, the number of judges actually fell in the first two years after the 1989 revolution.42 It will continue to be very difficult to staff the courts with competent and experienced judges. Incapacity in the court system is likely to be a constraint for some time to come. Conclusion Like its CEE neighbors, the Czech Republic is moving rapidly to create a legal framework conducive to private sector development and the growth of a market economy. It has moved extremely quickly on restitution of real property rights, and its new Commercial Code is in many respects a model law for companies and commercial contracts, although its simplicity appears somewhat compromised by continuing bureaucratic interference through other laws and regulations. It has amended its laws on intellectual property, in large part due to prodding from the U.S. and the EC, to bring their levels of protection in line with that of the most advanced market economies. A new competition law provides a reasonable framework for antimonopoly protection, while a new bankruptcy law provides a beginning framework for the liquidation of nonviable enterprises. As in the rest of the region, there are major challenges ahead to implement the new laws that are now on the books. The interests of former owners of property are clashing with those of current tenants, leading to a surge in new disputes now entering the courts. The surge in cases is likely to be exacerbated as the current moratorium on bankruptcy claims against state enterprises expires in 1993, and as cases under other new laws come on stream. The courts are suffering from recent purges of judges compromised by the former regime as well as Iow pay and prestige, and they will have difficulty handling the demands of the newly emerging system. 60 The Czech Republic Endnotes 1. For detailed references to Czech citizens- purchased coupons. These coupons legislation mentioned in this chapter, see Gray, could be used to purchase shares in individual "The Legal Framework for Private Sector companies or could be invested in one of several Activity in the Czech Republic," Vandrbilt competing investment funds. Journal of Transnational Law, forthcoming (May 1993). 7. In most cases the property has been significantly altered since nationalization, so that 2. A similar provision existed in the previous financial compensation will be provided to constitution but was virtually irrelevant due to former owners rather than restitution-in-kind. the prohibition on private ownership of property. Three percent of all privatization receipts are earmarked for a compensation fund for that 3. Extreme price variation is one indicator of purpose. this disequilibrium. For example, the rental price of refurbished commercial space in a top 8. The ratio of assets being sold through location in Prague in mid-1992 could reportedly direct sale to assets being sold via voucher vary from under $100 to $450 per square foot. auction is approximately 50:50. The Privatization Ministry in each Republic selects 4. When Czechoslovakia became an the method among competing proposals put independent state after World War I, the Czech forward by the enterprise itself or outside Republic continued to apply the Austrian Civil parties. Several criteria are used to evaluate Code ("Buergurliches Gesetzbuch") of 1811, proposals, including not only price to be paid which had previously been in force in the Czech but also future plans for restructuring, labor use, Kingdom. Slovakia, in contrast, continued to and additional investment. Each proposal must rely on Hungarian law, which at the time had a include a plan for dealing with any restitution Commercial Code (dating from 1876) but no claims filed under the large restitution law. unified civil code. In 1950 the existing law in both republics was replaced with a new Civil 9. An estimated one-fifth of state-owned Code, which included certain socialist principles housing has been returned to former owners and included directives of state organs (including under the first and second restitution laws, the plan) as part of the law. A new Civil Code leaving four-fifths to be covered by a program and an Economic Code were adopted in 1964. of housingprivatization. Tenants who happen to George E. Glow, "The Legal System of live in formerly-nationalized apartments are Czechoslovakia," Modern Legal Systems unfortunate in that they will be unable to Cyclopedia, pp. 85-115. purchase their apartments at subsidized prices like other tenants. 5. Property taken from political parties and churches was thus excluded from restitution. 10. The 1990 Law on Municipalities made local governments the clear owners of publicly- 6. Before the end-February 1992 deadline, owned apartment buildings. every CSFR citizen aged 18 or older was eligible to buy a book of coupons worth 1000 11. Rent of a 2-room flat doubled in mid-1992 investment points for Kcs 1000. Some 8.5 from 100 to 200 Kcs (about $7) per month. million citizens-about three-fourths of all adult 61 12. The trademark law provides for reduction in equity, and dissolution of the registration with the Office of Inventions and company, require two-thirds majorities in all Discoveries and grants an initial 10-year term of cases. protection that can be extended indefinitely by 10-year periods. 21. Although lower than the minimum capital required for a joint stock company, this is still a 13. The Agreement confirms the commitments relatively high level. made in the Universal Copyright and Berne Conventions and specifically requires 50 year 22. Although it has long been the rule in the protection for computer programs and databases, U.S., this pass-through tax treatment, whereby audiovisual works, and sound recordings. partners are taxed but not the partnership itself, is an innovation in the CEE countries. During 14. For example, it reportedly can take one the socialist period, all partnerships were taxed year to register a trademark and 18 months to as legal entities. Poland, which recently have it published. introduced a limited partnership form of company with pass-through tax treatment, is the 15. The law on Joint Stock Companies of only other CEE country to adopt this approach 1990 replaced the extremely outdated 1949 Joint so far. Stock Companies Act and introduced modern company forms (generally along German 23. The latter is mandatory only in the case of models) into the country's legal framework. the joint stock company. 16. This reserve requirement appears to be 24. Although the process of preparing the quite high and should be reviewed to weigh its founding documents can take several weeks, supposed benefits against the burden it imposes lawyers report that most notaries do not interfere on the newly emerging private sector. unnecessarily in the substance of the documents as they have been sometimes reported to do, for 17. The company may not give more than 5 example, in Poland. The Polish situation may percent of equity free of charge to employees, change, however, due to the recent privatization and employee shares may be transferred only of the profession. among current or retired employees (Para. 158). 25. There is a 3000 Kcs. (about $110) filing 18. The Board of Directors in this model has fee for registration. somewhat more hands-on responsibility than the outside Board typical of U.S. corporations. It 26. It generally takes a few days for the usually meets twice a month. The day-to-day Commercial Register to review and register running of the company is the responsibility of company documents, provided they are in proper the General Manager appointed by the Board. form. This is very different from the situation In practice the Supervisory Board is less in Hungary, for example, where it can take six important (as is also typical in Germany). months to register a company. 19. This is a rather low quorum requirement 27. The law does not apply to certain by international standards. Fifty percent is a enumerated professions, such as doctors, more common rule. lawyers, or accountants, or to firms engaged in certain specialized areas such as banking, 20. Certain decisions, such as a change in mining, energy, agriculture, railroads, company statutes, a change in rights attached to telecommunications, pharmaceuticals, or particular types of shares, an increase or 62 The Czech Republic broadcasting. Separate licenses are required, compensation in such cases of expropriation. however, for many of these activities. Para. 25. 28. There is also legal uncertainty with regard 31. A few sectors of strategic importance may to the definitions of "resident" under various be closed to foreign participation under separate laws-the foreign exchange act, the tax law, and legislation. the residence permit regulations-and how they interact. Under the former two, being a resident 32. For 1992, the domestic tax rate was 55 has serious potential consequences for a foreign percent. Joint ventures with over 30 percent manager; under the foreign exchange act, a foreign ownership were subject to a 40 percent resident is supposed to bring all foreign assets to rate if net income exceeded 200,000 Kcs., or 20 the Czech Republic, while the tax law imposes percent if net income was lower than that worldwide income taxation on residents. Yet, amount. pursuant to the third, the foreigner must get a residence permit to work in country. As these 33. Tax holidays of at least one year and laws are new, lawyers are now grappling with (more often two to four years) were available to how to deal with them. companies registered before the end of 1992 with a tax liability of less than 1 million Kcs. in 29. The 1990 amendments to the 1988 foreign the particular calendar year. If the tax liability investment law had already significantly was greater, the grant of the holiday was liberalized the environment for foreign discretionary. The amounts saved by the tax investment, allowing up to 100 percent foreign holiday were supposed to be reinvested within 2 ownership, providing guarantees against years in the business. "Legal and Taxation expropriation, and permitting repatriation of Consequences of Investing in Czechoslovakia", profits in hard currencies (but only subject to in Czechoslovak Financial Review 2:8, April 15- availability from the company's export earnings 30, 1992. and after mandatory sale of 30 percent of foreign exchange earnings to the State Bank). 34. Press release of the CSFR Embassy, May All foreign investments under that law required 7, 1992. the approval of the Minister of Finance. The law was also an interim step in that disputes 35. The moratorium was originally scheduled with other domestic firms were to be handled by to end on October 1, 1992, but was reextended a special judicial body called the State by Parliament for another 6 months soon after Arbitration rather than by the regular court the original deadline expired. system. 36. This "compulsory settlement" procedure 30. The new Code does have a short section- existed in many CEE countries during the Chapter I-dealing specifically with "business socialist period but was not part of the activities of foreign persons." It applies only to Czechoslovak socialist legal framework. businesses not incorporated under domestic law; foreign-owned Czech firms do not fit within this 37. D. Swanson and L. Webster, "Private classification. This section is very liberal, Sector Manufacturing in the Czech & Slovak giving foreigners equal rights with domestic Federal Republic: A Survey of Firms," draft entrepreneurs to carry out business, allowing report, August 18, 1992, p. 14. expropriation of property only "by law and in public interest which cannot be satisfied 38. Prior to the breakup of CSFR, each otherwise, " and guaranteeing full and immediate republic had its own Supreme Court, and there 63 was a federal Supreme Court to act as final arbiter. 39. In three districts new commercial courts were set up in lieu of specialized departments within the regular district courts. 40. The latter are staffed primarily by former arbitrators from the recently-abolished state arbitration system, which used to decide disputes among state enterprises. 41. Judges generally have life tenure, but it is still possible to remove judges associated with the previous regime. 42. Before November 1989, there were some 1600 judges working in the Czech Republic. This number had fallen to 1300 by April 1991. J. Pehe, "Reforming the Judiciary," Report on Eastern Europe 2:34, August 23, 1991. 65 HUNGARY Hungary is on the forefront of legal and to the state in regulating both state-owned and economic reform in the CEE region. Although private business. Hungary has long been in the forefront of efforts to reform socialism itself, after 1989 the goals of The New' Constituton reform changed from market socialism toward capitalism, as the old Communist regime lost On October 18, 1989, Parliament passed the power and the idea of widespread private most significant constitutional revisions to date. ownership gained acceptance. The legal This amendment is often referred to as the framework-the "rules of the game"-is now "new" Hungarian Constitution, as approximately being geared towards encouraging, protecting, 80% of the 1949 version was abrogated. and rewarding entrepreneurs in the private Drafted on the threshold of Hungary's sector. democratic and economic reforms, the amendment was a political compromise between Constitutional Law the old school communists and the new generation of politicians gradually replacing 7he Historical Setting them. The new version was subsequently amended several more times in 1990. It is No written constitution existed in Hungary unclear how long this version of the constitution before 1949. Rather, constitutional principles will remain in force. Its preamble envisions it were derived from various pieces of legislation, as a transition document, but no further similar to the tradition of England. In Act XX fundamental revision is expected in the near of 1949,1 the People's Republic of Hungary future. adopted a constitution based on the Soviet The current Hungarian Constitution is model. Under this constitution the economy was composed of 78 sections falling within 15 based on the concept of "social ownership of the chapters: means of production" (Section 6(1)), a vague notion akin but not identical to state ownership. I. General Provisions This constitution also established the primacy of II. Parliament the national economic plan in guiding the Ill. The President economy (Section 7). Not only did state IV. The Constitutional Court planning control the economy in this and other V. Parliamentary Commissioner of Citizens' socialist countries, but, by virtue of appearing in Rights the fundamental law, it governed the entire legal VI. State Audit Office culture in the country as well. VII. Council of Ministers In 1972, this constitutionunderwent extensive VIII. The Armed forces and the Police amendment in order to accommodate the New IX. The Councils Economic Mechanism of 1968.2 For example, X. The Judiciary for the first time it recognized and protected XI. The Prosecution personal property and the economic activities of XII. Fundamental Rights and Duties small-scale private producers of commodities Xm. Fundamental Principles of Elections (Sections 1 Iand 12). Such protection, however, XN. Capital and National Symbols of the was balanced against the needs of the "public Republic of Hungary interest," which in practice left great discretion XV. Closing Provisions 66 Hungary Much of the amended constitution deals with decrees, this requirement that Parliament make rights and duties of citizens. Chapter I deems the laws is meant to ensure that the Hungary a democratic constitutional state and democratically elected body governs the asserts its commitment to a market economy and citizenry.' its encouragement of entrepreneurship and Parliament elects Hungary's highest ranking competition. It establishes protection of private officials, including the President, the Council of property, including compensation in the event of Ministers, the Parliamentary Commissioners of expropriation, and general rights to freedom of Citizens' Rights, the President and Vice- association. Most of the fundamental rights and Presidents of the State Audit Office, the duties of citizens are contained in Chapter XII. President of the Supreme Court, and the Chief These include rights to liberty, personal safety, Public Prosecutor (Section 19). A member of and freedom from torture. Democratic rights, Parliament, the President, or the Council of such as freedom of thought, speech, the press, Ministers may introduce legislation. After and religion, are also guaranteed. These latter proposals are passed by Parliament, they must rights, as well as the right to compensation in be signed by the President to become law. The the event of expropriation, were also guaranteed President may refuse to sign an Act of by Hungary's socialist constitution, but were Parliament by passing questions about the Act to always subject to the higher "interests of the Constitutional Court. The precise socialism. " boundaries of presidential power to veto Other sections of the constitution promise executive decisions of the government remain certain economic rights. Labor is guaranteed unclear,5 but in general the President has inuch "the right to work, to freely choose [al job and less power than the Presidents of either Poland occupation" and "to have an income or the former CSFR. [commensurate] with the quantity and quality of The Constitution also introduces Hungary's the work performed by him/her" (Section 70/B). first Constitutional Court.6 This court is Every woman is guaranteed pre- and post-natal composed of 15 judges elected by Parliament. care (Section 66), and children are guaranteed Each sits for a nine year term, which may be "all the protection and care required for proper renewed once. Thesejudges are prohibited from physical, mental and moral development" political activity and party membership, a (Section 67). Although laudable in intent, the restriction that applies to local and county judges broad language of these rights may create as well. The Court's purpose is to interpret the expectations that Hungary is unable to fulfill. constitutionality of legal rules, including With regard to the structure of government, international agreements, and to annul section 2 declares Hungary a democratic parliamentary acts and other regulations it finds constitutional state based on the separation of unconstitutional. The power automatically to powers among Parliament, the Council of annul laws and regulations is strong relative to Ministers, and the Judiciary. This is a radical the powers of other constitutional courts in the change from the previous system, in which region.' It may also review draft laws before absolute and undivided power was vested in the they are voted upon in Parliament, although in Communist party. The unicameral Parliament reviewing draft laws, the court has sometimes has 386 members3 elected for four year terms. been accused by members of Parliament of Its primary legislative duty is to pass laws and impinging on legislative authority. The court constitutional amendments. Any legislation has sometimes declined to rule on draft laws in affecting the fundamental rights of citizens must order to avoid violating the principle of take the form of a Constitutional Act. In light separation of powers. of past practice under socialism, in which The Hungarian Constitutional Court has Parliament was relatively inactive and the extremely broad jurisdiction, perhaps the Council of Ministers governed by passing broadest of any constitutional court in the world. 67 Valid complaints are not limited to contesting unfairly discriminated in favor of former the constitutionality of existing laws and landowners and against owners of other types of administrative regulations, but they extend even assets. Another important decision declared the to allegations of "negligence" against the prohibition of foreign ownership of land to be legislature for not having passed a law, if such unconstitutional. law's absence creates an unconstitutional situation.8 If the court agrees that lawmakers Rights to Real Property should have passed such a law, Parliament is given a limited period of time in which to pass As in other CEE countries, clarifying real the missing legislation, although the procedure property rights is perhaps the most difficult and for enforcing this time limit is unclear.9 One slow-moving area of legal reform in Hungary. example of this proactive role is the Court's It not only confronts the vested interests of request in January 1990 that Parliament set up former owners, existing users, and newly an administrative court system by April 30, emerging business interests, but it must be 1991.' In fact, the need for such court system carried out in a setting plagued by poor records, arose in part because of the Constitutional struggling institutions, and a legacy of distorted Court's ruling that raising interest rates on public policies. housing loans was unconstitutional, because it needed to be passed by a two-thirds Defining Basic Ownership Rights Parliamentary majority rather than a simple majority. This ruling stimulated petitions on a Apart from the constitution, which gives very wide variety of economic problems not remotely general conceptions of property, the most related to the court's role as guardian of the important law in defining fundamental property Constitution. The Court believed that an relations in Hungary over the past 30 years has administrative court system was needed to been the Civil Code of 1959, as amended. handle these economic cases. Parliament failed Before 1959, property rights were governed by to set up such a system, but a crisis was averted a mixture of numerous laws, collected "customs because the regular courts decided to take on of judgement," and some decisions of higher such administrative cases. courts."3 The drafting of the Code in 1959 Not only does the Court have broad consolidated these various sources. Although jurisdiction, but it also allows extremely broad modeled after the German Civil Code (Pa access. Under the court's rules, any citizen is Burgerliches Gesetzbuch), the Code was drafted entitled to present a complaint to the court."1 during the socialist period and thus also reflected The rules of open access and permissible claims socialist ideology. The sections on property have led to a virtual flood of cases.12 About ownership in particular were perforated with 1500 cases were filed and 235 cases decided in government usurpations of property rights. 1990. In 1991, 2200 cases were filed, of which As noted in Chapter 1, a common element of about 400 were accepted for review (the balance socialist law throughout Central and Eastern being dismissed as moot, repetitive, or otherwise Europe was the recognition of several categories technically flawed) and about 250 were decided. of property, including social and cooperative Of these decisions, about 50 resulted in ownership, personal property, and private annulment of laws or regulations. property. In Hungary, these categories and their In sum, the Constitutional Court is an accompanying rights were set out in Part IIl of important and powerful institution in Hungary, the Civil Code. Assets under "social" and its activity can have a major impact on ownership included property specifically owned private sector development. One landmark by the state,' capital equipment (i.e. major decision, for example, declared the original "means of production"), and other property of Compensation Act unconstitutional because it "crucial importance for the national economy," 68 Hungary (Civil Code, Para. 89). Socialist ownership the state wide power to restrict its use through dominated industry, applying to over 99 percent taxation or simply by decree. of Hungary's industrial production. This Hungary has gone far over the past three property was deemed owned "by the entire years in redefining property rights and removing people' and enjoyed greater legal protection than the stigma and legal impediments attached to other forms of property. For example, all private ownership. The Constitution and Civil Hungarian citizens were obliged to protect state Code have been amended, and many other laws assets, and the Civil Code promised affecting rights in real property have been compensation for losses, injury, and death adopted. Section 9(1) of the newly amended resulting from this duty (Civil Code, Para. 179). Constitution abolishes the preferential treatment Similar to socialist property was of socialist property by granting private property "cooperative" property. When over 90% of equal rights and protection. In support of this Hungary's land was nationalized, it became right, Sections 13 and 14 of the Constitution cooperative property. This differed from guarantee compensation in the event of socialist property in that it was the "indivisible expropriation of property. The Civil Code property of a group of citizens spontaneously (Para. 177) also guarantees "adequate associated for common production, distribution, compensation" for property expropriated for the or meeting demands," (Civil Code, Para. 90). public interest. Although under socialism such While in this form ownership appeared to compensation was rarely paid, Hungary seems to remain vested in individuals, ownership rights express a greater commitment to abiding by this were still limited. Upon the winding-up of the fundamental principle by elevating this guarantee cooperative, the property did not revert to the from the Civil Code to the constitutional level. cooperative's members but continued to be part As with the Constitution, the most important of the cooperative property, managed by provisions on property in the Civil Code have countrywide organs representing the interests of been amended. Private ownership is now fully the cooperatives. accepted in Hungary, and the privatization "Personal" property was that which served program is attempting to transfer the bulk of personal needs, including family houses and state assets into private hands."6 Law XIV of apartments"5, vacation homes, furniture, and 1991 abolished all forms of socialist ownership, personal items such as clothes (Civil Code, Para. abrogated privileges of state and cooperative 91). These items were by law and in practice ownership as related to private ownership, freely transferable. However, entrepreneurship reviewed the range of exclusive state property was stifled by the prohibition of commercial and inalienable assets, and empowered the state trading; all transfers were supposed to meet only to cede certain property, such as forests and personal or familial needs. Also, separate pieces land, to private owners. Remnants of the prior of legislation restricted the size and number of system in related Code sections are no longer properties that individuals could own. Families enforced and should be interpreted in the spirit were restricted to owning a maximum of one of the recent amendments, a necessary process home (either a house or an apartment), one pending a thorough overhaul of the Civil Code. vacation home, and one agricultural plot. Although these prejudicial provisions of the Families acquiring additional property, for Civil Code could perhaps be eliminated with a example through marriage or inheritance, were quick amendment as was done in Poland, the by law required to sell the excess. Hungarians have opted to undertake a more "Private" property was defined as the systematic revision to the Code over the next individual ownership of means of production. several years under the auspices of a special While the Civil Code did recognize "the private codification committee appointed by the Ministry property of small producers which serves useful of Justice.17 business activity" (Section 93), it also granted 69 In the area of real estate, Act I of 1987 on Elmnating the Monopoly of State Owzership Land"' (as amended) has been instrumental in freeing up the private market for real estate. Once basic rights to private property have This Act, which covers not only land but also been defined, the next step is linking those rights buildings and other constructions, defines the with specific owners and eliminating the rights of owners and users and clarifies monopoly of state ownership. This is the most conditions for the purchase and sale of real controversial aspect of reform, as it raises the estate. Although somewhat unstable in its possibility of a redistribution of assets that could specifics due to continual amendment, this Act decidedly influence the pattern of wealth for the has served the important function of removing foreseeable future. the administrative barriers to private acquisition On the public side, assigning specific of real estate. For example, it eliminated the ownership rights to state-owned property "trustee-management" form of land-holding (including property of state enterprises, public common during socialist times, and it lifted the office buildings, and public housing) to various former 50 hectare maximum on private land levels of government is proving problematic in ownership. Now a private Hungarian person Hungary, as in several other CEE countries. (either natural or legal) may acquire real estate Two recent laws address this thorny question. without any legal limitation. However, other First, Act LXV of 1990 on Local Government practical impediments discussed below, such as transferred control over all state enterprise ambiguity to title and access to credit, continue property to the State Property Agency to retard the development of a real estate responsible for privatizations. Under this law, market. disputes still persist among the municipalities, Under the Land Law, foreigners are the districts, and the State Property Agency as to prohibited from owning agricultural land (unless ownership of enterprise specific property. allowed by another law). Foreigners may, Second, Act XII of 1991 on the Transfer of however, own non-agricultural land and State Property to Local Authorities transferred to immovable real property after receiving local governments ownership rights in most permission from the Ministry of Finance." other state-owned real property-including This permission is guided by the discretionary apartments, non-residential units such as small standard that the purchase may not "harm the shops, and numerous other state-owned Hungarian State or its autonomy, does not harm buildings.' The Ministry of the Interior is local governments,' nor cultural and touristic charged with implementing this Act by setting interests." Apparently, Hungarian expatriates up district and county level committees to whose property was expropriated can secure this review each land parcel transfer. With permission easily; similarly, foreigners who buy ownership rights comes the clear legal authority out their partners in a joint venture also tend to to sell this property. Such authority is critical to obtain permission. the development of the real estate market, In contrast, Hungarian corporate entities that because it identifies competent sellers to are either partly or even wholly foreign owned potential buyers, enables enforceable contracts of are entitled to own real property under the sale to be concluded, and thus reduces the Foreign Investment Act of 1988, discussed longstanding dilemma of unclear or clouded below. The only limitation on this ownership is title. that, under Section 19, the property must be related to the company's objectives. The Restituton. Title to both publicly and original purpose of this limitation was to prevent privately held real estate is not likely to be speculative buying by foreigners; however, real complicated by restitution (or "reprivatization") estate development appears to qualify as a in Hungary as it is in Poland, Romania, East proper business purpose. 70 Hungary Germany, the former CSFR, or Slovenia. 60 billion. About 3 million claims refer to Hungary's solution to the perceived injustices confiscated land. Another HUF 20-30 billion in caused by socialist expropriations is Law XXC, claims are expected from the extension of the the Compensation Act of 1991. This law Act to cover claims during the 1939-49 period partially compensates both Hungarians and by Jews and Germans; and a final HUF 20 foreigners whose property was expropriated billion from a proposed extension to cover those through regulations enacted after 1939. politically persecuted. In total, it is estimated Compensation takes the form of lump sum that the government will pay out a total of about payments in the form of coupons, the amount of HUF 100 billion (approximately $1.3 billion). which is determined by the value of the It is expected that about half the vouchers will nationalized property. Damages measuring up be used to purchase land and the other half split to HUF 200,000 will be compensated 100%; among apartments, shares in privatized from HUF 200,001-300,000, 50%; from HUF enterprises, rental rights to small shops, and 300,001-500,000,30%; and over HUF 500,001, annuities. The distribution of vouchers began 10%. The maximum payment will be HUF 5 March 31, 1992 and is expected to take up to 2 million (Compensation Act, Para. 4). years. The coupons function as transferable bearer Although Hungary's solution to the restitution securities and pay interest (75% of the basic problem avoids much of the inequity and interest rate of the central bank) until the inefficiency created by other countries' schemes, summer of 1994. Compensation coupons may some doubt its plan will achieve its restitutionary be used as full or partial payment for property goals. For example, in light of the shortage of sold by the state, including apartments, shares in attractive privatized assets, vouchers (and shares privatized state-owned industries, and farmland bought with them) may in fact be worth only (Id., Para. 7-8). A separate law is planned to 30% of their face value. Furthermore, enable the coupons to be transformed into life alternative investment options (e.g. life annuities to provide social insurance for their annuities) will probably yield insignificant holders. It also seems possible to pledge the regular payments. coupons as collateral for loans (Id., Para. 7). Only former land owners may use their Revising the Regulatory Framework coupons to purchase farmland. Such land will be auctioned and sold to the highest bidder.' Rent and tenancy restrictions. A large and In theory, former land owners may repurchase healthy rental sector is one of the best indicators their original land, if they prove to be the of a well-functioning real estate market, allowing highest bidder and if their particular parcel is wide household choice and facilitating labor auctioned off. However, the land that will be mobility. Labor mobility is particularly critical auctioned is not likely to be the most fertile; the during this transition period, as many old best land is currently held by cooperatives, enterprises are forced into major restructuring or which are expected to retain possession of their liquidation and newly emerging private firms land under the new law on cooperatives (Law I expand employment opportunities. Hungary's of 1992 on Cooperatives; see also Law II of restrictive eviction procedures are the key 1992 on Rules of Transition). Cooperatives are bottleneck to a fluid rental market. As in the setting aside 2.4 million hectares and state farms case of mortgage foreclosure, landlords seeking about .4 million hectares for compensation to evict tenants who have defaulted on their rent auctions. are obliged first to find an alternative unit for During the window for submitting claims the tenants before evicting them.' Unlike the (August-October 1991), 805,000 individuals case of mortgage default, renters who default on submitted 3.3 million claims worth about HUF their rent payments are not subject to 71 garnishment of wages. However, an expedited self-help measures because of cumbersome lease termination procedure is available for enforcement procedures and the overburdened certain types of public landlords. The Court judicial system. Enforcement Office sits at the center of the debt collection and eviction process in Hungary. In Land registranon. As noted earlier, most 1991, the Budapest Office received about 3,000- housing remained in private hands throughout 4,000 new claims each month for debt collection the socialist period. Buyers have always had an and had only 16 enforcement officers for the incentive to register their purchases in the whole city. The Office has not been active in property registry, because under the Civil Code mortgage foreclosures and has rarely pursued title passes only when it is recorded in the evictions in the case of non-payment of rent by registry (Para. 117), and registered owners have renters of privately-owned apartments (of which priority over other claimants (i.e. unrecorded around 100 private cases were submitted transaction are not enforceable against third monthly to the Budapest office.) Although parties). Thus, the existing property registry, courts have rendered thousands of verdicts for which is based on the German model, provides eviction, the Office carries out only about 10-30 adequate proof of private title in many cases, evictions per year from private rental units, after including private houses and apartments. an average eviction process of 4-5 years. This is not to say, however, that the land Rent control for publicly-owned residential registry is an accurate portrayal of current property is one of the most politically difficult ownership in the economy. As noted in Chapter issues on the current policy agenda. Current 1, some private buyers avoided registration rent levels do not allow local governments to during the socialist period if their individual recover even operating costs for housing stock, holdings exceeded permissible levels, and state much less capital costs-a condition which has nationalizations and transfers-particularly contributed to chronic under-maintenance and transfers of trustee rights sold by state the increasingly dilapidated condition of much of enterprises since the late 1970s-were not the housing stock. According to most observers, usually recorded in the land registry. central government regulations still determine Furthermore, individual apartments in large state rent levels for the public housing stock, although housing developments often went unrecorded. some argue that this power has been devolved to As in may CEE countries, agricultural land local governments. Rents in these units records are in the poorest condition because of probably will not be raised without clear central extensive nationalizations and regrouping of government action. cooperatives. Lengthy delays in the land In a second group of quasi-public units, the registration process-six months being the central government eliminated rent control on current norm-further heighten uncertainty in "forced tenancies" in January 1992. These real estate transactions. 100,000 private units were forcibly created during the period of mass expropriations and Mortgage lending. On the commercial side, allocated according to state rules. Tenants mortgages of real property have long been generally now view these units as public housing legally possible in Hungary. The Civil Code and have resisted owners' attempts to raise provides for the use of real estate (usually the rents, usually by successful appeals to local piece of property being financed) as collateral district councils. (Paras. 265-269). However, such mortgages In the slowly emerging purely private stock, have been rare, primarily is because commercial there are no rent controls. Rental agreements ventures have been rare. However, the are set by lease and are usually for a fixed term. availability of local financing of commercial Disputes between landlords and tenants in property is now increasing, at least for property private housing are typically handled directly by 72 Hungary being privatized by the government. The subsidized interest rates. This scheme resulted National Bank of Hungary refinances credits in a stock of housing loans with market value extended by commercial banks to private significantly below its book value-a stock noted Hungarian citizens for purchasing state assets as the single most important factor leading to the (including real estate) sold by the State Property technical insolvency of Hungary's portfolio- Agency ("SPA").2' Despite this availability of holding institutions.' In mid 1991, this old financing, as well as the growing need for portfolio was cleaned up. The loans were taken commercial mortgages, real estate lenders may away from the banks, borrowers were offered be discouraged by the new Bankruptcy Law substantial loan forgiveness in exchange for (discussed below), which grants priority to accepting new terms, and the remaining portfolio wages (including severance payments) and tax was returned to the banks as market rate loans claims over registered mortgage liens. Direct with an explicit budget allocation to cover the foreign financing of commercial property loan forgiveness.' development is not possible in practice, as By 1989 interest rate subsidies were foreign banks are prohibited from registering eliminated so that current loans, when they are mortgage liens on Hungarian real estate. Private issued, carry market interest rates-now about real estate developers argue that the main 35% for 15 year fixed rate loans.2' While constraints to land development are not interest rate subsidies were eliminated, numerous regulatory-compared with western regulatory other up-front subsidies remain, for example, hurdles-but are the unrealistically high prices based on the number of children or the purpose asked by local goverments. In addition, local of the loan. Because Hungarian banks are government and SPA requirements for public inexperienced in underwriting techniques and tenders have tended to stifle deals. because fixed rate mortgages are risky in the As with commercial property, mortgages on presence of significant inflation, few mortgages residential real estate have long been legally are being written. In practice, banks will make permissible yet little used in practice. Lenders small loans only up to the amount of subsidies have been discouraged from making substantial covered by the government. Most transactions mortgages because of the lack of effective legal are conducted in cash. mechanisms to repossess the collateral in case of A final area of concern in financing real default. Tenant protection laws, grounded in the property is the legal status of multi-family still-applicable 1971 Housing Act, make dwellings, because the availability of clear title foreclosure and eviction a cumbersome if not to individual units is important if such units are futile endeavor. Under this law, as noted to serve as mortgage collateral. Law Decree 11 earlier, those seeking to carry out evictions must of 1977 on Condominiums updates the 1920s provide alternative living quarters - a difficult condominium law and places Hungary well process giving the shortage of available housing. ahead of many CEE countries. However, Because evictions can take up to five years to inadequacies in the law, particularly in the clear all procedural hurdles, there are few, if procedures to secure voting majorities for major any, cases of foreclosure resulting in eviction. decisions, threaten to paralyze the process of Wage garnishment and third party wage renovation and rehabilitation of the Hungarian guarantees have typically been used as housing stock. alternatives to secure mortgages, but these alternatives are limited by priorities given to tax, Land use. Zoning is another area in need of alimony, and other possible claims. clarification. Like other CEE countries, Housing reforms in 1983 allowed captive Hungary has emerged from socialism with a household deposits to be used as mortgage diffuse and inefficient pattern of land use. collateral in lieu of the actual property2" and Currently, the land use system is in limbo. Old established a housing finance system of 73 regulations are not necessarily being fbllowed, CEE countries. However, inadequate means for no general land use framework has been set, and investigation and enforcement remain a problem, authority to regulate has not been vested fully in resulting in widespread piracy, mainly of local governments. Although questions of title software, music, and pharmaceuticals. As are being addressed, authority over zoning and Hungary begins to recognize and protect private building regulations has yet to be clearly property rights generally, intellectual property assigned among local actors. Currently this should also begin to be better protected. This authority may be exercised by district or county will require, however, stronger investigative and governments, city planning departments, public enforcement policies, without which utility authorities, county commissioners, or a infringements will be difficult to curb. number of central ministries. Because owners are unsure from whom to seek necessary Patents and Trademarks permits, they often attempt to secure permission from everyone-both those who currently appear As in other CEE countries, Hungarian patent to exercise authority and those who formerly did law had little meaning within the domestic so. This is time consuming. economy during the socialist period. Just as the While some existing regulations may no state owned most of the physical means of longer be needed, other regulations needed by production, so it owned the rights to most private real estate developers-such as inventions used in production. Almost all regulations governing commercial scale workers were employees of the state, and there residential, commercial, or industrial subdivision was little competition or reward for of undeveloped land-still do not exist. Nor is entrepreneurship in ideas. The main demand for there an appropriate regulatory framework intellectual property protection arose from governing infrastructure needs and financing for foreign firms doing business in Hungary. private land development-for example, a Hungary's current domestic legislation on framework that would permit exactions, special patents stems from the socialist period and assessments or land readjustment. A 1991 includes Patents Act No. II of 1969, Decree- modification of the Building Law does permit Law No. 5 of 1983 on Patents, and Decree No. conversion to industrial uses of agricultural land 28 of 1978 on the Protection of Industrial at the urban fringe (usually the most dynamic Designs. As with many western laws, these area for commercial land development) upon laws give an inventor exclusive rights over an payment of a transfer fine to a land protection invention2e for 20 years from the date of fund, but the actual impact of such regulation application. Like other socialist patent needs to be tested. Rules for real estate brokers legislation and unlike most western law, and for resolving property valuation disputes are however, until 1992 Hungarian patent law not in place. Finally, building standards are prohibited certain inventions from being governed by the 1990 National Building Code patented, including medicines and chemically and the old 1986 Budapest city planning rules. fabricated products, food products, and A new Construction Law has yet to be written "immoral" or illegal items. A recent with affordable building standards for the types amendment to the Patent Act deleted article 6(3) of buildings market systems are likely to (excluding pharmaceuticals and chemicals from demand. patentability) in order to harmonize the Act with the European norm and allow Hungary to apply Rights to Intellectual Property for associate membership in the European Patent System. A complete revision of the Patent Act The legal framework for intellectual property is expected to be presented by 1994. protection in Hungary has generally been The law also provides for "compulsory considered better than that available in other licenses," by which the state can grant use rights 74 Hungary to third parties if an invention has not been 1967. As noted in Chapter 1, this convention sufficiently utilized within three years of its grants national treatment and right of priority to being patented. In this situation, parties may foreign holders of patents and trademarks. negotiate the proper licensing fee, but if a fee Right of priority lasts six months for cannot be agreed upon by the patentee and the trademarks, as opposed to one year for patents. licensee, it will be fixed by the court. It The Paris Convention does, however, provide a remains to be seen whether or not this provision bit more substantive protection for trademarks will be removed or will remain in place, as a than for patents by automatically protecting well- similar provision has remained in Romania's known marks without requiring that the mark be new patent law of 1991. Practically speaking, registered in other member countries. Hungary however, the compulsory licensing power is is also signatory to the most current text of the unlikely to be used much in practice, as Madrid Agreement Concerning the International compulsory licenses are often ineffective due to Registration of Marks (Stockholm, 1967). the user's likely need for the patent holder's technological expertise and cooperation. Copyright A related provision allows the government to license any patent at will for purposes of The current Hungarian law providing national defense. It is unclear what type of copyright protection is the Hungarian Copyright compensation is available in such circumstance, Act No. m of 1969 (as amended in 1978, although the constitution provides a general implemented by Decree No. 9 of July 12, guarantee of compensation in cases of 1983). This law is considered to be the most expropriation. As with the compulsory license advanced of all CEE copyright laws, mainly provision, it remains to be seen whether this because it contains some protection for computer state power will remain in Hungary's patent law. programs (since 1983) and is generally All patent applications are submitted to the consistent with European norms. In keeping National Patent Office, which conducts a formal with the commonly accepted language of examination of the application. The process copyright protection, this law protects "literary, takes approximately 18 months, normal by scientific and artistic creations. "I While such western standards. The application fee itself is language in other countries is often interpreted nominal (HUF 1000-2000), as is the annual fee not to include computer software, the (HUF 6000) for the first five years. Thereafter, implementing decree of July 12, 1983 explicitly the fee grows incrementally, reaching HUF includes "computer programs and the related 24,000 (approximately $US 300) in the 20th documentation."'31 year. Decisions of the Patent Office may be Sound recordings are protected under Decree appealed to the Metropolitan or Regional Court, No. 19 of 1975 on the Protection of Producers and from there to the Supreme Court. of Phonograms. This protection grants Trademarks in Hungary are protected by Act producers the exclusive right to reproduce, No. IX of 1969. This law grants exclusive distribute, or publicly perform the work in rights of use and transfer of registered question but neglects the more important trademarks for an initial period of 10 years, economic rights to commercial renting and renewable for 10 year periods thereafter. Like lending.32 Furthermore, no criminal sanctions patents, trademarks are to be registered at the protect the rights that are granted in the decree. Patent Office. Fees are HUF 3000 for the first Registration of copyrighted work is not ten years plus and additional HUF 1000 for required under Hungarian law. Upon creation international registration. works are protected. Generally, works are On the international front, Hungary has been protected for 50 years after the death of the a signatory to the Paris Convention for the author. Sound recordings, however, are Protection of Industrial Property (1883) since protected for only 20 years.33 75 Chapter V of the Copyright Act lays out Enterprise autonomy was first legally recognized certain restrictions on contracting with in Act No. VI of 1977 on State-Owned Hungarian authors or users. Such contracts Enterprises. The true landmark of enterprise must be made through intermediary agencies management reform, however, appeared with the listed in Section 20 of the Implementation 1984 amendment to this act, Decree No. 22. Decree. One such agency is ARTISJUS, a The amended act introduced the concept of the governmental agency functioning as a self-managed enterprise, whose management performing rights society, a copyright licensing could take one of two forms: the enterprise agency, and a copyright spokesman for the council (a representative body of employees) or government. In addition, most copyright the general assembly of employees. As a result disputes are mediated by ARTISJUS, although of this law, approximately 80% of Hungary's they may be brought before the Metropolitan enterprises became self-managed,3' while the Court. remainder stayed under central state Hungary has been a signatory to the Berne administrative control.35 Convention, which protects literary, scientific, In the late 1980s Hungary made a series of and artistic works, since 1922. It adheres to the reforms designed to further its transformation to most recent revision of the Berne Convention, a market economy. Unlike Poland, it did not the Paris text of 1971, which extends the period revive its prewar company law. Rather, of protection from 25 to 50 years. Hungary has Hungary used the opportunity to draft an also been a signatory to the Universal Copyright entirely new code, the Act on Economic Convention since January 1971 (including the Associations, based upon German and Austrian Paris Act, July 1974) and the Geneva models. As in other CEE countries, Hungarian Phonograms Convention since 1975. company law serves companies being newly established as well as the "corporatization" of Company Law formerly state-owned enterprises.' The law recognizes a number of business forms of Historical Background organization, including the joint stock company, the limited liability company,37 and both The idea of firm-level independence and general and limited partnerships. autonomy is not an entirely new concept in Hungary. From 1875-1948, Hungary's Characteristics of a Joint Stock Company company law had been developing in tandem with those of its western neighbors. The law In Hungary the joint stock company is often was abandoned after the introduction of referred to as the "company limited by shares" socialism and, although it was never formally or "share company." It resembles the French abrogated, it did cease to develop. For two (SA), the German (AG), and the American decades after 1948 Hungary followed the publicly held corporation. It is designated by classical model of centrally planned socialism. the letters "Rt. " in its name. This form is most Then, in an attempt to move away from classical appropriate for companies seeking a large socialism toward a socialist market economy, number of shareholders and is the most Hungary adopted the New Economic Mechanism conducive to public offerings. in 1968. As noted earlier, the NEM delegated more decision-making to the enterprise level. Capital and share requirements. A joint Enterprises were still expected to meet their stock company may be founded by one or more production targets under the state economic plan, individuals. Minimum capital is very high: but they were freer to make their own decisions HUF 10 million (approximately $130,000), of regarding the means (including labor and which at least 30% must be paid in upon investment needs) to meet those ends. 76 Hungary registration.3" The par value of each share possible to structure preferred shares without must be at least HUF 10,000 ($130), or a value voting rights to resemble interest-bearing shares. divisible by 10,000. The total amount of the par Varied instruments of debt financing, value of all shares constitutes the company's including convertible and preference bonds, are registered capital. The value of non-cash also possible under the Company Act (Sec. 246), contributions may be included in capital, if although the value of convertible bonds may not checked by an auditor and disclosed by the exceed 50% of the company's registered capital. founders in a written declaration.' A convertible bond entitles its holder to convert This form of company provides the most the bond into equity shares on terms detailed in freely transferable vehicle for investment. the bond itself, which is favorable to the holder Bearer shares are freely transferable,' as are when dividends exceed the bond's interest registered shares (Sec. 240). The form also payments. A preference bond entitles its holder offers the greatest flexibility in obtaining capital, to the option of buying a proportional number of although many of the financial instruments new shares, should the company decide to issue envisioned in the Company Act (as discussed them. Apparently such a bond may be below) are not yet used in practice, due in large exchanged for the new shares, but the rate of part to a lack of familiarity by Hungarian conversion is an open question. While there is investors. no practice yet, Hungarian lawyers read the A wide variety of stock classes is authorized statute to allow conversion only at par value, not by the Company Act, although shares within the at market value. same class must have identical face value. Finally, workers' shares are envisioned by Voting rights of different classes of shares may the Company Act (Sec. 244). These may be differ without limit, if so specified in the distributed to current employees free of charge company's charter. While voting rights are or at a rate lower than the issuing or market generally proportional to share value, the articles price. Their total may not exceed 10% of the may limit those rights. Preferred shares may be company's registered capital. The shares may issued that entitle the owner to priority in the be transferred to other workers and pensioners. distribution of dividends, althoughthetotal value The original version of the Company Act of preferred shares may not exceed 50% of the allowed the state to acquire a golden share, company's registered capital (Sec. 242). Such which enabled the state to exercise 51% voting preferred shares may carry limited or zero power if it owned at least 33.3% of the shares voting rights if so detailed in the company (Sec. 269). Generally, such a golden share is statute.41 Companies may also issue interest- meant to give veto power to its holder over bearing shares (Sec. 245). This share is a certain company decisions (as indicated in the modern hybrid, possessing characteristics of company statute) that could be harmful to both debt and equity financing. Like debt, national welfare.42 This privilege is usually interest-bearing shares earn a rate of interest, as reserved for government and is most often used determined by the company statute, regardless of by governments privatizing industries that they whether the company has shown a profit that consider strategic for the national economy. It year. Like equity, such shares may also be enables them to prevent "undesirable" parties entitled to receive dividends. In light of the from taking control, without forcing the demands such financing may put on a company, government to own a full 51%. Use of the these shares may total only 10% of the golden share by former socialist governments company's share capital. While this share type has been looked upon with suspicion, mainly has not been used much yet in practice, owners because it locks in government control at the of interest-bearing shares are entitled to "the expense of a developing market for corporate other rights attaching to the share' (Sec. 245), control. Although the Hungarian govermnent including voting rights. It would also be did seek a golden share in some of its privatized 77 industries (for example, in the tourism company more than five years, but may be re-elected or Ibusz, one of Hungary's most profitable re-called at any time. Although executive industries)'4 overall golden shares have not officers are held to a general duty of care been common in Hungary. defined by the Civil Code, principles of officer Shareholders are entitled to dividends in and director liability are not yet well-developed. proportion to their share value, and, in the event The Board of Directors must consist of of liquidation, to a proportional share of the between 3 and 11 members. Conflict of interest company assets. The distribution of dividends is provisions attempt to prevent members of the at the discretion of the directors, but dividends Board from concluding in their own names may not debit the registered capital. All transactions similar to that of the company, shareholders may attend the general meetings, being a partner with unlimited liability in any and those holding voting shares may vote in enterprise similar to the company, and being a person or by proxy. A simple majority is leading official in similar companies (Section needed to elect and recall members of the Board 280). of Directors and the Supervisory Board, to The Supervisory Board is charged with approve the balance sheet and profit distribution, overseeing the activity of the Board of Directors, to issue convertible or preference bonds. A although the respective competencies of the two three-fourths majority is needed to amend the Boards are determined largely by the specifics of Articles of Association, modify rights attached to the company's charter. It must consist of a particular type of share, and merge, dissolve, between 3 and 15 members, who may be elected or convert the company to another form. from either among the shareholders or from Because this three-fourths majority is required to outside. If the company employs on annual make many key business decisions, in practice average 200 employees, one-third of the investors have generally sought this level of supervisory board must be elected by the control when buying companies privatized employees. through the State Property Agency. The company law protects the rights of Chtaracteristics of a Limited Liability Company minority shareholders, defined as representing 10% of the shares (or a smaller percentage if The limited liability company form resembles included in the company's charter). Such a the German GmbH and the French SARL. It is minority can call a general meeting, place a identified by the letters "Kft." or "Ltd." specific item on the meeting's agenda," and appearing after its name. A limited liability request that the supervisory board examine company may be founded by one or more management's activity (Sections 273-275). Any individuals, apparently with no maximum shareholder or member of the supervisory board limit.' Its minimum capital must be HUF one may appeal to the Court any decision of the million (approximately $13,000), lower than that general assembly thought to infringe the for the joint stock company but still a high Company Law, the articles of association, or barrier for new private entrepreneurs. This any other law (Section 276). capital is divided into stakes of a predetermined amount. Each stake must be at least HUF Corporate governance. All joint stock 100,000 and exactly divisible by 10,000 (Section companies in Hungary must have three layers of 159). Parties holding a stake in the company governance: the executive officers, the Board of are referred to as members. One stake may be Directors (or "Administrative Board"), and the held by several individuals, who together are Supervisory Board. In addition, an outside deemed to be one member, who exercise their auditor is always required. Executive officers rights through a common representative, and may be appointed for a definite period of no who are jointly liable for the obligations of the members. Each member may hold no more than 78 Hungary one stake, but the value of that stake may mandatory for the LLC only if its capital increase (or decrease) in proportion to his or her exceeds HUF 20 million, the members exceed contribution (Section 169). Contributions may 25, or the annual average number of employees be either cash or in-kind. Upon foundation of exceeds 200. In the latter case, one-third of the the company, at least 30% of the initial capital members of the supervisory board must be (but not be less than HUF 500,000) and at least elected by the employees as with the joint stock 50% of each stake must be paid in (Section company (Section 13(1-2)). An independent 160), the rest payable within two years. auditor is required if the company's initial Members' stakes are freely transferable to any capital is greater than HUF 50 million, or if the other member of the LLC, but before being sold company is held by one person. to outsiders they must first be offered to other members, the company, or someone chosen by Characteristcs of the TWo Partnership Forms the membership.' These requirements are absolute, and the deed of association may not Two common forms of partnership are stipulate more favorable terms. Unlike the joint included in the Company Act, the general stock company, the limited liability company partnership and the limited partnership. In the may not recruit contributors through public general partnership, all partners are jointly and appeal (Section 156). severally liable for the partnership's liabilities Members are entitled to dividends and, in the (Section 55). The limited partnership consists of event of liquidation, assets in proportion to the limited partners, whose liability is limited to size of their stakes. Voting rights are their contribution to the partnership, and one or determined by the size of each stake; each HUF more general partners, who are responsible for 10,000 unit entitles its holder to one vote. actively managing the company and whose Thus, each member has at least 10 votes, but liability is unlimited.'7 Both forms are quite variations above this minimum may be flexible, as partners are able to negotiate their determined by the deed of association. Apart own arrangements concerning capital from the obligation to pay in one's primary contributions, distribution of profits and losses, stake, members bear no liability for the LLC's and allocation of voting and managerial rights. debts. As is common in CEE countries (with the Members must hold meetings at least once a exception of Poland and the former CSFR), year. Decisions are passed by simple majority Hungarian partnerships are not pass-through unless otherwise stipulated in the articles. entities and are thus subject to tax at the entity However, members may pass decisions by mail level. without holding a meeting, subject to the normal requirements for voting majorities, unless any Scting Up a Company member requests a meeting be convened to discuss the decision. Minority shareholders (i.e. The first step in setting up either a joint stock members representing at least 10% of the company or a limited liability company is current registered capital) may call a meeting of drafting the Articles of Association, which must all members (Section 190). As with the joint then be signed by all the founding members and stock company, any amendment to the the company attorney (Section 19). Although company's deed of association requires a three- the Articles must be notarized, this procedure is fourths vote. not so expensive or time-consuming as in some The LLC may be managed by one or more other CEE countries, because the job of notaries directors or managers, elected by members is not to approve the form of the documents, but representing a majority of the company's merely to certify that the signatures are assigned votes to serve for terms of 5 years. A authentic. Supervisory Board with at least 3 members is 79 Within 30 days of the Articles being adopted, associated with it. The forms for such the company must apply to the Court of investment are governed by the Law on Registration to register the company (Section Economic Association discussed above and 23). Included in its application must be a include both incorporated firms and branches. registration fee equalling 2% of the company's No special permission is needed.'9 In the event initial capital and a certification from the bank of expropriation, the law guarantees foreign that the initial capital is on deposit. This step is investors full compensation in the currency of known to be slow-taking on average about 6 the original investment. months-and cumbersome, although the Court of Registration is now fully computerized. The Profit Repatriation delay is caused by the enormous backlog of applications, mistakes generated by the relative While the Hungarian forint is not yet inexperience of lawyers filing registrations, and formally convertible, the foreign investment law careful court scrutiny of each application for does allow foreign investors to repatriate their conformity to Company Act requirements. If forint profits5 in the currency of the original some provisions do not comply with the Act's investment (at the official exchange rate), formal requirements, the Court may return the "provided the company has the equivalent Articles for changes. As local lawyers gain amount in forint on reserve." This language has more experience with the Company Act, they been a source of confusion for many investors are using simpler articles of association (which but has been understood to mean that profits closely track the Act's language) and are having must be actually received and deposited in the fewer returned for corrections. investor's account before repatriation is possible. The company attains legal personality upon In practice, this means companies must obtain its registration in the Trade Register (Section bank certification that the forints have been 24). It may then access its bank deposit and deposited. And while the law is unclear on the formally begin its activities. In addition, it may point, some lawyers understand that companies then ratify any actions taken by the founders may apply for such certificates only at the year's after adoption of the articles but before company end, when the company declares its annual registration. dividend. Other lawyers, however, argue that profits may be repatriated at any point during Foreign Investment the year, based on an approved temporary balance sheet and subject to the requirement that Since Hungary opened its doors to foreign the profits be returned to Hungary if there is a investment in 1988, the country has enjoyed a negative profit balance at year end.5" level of foreign investment unmatched by any Foreign individuals and companies with other CEE country.' This was initially due to foreign participation are permitted to maintain Hungary's original foreign investment law, Act hard currency accounts in any Hungarian XXIV of 1988, which was the most liberal commercial bank. Hungarian companies investment law in the region at that time. The receiving capital contributions from foreigners in law has been modified periodically since then, hard currency may also deposit them in such but it still retains the basic features that are accounts. attractive to foreign investors. Tax Incentives Fonns of Investment Hungary's corporate tax rate is currently The law allows foreign individuals and 40%, but the foreign investment law offers entities to own up to 100% of a Hungarian generous tax incentives to foreign investors investment, including the real property (Para. 15 (4)). These incentives are industry 80 Hungary specific and depend upon the amount of foreign severely complicate tax administration. investinent. 2 An annex to the Foreign Recognizing these problems, Hungary has Investment Law identifies areas of particular moved recently to eliminate these special tax importance to the Hungarian economy.' If incentives for foreign investments. They are to more than 50% of a company's sales revenue is last for a maximum of 10 years and be available derived from these activities, the founding only to companies that are substantially in capital exceeds 50 million forints, and the production before the end of 1993. foreign contribution is at least 30%, the company receives a 100% tax holiday for the Dispute Resolution first five years, followed by a 60% holiday for the second five years. Other sectors receive The Hungarian foreign investment regime smaller tax benefits. For example, companies gives substantial freedom to private investors to building or operating a new hotel5 with choose the mode and venue for purposes of founding capital above 50 million forint and with dispute resolution. Given the relative lack of a foreign contribution is at least 30% receive a commercial experience and precedent in the 60% tax holiday for the first five years and a Hungarian legal system, joint venture 40% holiday for the second five years. In agreements often provide for arbitration to addition, taxes are rebated on profits reinvested resolve disputes that may arise. At present by the foreign partner in Hungary. approximately half of all disputes are arbitrated On the customs side, foreign investors through the Hungarian Chamber of Commerce, importing capital equipment will not be charged and about half in other international fora. Apart customs duties if 1) the equipment is part of the from the Articles of Association, which must be foreign investor's contribution, or 2) it is paid governed by Hungarian law, any other for out of the company's hard currency account. agreement related to the setting up or operation If, however, during the subsequent three years of a joint venture may be governed by foreign the company sells or leases that equipment, then law if the parties so choose.' the company must pay the customs duty Hungary has been a signatory to the applicable at the time of importation. Customs International Convention for Settlement of free zones for foreign investors are also Investment Disputes since October 1986. This envisioned by the act. Companies incorporated Convention guarantees a forum in which private in these zones will be exempt from Hungarian citizens of signatory states may arbitrate against customs, excise, and exchange control governments of other signatory states. regulations, as well as price controls and state supervisory regulations. They may maintain Contracts accounting systems in fully convertible currencies. Companies seeking to incorporate in Features of Socialist Contract Law such zones must obtain approval of the Ministry of Finance. Customs free companies have Contract law in Hungary, as in all of its already been established in certain industries, European neighbors, has been broadly governed with special rules on how the plant is built and since 1959 by the Civil Code and more operated--requiring security fences, guards, and specifically by companion laws and documents-to segregate customs-free goods. implementing regulations and decrees. Two The generous tax incentives offered to distinct spheres of contractual relations existed foreign investors in Hungary have been widely during the socialist period: the private and the criticized by economists and tax policy experts. commercial, or "economic." The private sphere Not only do they discriminate against domestic consisted mainly of personal agreements among investment, but tax incentives-holidays, in individuals, usually for small monetary amounts particular-can cause large revenue loss and or equivalents. For these contracts, the Civil 81 Code was and still is adequate to set a contrast, monetary damages tend to be the framework for bargaining and to resolve any preferred remedy in a market economy, where disputes that may arise. Contracts between the damaged party can typically reenter the citizens, or between citizens and economic market and negotiate another contract for those organizations, did not differ essentially from goods or services.57 In socialist economies similar contracts in western market economies, there was often no other supplier or purchaser to although their scope was influenced by the which the injured party could turn. economic policies of the state-most importantly Furthermore, determining the proper level of the restrictions on ownership of private property damages would not be as straightforward given and the means of production. the absence of market signals. More significant for Hungary's economy Compared to other CEE countries, Hungary's were the "economic" contracts. These referred industrial sector is generally thought to have to contracts between state enterprises that were enjoyed relatively greater freedom of contract instruments of the state economic plan. Because during the socialist period. Much of this was state-owned enterprises were expected to fulfill due to management reform under the New their production quotas under the state plan, and Economic Mechanism of 1968, which shifted because the socialist industrial base existed more decision-making power from the ministries primarily of monopolistic suppliers, state-owned to the enterprises. Act IV of 1977 significantly enterprises had little choice regarding with modified Hungary's contract law by whom and to what extent they contracted. Thus, reintroducing the concept of freedom of contract inter-enterprise agreements were in essence into the commercial sphere. While management translations of plan targets into contractual form. did enjoy greater independence after the reforms If the term "contract" implies bargaining in of the late 1960s and 1970s, enterprise output pursuit of one's own interest, the term "socialist was still expected to meet the goals set by the contract" seems an oxymoron. national economic plan. Moreover, freedom of Like Poland, and the former CSFR, Hungary contract continued to be limited by the scarcity specifically incorporated socialist principles into of both economic resources and credits. Thus, its Civil Code. Thus, the civil code allowed for freedom of contract was substantially increased mandatory conclusions of contracts by statute or but still did not approach that found in western ministerial decree (Para. 198); nullification of market economies. To this day, many contracts injurious to socialist norms (Para. transactions remain governed by the Contract for 200); modification and conclusion of contracts Delivery of Merchandise (Paras. 379-386) and by the courts to further national economic the Contract for Delivery of Agricultural interests (Para. 206); and definition of the Produce (Paras. 417-426), which include many contents of contracts (such as prices) by legal obsolete administrative requirements and rule (as determined by state arbitration), restrictions. regardless of the wishes of the parties (Para. 226). lhe Current Situation Until the 1970s, disputes resulting from socialist contracts were usually withdrawn from Commercial transactions in the economy are the jurisdiction of the courts and relegated to so- increasingly being conducted according to the called Decisional Committees, which functioned sections of the Civil Code originally designed more as administrators of the state plan than for small, noncommercial private transactions. impartial jurists.' Because contracts were These sections embody standard western contract designed to implement the central plan and concepts. They incorporate basic principles of because of the scarcity and monopolization of offer, acceptance, and performance. They most resources, the preferred form of remedy in provide standard terms for about 25 types of case of breach was specific performance. In transactions, such as sales contracts and real 82 Hungary estate leases." They also provide legal proposal is approved, the court declares the doctrine to govern usurious interest rates, bad bankruptcy procedure concluded within 15 days. faith dealing, illegal contracts, mistake, The second procedure, liquidation, can be deception, duress, capacity, and impossibility of initiated by the debtor itself or by a creditor.6' performance. In addition, a reorganization procedure automati- Because courts have little experience with cally becomes a liquidation one if the debtor and commercial contract cases, how such provisions the creditors fail to reach agreement within 90 will be applied in conrnercial disputes remains days. During liquidation, the debtor's assets are to be seen. Court interpretations and decisions managed by a trustee, who is charged with over the coming years will determine the true liquidating the debtor's assets and repaying substance of contract law in Hungary and just creditors. However, the debtor may still try to how far "freedom of contract" extends, reach a settlement with its creditors during particularly when it collides with other social liquidation. If such a settlement is reached, the concerns. liquidation procedure is suspended. A settlement is approved only if accepted by half Bankruptcy of the creditors entitled to vote in each class of creditors, and by creditors representing at least The New Barauptcy Law two-thirds of the total claims. The law also contains a "simplified" liquidation procedure for The Law on Banlruptcy Procedures, cases where the value of the debtor's assets are Liquidation Procedures and Final Settlement was insufficient to cover even the costs of liquidation passed by Parliament in September, 1991. It proceedings. In such case assets themselves may provides two alternative avenues for defaulting be distributed to the creditors. debtors-reorganization and liquidation. The The new law is different from the previous first avenue, reorganization (or "bankruptcy' in one in several important respects. First, it the official Hungarian translation), did not exist establishes time limits on the different stages of under previous law and is similar in purpose to the bankruptcy and liquidation process in order Chapter 11 of the U.S. Bankruptcy Code. It is to speed up the process. For example, following a workout procedure designed to allow the a petition, the court is required to determine debtor to achieve a settlement with creditors and whether to initiate a bankruptcy procedure continue in operation. The debtor may file for within 15 days (Section 12), an action that under reorganization if it expects that it will otherwise the old system took up to several months. In the be forced to default on its debts within a year, case of petitions for liquidation, the court has to or if it is already insolvent but its creditors have establish the presence or absence of a default not yet initiated liquidation. The debtor is within 90 days (Section 27). As noted earlier, indeed obligated under the new law to file for there are strict time limits on the preparation and bankruptcy (i.e., reorganization or liquidation) negotiation of a reorganization agreement. The if it is more than 90 days in default.5 draft law also imposes a maximum of two years During reorganization, the current for the completion of liquidation. management remains in control of the debtor's Second, the law tries carefully to balance the assets. After the announcement of the distribution of control over assets and of bankruptcy procedure, the debtor is entitled to a bargaining power between debtor and creditors. 90-day moratorium on monetary claims (other As indicated above, the management of the than wages) that have become due. Within 60 debtor enterprise effectively retains control and days it must prepare a proposal for therefore has significant bargaining power reorganization to restore solvency, which must during negotiations for a settlement. However, then be approved by all creditors present at the two provisions are introduced to protect hearing called for such purpose.' If the creditors. First, creditors may request the court 83 to appoint a "property supervisor", who has no particular, it is not clear whether a dissenting management powers but nevertheless oversees secured creditor retains the right to exercise its the financial situation and asset management of security or whether an agreement can reduce its the company to protect creditors' rights. claims without its prior consent.63 Second, the automatic transformation of Finally, the mandatory filing requirement reorganization into liquidation (Art. 21) in case after 90 days of nonpayment and the unanimous a settlement is not reached inhibits the debtor's consent requirement for reorganization managers from delaying the process or adopting agreements, both noted earlier, are perhaps an unduly tough position during negotiations. overly strict and could reasonably be relaxed. Third, the new law encourages reorganization in lieu of liquidation when feasible, and it tries The Law in Practice to encourage real as well as financial restructuring to make surviving firms more The number of bankruptcy filings has competitive in the longer-run. The restructuring skLyrocketed under the new law, the number of agreement is required to contain "measures filings increasing from 528 in 199164 to 14,300 likely to result in the increase of incomes" (Art. (4400 as reorganizations and 9900 as 18,1.a). Moreover, the law explicitly mentions liquidations) in 1992.'3 Because the law came that "within the framework of the into effect January 1, 1992 and requires agreement ... creditors or third parties may secure reporting after 90 days in default, there was a ownership rights in the propertr of the debtor" particular surge of 3500 filings in April (Art. 17). Both provisions increase the alone-including 2200 reorganization filings and likelihood that agreements address not only 1300 liquidation filings. financial but also real restructuring. The The strong pace of filings is expected to creditors are also allowed to designate persons to continue for several reasons. First, new banking monitor the debtor's compliance with the and accounting laws put pressure on the banking agreement. The ability to monitor increases system and make banks more vigilant on debt creditors' confidence in agreements and collection. Second, the new law makes creditors therefore encourages reorganization. more willing to initiate bankruptcy, both because Despite these positive aspects, however, there liquidations are faster and because the new law are a few areas where the current law may is more protective of creditors' rights. Third, benefit from further improvements. One enterprise managers are more likely to initiate drawback of the law has to do with the priority bankruptcy under the new regime, because they among claims upon liquidation. Specifically, the are subject to penal sanctions if they willingly claims of creditors secured by liens on assets fail to do so when the enterprise is insolvent. have lower priority than claims for wages and Furthermore, they may be more willing to severance payments, which are considered to be initiate bankruptcy because of the possibility of liquidation costs. This provision-a political reorganization (and retention of their jobs) in compromise and a deviation from the lieu of liquidation. international norm-is likely to dampen the This surge in cases demonstrates the incentives of secured creditors to initiate difficulty of applying the traditional bankruptcy, to reduce the role of banks in solution-judicial bankruptcy proceedings-to enterprise restructuring, and to constrain the the systemic problems of enterprise insolvency development of secured credit as a financial in CEE countries. It is highly improbable that instrument. my judicial system--much less one with In addition, the rights of dissenting secured relatively little exposure to economic creditors in a settlement arranged between matters-could handle such a surge in caseload creditors and the debtor during the process of efficiently and effectively. As noted earlier, the liquidation need to be further clarified.' In judicial route works best at the margin, but other 84 Hungary means may be needed to handle the large superiority" or if "the advantages exceed the systemic problems, which could affect 30-50 disadvantages") (Paras. 15-17). Thus the law percent of the economy.66 Not only are provides a relatively weak restriction and gives experienced judges in short supply, but so are the antimonopoly office and the courts wide qualified trustees. Especially in cases that discretion in reviewing cases. While this involve large enterprises, liquidators have to act discretion might help the authorities concentrate as corporate managers and financial managers in scarce administrative resources on certain cases, order to preserve the assets of the enterprise it weakens the general deterrence power of the and, whenever viable, to encourage settlements law and could lead to long drawn-out arguments between creditors and debtors. They also need on what is or is not a limitation of competition. to have legal expertise.67 The Ministry of Hungary might want to consider strengthening Finance has recently increased the pool of the prohibition of horizontal cartel agreements liquidators by establishing objective criteria for by adopting a "per se" approach.' eligibility and selecting 90 additional liquidators In the area of vertical agreements, a separate from among numerous applicants. That is, section of the law forbids abuse of a however, still a small number for the thousands "dominant"71 position (Para. 20) and includes of cases now being filed. certain restrictions on vertical agreements. Para. 9 prohibits vertical tying arrangements Antimonopoly Law regardless of the size of the firms involved. Hungary is wise to limit its scrutiny Hungary's new competition law is Act of vertical restrictions to those involving LXXXVI of 1990 on the Prohibition of Unfair dominant firms, and the same rule should Market Practices,' which took effect on probably apply to tying arrangements. January 1, 1991. The law deals with the Also included in the section on dominant traditional areas of antimonopoly enforcement, firms is any behavior that limits access to the including horizontal and vertical agreements market to new entrants (Article 20). This is among firms, abuse by a single firm of a extremely important in the Hungarian context if dominant position, and merger control, and it new private firms are to gain access to inputs sets up a specialized antimonopoly office, the and distribution networks. However, the Office of Economic Competition, to enforce Hungarians must be careful not to interpret these provisions (subject to review upon appeal reasonable market behavior-such as buying in by the Budapest district court).' The law also bulk, requiring up-front deposits from covers unfair competition and prohibits such purchasers, or raising or lowering prices to activities as misleading advertising or "unfair" consumers-as anticompetitive. In general acquisition and use of business secrets. enforcers should refrain from imposing direct On the topic of horizontal agreements, the price conditions, concentrating more on law explicitly forbids agreements among conditions of access to the market. competitors concerning such things as price, With regard to market structure, the market division, technological development, or Hungarian law empowers the antimonopoly exclusion of certain consumers or input suppliers office to review proposed mergers of large firms (Para. 14). However, the approach is a "rule of (Article 23)n and block any that are deemed reason" one rather than the "per se" ban on anticompetitive (Article 24). As with horizontal horizontal cartel arrangements, as there are agreements, there are exceptions to the rule; numerous exceptions to the prohibition, both mergers need not be blocked, for example, if the specific (such as agreements between parties advantages to competition exceed the with less than 10 percent of the market) and disadvantages, or if the merger promotes general (for example, if such agreements are penetration into foreign markets. Again, the "aimed at stopping abuses of economic agency is given almost unlimited discretion. 85 One important element missing from the law commercial cases. Although the local courts are is authority of the antimonopoly office to order not divided into chambers, judges do tend to the break-up of large monopolistic firms. Such specialize, meaning that in practice cases are authority should exist, particularly in the case of heard by judges with some experience in the state-owned enterprises being privatized. Such area. Hungary has a fairly unified court system a link between antimonopoly policy and with few separate specialized courts, except for privatization exists in both Poland and the the Labor Court, the Court of Registration, the former CSFR and is a useful tool to inhibit the Court of Arbitration attached to the Hungarian privatization of public monopolies into private Chamber of Commerce, and the Military Court. ones (which are much harder to control or Appeals from the local courts are to the break-up once in private hands). county courts. There are nineteen county courts Interpreting and applying the new Hungarian in Hungary, as well as the municipal court, law effectively is an enormous challenge, which serves the Budapest metropolitan area. particularly given the discretion granted This level is divided into three branches: civil, enforcement authorities in the law itself and the commercial, and criminal. The Budapest broader set of problems with antimonopoly municipal court has a separate labor chamber. legislation in general. As well as handling A county court may act as the court of first individual complaints, the competition office instance when the amount in controversy exceeds should concentrate on its other important HUF 3 million-typically disputes between missions: educating the public about the state-owned enterprises'--or in claims related distortions caused by monopoly behavior and to intellectual property, libel, slander, damages lobbying the government and Parliament to caused by state officials, and certain other minimize barriers to international trade-the matters. In such cases, appeal may be made to most powerful antimonopoly force of all. the Supreme Court. The Supreme Court also guides lower courts by issuing advisory Judidal Institutions opinions. This judicial guidance role is stipulated in the constitution (Ch. I, sec. 47). As in other CEE countries, the judiciary did Changes in court organization began in not play an active role in the commercial sector 1989.7' In 1990 a new law on the promotion during the socialist period, and it is not well- and compensation of judges came into effect. equipped to take on the sudden expansion in Self-governing Judicial Councils were activity in commercial and related areas that has established to appoint court officials and to emerged from the rapid economic reforms of the handle internal disciplinary cases. The latest past few years. In order to accommodate amendment, Act LXVII of 1991, increases the private sector activities, the judicial role of Judicial Councils in court financial infrastructure will need to be upgraded through decisions and in selection and appointment of training, staffing, and equipment. judges. The amendment also separates budget and administration of the Supreme Court from lhe Court System the Ministry of Justice, unlike local and county courts which remain subordinated to the There are four types of courts in the Ministry. Hungarian judicial system: the Supreme Court, The Hungarian judicial system suffers from county courts, local courts, and special courts. a shortage of well-qualified judges, particularly Nationwide there are about 2000 judges, with in newly-emerging commercial areas. Judges about 200 unfilled positions. Most cases are are appointed for life by the Hungarian President brought initially in the local courts, of which and may be removed only for cause. They do there are 102. They are courts of general not enjoy particularly high status or pay, and jurisdiction and hear criminal, civil, and over half work on a part-time basis.' Over the 86 Hungary past few years their workload has more than to establish law offices (with two attorney doubled, due to the registration of new private minimums) or individual practices. Attorney companies, the rapid rise in the number of working groups have to transform themselves to commercial disputes, the rash of new Law Offices. Admission to the Bar requires a compensation claims, and growing criminal law degree, professional exam, Hungarian activity. In order to alleviate the judiciary of citizenship, permanent domicile in Hungary, a this increased work load, the Ministry of Justice clean record, and liability insurance. Practicing sought unsuccessfully to reestablish the attorneys may not take up other employment, administrative courts-which had been abolished although they may join companies' boards. under the socialist regime-in order to Currently there are about 1200 practicing adjudicate alleged violations of citizens' rights lawyers in Budapest. Foreign lawyers can open by the state. representative offices and provide legal An area needing particular attention is debt assistance on foreign legal matters, but may not collection. Of the total number of 700,000 law practice Hungarian law. suits filed nationwide in 1991 (a 60 percent increase from the previous year), two-thirds of Conclusion those cases involved uncollectable debts. Streamlining debt collection, perhaps by Hungary has been on the forefront of CEE allowing private debt collection in uncontested countries in reforming its legal framework to cases or reducing procedural requirements in promote private sector development. It was judicial cases, could relieve much of the current among the first to make major changes in its strain on the courts. constitution and Civil Code to promote free Arbitration could be a useful alternative to enterprise and put private property on the same court procedures as a means to resolve legal footing as state-owned property. It moved commercial disputes among private parties. As quickly to establish a Constitutional Court to in other CEE countries, the Hungarian Chamber protect these legal rights; its Court has of Commerce has an arbitration chamber that extremely broad jurisdiction, and has proven specialized during the socialist period in the very active in reviewing economic as well as settlement of international trade disputes. The social legislation. With regard to formerly 1988 Act on Business Organization gives this nationalized property, it is the only CEE country court jurisdiction for disputes arising out of a to eschew widespread restitution in-kind, opting company's organizational documents, if the instead for a coupon scheme that is likely to parties agree. A broader mandate and proper cause significantly less uncertainty and technical support could help this body develop disruption in property markets. It has basic into a viable alternative means for dispute legislation in place to protect intellectual resolution. A new draft arbitration law now property and to provide a clear and flexible under consideration would give access to the framework for the setting up of domestic or Chamber's arbitration chamber to anyone doing foreign-owned firms. Finally, new and business in Hungary. relatively modern antimonopoly and bankruptcy laws went into effect at the beginning of 1991 The Legal Profession and 1992, respectively. Despite these achievements, however, Law-Decree 4 of 1983 on the Legal numerous legal and institutional challenges Profession broke the close ranks of the "legal remain. The most difficult area (apart from working groups" and allowed company attorneys company privatization, which is not discussed to compete in dealing with economic here) remains real property. The development organizations. Act XXII of 1991 amended the of efficient land markets continues to suffer from 1983 law to give Hungarians attorneys the right an inaccurate land registry, an underdeveloped 87 legal and institutional framework for collateral, the near impossibility of eviction in cases of nonpayment of mortgage loans or rent, and an outdated and incomplete zoning and regulatory structure. Further substantive scrutiny is also called for in other areas of law, most notably in the areas of bankruptcy and competition. Finally, the challenge of implementing all of this new legislation is daunting, particularly given the country's limited experience with market principles and institutions. Both the specialized institutions (such as those charged with implementing intellectual property and antimonopoly laws and with registering companies) and the regular courts are in danger of being overwhelmed with the burgeoning caseload. A prime example is bankruptcy, where over 14,000 cases were filed in 1992 alone. Another is antimonopoly law, where the broad legislative mandate and the relative inexperience of the regulators could create the potential for counterproductive results. In addition to training and technical assistance, Hungary should work to provide widespread dissemination of the rulings of the Office of Competition and the courts more generally, both to educate the public and to promote public accountability and oversight. 88 Hungary Endnotes 1. For detailed references to Hungarian the grounds that the decree either conflicts with legislation mentioned in this Chapter, see Gray, a law or that the subject of the decree falls Hanson, and Heller, "Legal Reform for within an area that can only be addressed by Hungary's Private Sector," nTe George Parliament through passage of a law. Interview Washington Journal of International Law and with A. Nemeth, June 5, 1992. Economics 26:2 (Spring 1993). 5. See, e.g., "Court Vague on Goncz-Antall 2. The New Economic Mechanism was Media Debate," Budapest Week, June 11-17, Hungary's first major attempt at economic 1992, at 3 (Constitutional Court decision on "the reform. It maintained national planning but country's hottest political debate since the ended the practice of imposing production elections, pitting the [President and Prime targets on state-owned enterprises. Rather, a Minister] against each other, [concerning] their system of economic regulations and incentives respective rights to hire and fire people in key (e.g. taxes, prices, and credit policy) was positions."). designed to induce firms to meet national planning targets. This experiment was popularly 6. Act I of 1989 establishes the Court. Its known as "goulash communism." Most of the purposes are detailed in Act XXXI of 1989, and lessons of that period were, however, negative, detailed regulations on structures and procedures as decentralization led to over-invetment and are set out in Act XXXII of 1989. lack of fiscal discipline exacerbated macroeconomic imbalances without significantly 7. For example, the decisions of Romania's increasing efficiency. See J. Kornai, "The and Poland's Constitutional Courts can be Hungarian Reform Process: Visions, Hopes, and overturned by a two-thirds' vote of their Reality," Journal of Economic Literature, Vol. respective Parliaments. In Hungary, the XXV, December, 1986; A. Gelb and C. Gray, Parliament may not overrule a Constitutional The Transformation of Economies in Central Court decision except by changing the and Eastern Euroe: Issues Progress. and Constitution. For example, in a case concerning ProsQne, The World Bank, 1991; and Sajo, the voting rights of expatriate Hungarians, the Andras, "Diffuse Rights in Search of an Agent: Parliament passed an Act, the Court struck it A Property Rights Analysis of the Firm in the down, and the Parliament then implemented the Socialist Market Economy,' 10 It, R,ev. of Law Act by amending the Constitution. and Economic 42 (1990). At present, regular courts, including the Supreme Court, are not allowed to declare an 3. The current Parliament was elected in Act or regulation unconstitutional, although they 1990 based on the negotiations embodied in Act may stay a case and refer the matter to the XXXV of 1989 on the Election of MPs. Rules Constitutional Court. There are discussions to governing MP status, including immunities, are amend this procedure so that regular courts can governed by Act IV of 1990 on the Legal Status also rule on the constitutionality of laws and of MPs. regulations, with appeal to the Constitutional Court. 4. In enforcing this Parliamentary primacy, the Constitutional Court has several times 8. J. Pataki, "The Constitutional Court's overruled decrees by the Council of Ministers on Search for Identity," Report on Eastern Europe 89 2:25, June 21, p. 7. The Court has interpreted 17. T. Sarkozy, "Legal Framework for its jurisdiction to hear such omission cases to be Reforms in Hungary," unpublished manuscript, limited to those situations where the missing 1990, Ch. m, p. 1. regulation is affirmatively required by a higher Act or Decree, or where the omission violates 18. The Act of Land in uniform pattern with basic rights. Decree 26/1987 (VI.30) MT by the Council of Ministers and Decree 8/1987 (IX.1.) MEM by 9. J. Pataki, id., p. 7. the Minister of Agriculture, translated in Hungarian Rules of Law in Force I./Nr. 10, 10. A. Nemeth, personal interview, June 5, Budapest, 1990, June 1. 1992; see also Pataki, supra note 8, p. 7. 19. Foreigners are defined as natural persons 11. Plans to limit this access by requiring the who are not Hungarian citizens, Hungarian litigant to have a direct interest are under active citizens domiciled abroad, and business consideration. Other countries often restrict organizations not created under Hungarian law. access to constitutional courts. For example, in An exception for Hungarians domiciled abroad the United States one can present a constitutional allows them to own property through issue to the Supreme Court only if one has been inheritance. directly affected by the issue, and the Supreme Court has discretion whether to consider the 20. Local governments have the power to veto case. a sale. See Invest in Hungy, 1991/6 at 29. 12. A. Nemeth, personal interview, June 5, 21. This act also transfers historical 1992; see also E. Oltay, "The Postcommunist architecture (para. 3), undeveloped land not Judiciary," Report on Eastern Europe, October covered by the Transformation Act XIII of 1989 11, 1991, p. 18. (para. 9), public utilities exclusively serving that czommunity (para. 11), public transportation 13. I. Molnar, "A Survey of Hungarian (para. 14), and certain parks (para. 25). Property Law," unpublished manuscript, p. 6. Conflicting claims now exist between the two levels of local government, the municipalities 14. This refers to property set out in both the and the districts, although it is generally Civil Code and the Constitution, namely oil and anticipated that the districts will assume minerals, lakes, rivers and riverbeds, railways, ownership rights. Buildings on plots of land banks, the Post Office, and the telephone, radio, larger than 1000 square meters are transferred to and television networks (Civil Code, Para. 172). the State Property Agency, and former Party property is transferred to the Hungarian 15. Most housing remained in private hands. Treasury Trust under the Ministry of Finance. In the 1980s the state owned approximately 25% of the housing in Hungary. Hanna Matras, 22. The original draft Compensation Act of "Structure and Performance of the Housing April, 1990, allowed former farmland owners to Sector of the Centrally Planned Economies," exchange their compensation coupons for their World Bank, INU Discussion Paper 53 (Oct. original land. The Constitutional Court declared 1989), p. 19. this unconstitutional, as it discriminated against former owners of urban and industrial property, 16. See R. Hanson, "The Legal Framework who were given coupons but not the possibility for Privatization in Hungary," Law and Polcy of in-kind restitution. in International Business, 23:2, Spring, 1992. 90 Hungary 23. The draft Rental Housing Bill currently 29. Patentable inventions must be novel, being discussed would begin the process of meaning that the public must not have access to removing some of the worst constraints on the design through the print media or common eviction, particularly by eliminating the knowledge or practice. requirement that an alternative unit be provided. 30. A non-exhaustive list of protected works, 24. This credit may also be used for similar to Art. 2(1) of the Berne Convention, purchasing shares in companies being privatized appears in the Decree of the Minister of Culture at a preferential rate of 75% of the NBH of December 29, 1969 (as amended through refinancing rate. This scheme is limited to August 24, 1988). support of the privatization process and is not available to individuals purchasing previously 31. A related advance in this field is the privately-owned or privatized property. recent Act on the Protection of the Topography of the Microelectronic Semiconductor Products. 25. See Sagari and Chiquier, "Coping with the Legacies of Subsidized Mortgage Credit in 32. Schwartz, "Recent Developments in Hungary," World Bank, Policy and Research Eastern Europe," Journal of the Copyright Working Paper 847 (1992). Society of the USA, 38:3, Spring (1991). 26. Sagari and Chiquier, id. 33. The international norm for such protection is 50 years. 27. After being rejected on procedural grounds in 1990 by the Constitutional Court, the 34. Self-management was a concept that had law was correctly passed in mid-1991. The law been followed in neighboring Yugoslavia since gave borrowers three options: (1) to have the the early 1950s. For one view of its economic loan converted to a 15% fixed rate loan with the impact, see M. Hinds, "Issues in the possibility of having the rate adjusted from year Introduction of Market Forces in Eastern to year; or to have half the loan forgiven -- that European Socialist Economies," World Bank, is, bought out by the govermnent - and the 1990. other half (2) repaid in full by the borrower or (3) converted to a market rate loan. To the 35. L. Bokros, "Privatization in Hungary," government's surprise, over 40% paid back the lMF Institute Seminar on Centrally-Planned loan, an indication of the monetary overhang in Economies in Transition, July 9-19, 1990. the economy; about 40% converted to market rate loan and the balance took the 15% loan. 36. Corporatization refers to the legal Hegedus and Tosics, "East European Housing in transformation of state owned enterprises into Transition: The Case of Hungary," unpublished corporate forms set out in the Act on Economic mimeo, at p. 29 (1991). Associations. The process by which this is accomplished is dictated by the Transformation 28. The primary mortgage lenders are the Act (Act XIII of 1989 on the Conversion of National Savings Bank and the Cooperative Economic Organizations and Business Savings Bank. Under their policy, loan Associations). maximums are set such that households pay no more than one third of verified household net 37. The limited liability form had been income. available for use since 1972, but this was restricted to joint ventures with foreign participation. 91 38. Such a high minimum capital requirement (with its stricter capital and information discourages the formation of companies and requirements) as the company grows in size. would seem inadvisable for Hungary at this time. 46. This is different from the stricter rule found in some other European countries that a 39. While not explicitly stated in the law, it is stake cannot be sold to outsiders without the presumed that the Court of Registration, in express and unanimous permission of insiders. reviewing the Articles of Association, may What constitutes a valid offer in the LLC case is challenge this valuation. somewhat unclear under the Hungarian formulation. The ability to formulate a tighter 40. Foreigners may acquire bearer shares, but preemption rule under a separate shareholders' these must be converted into registered shares agreement is another reason that some foreign within three months of acquisition. investors prefer the joint stock form. 41. If dividends due on preferred non-voting 47. In an apparent effort to protect creditors, shares are not paid for two consecutive years, the Company Act limits natural individuals to those shareholders are entitled to voting rights membership in one business organization in until those dividends are distributed. which he or she carries unlimited liability. 42. For example, the articles of association of 48. As of the end of 1992, some $3.5 billion Rolls Royce in Great Britain allow the of foreign capital (half the total foreign capital in government to control voting concerning its all CEE) had been invested in about 12,000 joint "nuclear business, " and the articles of the British ventures and 2,000 representative offices. Many Airport Authority subject the disposal of airports of the joint ventures, however, were set up to to the government's consent. Graham, "All that take advantage of favorable tax and customs Glitters: Golden Shares and Privatised benefits and involve minimal foreign Enterprises," 9 The Company Lawyer 23. participation. 43. See the Ibusz prospectus found in the First 49. A previous requirement that the Minister Privatization Program, State Property Agency, of Finance and the Minister of Commerce Budapest, 1990. In April 1992 a golden share approve foreign ownership exceeding 50% was was used in the privatization of the Hungarian repealed in 1990. State Insurance Co. Dutch Aegon bought 75% of the shares, but for five years major decisions 50. The foreign investor is also entitled to this such as capital increase or decrease would have repatriation right if the company is liquidated or to be approved by the Hungarian partner. the foreign investor sells his interest. Additionally, 50% of the taxed personal income 44. These shareholders must hold voting of foreign managerial employees may be fully shares. Also, if these two requests are not repatriated. honored, the Court of Registration has the authority to enforce the requests. 51. G. Lorinczi, "Overview of the Law Governing Foreign Investment in Hungary," 45. Some other European countries impose a presented to the ABA National Institute on maximum limit (such as 50) on the number of Change in Eastern Europe and the Soviet Union, partners in this form of company in order to April 5-6, 1990, New York, NY, p. 154. differentiate it more clearly from the joint stock form and force conversion to the latter form 92 Hungary 52. Earlier versions of this law granted an 62. This problem would not arise for automatic 20% tax cut for companies with settlements reached during reorganization foreign equity of at least 20% or HUF 5 million. because these agreements require the unanimous consent of all creditors. Therefore, any 53. These include electronics, car parts, dissenting creditor would be able to block a machinery, engineering units, pharmaceuticals, proposed settlement. packaging technology, agricultural and food technology, energy conservation, 63. For example, consider a secured creditor telecommunications, tourism, and public whose claim is reduced in a proposed agreement transportation. and who does not consent to the settlement. Does that creditor retain the right to execute the 54. The hotels covered by this section include security? Can a settlement remove a security not only those constructed by the company in without the consent of the creditor? The draft question (Para. 15 (2)(a)), but also renovations law does not provide clear answers to these that classify a building as a hotel or that upgrade questions. Different countries have resolved this a preexisting hotel to a higher classification issue in different ways. In some countries (such (Para. 15 (3)(b)). as Germany) the claims of secured creditors cannot be reduced in a settlement. In the U.S., 55. For example, Swiss law is commonly a settlement can be approved despite dissenting chosen to govern shareholders' agreements. creditors if the court decides that the dissenting creditors are treated "fairly and equitably," 56. This mechanism was abolished in the early which for secured creditors means that they keep 1970s, after which inter-enterprise disputes were their liens on assets and they get periodic cash heard by the county courts. payments equal to the value of their claims. In the U.K., a settlement cannot be approved if it 57. In the interests of efficiency, western affects the rights of a secured creditor to enforce contract law allows parties to breach contracts if the security. such breach is in their economic interest. 64. These are filings for liquidations under the 58. See Dan Ostas, "Institutional Reform in old law. K. Mizsei, "The Hungarian East-Central Europe: Hungarian and Polish Transformation: A Middle of the Road Contract Law," Journal of Economic Issues, Assessment," unpublished manuscript, April 26:2 (1992). 1992, p. 52. 59. Although strict time limits are advisable, 65. World Bank data. almost all observers agree that 90 days is too short. 66. As mentioned in Chapters 1, 5, and 7, integrated programs of bank restructuring, 60. Bankruptcy laws in most countries do not enterprise restructuring, privatization, and seek unanimous agreement for the approval of liquidation of insolvent state-owned firms-- an agreement. In that respect, the Hungarian primarily using non-judicial means--are now law is stricter. under discussion in Poland and Slovenia. 61. This includes banks, suppliers, and the 67. The government is authorized to establish social security fund. Until 1991, suppliers were a list of liquidators. Until recently the supply of the most active in bringing cases against debtors; liquidators was provided by six institutions, most of 528 petitions in that year, only 8 were from of them consulting firms. However, under banks and 5 from the social security fund. Government Decree No 165/1991, individuals 93 can also be included in the list of liquidators. 74. One area under active discussion involves Such individuals need to have a degree in overhaul of the court structure: whether a four economics, finance or law. Organizations that level court system should be introduced or a employ such individuals may also be enlisted. modification of the current system is adequate, Applications are judged by a committee and whether the Ministry of Justice or the self- appointed by the Minister of Finance and governing Judicial Councils should be the Minister of Justice. guarantor of the lawfulness of court procedures. 68. Hungary's concern with rules of 75. See Ostas, supra note 58, at p. 9. competition actually began in the late 1960s, with its moves toward decentralized market socialism. As part of the reforms instituted under the New Economic Mechanism (1968), Hungary revitalized its original Act on Unfair Economic Competition (Act No. V on the Prohibition of Unfair Competition of 1923) through numerous governmental decrees. These rules were updated in 1984 with the adoption of Act No. IV on the Prohibition of Unfair Business Activities. 69. Claims concerning unfair competition can be brought only to the court, while those concerning freedom and fairness of competition or consumer fraud can be brought to either the court or the Office of Competition. 70. The same is argued in R. Pittman, "Some Critical Provisions in the Antimonopoly Laws of Central and Eastern Europe," U.S. Department of Justice Discussion Paper, September 20, 1991. 71. A dominant firm is defined as one having over 30 percent market share. 72. Firms must prenotify the office if they jointly have a 30 percent market share or if their joint turnover in the previous year exceeded HF 10 billion. 73. Until 1972, all inter-enterprise disputes were heard by "economic arbitration tribunals," which settled supply and delivery agreements according to the state plan. These tribunals were abolished in the 1970s, and inter-enterprise disputes have since been heard by the commercial chambers of the county courts. 95 POLAND Poland has a rich legal tradition dating from judicial review and a multi-party political pre-socialist times. Unlike the former Czech, system. More recent amendments in the early which largely began anew in 1990, Poland has 1990s removed fundamental socialist revived its pre-war legal traditions where conceptions, such as the dominant role of the feasible. While many of the current laws are Communist party and the hierarchy of property, old (for example, the company law-the and it laid the basis for the full introduction of Commercial Code-and the Bankruptcy Law democratic rule and a market economy. date from the 1930s), most are flexible enough Although a Constitutional Commission was to permit a wide range of modem market- established in 1989 to prepare a new constitution oriented activity.! Underlying property and for the country, progress has been slow. The contract rights are laid out in the 1964 Civil process has been stalled in part by debates over Code, modelled closely after the French the proper structure of government-most Napoleonic Code. Although adopted under the notably the balance of power between parliament socialist regime, the Civil Code was drafted by and the President. Furthermore, the Sejm law professors and-after being recently purged elected in 1989 set aside two-thirds of the seats of socialist rhetoric-is suitable for a market for the communist party, and was thus not economy. Recent legislation-including the universally considered a legitimate body to make 1990 Antimonopoly Law and the recently fundamental constitutional decisions. Only in adopted Securities and Foreign Investment October 1992 was a fully democratic Sejm Laws-appears to be quite well-designed for elected, and it has adopted guidelines for private sector development. As in other CEE drafting a new constitution. Although both countries,the most problematic area (apart from political groups and the public see a strong need privatization, which is not discussed here) is for such a document,3 progress may continue to property law, which is still-in the words of one be slow for political reasons. In the meantime, Polish legal practitioner-a "jungle". the current amended version lays a satisfactory basis for market reforms. Constitutional Law Rights to Real Property Poland has a long a sophisticated tradition of Property rights reform has lagged behind constitutional rule. It was in fact the second legal reforms for general business activity in last nation in history to adopt a written few years in Poland. The country is now facing constitution-in 1791 (soon after the U.S.).2 legal dilemmas similar to those encountered in The current constitution dates from the socialist its Central and East European neighbors. In period. The 1952 constitution still in force Poland, in contrast to many of its CEE today was originally modeled on the 1936 Soviet neighbors, private ownership of land remained constitution, and extensive amendments were the rule, not the exception. Only certain land made in 1976 in an attempt to solidify the rule was placed under state ownership, including all of the Communist Party. These amendments of Warsaw, much other urban land, land were vigorously opposed by the intelligentsia occupied by state-enterprises, and about 20 and the Catholic Church. Political and percent of agricultural land (primarily in the economic reforms in the early 1980s led to northwest area recovered from Germany after further constitutional amendments that World War II). Sale of public land was rare in introduced more democratic principles,such as Poland because of the constitutional protections 96 Poland of state property. Private or cooperative amendment also states that "expropriation is acquisition of state property for construction was permitted only for a public purpose and for just instead governed by the principle of perpetual compensation. " This amendment narrowed state usufruct, a legal form that gave the land user powers contained in the Land Use and rights similar to ownership, typically for 99 Expropriation of Real Property Act of 1985, and years on payment of a yearly fee. Either private the limits to state power were spelled out further individuals or tenants' housing cooperatives in 1990 amendments to that Act. could hold rights of perpetual usufruct. Eliminating the Monopoly of State Ownership Defining Basic Ownership Rghts The first step in eliminating the monopoly of The 1952 Polish Constitution (Articles 7-8 state ownership is assigning state property to and 11-13) defined the main categories of specific government owners. This has so far ownership, while the details were governed by been a three-step legal process in Poland. First, the 1964 Civil Code. Under Polish socialist a 1989 amendment to the Civil Code named the law, "social ownership"-including ownership Treasury or other state legal personae as the by the state, cooperatives, and social legal owner of state property, the first step to organizations-was the highest category of making such property alienable. Most state ownership and was protected by the constitution enterprises could then become owners of the and the Civil and Criminal Codes. Typically, land and buildings they previously administered. such property included means of production, Second, forty years after abolishing local including, for example, land, mineral resources, governments, Poland reestablished them in 1990. and public utilities. In contrast, property used The Act on Local Autonomy established a for personal consumption was individually framework to assign local governments revenue owned and considered "personal property. n rights (including taxation) and spending Personal property could include, for example, responsibilities (including land use planning, one's dwelling house but not a separate rental infrastructure provision, and housing house, which was considered a means of management). The implementing regulations production. Finally, "individual-or transfer without payment certain state property private-property" was defined as the individual to the local governments, particularly property ownership of means of production, a residue of previously under their "operational presocialist economic relationships founded on administration"-including most urban land, the exploitation and expected to "wither away" over housing stock, public utilities, and certain state- time. Individual property received less owned enterprises. Once divided among state constitutional protection than social or personal actors, state property can then be legally property and was subject to heavy taxation and alienated to private investors. Third, 1990 numerous limitations on use and transfer.' changes to the Land Use and Expropriation Act On December 29, 1989, the Polish gave the state and local governments the right to Constitution was amended to eliminate the sell land outright, rather than being limited to socialist property classifications and instead treat granting only rights of usufruct. all types of property equally in civil, The process of transferring state property to administrative, and criminal matters. In local governments-"communalization"-began particular, Article 7 was amended to read that simultaneously in all 2500 communes but is the Polish state "protects and fully guarantees going slowly. Until the process is completed, private property." In 1990, the Civil Code was with the land inventoried, disputes resolved, and amended to abolish the distinction between land properly registered, local governments personal and private property.5 In addition to cannot make legal transactions to sell communal protecting private property, the constitutional property.' Currently local governments are 97 concluding some short-term leases, typically for Revising the Regulatoiy Framework high rents and only one-year terms. Generally local governments cannot make available land Rent and tenancy restrictions. Use of state- with clear title for sale or long-term lease, an owned rental housing is strictly controlled. The essential element for sustained private sector many restrictions on subleasing and conversion investment. Communalization is a key area of rental units encourage massive and inefficient where technical assistance may be appropriate, evasion, an experience common to socialist particularly to help streamline the process of economies. Furthermore, rent levels are still registration and the adjudication of plots. controlled by the central government and do not allow local governments even to recover Restitution. Poland is now struggling with operating costs for housing stock, much less to issues of compensation for expropriated former service debt on infrastructure.7 Finally, the owners: how far back in time to go, whether to lack of a functioning foreclosure and eviction offer monetary or in-kind compensation, and system is a key legal obstacle in Poland what form compensation procedures should take. requiring priority attention: it prevents Plans within the government for resolution of emergence of a private rental sector, constrains outstanding expropriation claims- commercial real estate development, and stunts "reprivatization'-range from no compensation development of a housing finance system, a at all to in-kind return of land, with voucher system which can be an engine for economic compensation the most likely. The severity of development. While a foreclosure and eviction the problem varies in importance in different system is in place legally, it has apparently parts of the country. All the land in Warsaw never been used, despite over forty years of was nationalized after World War II, while land mortgage lending. Even as written, the in other cities remained in private hands. On procedure appears cumbersome and ill-suited to the agricultural side, only about 20% of the land the needs of modern mortgage lending. For is currently in state hands, as noted earlier. example, the foreclosure procedure requires the Until the reprivatization issue is settled, very court auction to reflect an ex ante "market" little land with clear and indisputable title will be price. New foreclosure procedures that allow available. Unsettled claims on land make land property to be securitized but that also fit in with sales difficult and stalls investment. local cultural norms might include forms of Reprivatization is an area where technical pledge, third-party guarantees, and liens on bank assistance may be particularly appropriate. accounts and other movable property. Poland is in a position to learn from the other In addition to revising rent and tenancy CEE countries, which have already moved ahead restrictions, the legal forms for multi-family with compensation acts. In particular, Poland dwellings need to be reviewed and revised to must carefully weigh the effect of in-kind promote the emergence of a viable real estate compensation on the security of title; firms and industry and eventual housing privatization. individuals will be reluctant to invest in property Reform of the law on cooperatives has been improvements if there is a chance that former stalled, and cooperatives still have an unclear owners can successfully reclaim the property at status-somewhere between public and some later date. Other important concerns private-under the Civil Code's revised property include the length of claims periods and the classifications. Numerous restrictions remain on effects of alternative reprivatization schemes on the sale and transfer of cooperative property. At fragile registration and court adjudication present there is no condominium law, an systems. important legal tool for management of multi- family housing, although a draft has been prepared. Poland also has not yet developed 98 Poland clear rules for building management in partially In addition to zoning regulations, Poland privatized buildings. needs new building standards for the types of office and residential buildings that market Land Registration. Poland's land registry systems are likely to produce. Discussions with system is in a state of disarray. Prior to the legal practitioners suggest that, in the current socialist takeover, three separate registration unsettled environment, side payments are often systems-Russian, German, and required to secure location and building permits. Austrian-existed in different parts of the A new Building Code is currently being country. Many of these registers are now considered by Parliament. missing or incomplete. Under socialism, the There are numerous restrictions on land use registration system was largely neglected for and transfer that need to be reviewed and land under state ownership. As in other socialist streamlined. These include, for example, the countries, there were significant incentives for use and transfer restrictions for agricultural land, both individuals and the state not to comply with including prohibitions on conversion of such registration requirements. Therefore many land to urban and industrial uses. Another transfers were not recorded. In Warsaw, for restriction that should be reviewed is the example, the pre-socialist owner is often still requirement that majority foreign-owned listed as the owner of record despite subsequent corporations get approval from the Ministry of transfers. Internal Affairs to purchase land or enter into Tlhe notarial system is considered by many to long-term leases. Although it is understandable be a key constraint to emerging markets in land that Poland wants to monitor land purchases by and housing.! All land transactions must by foreigners in the short run, given the currently law be notarized to have legal effect. Yet until volatile state of land markets, foreign investors recently notaries have been state employees; should have ready access to business premises. numbers have been inadequate and transactions The current approval process can reportedly be slow.9 A recent positive step has been the a lengthy procedure and can force some foreign privatization of state notaries. The property investors to rely on the limited available forms registers have been moved from the neglected of short-term lease. state notary bureau into the court system, which however, is not yet well-equipped to administer Rights to Intellectual Property them. A review and streamlining of the notary process is needed. A broad framework for protecting intellectual property has long existed under Polish law. Land Use. Like other CEE countries, Poland Relevant Polish statues carried over from the has emerged from socialism with a highly socialist period included the Civil and inefficient pattern of urban land use. The Poles Commercial Codes, the Unfair Competition Law made a start towards a modern land use planning (1926), the Copyright Law (1952), the Law on system with the passage in late 1991 of the Act Inventive Activity (1972), and the Trademark on Special Conditions for Realization of Housing Law (1985). Poland has also long been a Construction in Years 1991-1995 (otherwise signatory to several major international treaties known as the "Anti-Crisis Act"). This Act on intellectual property, including, among attempts to provide an interim solution by others, the Paris Convention for the Protection granting municipal councils the authority to of Industrial Property of 1883 (1967 Stockholm amend the official Master Plan of a city and to text) (patents and trademarks) and the Universal issue bonds for land purchase or infrastructure Copyright Convention. In August, 1990, it development. ratified the 1971 Paris text of the Berne Convention but limited its adherence to only the administrative provisions.'0 99 Although a broad framework has existed for permits and prohibitive taxation) made this law some time, certain types of intellectual property virtually unusable. During this period, the were not well protected by the laws passed Commercial Code was not taught in the during the socialist era. In particular, the 1972 universities; neither was it a subject for Law on Inventions did not allow patents on litigation, offering lawyers and judges no certain categories of inventions, including experience with its application. Thus, the pharmaceuticals and chemicals, and the 1952 Commercial Code faded from Poland's legal Copyright Law did not adequately protect memory until the 1980s, when it was revitalized computer software or sound recordings. These in order to accommodate Poland's economic omissions were the subject of intense liberalization. The comeback started with the international debate, particularly during Law on State Enterprises of 1982, which opened negotiations of the recently concluded United up the possibility of creating joint ventures with States-Poland Treaty Concerning Business and foreign or domestic partners."3 The first Economic Relations.'" In the copyright area, Foreign Investment Law (passed in 1986) and this treaty obligated Poland to adhere to the the later Foreign Investment Laws of 1988 and Paris text of the Berne Convention and to extend 1991 called for foreign investment to be copyright protection to computer programs. In organized in the company forms provided in the the patent area, it obligated Poland to extend the Commercial Code. length of its patent protection to 20 years and to While specific provisions in the Commercial limit compulsory licenses of patented Code could be slightly modernized, the technology, and to extend the coverage of its consensus of lawyers in Warsaw is that these patent law to cover pharmaceuticals, foodstuffs, forms are adequate for the formation of private and chemical products. The required changes in companies. The two corporate forms allowed by patent protection were incorporated in the new the Commercial Code are the joint stock patent law adopted in early 1993. The changes company (JSC) and the limited liability company in copyright protection are incorporated in a (LLC). As noted in more detail below, there is draft copyright law now being debated in the relatively little difference between the two (less Sejm. than between the two analogous forms in other Administrative and institutional problems market economies); the LLC is the preferred within this area of law are similar to those form for most investors, because it is more encountered in other areas. The administrative flexible and less cumbersome bureaucratically. body (the patent office) is not prepared for new In addition to these two corporate forms, and more sophisticated problems. Qualified businesses can operate through one of three regulators are scarce, and investigation partnership forms, the Registered Partnership, procedures are weak. As in other areas of law, the Limited Partnership (both governed by the enforcement proceedings tend to be seen as state Commercial Code), or the Civil Partnership intervention, which is still politically unpopular. (govened by the Civil Code). Company Law Chiaracteristics of a Joint Stock Company Historical Background Capital and share requirements. As mentioned above, the Polish joint stock company The current applicable company law in resembles most closely the French SA. At least Poland is the Commercial Code of 1934. three founders are necessary, unless the State is Although the law fell into disuse during the a founder (in which case no co-founders are Communist period, it was never formally necessary). Minimum capital of 1 billion zlotys abrogated.'2 However, a variety of (about US$72,000) is required.1' This may governmental restrictions (e.g. lack of necessary 100 Poland include the value of in-kind contributions, which company. These provisions that differentiate the are evaluated by private auditors and confirmed rights and obligations of various shareholders by court-appointed experts. Valuation of assets enable control to be concentrated more than in all the CEE countries has been a great ownership, which may be helpful in addressing problem in privatization, and the same problems the Polish desire for widespread ownership of could prevail in valuation for the purposes of privatized companies while maintaining strong determining a company's initial capital.'5 corporate governance. The Commercial Code's provisions on the joint stock company incorporate the principles of Characteristics of a Limited Liability Company transparency common to western corporations statutes. Disclosure requirements make financial Although not fundamentally different in data on companies available at both the court of concept, the Polish limited liability company is registration and the Ministry of Industry and a more flexible form than the joint stock Trade, and announcements of public company and is therefore preferred by most subscriptions, including investor information, are domestic and foreign investors. Only one mandatory. founder is necessary, and there is no maximum Both registered and bearer shares are limit on the number of owners. The minimum allowed, and these are exchangeable for one capital requirement is only 40 million zlotys another unless otherwise stipulated in the articles (about US$3,000). Shareholders are free to of association."6 Shares are transferable, but negotiate how profits will be distributed, how the articles of incorporation may stipulate that voting rights will be assigned and exercised, registered shares may be transferred only with how large the majority vote and quorum must be permission of the company (i.e. the Board of to validate the shareholders' general meetings, Directors) or they may otherwise restrict transfer and how rights to choose representatives on the of shares. However, if the articles of supervisory and management boards will be association do not provide a mechanism for allocated. A partner's share is transferable by identifying another purchaser, the seller may sell statute, although the law permits the company's his shares freely.'7 articles of association to make transferability Shareholders are entitled to dividends and to contingent upon the consent of the company's a return of the company's assets in the event of board or shareholders. (If consent is refused, the liquidation. Interest bearing shares are not requesting party may appeal in court.) The allowed." This distinguishes Poland's law Polish Commercial Code is even more flexible from that of Hungary, which does allow for the than most Western company laws, where, for issuance of interest-bearing shares. A share instance, majority and quorum rules cannot entitles its holder to at least one vote at the generally be changed. As noted in Chapter 1, appropriate meetings; there are no non-voting this flexibility allows partners to a joint venture shares, although 'a company's articles may to arrange a balance of power that reflects their restrict the voting power of shareholders holding perceived real contribution to the company a larger number of shares" (Article 404). rather than merely the distribution of Certain shares may be assigned preferences with shares/ownership. regard to voting rights (with a maximum of five votes per share), dividends, or claims on assets Characterislics of the Three Partnership Forms in the event of dissolution, with terms to be defined by the company's articles of association. The three partnership forms currently in use Also, certain registered shares (which may be are the registered partnership, the limited transferred only with the company's consent) partnership, and the civil partnership. The may be linked to the obligation of repeated non- former two are more flexible than the last and pecuniary performance for the benefit of the are better suited to larger initiatives where 101 partners' contributions, rights, and partnership and recover his original contribution responsibilities are not necessarily equal. in kind (or its cash value) plus an appropriate The registered partnership is governed by portion of the partnership's accrued profits. As Section IX of the Commercial Code. It is a with the registered partnership, partners are general partnership form imposing unlimited jointly and severally liable for the obligations of ("joint and several") liability on all partners. the partnership. Partners are expected to be Partners are free to assign management active, each being "entitled and bound to responsibilities and to define their respective manage the partnership's affairs." shares in profits and losses through a deed of partnership, but this deed cannot assign Setting up a Company management responsibilities to outside third parties to the exclusion of partners, and it cannot Although the basic framework for company limit any partner's access to information about law appears reasonable and admirably flexible, the partnership. the process of establishing a private company in The limited partnership form was added to Poland-while simplified greatly in recent the Commercial Code in 1991. This partnership years-continues to require time and expense. form imposes unlimited liability only on the Once the articles of association are drafted, they general partners, who are responsible for must be approved by a notary. Unlike those of management and form the Board of Directors. common law systems, civil law notaries take a The other partners are passive and their liability much more active role in approving official is limited to their capital contribution. This is documents. A limited number of notaries have the only company form in Poland to have "pass enjoyed a de facto monopoly in the market; they through" tax treatment, meaning the profits are are difficult to find and there is little room for not taxed at the entity level. choice among them. Until recently all notaries The civil partnership is governed by title were state employees. The profession is now XXXI of the Civil Code of 1964 and is a less privatized and opened to entry. Because Polish flexible form intended to cover simple initiatives notaries have little experience in contemporary among a few equally-involved individuals. It is corporate forms, they may not understand defined as a contract (as evidenced by a 'deed of complex or innovative arrangements, and Polish partnership") between two or more persons who lawyers report that articles of association must bind themselves to attain a common economic sometimes be simplified in order for the notary objective. Each partner may contribute to understand them. Notaries often offer advice property, rights, or services to the partnership; on the articles' content or have difficulty the partners' contributions are presumed to be of understanding innovative arrangements. Getting equal value, and the partners are entitled to notary approval is reported to be at times a time- share equally in both the company's profits and consuming and frustrating process. It is also its losses. The main benefit of this form over quite expensive, as significant notarial fees must no company form at all is that it protects the be paid for every notarial act involved in the common property of the group from outside founding of a company, including approving a encroachment by third parties. Jointly-held company's articles of association and subsequent property is not divisible among the partners for amendments to them, including increases in the life of the partnership, and a partner may not capital. sell his share. Furthermore, jointly-held Stamp duties are another cost in starting up a property may not be used to satisfy a creditor's company. These are equivalent to the French claims against an individual partner, although a "droits d'enregistrement" (registration fees). creditor may seek the dissolution of the Stamp duties equal 2% of the company's equity partnership in order to gain access to a partner's up to 50 million zlotys, plus 1 % of the amount share. A partner may withdraw from the from 50-100 million, plus .5% of the amount 102 Poland from 100-200 million, plus .1 % of the sum Foreign Investnent exceeding 200 million zlotys. It is widely agreed that the stamp and notarial fees are The currently applicable Law on Foreign unnecessarily high and encourage firms to Investment was promulgated on June 14, 1991. incorporate with minimum capital. This law establishes the procedures and Furthermore, they do not facilitate easy conditions for setting up a company with foreign modifications of a company's articles of participation. It abolishes some of the association, as locating a notary is itself often administrative barriers to foreign investment difficult, and as the approval process takes days contained in the former law (dated December or weeks. 23, 1988). This is not the only law affecting After the articles of association have been foreign investment, and some important related notarized, the company must file at the Court of provisions are included in other laws--including Registration. Registration gives the company Foreign Exchange Regulations, the Land Use legal personality. This application for and Expropriation of Real Property Act, sector- registration must include the articles of specific laws (such as the Banking, Insurance, association as well as the identities of the and Telecommunications Laws), and the Law on members of the governing bodies. If the initial Acquisition of Real Property by Foreigners. capital was raised by public subscription, the application must also include the minutes of the Forms of Ownership organizational meeting, as well as the list of subscribers and their contributions and shares The foreign investment law applies to held. investment by non-resident legal or natural Currently the greatest difficulty with the persons, including Polish nationals.' Foreign Court of Registration is its backlog. On the persons (non-residents) may participate only in whole, judges are not seen as incompetent. companies established in Poland, although they Rather, due to lack of modern equipment and may own up to 100 percent of the shares of such well-trained staff, the court is slow. Having a company. Branches of foreign companies are "connections" within the court is said to expedite not permitted under this law, although a separate approval and registration. law regulating foreign branches is expected to be The shareholders' agreement, if there is to be passed in the future. Independent personal one, must also be drafted during this period." services are not explicitly forbidden, but they Included with this can be the regulamin, or rules are not covered by the law and do not enjoy the governing the supervisory board. As noted related protections and benefits. earlier, the current Commercial Code leaves One of the most important changes parties great freedom to negotiate the terms of introduced in the 1991 law was the abolition of these contracts. As a practical matter, however, a separate Foreign Investment Agency and the shareholders' agreements are said better to be resulting downsizing and streamlining of the left short and precise (20 pages or less), as approval process. A smaller unit in the Ministry Polish partners are believed by some lawyers of Ownership Changes is engaged mainly in interviewed to harbor a general suspicion for promotional activities.' The authority of long and complex documents, particularly where government to screen and approve foreign foreign investors are involved. Because the investment is restricted to a small predefined list shareholders' agreement is a private contract of "strategic" areas. among individuals, it is governed by the Civil Joint ventures with public enterprises Code rather than the Commercial Code, continue to require government approval.' although it may not abrogate mandatory The required permission may contain conditions provisions of the Commercial Code. for the establishment of the enterprise (such as the ratio of fbreign to Polish participation or the 103 ratio of voting rights), depending on the "subject as the company is not liquidated during the of activity" of the company. As formulated, period of tax incentives or within two years Article 19 requires the prior consent of the afterwards. Ministry of Ownership Changes for a company to diversify its activities. Furthermore, joint Tax Incentives ventures with newly-privatizing enterprises situated on public land will need to deal with the The 1988 Foreign Investment law provided government to acquire land rights, and purchases for three-year tax holidays, which could be of land by majority foreign-owned firms require extended up to three more years by the Minister the approval of the Interior Ministry. Even if of Finance upon request. The 1991 law also land is not purchased, leasing business premises provides tax incentives for foreign investors, but from the state is itself a cumbersome process. with greater limitations. A tax credit may be In effect this means that many joint ventures granted by the Minister of Finance to a company (i.e. all those with state-owned enterprises or on that (a) has a foreign capital contribution of at state-owned land) will continue to require least ECU 2,000,000 (about $US 2.5 million) government screening and approval. It is and (b) operates in regions with high unclear to what extent managers of small public unemployment, is engaged in high-technology enterprises are allowed to negotiate and carry activities, or exports at least 20 percent of its out joint ventures with foreign partners production (Article 23). The total amount of the independently. company's tax credit may not exceed the initial In sum, formally unrestricted foreign capital contributed by the foreign partner.' investment is in reality only possible for 100 percent foreign-owned companies or ventures Dispute Resolution with private Polish partners that do not lease or own real property. While the Polish private Although disputes arising under this law can sector is a growing part of the economy in trade be brought in Polish courts under Polish law, and services, its role in industrial manufacturing this avenue is unlikely to give confidence to is still very small. Furthermore, access to real most foreign investors. Poland does not accede property is a problem for both domestic and to the Convention for the International foreign private firms, and in-depth negotiations Settlement of Investment Disputes ("ICSID"); with government over real property rights will however, mechanisms for the settlement of still be required of all investors for some time to disputes between foreign investors and the come. government are established in a number of bilateral treaties, including treaties with virtually Profit Repatiation all major capital-exporting countries. In sum, the 1991 foreign investment law is The previous law limited profit repatriation to an important step forward in removing some of 15 percent of profits except where the firm the legal and administrative barriers for foreign generated sufficient net foreign exchange direct investment. This step needs to be earnings to cover the desired repatriation. The supported by similar progress in privatization, new law allows unrestricted repatriation of all real property, and tax law and in institutional profits, a very important change in the eyes of strengthening throughout the legal system. most foreign investors. Another uncertain area under the old law was the transfer abroad of capital gains. The wording of Article 26 suggests that no restrictions are imposed on the transfer of shares inside Poland and the subsequent repatriation of the proceeds as long 104 Poland Contracts enterprises and private parties), the law of the 1930s remained intact. Within the realm of Features of Socalist Contract Law activity afforded private persons, parties engaged in contractual conduct in ways similar to that Divided and annexed by Prussia, Austria, and found in western market economies.' By Russia in the eighteenth century, an independent contrast, contracting between state enterprises Poland re-emerged following the First World reflected the needs of central planning. The War. Civil law at the time of re-emergence 'General Conditions of Sale or Delivery" reflected a complex mix of foreign laws. The governed state enterprise contracts in detail, and Poles responded with a codification movement the state (through the plan) had extensive control designed to unify Polish law. Of relevance to over whether commercial entities entered into contract law were the 1933 Code of Obligations contracts, with whom they contracted, and what and two 1936 Acts on negotiable conditions would be contained in their contracts. instruments-one governing bills of exchange The Civil Code (Articles 397404) established and the other regulating checks. This the possibility of "pre-contractual liability" for codification movement resulted in a contract state enterprises, that is, a legal duty for regime patterned after German and French enterprises to enter into contracts in accordance models. The law was western, complete with with state plans. Failure to accept a contract doctrines of offer and acceptance, rules of fraud, offer in harmony with a state target could result duress, and undue influence, and a statute of in liability (Article 397). Similarly, failure to frauds. Under the new political structure after create an offer in a timely fashion could also World War II, existing contract law remained in lead to damages (Article 384). In addition, once force except where it was inconsistent with a contract was executed between state socialist principles. Initially, most of Poland's enterprises, each party became a fiduciary for contract law and law of negotiable instruments the interests of the other (Article 355). Article remained intact. Socialist conceptions of 2 provided administrative organs with the property and the practice of central planning, authority to suspend the operation of the Code, however, soon required changes in the civil law. and hence authorized administrative adjustment From 1945 to 1964 adaptations to the 1933 Code of contractual terms. Article 386 imposed a of Obligations came through the promulgation of duty on all parties to cooperate with such individual acts and decrees. The aim of 1964 adjustments. Contractual disputes between state Civil Code was to collect and unify these enterprises were to be resolved pursuant to a adaptations. system of state arbitration, not in the courts Polish contract law is still embedded in the (Article 398). Polish Civil Code of 1964, as amended Recent reforms have largely removed the significantly in July, 1990. The 1964 Civil legal distinction between contracts between Code reflected a mature system of contract law individuals and contracts between state under socialism. This Code maintained many of enterprises. First, Article 2, which grants the provisions found in the 1933 Code but administrative authority to suspend the operation tacked on a variety of socialist adaptations. The of the Code, has been repealed. All contracts, amendments of July 1990 reversed this evolution whether between state enterprises or between to recreate a civil law attuned to the market private parties, are now governed by the same rules of the early 1930s. set of laws. In addition, in 1989 the system of A principal feature of the socialist Code, as state arbitration was dismantled, and all noted in Chapter 1, was the distinction between contractual disputes are now heard by the contracts between private persons and contracts judiciary.2Y And finally, the system of pre- between state enterprises. With regard to the contractual liability is obsolete given the former (and to contracts between state abolition of central planning. 105 Another feature of socialist contract law in of property. These goals have been largely Poland was the explicit introduction of socialist achieved. principles. Socialist practice and ideology in the Most of the Civil Code does not need to 1950s seemed to call for a new set of equitable change. Many of the core rules of or moral principles to guide business conduct. contracting-such as rules of offer and The Poles responded to these practical and acceptance or rules relating to ideological needs by introducing the principle of performance-were fashioned in the 1933 Law "social co-existence" into the Civil Code. of Obligations and remained in force throughout Article 5 provided: "A right cannot be used in a the decades of central planning. These sections, way which would be in contradiction with the for the most part, reflect current western socio-economic purpose of that right or with the practice. Their exact meaning will be filled in principles of social co-existence in the Polish over time through practice and judicial People's Republic." This section was used as a interpretation. check on excessive use of individual rights and The major deletions taken to date-regarding created the opportunity to introduce moral central planning, property concepts, and socialist standards into contractual conduct. Article 4 ideology-are highlighted above. Other operated in a similar fashion. It stated: "Civil deletions will follow. Since the majority of law regulations should be interpreted and applied Polish property is still in state hands, some in accordance with the principles of the political administrative rules regulating exchange of state system and the objectives of the Polish People's property are still necessary. These should be Republic. " Here the Code specifically provided phased out in time. for a political check on the substance of private Additions to the Code are currently being civil agreements. considered by a group of scholars empaneled by These articles have been widely used in the Ministry of Justice. This group has three judicial practice. For example, Article 4 has areas of concern. First, the present Code does been used to protect long-term tenants from the not provide standard terms for certain types of harshness of eviction and to shield debtors from transactions found in industrialized countries. demands to pay interest accumulated over long Rules regulating commercial leases, franchises, periods of time. Article 4 was repealed in 1990. and factor leasing are conspicuously absent. Article 5, a variant of which appears in many The commission is considering such civil codes around the world, remains in the additions.' Second, the state of commercial Code. law may be in need of reorganization. The Civil Code regulates sales (Book 3, Title XI). and The Current Situation pledges of personal property (Book 2, Title Ill. Another body of law regulates mortgages. Still The Poles are in the process of crafting a set another regulates negotiable instruments ( note of contract laws appropriate to a market 54). There is some concern that these various economy. They started with the existing Civil sources of commercial law need to be unified or Code of 1964. Most sections were retained, updated. Third, and perhaps most importantly, several sections were deleted, other sections are the Poles wish to harmonize their Civil Code to be added, while still other sections must be with the laws and customs of the European reinterpreted in the light of current necessity. Community and with the rules of various Thus far, the amendment process has international conventions. emphasized deletions. The first goal of the 1990 amendments was to provide a system of contract Bankrutey law which could be uniformly applied to any type of transaction. The second goal was to As a concept, bankruptcy is gradually being provide a uniform contract system for all types reintroduced in Poland. The relevant law, the 106 Poland Bankruptcy Act of 1934, was never formally proposals concerning the management takeover abolished but was dormant until 1989 and has and reorganization of the company. been used recently only for closures of state- Despite its general reasonableness, it remains owned enterprises (which is still not a true to be seen how it will be applied, as very few adversary situation). Western-style bankruptcy bankruptcies have actually been carried out procedures will only truly be needed as the pursuant to it. Practice is necessary to fill in private sector grows, with private suppliers and more precise rules. Some observers fear the banks who face truly hard budget constraints and procedure is too complicated to handle the large thus have a strong incentive to collect on bad number of liquidations anticipated in the coming debts. Conversely, an absence of efficient years. As with antimonopoly law, it is bankruptcy procedures and other debt-collection important that decisions be publicized to provide mechanisms will inhibit the growth of the guidance to potential creditors, to educate the private sector. public and the courts, and to provide an opportunity for debate over the emerging The Current Situation framework. A Law on the Procedure for Mutual The Polish law (as amended several times, Agreement was also passed in 1934 and is still most recently in 1990) appears reasonable in on the books. This law, modeled after a 1927 broad terms, providing general procedures for German statute and similar to numerous other both liquidation and reorganization (under the European precedents of the late 1800s and early control of a receiver appointed by the court). 1900s, was meant to provide an alternative to Bankruptcy is overseen by a tribunal of the local bankruptcy and liquidation by promoting the court. Under the law, either the tribunal, the amicable settlement of debts between an on- debtor, or a company's creditors may initiate an going company and its creditors. The investigation. The initiator must prove that the procedure, which can be initiated only by the company cannot pay its debts; there are no debtor, is very similar to that of bankruptcy, precise criteria for this standard of proof, with (a) the appointment by the court of a judge, although two-weeks of nonpayment is a (b) the appointment by that judge of a trustee minimum requirement. The tribunal accepts the (under a different name), (c) the overseeing by case only if the assets of the enterprise are that trustee of the operations of the company sufficient to cover the procedural costs. This while the company prepares a plan to pay off its establishes some barrier to legal action and helps debts, and (d) the implementation of such plan if to keep trivial cases from clogging the courts. agreed to by two-thirds of the creditors (with If accepted, the tribunal appoints a judge- some protection of the remaining minority from commissioner, who then appoints a trustee overly onerous terms). The main differences (receiver). The new trustee manages the between this procedure and bankruptcy are that company with the mandatory cooperation of the only the debtor can bring a mutual agreement original managers, who lose their management case, and the trustee does not have the power to rights (Article 20) but may continue to be remove the management of the debtor company involved if deemed appropriate by the trustee and take over the enterprise (but can terminate and approved by the bankruptcy judge (Article the case and in essence throw it into bankruptcy 98). The value of the company's assets and if the company does not comply with his creditors' claims is determined by the tribunal, wishes). It appears that this law (used often after which the tribunal either 1) decides how before the war) has remained dormant until now the company will pay its outstanding debts, or 2) because of lack of knowledge of the public, liquidates the company. The bankrupt company although debtors may choose to use it in the has the opportunity to present proposals on the future if it remains on the books because it is future of the company, and outsiders can submit more favorable to them than bankruptcy. 107 Court capacity and training is certain to be a Antimonopoly Law bottleneck to the development of sound bankruptcy precedents and principles. The legal The Polish Antimonopoly Act of 1990 institutions are not prepared for the plethora of provides a comprehensive framework for bankruptcy cases that may be coming their way. competition law and practice to develop. It Courts and judges are not adequately trained for establishes broad principles concerning illegal bankruptcy cases. The law demands a special behavior and it sets up a specialized office to judge-commissary to be appointed for every prosecute cases (based on complaints filed by case, which further reduces the already limited individual firms or companies, or on the office's operational capabilities of the courts. While own initiative), with the possibility of appeal to special economic courts have been established in a special antimonopoly branch of the Warsaw Warsaw and some other big cities, the district court (and then to the Supreme Court). complicated bankruptcy procedures may The law regulates both market structure and overwhelm smaller generalized courts. business conduct, and its definition of The availability of receivers (or trustees) is anticompetitive behavior is all-encompassing. another serious problem. Specialized firms Article 4.1 defines four types of "monopolistic existed in the pre-war period, but the number of practices": (a) onerous contract terms that yield present experts is very limited. The law unjustified benefits; (b) conditioning a contract requires that trustees not be associated with the on the performance by the other party of creditors in any way; nor may creditors propose unrelated services it would not otherwise to the court a specific trustee. This is often perform ("tie-ins"); (c) acquisition of shares or done, however, in practice. property of other companies, if it results in It has been noted in previous chapters that the "major weakening of competition"; and (d) judicial bankruptcy process works best on the interlocking directorates or supervisory councils margin and is not well-designed to deal with the of more than one competing company if one large stock of ailing firms carried over from controls more than 10 percent of the market. socialism. Poland is perhaps the most advanced Article 4.2 adds to this list (a) direct or indirect CEE country in designing alternative extra- price-fixing among competitors; (b) geographical judicial means to restructure or liquidate such or product-specific market-division agreements firms. Under a recently approved scheme, among competitors; (c) restriction of output, banks, as the major enterprise creditors, have sales, or procurement; (d) limiting market access the right to conduct and conclude "conciliation of third parties ("group boycotts"); and (e) procedures" with defaulting debtors (generally fixing the terms of contracts with third parties loss-making state enterprises) under a special (such as "resale price maintenance"). Article 5 law in effect only for two years. Such defines as monopolistic the abuse of a procedures are streamlined versions of Chapter "dominant" position and names several examples I1-style reorganizations, whereby minority of such abuse-including market division, price creditors can be forced into debt restructuring discrimination, refusal to deal, resale price agreements with enterprises willing to implement maintenance, and predatory pricing. Article 7 credible restructuring plans. Courts will be forbids monopolies or firms with monopoly-like involved only if appeals are brought by dominant positions from cutting output or unsatisfied parties to a procedure. This suspending sales to increase prices, or from conciliation procedure can help to address the imposing "exorbitant prices". problems of loss-making state enterprises while While the law is all-encompassing, it adopts leaving judicial bankruptcy procedures primarily a "rule of reason" approach in most cases, to the newly emerging private sector. giving virtually unlimited discretion to the antimonopoly office to decide which cases to prosecute. Yet the wording implies that the 108 Poland named practices are rima facie illegal, i.e. that, judges appointed by the President for five-year if charged, the burden of proof lies with the terms.Y It is divided into several chambers: company; under Article 6, the practices defined civil, administrative, social (labor and social in Articles 4 and 5 (i.e. 'monopolistic practices" insurance), criminal, and military. Each and "abuse of a dominant position") are chamber is divided into specialized sections. prohibited "unless they are indispensable to the The civil chamber deals with all private matters conduct of economic activity and do not cause a (commercial and noncommercial), including significant curtailment of competition." The property law, company law, bankruptcy, and practices of actual monopolies listed in Article 7 family law. The Supreme Court's role is to are Rer s prohibited. review questions of law in final decisions of If any of these practices are ruled general appellate courts and the High anticompetitive, the Antimonopoly Office has Administrative Court. Only certain high public broad powers to order the abandonment of such officials (including the President of the Supreme practices, impose a monetary fine of up to 15 Court, the Ombudsman, the Minister of Justice, percent of the offender's annual income in the and the General Prosecutor) can bring cases previous year, roll back prices, or even order before the Supreme Court for review the break-up or dissolution of violators with a ("extraordinary revision"); parties to the dispute dominant position. It also has the authority to cannot bring cases directly but can petition these review all proposed mergers and acquisitions officials to bring the cases. Most cases are (with no minimum size limit). The law gives it decided by panels composed of 3 judges. broad powers of investigation in line with this Two types of courts are under the Supreme broad mandate. Court: courts of general jurisdiction and courts The Polish Antimonopoly Office is made up of special jurisdiction. The latter include the of over 100 economists/lawyers in the courts for military and social insurance matters headquarters and 8 regional offices. Because of and the High Administrative Court. All civil, the newness of this office, the enormous degree commercial, social, and criminal cases are tried of change required in Polish industrial structure, in general courts (either local or and the complexity of antitrust analysis in district-"voivodship"--courts, depending on general, the office is likely to make many the amount at issue or the nature of the charge), questionable rulings in the early years. The with right of appeal of both factual and legal office should be required to publicize its studies issues to the relevant court of appeal.' and rulings. Given the generality of the law, the In addition to these courts, a separate rulings are going to define what the law actually Constitutional Tribunal was established in 1985 is, and it is important that business can have to advise Parliament on the constitutionality of access to this developing body of practice so that laws and to review government regulations to they can adapt their behavior accordingly (or ensure they comply with parliamentary acts. challenge it if they believe it is inappropriate). Only certain high public officials can bring cases In this way the office can play an important role to this tribunal. Parliament has the final say in educating the public and reducing uncertainty. over how to treat a decision of the tribunal regarding the constitutionality of a parliamentary Judicial Institutions act; the judiciary is subordinate to the Parliament (as is also the case in France) and does not have Ihe Court System the power to declare statutes null and void as is possible in Hungary and the Czech Republic. The structure of the Polish judiciary is The Tribunal's decisions with regard to the similar to that in other continental European legality of sub-statutory regulations are, in systems. The Supreme Court, the highest court contrast, final and binding. in the system, is composed of about one-hundred 109 Although the court system has jurisdiction be fixed by an ordinary court upon request of over the whole panoply of commercial matters the parties. The winner may request that the likely to arise as Poland moves toward a private loser pay his costs. Unlike in the courts, no market system, it has limited competence in earnest money must be deposited with the these areas. Until 1989, commercial disputes arbitration tribunal. were resolved through state enterprise arbitration Arbitrators usually have broad powers; the rather than in the courts. Over the past two only thing they cannot do is take evidence or years the role of the courts has expanded testimony under oath (a common aspect of dramatically to include a whole range of arbitration). Arbitrators must give reasons for commercial matters not considered before. their decisions unless otherwise agreed upon by Furthermore, most high-level judges are the parties. The award is then signed by the relatively new. About eighty percent of the arbitrators and the parties and filed with an appellate level judges were replaced between ordinary court. The award becomes 1989 and 1992 in order to replace old ways with enforceable, however, only when the successful new thinking. Many of the newly appointed party procures an enforcement order from a judges had been associated with the Solidarity court of law. Arbitral awards may not be movement for some time. Nonetheless, they appealed; they may, however, be set aside if the lack experience with the various accounting, award falls out of the scope set down in the engineering, and economic problems associated agreement, the rules of procedure have been with complex market transactions. Developing breached, or the award is redundant with a court such expertise will take time. award. Lack of experience and expertise creates The Court of Arbitration at the Polish uncertainty in the business population; other Chamber of Commerce provides one interesting problems with the court system include cost (in forum for private arbitration. This originated as both money and time). In the case of the Court of Arbitration at the Polish Chamber commercial disputes, courts require the party of Foreign Trade, which was established in 1950 bringing the claim to deposit with the court a to resolve intrnational trade disputes. Although sum equal to 12% of the disputed amount. This it was an office of the Polish Chamber of sum is supposed to be returned upon the Foreign Trade, the Court of Arbitration was decision of the case. This deposit does not earn (and still is) an independent body. Until 1990, interest, nor is the return of the sum (if it occurs disputes with CMEA countries averaged around at all) adjusted for inflation. As many cases 200 per year, while the number of cases take around two years, this deposit imposes a involving non-CMEA countries (including significant financial liability for plaintiffs. Yugoslavia) averaged 10-15 per year, or less than 10 percent of all disputes brought to the Arbitration tribunal. This later figure is disproportionately low, considering that trade with non-CMEA The Polish Code of Civil Procedure provides countries amounted to approximately 30 percent for formal arbitration similar to that in other of all of Poland's foreign trade volume. western systems. Parties may design their own Western parties were particularly hesitant to procedure; alternatively, the arbitrators may submit to any socialist legal body. Most determine the procedure or the parties may disputing parties chose instead to present their submit to arbitration run by an organized forum cases in a neutral forum (such as Switzerland or with its own procedural rules (such as the Court Austria). Despite this prejudice, however, the of Arbitration at the Polish Chamber of Polish Court of Arbitration of the Polish Commerce, discussed in detail below). In ad Cbamber of Foreign Trade was considered fair hoc arbitration, the arbitrators' fees may be and objective in adjudicating trade disputes agreed upon in the arbitration agreement or will brought before it. 110 Poland In 1991 this tribunal was renamed the Court agree on the procedural rules, UNCITRAL2' of Arbitration at the Polish Chamber of rules are applied. Commerce. The court remains available for the Arbitral decisions from both the Court at the resolution of international commercial disputes, Polish Chamber of Commerce and ad hoc panels but through its transfer to the Chamber of are published annually without the parties' Commerce its jurisdiction has been expanded to consent. Confidentiality is maintained, however, include disputes between Polish economic by not identifying the parties involved. subjects. Parties may submit to the Court of Condusion Arbitration only if they have agreed to do so in their commercial contract or by subsequent Pre-war Poland had a reasonable legal agreement; the clause must specify this court as framework that is being revived, amended, and the locus of arbitration. The Court keeps a list supplemented by committed and intelligent law of qualified and available arbitrators, both Polish professors, legislators and administrators. The and foreign. These candidates include result is a set of laws that, although still needing professors, practicing lawyers, economists, and careful study and revision in some key areas others with expertise in commercial matters. (most notably property rights), provides a State judges are prohibited from arbitrating cohesive legal framework to support the growth disputes. This list is offered to assist parties in of the private sector. Practice and experience choosing arbitrators; it is not compulsory, and are needed to add detailed content to this parties are free to choose anyone whom they framework and establish the precedents that wish. In keeping with standard arbitration rules reduce uncertainty in everyday transactions. worldwide, each party chooses one arbitrator. In addition to a developing legal framework, The opposing party may object to a party's Poland has a legal history and legal institutions choice if that arbitrator is related to one of the firmly embedded in the European tradition parties or is otherwise interested in the dispute. despite a forty year detour along the socialist Arbitrators may also be refused for the same path. Courts and judges are used and respected; reasons a judge may be excluded for a court they have not lost their reputation for honesty proceeding, which reasons are set out in the and integrity, although they may have trouble Code of Civil Procedure. Together the two attracting the best talent given the burgeoning chosen arbitrators chose a third, who acts as the opportunities in the private sector. With time presiding arbitrator. Parties may agree to a there is every reason to believe that they can panel of five or seven as well. develop the competence and expertise needed to Arbitration fees must be paid before give them a central role in interpreting and proceedings begin. An arbitration is not shaping the law and in providing the private considered commenced until all arbitration fees sector with a reliable means for the resolution of are paid. Fees are based on a sliding scale disputes. It would be wise, however, for the measured by the amount in controversy. Fees Poles also to promote alternative means for may be partially returned depending upon the dispute resolution-most notably, private or length of the arbitration. quasi-public arbitration-that place fewer The arbitrators have the power to admit and demands on the scarce legal talent in the public exclude both evidence and testimony, regardless sector. of whether it has been admitted by the parties. The rules of the Court of Arbitration also allow for the parties to apply the rules for "ad hoc" arbitration, which allows them to determine their own procedure. In the event the parties cannot 111 Endnotes 1. For detailed references to Polish 9. It routinely takes six months to register a legislation mentioned in this article, see Gray transfer. et.al, "The Legal Framework for Private Sector Development in a Transitional Economy: The 10. Schwartz, "Recent Developments in the Case of Poland, "Georgia Journal of Copyright Regimes of the Soviet Union and International and Comparative Law 22:2 (Spring Eastern Europe," J. Copyright Society U.S.A. 1992). 38:123, 1991, p. 143. Poland is not a signatory to the Madrid Agreement for the International 2. M. Brzezinski, "Constitutional Heritage Registration of Trademarks of 1891, the Patent and Renewal: The Case of Poland," U.Va. Law Cooperation Treaty of 1970, or the Hague Review 77:49. Agreement for the International Deposit of Industrial Designs of 1925. 3. P. Herrmann, "Roundup: The New Polish Constitution," RFE/RL Research Report, 11. The treaty was signed on March 21, 1990. November 1992. It was ratified by the U.S. Senate in late 1990 and by the Polish Parliament in mid-1991. 4. Another form of property, "cooperative" There was great resistance to these treaty property, was considered transitional, to be provisions on the part of the Polish software and transformed to social ownership in the future. pharmaceutical lobbies, which fear incurring liabilities due to their use of foreign intellectual 5. While this equality of property has been property over the past forty years. There was incorporated into the constitution and the Civil also widespread debate within the Polish Code, distinctions between public and private community-and more generally within property have not yet been eliminated in other reforming socialist countries and developing areas of law. countries alike-on whether the benefits of such rigorous patent protection outweighed the costs. 6. In particular, conflicts have arisen between local governments and state-owned 12. Apparently some types of state-owned enterprises due to the awarding to the latter of companies, including Foreign Trade their own grounds. Because of undefined land Organizations and some banks, continued to be title, capital shortages, and inappropriate organized as companies under the commercial taxation incentives, state enterprises have code. The Civil Code of 1964 abrogated all but typically built large, low buildings, and claimed sections 9, 11, and 12, which deal with company and held substantial amounts of vacant land. forms. 7. A "Rental Housing and Tenant Protection 13. A Law on Creating Joint Ventures was Act" has been submitted to Parliament. Among passed in 1979 but never used. other things, it proposes a controversial two-year scheme to decontrol rents in public housing. 14. Although all shares must be issued, not all capital must be paid-in up-front. Only 25 8. It is also a bottleneck to the formation of percent of the value of registered shares must be companies, as discussed later in the paper. paid-in. This is considered an advantage over 112 Poland the limited liability form, for which all capital 20. This may cause some problems, as must be paid-in up-front. according to the constitution all Polish nationals are to be equally treated. On the other hand, 15. If the court-appointed regulators determine some Polish nationals may claim they reside a value that is at least 20% lower than that abroad in order to qualify for some of the declared by the founder, then subscribers are incentives provided. free to renounce their part in the company. 21. Several administrative requirements were 16. Bearer shares may only be issued upon also abolished, such as the evaluation of full payment. Partial payment may purchase feasibility studies. certificates entitling the holder to the shares upon paying the balance. Registered shares may 22. The law does not specifically define "state be purchased for partial payment. They may enterprise" though it uses the term, and most also be issued in exchange for the duty of assume that this is an enterprise with more than repeated non-monetary contributions, but only 50 percent state participation. Even the Law on with consent of the company. State Enterprises does not define the term. 17. This provision allowing the company to 23. The translation of Article 23(6) is restrict the transfer of registered shares removes approximately as follows: "The portion of the one characteristic distinction between the joint amount deducted from profit tax [i.e. the tax stock company and the limited liability company. credit] may not exceed the value of stock and Usually such restriction is possible only in the shares acquired by foreign persons." latter form. 24. As noted earlier in the discussion of real 18. Interest-bearing shares require the property law, the Civil Code provided for company to pay interest on the shares, various types of property-social, individual (or regardless of how much company profit is private), and personal. Administrative earned. Such shares are prohibited in most regulations strictly limited the subject matter of western countries, because they confuse the private market activities and thus profoundly basic distinction between bondholders (i.e. affected the content and reach of contract law. creditors) and shareholders (i.e. owners). With ownership comes risk, and interest-bearing 25. This was achieved by amending the Code shares are an attempt to create ownership of Civil Procedure. without its attendant risk. On the other hand, interest-bearing shares might prove useful in 26. The existing Code is flexible enough, countries trying to encourage private ownership however, to permit these types of arrangements of companies by an inexperienced and risk- on a case-by-case basis. In fact, standard rules averse population. for these and other special types of contracts have been added to the French Civil Code over 19. Shareholders agreements are a normal the years, but many appear to have fallen into feature of business organization in common-law relative disuse as lawyers find it preferable to jurisdictions, but have not been typical in civil- craft individually-tailored arrangements under law jurisdictions. They are becoming more the more general provisions of the Code. common in Poland with increasing foreign investment. They create greater clarity and 27. Judges in lower courts have life tenure. certainty for shareholders than is possible under articles of association alone. 113 28. The District Courts play the appellate role for the local courts, while several Courts of Appeal review decisions of the District Courts. 29. UNCfTRAL refers to the United Nations Commission on International Trade Law. 115 ROMANLA Like the other countries of Central and of the two chambers of the Parliament and Eastern Europe, Romania has worked intensively outside constitutional experts. since 1990 to create a legal framework for a The document is long, containing 152 articles market economy. While problems exist with the organized into seven main sections (or current laws, and numerous remaining gaps "Titles")-(1) General Principles; (2) remain, on the whole the effort has been Fundamental Rights, Liberties, and Duties; (3) impressive given the short time-span and the Public Authorities; (4) Economy and Public tightly-controlled centralization of the former Finance; (5) The Constitutional Court; (6) regime. Unlike some other CEE countries (such Revising the Constitution; and (7) Final and as Poland and Hungary), where private property Temporary Provisions. Title 1 is generally and private markets were suppressed but not noncontroversial from an economic viewpoint, entirely extinguished during 40 years of but it has aroused strong debate from minority socialism, Romania started virtually from scratch groups and monarchists because of Article 1, in 1990 to construct a market economy and which declares Romania a "national state, corresponding legal framework. sovereign and independent, unitary and Challenges remain in both law and practice. indivisible. The form of government of the The broad principles of private ownership, free Romanian state is the republic." market exchange, and equal treatment of public Title 2 contains many sections defining rights and private firms are well recognized and have and duties of citizens. The list of rights contains been largely achieved, at least on paper. Yet those that are common and expected in there continues to be a trend toward centralized, democratic societies, including freedom of bureaucratic control-as evidenced, for example, expression, assembly, religion, and movement, in excessive requirements for approvals to do and freedom from arbitrary arrest and many things, as well as uneconomic limitations imprisonment. On the economic front, the draft on certain activities. Furthermore, guarantees private property rights and equal implementation will clearly take a long time protection of all private property regardless of (probably considerably longer even than in the owner, and it forbids uncompensated other reforming countries), because the expropriations (Article 41). However, an institutional framework for enforcement and accompanying provision that "the contents and dispute resolution is very weak. Developing limitations of [this right] are established by law" expertise in the legal community through leaves wide room for government to restrict training and practice is crucial if the evolving private property rights. Foreigners are explicitly legal framework is to become a guiding and forbidden from owning land in Article 41(2), a binding force in everyday transactions. provision which-though apparently deeply rooted in history and culture-may nevertheless ConStitutional Lw hinder foreign lending and investment in the economy. The New Constixon Some rights guaranteed in the Constitution could prove expensive for the government to A draft constitution was introduced in fulfill. One is the right to free education granted Parliament on July 9 and was approved on in Article 32: "State education [including by November 21, 1991 after approximately 2 implication higher education] is free by law." months of debate.' It had been prepared by a Another potentially expensive guarantee is in constitutional commission composed of members Article 43: "The state is obligated to ensure a 116 Romania decent living standard for the citizenry through a law is passed) by a separate Constitutional measures of economic development and social Court, and the Constitution provides for such a protection; Citizens are entitled to a pension, Court in Title 5. Under Article 144, the Court paid matenity leave, health care in state medical is empowered to review the constitutionality of facilities, unemployment rdief, and other forms laws before they are promulgated.5 However, of social assistance envisaged by law." a ruling of unconstitutionality can be overridden All of these rights are granted subject to if the law is again adopted in the same form by Article 49, which provides that "th exercise of at least two-thirds of the members of each certain rights or freedoms may be restricted only chamber,' a provision that seriously weakens by law and only if the restriction is required ... the power of judicial review over Parliamentary in order to defend national security, public acts (Article 145). The Court is also order, health, or morals, and civic rights and empowered to adjucate appeals brought before freedoms ...." This rather open-ended provision courts about the constitutionality of laws and could create some uncerinty by leaving a ordinances, thus presumably eliminating the window open for arbitrary government Supreme Court's jurisdiction over constitutional interference in the free eoxccise of economic questions. rights. Title 4 deals with the economy and public Title 3 lays out the structure of the public finances. Article 134 defines Romania's sector, with chapters on the Parliament, the economy as a market economy and orders the President, the Government, the Public state to ensure free trade and protect Administration, and the Judiciary. Although not competition. Under Article 135 the state strictly economic in character, these provisions protects property, whether public or private. lay the ground rules for economic policy Catain assets are reserved exclusively for public making. The structure is designed to create a ownership and are "legally inalienable", balance of power among the various branches. including "underground resources of any kind, The executive branch ("government") designs the means of communications, the air space, and introduces most legislation, and both water resources that can produce power or can chambers of parliament must approve it and the be used for public purposes, beaches, the President sign it for it to become law.2 The territorial sea, the natural resources of the President appoints the Prime Minister and economic zone and the continental shelf, as well cabinet with the approval of Parliament and can as other assets envisaged by the law." While be impeached for wrongdoing by a majority vote this article prohibits private ownership, the state of Parliament. Parliament is composed of two can grant concessions for private sector chambers, the Chamber of Deputies and the involvement in the wide range of activities on Senate.5 Parliament supervises the government such property, including mining and through its approval of initial ministerial teecommunications. appointments, its power to express no Despite the provisions indicated above that confidence or censure, and its right to request may compromise individual rights or impose information and explanations of governmental difficult financial burdens on the state, the activity. Constitution is a major step forward for With regard to the judiciary, there was Romania. Overall it provides strong support for intensive debate regarding its powers in the fundamental principles of private property overseeing the constitutionality of Parliamentary and free market exchange as well as explicit acts. The Ministry of Justice favored ex-post limitation of the powers of the state. judicial review by the Supreme Court, as existed prior to World War U.4 The constitutional drafting committoe, in contrast, favored broad powers of judicial review (both before and after 117 Rights to Real Property claimants filed claims for some nine million hectares. Rights to real property have been in a state of The restitution process has been plagued with extreme flux in Romania. Extensive amounts of problems. By September 30, 1992, almost eight land are being returned to former owners or million hectares had been distributed to about given to the owners of the buildings that occupy five million new land owners. Yet in many such land. Other land and buildings are being cases original plots could not be returned, kept in municipal hands, with the possibility of because they had been converted to lease7 and the future possibility of restitution or nonagricultural use. The resulting "allocation" sale. The disposition of apartment buildings and of alternative plots has resulted in over 300,000 other housing now in state hands is being court actions to date. The commissions have intensely debated. And apart from basic been slow to issue titles to new holdings, which questions of ownership of real property, land are needed to secure the new property rights and registration systems need to be revitalized,' and stimulate a land market. As of September 1992, numerous regulatory issues remain unresolved, only 124,000 titles had been issued12 including land use zoning and building Land formerly controlled by state farms is standards. treated differently under the law (Article 36). Rather than provide restitution-in-kind to former Restitution owners, the state farms are to be converted into joint stock companies, and former owners or The major emphasis of restitution efforts in their heirs are eligible to receive shares of these Romania has been agricultural land. The Land companies in proportion to their former holdings Law (No. 18), passed in February 1991, defines (not to exceed 10 hectares). various categories of land and gives the broad In addition to providing for restitution, the outlines for their disposition. It is extremely land law puts strict (and seemingly inconsistent) bold and far-reaching; whether or not one agrees controls on the conversion of agricultural land to with the principle of restitution, it is clear that other uses. Any construction on some types of this is one area where Romania has moved land-including land of "class I" and "class II" decisively, ahead of land reforms in other quality, land with "improvement facilities", and Central and Eastern European countries and vineyards and orchards-is prohibited under ahead of reforms in other areas of the Romanian Article 71. Yet the article also provides for the economy.9 removal of land from agricultural or forestry use The bulk of the law deals with agricultural with the payment of steep taxes into a "Land land in producer cooperatives. Prior to the 1990 Improvement Fund". Article 79 then appears to revolution, about 60 percent of agricultural land require that investors physically remove the was controlled by cooperatives, about 30 percent topsoil to poor land (as indicated by agricultural by state farms, and the rest by private farmers authorities) before doing any construction. working small individual plots.10 The land law Finally, the law places two further important provides that land of agricultural cooperatives is limitations on land ownership. First, Article 47 to be returned to the original owners or their repeats the constitutional prohibition on the heirs, with a maximum amount returned per ownership of land by foreigners (but seems to be household of 10 hectares."1 A period of 30 limited in this case to nonresident foreigners3). days Oater extended to 45) was set in the law for Second, Article 46 appears to provide that a the filing of claims, and some 3000 local family's total purchases (through "living deed") commissions were established to determine the of land cannot exceed 100 hectares distribution of property rights, resolve disputes, (approximately 250 acres) of arable land. Such and issue property deeds. Over six million a limit on land holdings is understandably intended to prevent the emergence of large 118 Romania landholdings and inequitable land distribution, at low cost is a generally accepted principle and but in the longer run it could also compromise is moving ahead rapidly."5 However, the efficiency and entrepreneurship in rural areas. disposition of urban housing formerly Disposition of urban land is also addressed in agr=ated without compensation by the state the law (primarily Article 35), but in much less is a contentious issue because of the conflict detail. Land on which buildings sit is to be between former owners and current tenants. given to the owner of the building, whether One proposal gives preference to current tenants private or municipal. Pursuant to another law (if resident since 1974), allowing them to buy presently being drafted, state-owned enterprises the property and then giving the proceeds will be given full ownership rights to the land on (probably far below would-be market value) to which they are situated. Until now they have the former owners. This proposal has many had only use rights, which allowed a full range critics, however, and a task force is currently of uses but did not allow lease or sale. Empty looking for a solution. land is to be returned to its original owner if possible. A municipal commission is being set Rights to Intellectual Property up in each town to oversee this process. As in the case of agricultural land, there are likely to Patents be many disputes. Until late October, 1991, the Romanian Law Privatization on Inventions and Innovations (No. 62) of 1974 provided the basic framework for patent rights. Ownership of buildings is not covered by the In keeping with standard western patent law, land law and is not subject to restitution. State- Law 62 stated that holders of patents enjoy the owned enterprises (and a few private enterprises) exclusive right to exploit their inventions, unless generally own the buildings they operate in. they expressly permit others to do so. During Municipalities own the rest of the commercial the socialist period, however, patent law had property within their borders (which makes up, little meaning in the domestic economy, as noted by rough estimation, some 2/3 of the buildings in Chapter 1. The exclusive right to utilize an in Bucharest, for example). The municipality is invention remained with the Romanian state.16 thus a major landlord for emerging private As a result, there is no experience with the sector businesses and has strong market power enforcement of private patents, which will be the over the rental of business premises, for which challenge of Romania's new intellectual property rents are considered to be high. When possible, regime. businesses rent homes or apartments from Parliament passed a new patent law in late private owners and turn them into offices in lieu October, 1991. The law provides patent of renting office space from the government. protection similar to that in industrialized Privatization (probably through auction) of urban countries. The above-mentioned restrictions office buildings needs to be put on the have been removed, and the basic protections government's agenda to support private sector remain. The law retains two controversial development. provisions: 1) a compulsory license provision Housing, unlike office buildings, is being and 2) a provision that the state has the right to privatized by the state. Many individuals own appropriate patents if deemed to be in the their own homes or apartments; this was "national interest.' The compulsory license possible even in the communist period,' and it allows the state to issue rights of use to third has been expanded through extensive sales at parties (with compensation) if a patent registered very low prices (one-fifth to one-tenth of in Romania has been unjustifiably unutilized or "market value") under Decree-Law No. 61 of underutilized for four years. The compulsory 1990. The sale of state-built housing to tenants license provision is unlikely to significantly 119 reduce the protection of patents registered in Trademarks Romania. Rather, it provides the government with a tool to prod the holder of an unused Romanian trademarks are adequately patent when a potential license meets resistance protected (at least on paper) by Law No. 28 of to any efforts to negotiate a licensing 1967 on Brands, Trade & Service Marks (as arrangement. amended in 1977). The law grants exclusive More controversial (and less common right of use and transfer. Trademarks are elsewhere) is the appropriation provision, as this defined as distinctive signs used by enterprises compromises the basic security of property for distinguishing their products, works or rights. Compensation for expropriated patents is services from those of other enterprises.20 guaranteed by the patent law.17 Despite this, Trademark protection lasts initially for 10 years however, such a provision creates uncertainty as and is renewable. Like patents, trademarks are to the value of patents (present and future), protected upon registration at the State Office of making sale and leasing arrangement risky. Inventions and Marks (OSIM).21 The Paris Furthermore, "national interest" is not defined. Convention grants national treatment and right In light of Romania's far reaching need for of priority to trademark owners. Romania is western technology, "national interest" could also signatory to the most current text of the indeed include all technical innovations in the Madrid Agreement Concerning the International country. Thus, this far-reaching power of the Registration of Marks (Stockholm, 1967). state could seriously encroach upon the integrity of the patent law's protections. Copyright All patents must be registered in the Romanian State Office for Inventions and Marks Until recently, the primary source of (OSIM) and are valid for 20 years." OSIM's Romania's domestic copyright law was Decree main responsibility in approving patent No. 321 of June 21, 1956 (as amended in 1957 applications is to determine the novelty of the and 1968). This decree dealt primarily with claimed invention. Decisions of OSIM may be literary works, but it had wide potential reviewed by the OSIM Appeals Commission, application to the commercial sphere, and the Commission's decisions may be particularly computer software. It granted the appealed to the Civil Division of the Municipal holder rights of public recognition as the author Court of Bucharest. Such appeals may only of a work, exclusive exploitation of the work, address whether the OSIM Appeals and alienation of exploitation rights. The Commission's decision complied with Law No. protection of these rights existed for the life of 62, and not whether the commission properly the author and the spouse, plus 50 years for assessed the novelty of the patent. direct descendants and 15 years for other Romania is signatory to the Paris Convention heirs.2 On the international front, Romania for the Protection of Industrial Property (1883). has long been a signatory to the Berne Foreign patents must be registered by the Bureau Convention (Rome text of 1928). for Foreign Patents and Inventions (Rominvent) A new copyright law was recently passed by of the Romanian Chamber of Commerce to Parliament. Although more in line with enjoy the protections set out in Romania's new international norms, there is still uncertainty law. In registering with Rominvent, the foreign with regard to protection of computer software, patent holder also grants power-of-attorney to which has been an issue of particular sensitivity his or her Rominvent representative."9 This is in the country. Under the Berne convention, an area that could usefully be opened up to retroactive protection of copyrights (e.g. for broader participation of Romanian lawyers. software) is possible, meaning infringers of protected works may incur liability for past illegal use. However, it is also worth noting 120 Romania that Berne has no enforcement mechanism. and is likely to become important in Romania in Claimants may bring infringement cases before the future, as state-owned enterprises are the International Court of Justice, but instances privatized and as small private firms grow. At of this are rare. As noted in Chapter 1, present, however, the form is hardly used, and enforcement capacity is an issue in all of the most companies to date have been established as areas of intellectual property law discussed partnerships or limited liability companies. above. Capital and share requirements. Under Company Law Romanian law, at least 5 founders are necessary to establish a joint stock company.6 They can Historical Background be residents or non-residents, and legal or natural persons. Minimum capital of one Romania made much early progress in the million lei (approximately US$2300) is required. area of company law, moving from zero This may include the value of in-kind recognition of private business to a market- contributions, which are to be evaluated by oriented company law in the first year after the experts appointed by the founding meeting. 1989 revolution. The first law that allowed Both registered and bearer shares are allowed, individual private initiative was Decree-Law No. with bearer shares to be paid in full. Registered 54 of 1990. This law provided for 4 types of capital cannot be increased before all shares organizations-small enterprises, business issued previously are paid in full. Not all partnerships, family associations, and sole capital must be paid up front, but at least 30 proprietorships. While a very important percent of subscribed capital must be deposited development in the transition, the law was upon founding of the company. A prospectus is outside the normal western framework and quite required if stock is to be offered for public sale. restrictive,' and it gave the government broad The law requires that the subject of activity powers of control over private activities. of every company, as well as every shareholder, Law 54 was largely supplanted2' in be listed in the founding Contract. The November, 1990 by Law 31, the Companies requirement that subjects of activity be listed Act, which provides for all the types of could be problematic if the categorization of company organization typical of continental legal possible subjects were narrow, because it would systems. These include the general partnership, restrict firms' ability to diversify in response to the limited partnership, the limited partnership market signals. The Romanian system is not by shares, the limited liability company, and the severely restrictive. It provides 5 broad subject joint stock company.25 However, the law is areas to choose from; firms can choose one or quite disorganized and ambiguous, and it has more (with each entailing an extra registration numerous problematic provisions, as discussed fee, as discussed below). Listing every below. shareholder may not be difficult now, given that most private companies are still very small, but Characteristics of a Joint Stock Cornpany it will become difficult if shares become widely held and traded through the process of The Romanian joint stock company resembles privatization or private sector growth. Some the French SA, the German AG, and the Anglo- Romanian lawyers interpret this requirement to American public corporation. Extensive mean that only founding members need be information and procedural requirements are listed. imposed on this form of company in order to The Contract and the Statutes (the bylaws) protect large numbers of anonymous investors. for establishing the company must be approved The joint stock company is an important at the first general meeting of shareholders. company form in all mature market economies 121 Voting rules in this meeting depart from the roles of Board Chairman and CEO) in one normal pattern in which voting rights are person. While this focus of power may be proportionate to share ownership. At the first reasonable in some cases, it is not necessarily general meeting every listed shareholder' has the best solution in all. one vote no matter how many shares held, with Regular oversight over company operations is a quorum of 50 percent of the subscribers to be provided by three or more auditors elected (rather than the shares) and a simple majority at the general meeting. One must be an voting rule. Because that meeting appoints accountant, and the majority must be Romanian experts to evaluate in-kind contributions, citizens. investors making in-kind contributions are not allowed to vote at that meeting on issues Characteristics of a Limited Liability Company concerning such contributions. These voting rules appear to give minority shareholders The Romanian limited liability company disproportionate (and highly unusual) influence follows the form used throughout continental in setting the general rules for operation of the Europe, for example, that of the French SARL company. Many important policies are set at the or the German GmbH. It combines some of the first meeting, and such a system of one person- benefits of the joint stock company with the one vote dilutes the incentive of shareholders to relatively simpler procedural requirements of the invest enough to acquire a majority stake in a general partnership, and is particularly well- company. suited to small and medium-sized firms with The law (Article 67) establishes a general one only a few owners. This form has been the share-one vote rule (except at the first general most used to date and will probably continue to meeting, as discussed above). However, the be the favored form for most domestic and company's contract or statute can limit the foreign investment. number of votes of shareholders owning more The limited liability company differs from the than one share, and thus voting rights can be joint stock company in several ways. A limited weighted in specific cases in favor of certain liability company can be owned by only one shareholders.' Furthermore, a supramajority person (or "associate") and can have at most 50 can be required for decisionmaking at the associates. Minimum required capital is only general meeting (Article 74). The possibility for 100,000 lei (about US$230). Because of the weighted voting rights and supramajority voting more personal nature of the expected rules is likely to be particularly important for interrelationships among owners, no prospectus foreign investors in the medium- to longer-term, is required to set up the company (as it is for because it allows majority Romanian ownership joint stock companies that offer shares to the to be combined with foreign control (or at least public), and a limited liability company cannot veto-power) over key corporate policies. issue bonds (which are generally offered to the public and, in the case of the joint stock Corporate governance. With regard to company, also require a prospectus). All corporate governance, the law provides for a associates must have access to the books of the sole administrator or a board of administration company at any time, and they may perform the to be chosen by the general meeting of duties of auditors if no auditors are appointed by shareholders.2' The board may delegate some the General Meeting.' Shares of individual of its powers to a managing committee. The associates cannot be transferred to persons president of the board of administration is outside the company unless approved by required also to be director of the managing associates representing at least three-quarters of committee. This requirement is problematic in the registered capital. Although most decisions that it focuses so much power (essentially the at the general meeting require only an absolute majority of the associates and of the registered 122 Romania shares, unanimity is required to alter the the outside observer. Seven basic steps are company contract or statute. A one share-one required: vote rule is mandated (Article 141), in contrast to the more flexible voting rules of the joint * Foreign joint ventures must first get approval stock company. from the Romanian Agency for Development With regard to corporate governance, a (see discussion under "Foreign Investment" limited liability company is to be managed by below). Romanian companies skip this step. one or more administrators appointed by the * The public notary must approve the contract company contract (in the case of the first and statute. Although the official cost is low administrator) or by the general meeting of (1000 lei), this takes time, because the associates. A board of directors is not required. number of notaries is limited and they are not prepared for this work.32 Characteristics of the 7hree Partnership Forms 0 The company must apply to the district court for a judicial decision granting authorization The law provides for three partnership to set up the company. This appears to be a forms-the general partnership, the "sleeping" formality-of some 15,000 applicants, all (or "limited") partnership, and the sleeping have been approved. Yet it can take up to 3 partnership limited by shares.31 In the general weeks to get the decision from the court. partnership all partners have unlimited joint and * Meanwhile, the court requires consultative several liability with regard to the partnership's advice from the Chamber of Commerce, obligations, and all are entitled to participate in which checks for any criminal record and the management of the business, unless provided passes judgment on the 'moral character" of otherwise in the partnership's contract. This the applicant. This is at best another form is most suitable for small enterprises with formality that requires several days (and a few active participants. In the sleeping another small outlay of money-200 lei for partnerships, in contrast, only the active partners Romanians, $20 for foreigners); at worst it (who serve as the administrators) have unlimited could become an outlet for unjustified liability, while the liability of the sleeping discretionary refusals of applications. partners is limited to their capital contribution. 0 After receiving court approval, the judicial These forms are more suitable for larger decision must be published in the Official undertakings where a few active participants are Gazette, which takes yet more time. seeking capital from passive investors. The * The new company must then be officially sleeping partnership limited by shares most registered with the registry of companies. closely resembles the joint stock company in its While this costs only 1000-2000 lei for formal requirements, including minimum capital, Romanian companies, foreign investors are prospectus requirements for public subscription charged $500 plus $100 for each extra of shares or bonds, founding and general activity (up to $900 total). This step confers meeting requirements, procedures for valuation legal personality. of in-kind capital, auditing requirements, and * The new company must register with fiscal recordkeeping. Because of this formality, the authorities. form appears unlikely to be used much in practice. This procedure may not put much burden on large investors, Romanian or foreign, who can Setting up a Company hire Romanians at low wages to stand in line and run back and forth from office to office The procedures required to set up a filling out forms and seeking signatures of company, whether in a joint stock or a limited approval. Furthermore, large firms are not liability form, appear somewhat cumbersome to bothered by the "gifts' that (although perhaps 123 not necessary) reportedly speed up the process. collection on foreign involvement in the They may not mind the 1-2 month wait that economy. Article 20 provides that RDA screens these procedures entail. Small entrepreneurs, "the investor's character, the field and way in however, may find these procedures daunting which the investment is to be made, and the and expensive. To promote local private sector amount of capital to be invested." Yet the law development, Romania would do well to does not specify any closed sectors, minimum streamline the process.3 capital requirements, or other criteria-other that what is provided in the Company Law-to Foreign Investment bring objectivity to the screening process. Furthermore, given the broad coverage of the Law 35 on Foreign Investments was adopted law as described above, by the strict letter of the in April 1991. It replaced Decree-Law No. 96, law approval would be required for even a very which was issued in March 1990 as a first effort small purchase of property or shares by a to provide a framework for foreign participation foreigner. The experience of foreign investors in the economy.3' Unlike Decree No. 96, to date suggests that the approval process is which provided for individual negotiation of the rapid and that this step does not now impose a terms of each joint venture, the 1991 law major burden on investors. After some time the establishes clear procedures, requirements, and government may want to review again the role incentives that apply across-the-board to all of the RDA and the efficacy of mandatory foreign investors. Although still problematic in screening as opposed to more targeted certain areas, as discussed below, the law does intervention. appear to be perceived favorably by foreigners, and thus it generally sends the right signal-that Profit Repatriation private investment with foreign participation is desired and welcome. Romania was the last CEE country to remove limits on profit repatriation. Although profits in Forms of Investnent convertible currency could always be repatriated without limit, until mid-1992 the law limited the The law applies very broadly to virtually any repatriation of lei profits in any one year to at participation by a foreigner in the Romanian most 15 percent of registered capital (in economy. Foreigners are allowed to set up convertible currency or in kind) contributed by branches or wholly-owned subsidiaries, as well the foreign partner. And to be repatriated, lei as joint ventures with Romanian partners. These profits had to be exchanged for foreign currency types of foreign investments are subject to the at the auction rate of exchange, although initial general rules and corporate forms set out in the capital was valued at the official rate (which was Company Law, as discussed above. Article 1 much lower). These two rates varied because of extends the law to cover licensing, management the official dual exchange rate system. In late contracts, and even acquisition of property by a 1991 the government unified the exchange rate, foreigner in Romania. Portfolio investment making the conversion of lei profits less costly appears also to be included, even if it is merely to the investor. the purchase of one share of stock by a Unfortunately, at the same time the foreigner. government unified the exchange rate it also Foreign investment in Romania requires tightened access of the private sector to foreign approval from the Romanian Development exchange by requiring that all foreign exchange Agency. If not notified within 30 days, the (other than a firm's equity participation) be request for investment is deemed to be granted. surrendered to the government at the official It is not clear what purpose the "screening" exchange rate.35 Foreign currency bank process serves, aside from facilitating data accounts were no longer permitted, except in 124 Romania specially-approved cases or as needed to hold considered to be more targeted and less subject equity contributions. Thus, not only did foreign to abuse than tax holidays. investors face limits on the repatriation of lei profits, but they could also face some difficulty Contracts holding on to their foreign currency earnings under these regulations. The legal framework for private contracts is The Romanian government finally lifted these contained primarily in the Romanian Civil Code, limits on profit remittance and on foreign which dates from 1864 and was amended in currency accounts in June 1992, bringing the 1913 and 1920. The Civil Code is modeled country's foreign investment regime closely in closely on the French Napoleonic Code. As line with those of the other CEE governments. such, it provides a reasonable basic framework for property rights and private contracts. Unlike Tax Incentives most of its neighbors (including, for example, Poland and Hungary), Romania never amended Law 35 grants very generous customs and tax its Civil Code after World War II to incorporate incentives to foreign investment. In the customs socialist conceptions of property and give area, foreign investors are exempt from payment primacy to state contracts; thus it was not of customs duties on all imported capital necessary to re-amend the Code after the 1990 equipment, and are exempt from duties on raw revolution to remove those conceptions and once materials for two years. Not only do these again give full recognition to private property. exemptions open room for abuse (through the The Civil Code is supplemented by the importation of non-essential goods for resale), provisions of the Commercial Code still in but they are unfairly discriminatory against force,39 including some specific provisions on domestic entrepreneurs if not matched by similar commercial obligations. Two other laws in the exemptions for domestic firms. As an commercial area include the Law on Promissory alternative, Romania could lower its tariffs on Notes (which follows the model of the Geneva certain capital goods and raw materials for all Convention in this area) and the Law on Bills of investors, or it could adopt a duty-drawback Exchange, both adopted in 1935. These laws system specifically for exports.' were never abolished and thus can still be used. In addition to customs exemptions, the law However, Romanians have little practical offers tax holidays of 2-5 years, depending on experience working with decentralized private the sector of activity.37 After the holiday business transactions, and there is not a body of period expires, taxes are reduced by 50 percent judicial interpretation to answer the many if the profits are reinvested in Romania, or by questions that arise in everyday commerce. 25 percent if the firm meets certain criteria as to These will require time to develop. import, export, research and development, domestic procurement, or job creation. Bankruptcy Although the current domestic tax situation is clearly in need of reform,3" granting tax Current Situaton holidays for foreign investment only makes it more difficult to develop a reasonable and The only bankruptcy procedure existing in productive revenue system. A preferable Romania to date is that contained in the approach, increasingly followed around the Commercial Code of 1887. The Code follows world, would be to adopt a broad-based tax the pattern of other commercial codes of that system that applies reasonable rates equally to period, especially that of France and Italy. foreign and domestic investors. If incentives are When adopted, it was considered to be state-of- to be given, investment credits are generally the-art, and it was subsequently used as a model for bankruptcy legislation in several neighboring 125 countries. The Code's bankruptcy procedure Antimonopoly Law was widely used before World War II. Although not applied during the socialist period The Romanian Parliament has not yet adopted from 1945 to 1989, it was never formally an antimonopoly law, although the government abrogated. recognizes the importance of such a law and The Code provides for liquidation plans to introduce a draft law in the near future. proceedings under the direct administration of a General principles of competition are contained judge. Romania's scheme is unique in in Law No. 15 on the Restructuring of State appointing judges directly to administer the Economic Units (1990)," and in Law No. 13 bankruptcy (Article 730) rather than private on Unfair Competition (1991). These laws do receivers. This solution seems problematic, not, however, provide an in-depth definition of because it ties up judges in long cases and anticompetitive monopoly behavior, nor do they prevents the emergence of a specialized specify the sanctions to be applied or establish profession of receivers. Because judges' specialized administrative machinery for remuneration is not related to the size of the enforcement. In the Eastern European company's assets (as is typical in the case of environment, where few people are familiar with receivers), the rule also tends to lessen the markets and where the general court system has administrator's incentive to preserve the little experience with commercial matters, it is company's assets and speedily resolve the unlikely that antimonopoly legislation will have bankruptcy case.0 much impact unless specialized enforcement Under the law, bankruptcy cases can be machinery is established (as has been done in brought by debtors, creditors, or the court. As most other Central and Eastern European an alternative to bankruptcy, the law also countries). provides a "mutual agreement" procedure The government's rather slow approach to (typical in European laws of this period) through antimonopoly legislation (compared to other which debtors and creditors can agree to areas of legal reform) appears to be due in part restructure the debt obligations and thus keep the to a fear of overcontrol-a fear that debtor in business. The procedure can be administrative officials would use any such law initiated only by the debtor, and any agreement to impede private sector development rather than must be accepted by creditors representing at facilitate it. This is an understandable fear in least three-quarters of outstanding debt and this environment; even industrial countries approved by the court. continually debate the proper scope for administrative intervention, and many western The New Draft Bankruptcy Law economists believe that traditional antitrust enforcement has been detrimental to The government has prepared a new, modem competition. Technical assistance from Bankruptcy Law to supplant these provisions of industrialized market economies could be useful the old Commercial Code.4" The new draft is in training Romanian officials in methods of reasonably comprehensive and well-organized. antitrust analysis and enforcement. It covers not only bankruptcy per se, but also reorganization under bankruptcy protectione2 as Judicial Istitutions well as the mutual agreement procedure.'3 While similar to modem bankruptcy laws in As can be expected, no judicial institutions in other European jurisdictions, it retains the Romania-whether courts, arbitration panels, Romanian concept of judge-receiver. The new lawyers, or law schools-are fully prepared to law is expected to be in place in 1993. take on the challenges inherent in their roles in a market economy. Large-scale efforts at institutional development are needed. 126 Romania The Court System The Legal Profession Under the socialist system, courts were not Although there are several thousand lawyers involved in commercial areas. All commercial in Romania, very few are trained in commercial legal work was done under the old regime by matters, and their profession was until recently lawyers within state-owned enterprises, and still centrally controlled. The profession is disputes were worked out in specialized divided into two branches-"private" lawyers arbitration institutions established for that ("advocats") and legal advisors within state purpose. As Romania continues to move enterprises ("jurisconsults"). All private towards a market economy, courts will soon be lawyers, though nominally independent expected to handle a multitude of new professionals under a new law passed in 1990, responsibilities in commercial areas-including were until recently still required to belong to the contract disputes, bankruptcies, real property Lawyers Union. Their clients paid the bar the disputes, intellectual property issues, and so legal fees (pursuant to a preset schedule), and forth. the union withheld its own fees and taxes and A law introduced in Parliament in 1991 sets then paid the remainder to the lawyer concerned. up a new court system composed of four types These requirements are steadily being lifted, and of courts-local, district, appeals, and the the legal profession is being opened up to Supreme Court.' Each (except for local independent practitioners. courts) has four sections-civil, criminal, administrative, and commercial. The law Legal Education attempts to increase the independence of the judiciary by granting life tenure for all judges The basic principles of contract law (as found (after a transition period),' and it subordinates in the Civil Code) have always been taught in public prosecutors to the Ministry of Justice Romanian law schools, and market-oriented rather than maintaining their separate and commercial transactions have generally been independent status (subordinate only to the taught in the context of international trade. Communist Party) in the previous regime. Thus, a base exists on which to reorient the Massive training and assistance will be needed to legal curriculum to a market economy. equip the courts to handle the expanded Although traditionally lasting 4 years, an extra responsibilities in a professional and reasonably year was recently added to the legal curriculum predictable manner.4' Without competence and on a temporary basis to allow for the teaching of experience in the court system, private Romania's new commercial legislation, including commerce is unlikely to thrive. the company, foreign investment, and tax laws. Arbitration is a useful alternative to court The law school at the University of Bucharest litigation and is sanctioned by the Code of Civil has exchange programs with a number of Procedure. The Romanian Chamber of universities in western Europe, including the Commerce has long sponsored a service to Universities of London, Hamburg, and Florence. arbitrate questions arising from foreign trade. These programs should help to supplement the Recently this arbitration service has expanded its education of both students and professors during area of responsibility to include domestic this period of transition. However, in order to commerce. With support, assistance, and launch this new educational program successfully publicity, this and other arbitration panels have at home, supplies such as documentation, books, the potential to develop into viable and important and perhaps computers are needed. alternative to the more cumbersome court A number of private law schools are now system. Arbitration in foreign locations under appearing in Romania. They cost much more foreign law is also allowed (French law being than state education and are not officially favored because of its similar tradition). "recognized" by the government. However, 127 they expand educational opportunities and may improve the overall quality of education by increasing competition. Condusion The Romanian government has worked hard since 1990 to develop a legal framework in which the private sector can develop. Many new laws have been passed by the Parliament, and many more are being drafted and debated. However, both the administrative and judicial machinery for implementing those laws and the publicity apparatus for educating the public about them is lagging behind, as is true in other transforming socialist economies (and in many developing countries as well). 128 Romania Endnotes 1. For detailed references to Romanian "organic" laws) contained in an earlier draft of legislation mentioned in this chapter, see Gray, the constitution. Hanson, and Ianachkov, "Romania's Evolving Legal Framework for Private Sector 6. This ability of the Parliament to override Development," The American University Journal the decisions of the Constitutional Court is a of International Law and Policy 7:3 (Spring major change from the initial draft, which made 1992). the Court's decisions mandatory in all cases. 2. The President may ask the parliament to 7. Under Government Decree 1228 of reconsider the law but may not veto it. December, 1990, anything owned by the state can be leased, pursuant to the general 3. Romania had a bicameral parliament under framework for leasing in the Civil Code. its 1923 constitution, which was replaced by a unicameral system under Ceaucescu. Thus the 8. Prior to World War II, different parts of current proposal is a return to pre-socialist Romania had different systems of land traditions. Under the 1923 system the two registration. Transylvania followed the Austrian chambers of parliament had different powers and system of land registers classified by parcel of different means of selecting members. While land, and these registers reportedly still exist. deputies were chosen by direct election, the In other parts of Romania land was registered by senate had appointed as well as elected members owner, a less desirable system because of the in an effort to protect under-represented difficulty of tracking the disposition of individual interests. In contrast, under the current draft the plots. A new land register is reportedly two chambers have similar and equal powers; a provided for in the new Law on Cadastre. law can be promulgated only after similarly- worded versions have been approved by both 9. Land restitution in Romania and chambers. Given the similarities between the throughout Central and Eastern Europe is being two chambers, some observers question the driven far more by political forces than by justification for the current bicameral system. economic ones. From an economic perspective, M. Shafir, "Romania's New Institutions: The there is ongoing debate about the optimum size Draft Constitution," Report on Eastern Europe of land holdings and the wisdom of breaking up 2:22, September 10, 1991. large farms into small private plots. Indeed, the restitution process in Romania has led to a sharp 4. The right of judicial review over the decline in agricultural output in the short-run. constitutionality of laws was established in 1912 T. Stolojan, "Private Sector Development: and included in the 1923 constitution. Romania's Case," World Bank, unpublished manuscript, January 1993, p. 15. 5. The Court is to review the constitutionality of laws if requested by the 10. Peasant households were allowed to President, one of the presidents of the two maintain private plots no larger than 0.15 chambers of government, the Supreme Court, or hectares. In addition to these private holdings, at least 50 deputies or 25 senators. This is about six percent of cooperative land was preferable to the mandatory review (at least of individually cultivated. T. Gabriel, "The 129 Postcommunist Land Law," Ro on E 18. Under the 1974 law, this period was only Eurp 2:37, 1991. 15 years, which could be extended. No such extension is possible under the new law. 11. Landless families (Article 20), families with inferior mountain land (Article 39), and 19. Granting power-of-attorney to local cooperative employees who contributed no land counsel is normal when registering patents in (Article 18) also have the right to claim up to 10 other countries, as local counsel are usually the hectares of arable land, although they cannot sell only ones authorized to register patents. The it for ten years thereafter (Article 31). extent of the power-of-attorney is usually spelled Unclaimed land becomes the property of the out in the contract of services between the patent municipality and can be leased to private parties holder and local counsel. who want to farm it (Article 30). 20. Examples include words, letters, graphics 12. Stolojan, supra note 9, p. 17. and numbers, in combination with certain colors, as well as wrappings and sound recordings. 13. The rights of foreigners who are resident Signs must have a distinctive character to in Romania are not clear under this law. become trademarks. 14. Law No. 4 of 1973 provided for the sale 21. As in the case of patents, foreign of state-owned housing to tenants, with the right trademarks must be registered through of use of the underlying land (up to 100 square Rominvent. meters of land per household in towns or 200 square meters in villages). All land was the 22. This discrepancy in duration depending on property of the state. the nature of the relation is peculiar to Romanian law. 15. In 1990 about one-third of the housing in Romania was state-owned, and two-thirds was 23. For example, a small enterprise could privately owned. Of approximately two million employ no more than 20 wage-earners, and a state-owned units owned at that time, about business partnership could have no more than 10 three-quarters had been sold by the end of partners. Sole proprietorships were intended September, 1992. T. Stolojan, supra note 9, p. primarily to cover individuals conducting trade 11. or services. Each firm had to obtain a license from the mayor's office, and was obligated to 16. Under the 1974 law, patents for Romanian submit its budget to "local financial bodies" and inventions in certain industries-including to publish its balance sheet twice a year in the nuclear materials, chemicals, pharmaceuticals, Official Gazette "after being checked by the medical products, disinfectants, food, financial authorities." In order to obtain inputs animal/plant breeding, and silk worms-could be of raw materials and energy, firms had to work issued only to state organizations, although the with state authorities to gain access to central manufacturing processes for these products could allocation mechanisms. be the subject of private patents. 24. The new law required that small 17. The Constitution also provides for enterprises and 'lucrative associations" compensation in the event of state expropriation. previously set up under Decree-Law 54 reorganize themselves into one of the new company forms within six months. Decree-Law 54 is still in force with respect to the other two 130 Romania types of firms, family associations and sole 33. Step 2, approval by the public notary, is proprietorships. potentially useful as a check to insure that the law has been followed in setting up the 25. The prewar Romanian company law company. However, in practice notaries are not closely followed the Italian law of 1881 and always well-trained, and the approval other continental models. requirement can become one more time- consuming bureaucratic bottleneck. Notaries can 26. Although not clearly stated, it appears even have a negative impact if they insist that from Article 212 that the State may be a single companies follow certain narrow rules they shareholder. happen to be familiar with. 27. This presumably does not include the 34. The first recognition of foreign joint holders of bearer shares unless they are ventures was in Decree 424 of 1972, although specifically listed. It also does not include this decree was virtually unused in practice. shareholders who fail to deposit their shares 5 days before the meeting in the place specified by 35. The official rate is still managed and the statutes-a very cumbersome procedure remains somewhat lower than the parallel indeed. ("black market") rate. Although the lei was supposedly made convertible with the exchange 28. This is a rather inefficient means of giving rate unification, foreign exchange continues to more voting power to certain shareholders, be rationed in the official exchange market because it ties voting rights to the specific through enforced waiting periods. shareholder rather than to the share. In this way a share's voting rights can change merely 36. The latter option, however, may be too through transfer to another shareholder. A difficult to administer for some time. preferable way, possible in the company laws of many other jurisdictions, is to allow some shares 37. Five year tax holidays are available for to have more than one vote. investments in industry, agriculture, and construction. Tax holidays are three year for 29. The sole administrator or the president investments in exploration and exploitation of and at least half the members of the board of natural resources, communications, and administrators must be Romanian citizens, unless transportation, and two years for investments in the company contract or statutes provide trade, tourism, banking, and insurance. otherwise. The Foreign Investment law provides that foreigners can be employed by a company 38. The entire Romanian tax regime is in flux. only in such positions or as experts. A tax on profits passed in 1991 imposed steeply progressive tax rates on business profits (up to 30. An auditor is required only if there are a top marginal rate of 77% on profits over 1 more than 15 associates. billion lei). However, domestic firms received tax holidays under this law that were only 31. There is also a civil partnership form, slightly less generous than the holidays given governed by the Civil Code, which is intended foreign investors under the foreign investment to cover simple initiatives among a few equally- law. Therefore, it is unlikely that many involved individuals. domestic private firms paid any tax at all. A new company income tax with a far lower 32. Until recently, notaries were all state- general rate of 45 percent (or 30 percent on employees. Pursuant to a new law private profits up to 1 million lei) was approved in notaries are now allowed. 1991, and further tax reforms were made in 131 1992, lowering the general rate to 35 percent. Article 37 provides that regular courts are In any case, it is unlikely that the government's competent to decide cases brought under Article administrative machinery has the capacity to 36. enforce and collect taxes on the newly-emerging private sector. Extensive technical assistance, 45. Small cases begin at the local courts and time, and experience will be needed. larger matters at the district courts, with two levels of appeal for each. The first level of 39. Most of the commercial code-the appeal can reconsider issues of both fact and provisions dealing with company forms-has law, while the second level of appeal can been replaced by Law No. 31, the Company consider only matters of law. Law. 46. Lay judges-common in socialist legal 40. This may be one reason why the systems-were eliminated from the panels of percentage of assets actually recovered in pre- judges in July 1991. war bankruptcies in Romania was typically lower than that in neighboring countries. 47. The Romanian Ministry of Justice has already begun to organize a program of judicial 41. As with the old Commercial Code, the training. Romanian experts-those formerly new draft applies only to commercial companies, involved in international commercial law or essentially those covered by the new company inter-enterprise disputes-have been called upon law. to teach commercial law to judges and lawyers, as well as staff of the Ministry of Justice. The 42. Bankruptcy cases can be initiated by the Ministry has sponsored regional conferences and debtor, the creditor, or the court. (Only training seminars that incorporate both economic creditors can initiate bankruptcy in the case of theory and case studies of foreign and Romanian state-owned enterprises.) Upon initiation of a commercial disputes. Finally, foreign professors case, the management of the company is turned are being invited to lecture at law faculties and over to an administrator appointed by the court. participate in workshops with Romanian lawyers The judge-receiver and administrator then work and judges. together to decide whether reorganization or closure is preferable. 43. Only the debtor can initiate a mutual agreement procedure, and any proposed agreement to reduce indebtedness must be approved by the court and must satisfy at least 50 percent of the creditors' claims. 44. Law No. 15 provides some basic protections against monopoly behavior. Specifically, Article 36 forbids agreements among companies to set prices or unfair contract terms; to limit production, sales, technological development, or investment; to allocate input or sales markets; to discriminate among purchasers, or to impose unrelated conditions on contracting partners. It also generally forbids monopoly behavior of firms with a dominant position. 133 SLOVENIA Since independence in 1991, Slovenia has management. Yugoslav constitutions also tend been intent on creating the conditions for an to be long, with extensive sections on desired efficient market economy and an expanding goals for the country. The 1974 Yugoslav private sector. The Slovene case is rather constitution, for example, has over 400 articles unique in Central and Eastern Europe for three on over 160 pages.2 reasons. First, Yugoslavia took an independent The federalist structure of Yugoslavia gave course and began experimenting with the the Republics extensive powers over the legal introduction of market forces soon after World frameworks within their jurisdictions, especially War II. As a result, Slovenia-which was the under the federal constitution of 1974. In richest of the Yugoslav Republics-is ahead of addition to the federal constitution, each republic other CEE countries in standard of living, had its own constitution. Slovenia's most recent experience with markets, and openness to socialist constitution dates from 1974, with influences from abroad (particularly from amendments in 1981, 1989, 1990, and 1991. Western Europe). Second, unlike other CEE Federal law was supposed to set the basic legal countries, the federal structure of Yugoslavia foundation in any particular area, with specifics until 1991 gave large lawmaking powers to the regulated by republican law; for example, individual Republics, and the issue of Federal- federal law set the foundations of the tax system, Republic legal relations and "conflicts of laws" with specific rates and regulations set by the was always central. Third, Slovenia has since republics. In case of conflict the federal law had 1991 been trying to resolve the issue of which priority, but the Republics began to question this Yugoslav laws to adopt and which to replace priority as tensions developed in the late 1980s. with wholly new Slovene legislation. Legal The 1990 and 1991 amendments to the "succession" has been a major issue. Slovene constitution were designed to further reforms toward a market economy and set the Constitutional Law stage for the ultimate independence of Slovenia. For example, amendment 91 in March 1990 On December 23, 1991, Slovenia adopted a deleted the word "Socialist" from the Republic's new constitution,' one year after the public title. Amendment 96 in September 1990 referendum overwhelmingly voted in favor of an reversed the priority of laws in cases of conflict, independent sovereign Slovenia. This is the stating that articles of the Federal constitution culmination of a series of constitutional would not apply if not in accord with the developments promoting ever-greater dissolution Slovene constitution, and that new federal laws, from Yugoslavia. regulations, and acts of federal authorities would be valid in Slovenia only after approval by the The Historical Setting Slovene Parliament. Old Yugoslav laws were implicitly still valid unless specifically rejected In contrast to the United States, with its one by Parliament. More than 200 Yugoslav laws constitution in 200 years, constitutions in implicitly remained in force. Eastern Europe change regularly. Post-war The public referendum was held on Yugoslavia had 4 constitutions-1946, 1953, December 23, 1990, followed in February 1991 1963, and 1974. The 1946 constitution by Parliamentary resolutions that granted introduced central planning, while the 1953, Slovenia control over turnover and import taxes, 1963, and 1974 constitutions introduced and with only a small payment authorized to the later revised the concept of worker self- center to support the minimal functioning of 134 Slovenia federal institutions. The resolutions also full control over borders and diplomatic relations directed the Slovene government to prepare an and over domestic economic policies. anti-inflation program, a proposal for the Numerous new (or renamed) institutions opened separation of financial assets and liabilities on that day, including the Bank of Slovenia; the (including external debt) among federal units, Customs, Air Traffic, and Telecommunications and several policies and laws in the areas of Administrations; the Office for Standardization pricing, fiscal and monetary policy, and and Measurement; and the Patent Office. A international economic relations. Amendment package of new "laws of independence" was also 99 in February 1991 then revoked Slovenia's adopted, including laws on citizenship, foreign authorization for the Federal government to affairs, customs, foreign exchange, the central manage Slovenia's international relations with bank, banking, bank restructuring, and prices. foreign countries (including all international And amendment 100 to the existing Slovene treaty authority). And on February 20, 1991, constitution established the coat of arms and the the Parliament adopted a resolution proposing flag of the Republic of Slovenia. the consensual dissolution of Yugoslavia. The The federal government reacted negatively resolution called for the independence supported and forcefully to these acts of independence, and by the December referendum to be realized a 7-day war erupted that led to about 70 within 6 months of the plebiscite. casualties. In early July the European During this same period, the Slovene Community brokered a 3-month moratorium on Parliament and government studied which further acts of both dissolution and armed federal laws should apply and which should not aggression. When the 3-month moratorium apply in Slovenia. Constitutional laws of ended in early October, Slovenia introduced its October 1990 and January 1991 declared null own currency, the tolar. And on December 23, and void in Slovenia federal legislation in many it adopted a new constitution. areas, including (in the economic area) all or parts of laws on cooperatives, the tax system, lhe New Constiton economic planning, associated labor (with regard to worker self-management), internal trade, Slovenia's new Constitution consists of 174 nationalization (the 1946 law), pension and articles organized in a preamble and 10 chapters: social security, social capital transformation, ownership relations, labor relations, and I. General Provisions (13 articles) financial management. On the other hand, II. Human Rights and Basic Liberties (52) changes in numerous federal laws made after m. Economic and Social Relations (14) October 1990 were accepted by decrees of the IV. State System (58) Slovene Parliament as binding in Slovenia (at V. Local Government (8) least temporarily), including changes in the VI. Public Finance (7) enterprise, accounting, bankruptcy, banking, and VII. Constitutionality and Legality (7) insurance laws. VmII. Constitutional Court (8) Finally, on June 25, 1991, Slovenia IX. Procedures for Changing Constitution (4) proclaimed its independence with three X. Provisional and Final Provisions (3) documents-the Basic Constitutional Document on Sovereignty and Independence of the Although most of the constitution's provisions Republic of Slovenia, the Constitutional Law for are non-economic in nature, certain provisions its realization, and the Declaration on are designed to create and protect individual Independence. These documents were designed economic rights in a private market economy. as the final step toward independence, For example, chapter II contains explicit transferring all remaining powers and duties protection of private property (Article 33), from federal to Slovene institutions and asserting freedom of occupation ((Article 49), free 135 primary education (Article 57), and protection of to 5-year terms by various interest groups copyrights (Article 60). Chapter mII stresses the (Articles 96-101). It has the power to propose economic importance of ownership rights legislation, to advise the State Assembly on (Article 67), but forbids foreign ownership of proposed legislation, and to block the adoption land, except if inherited on principle of of a proposed law and return it to for renewed reciprocity (Article 68). This chapter also discussion (Article 97). If the proposed law is promises freedom of entrepreneurship (Article then reconsidered and readopted by a majority of 74) and forbids restrictions to competition and all delegates in the State Assembly, it becomes unfair competition (Article 74). It requires the law and cannot again be blocked (Article 91). state to create conditions for employment This chapter also gives lawmaking authority to (Article 66) and guarantees the right to strike the public referendum, which may be called by (Article 77) and the right of citizens to either chamber of parliament or by petition from appropriate housing (Article 78). The chapter at least 40,000 voters (Article 90). calls for special protection of land, including the The power of parliament is counterbalanced protection of agricultural land (Article 71). by the other branches of the state-the president, It is interesting to note that the draft article the prime minister, and the judiciary. The giving workers the right to participate in president is elected directly by the public for a economic decision making was omitted from the 5-year terms (with a maximum of two final proposal. After having the most extensive consecutive terms) (Article 103). The president worker participation of any country in the is commander-in-chief of the army (Article 102) world, the pendulum has swung back in the and proposes a candidate for prime minister to opposite direction, and the idea is now virtually the State Assembly (Article 111). If approved abandoned in Slovenia. Worker management is, by Parliament, the prime minister then proposes however, still widespread in state enterprises as ministers, who are scrutinized by parliamentary a vestige of the past, and the recently adopted commissions (Article 112). The judiciary is privatization law envisions extensive future composed of three levels of courts-the basic ownership of firms by their employees.3 courts, the higher courts, and the Supreme Court Effective yet limited government is essential (Articles 126, 127). Military and other for the private sector to grow and prosper. extraordinary courts are prohibited in peacetime Chapter IV, on state structure, tries to insure a (Article 126), although the Court of Associated responsible state apparatus by setting up a Labor, formed under the socialist regime to system of checks and balances similar to that in handle labor disputes, still exists. Judges are other parliamentary systems in Europe, including proposed by the Court Council and appointed for those provided in the new constitutions of other life terms by the State Assembly (Articles 128, CEE countries. It establishes a bicameral 130). Unlike some other formerly-socialist parliament, with a main chamber-the State countries, Slovenia has maintained the institution Assembly-and a second, less important of lay judges (Article 128), who join chamber-the State Council. This was a professional judges on panels to decide cases and compromise solution between the opposition impose appropriate sanctions.5 parties, which wanted a Parliament with two Chapter 8 provides for a constitutional court, equal chambers (one weighted in favor of another source of checks and balances in the regional interests), and the ruling coalition, system.6 Its primary role is to review the which favored a one-chamber Parliament. The constitutionality of laws, regulations, and State Assembly has 90 members (Articles 80-95) individual acts of the state or political parties elected for 4 years.' It has the sole power to (Article 160). It is also empowered to review adopt laws. The State Council, included as a whether laws conform to international treaties compromise to protect regional interests and and to decide disputes regarding the competency occupational groupings, has 40 members elected of the various branches of the state or local 136 Slovenia communities (Article 160). Any person with a Austrian law continued to heavily influence "legal interest" (presumably a case in lawmaking in the new country, and the Austrian controversy) may request review of a General Citizens Code ("Allgemeines constitutional complaint (Article 162). If the Buergeliches Gesetzbuch") of 1811 (as later court finds a law to be unconstitutional, it is amended) became the basis for property and automatically annulled (Article 161). contract relations among private natural persons The remaining chapters of the Constitution and legal entities, whether in private or business deal generally with local government (Articles activity.'0 It was translated and essentially 138-145), public finance (Articles 146-152),7 adopted as general law except in a few fields constitutionality and legality (Articles 153-159), (such as bankruptcy) where specific Yugoslav and amendment (Articles 168-171) and transition statutes held precedence. procedures (Articles 172-174). A constitutional During the socialist period after World War law, adopted on the same day as the H until 1990, three forms of property were constitution, provides that existing laws remain legally recognized in Yugoslavia. The first, valid but should be harmonized with the "social" property, was owned in principle by all constitution by the end of 1993 (Article 1). the people11 and was managed under the Numerous issues that remain undecided in the uniquely-Yugoslav variant of socialism, the constitution are to be addressed in later system of worker self-management. Most of the legislation.! economy, including 90 percent of all fixed capital, fell in this category. The second, Rights to Real Property cooperative property, was recognized but not well-developed or widely used in Yugoslavia as As in most of Central and Eastern Europe, in some of its socialist neighbors. The third, real property rights are in a state of flux in private property, was restricted to personal Slovenia as it moves to reverse decades of ownership of real property (with a general socialist and labor-management influence. maximum of one medium-sized house or 2-3 Private ownership of land and housing and apartments per person, not including vacation privately-owned small businesses have long homes), small businesses (primarily individual existed in Slovenia, albeit on a limited basis, and service providers such as lawyers or craftsmen), thus the concept is not as radical as in some of and small private farms (with a maximum size of the more traditional former socialist states. 10 hectares, increased to 30 hectares in 1988). Furthermore, basic principles of property law Unlike other socialist economies (except and property rights and the system of land Poland), most farming in Slovenia was done on registration (with accompanying records)' a small scale, and 85 percent of all land inherited from the Austro-Hungarian empire remained privately owned. remain in place. However, the massive efforts After World War II, a special 1946 decree now beginning to return previously nationalized prolonged the validity of any prewar legislation real property to former owners is likely to create not clearly in opposition to socialist principles great upheaval in property markets and until it could be replaced by new legislation. uncertainty in real property rights for some time The private civil law adapted from the Austrian to come. civil code remained essentially unchanged, although much of it fell into disuse. It continued Defining Basic Ownership Rights to apply only in the small area carved out for private property and private transactions. It A large part of Yugoslavia-including took over 30 years for the country to adopt new Slovenia, Croatia, Bosnia and Herzegovina-was legislation in the two main areas of private civil part of the Austro-Hungarian empire before the law-property and obligations. In the property creation of Yugoslavia in 1918. After 1918 area, the Law on Foundations of Property 137 Relations was adopted in 1980. Even this law, Parliament until late 1992, a Law on however, retained many of the principles of the Denationalization was adopted in November Austrian predecessor, and incorporated relatively 1991. This law intends to "reprivatize' not only few principles unique to socialism and worker the land previously nationalized under the self-management. Amendments in 1990 agrarian reform statutes of 1946, 1948 and removed these few socialist principles from the 1953, but also the property and shares of law, returning it more or less to its original businesses nationalized in 1946 and 1948, foundations from the Austrian empire. buildings nationalized in 1958, and property The Law on the Foundations of Property confiscated in 1944 and 1946 from citizens Relations remains valid in Slovenia, as do accused of collaborating with the Germans. It numerous special laws in the area of property was estimated during preparation of the law that rights that were adopted in Yugoslavia in recent some 4 billion Deutsche Mark (or US$2.5 years and not explicitly abrogated by Slovene billion) worth of social property would be laws. At some point the general law will be subject to denationalization-about 10 percent of replaced by specific Slovene legislation. all social property or 7 percent of all property in Already specific Slovene laws have been adopted Slovenia. Natural persons who were Yugoslav in the areas of denationalization, housing and citizens at the time of nationalization (or their cooperatives, and proposed laws on land and close relatives or heirs) are eligible, as are forestry"2 are being considered by Parliament. religious organizations (Articles 5, 9-13). Legal And, as noted earlier, the newly-adopted entities other than religious organizations are not constitution guarantees private property rights eligible (Article 14). If possible, the property is and abolishes any limits on property ownership to be returned in-kind (Article 2). Otherwise, (Article 33). Thus, rights of Slovene citizens to compensation is to be provided in substitute own and use real property in private business property, securities, or money (Article 2). appear to have a solid legal basis. Eligible individuals have until June 1993 to These rights do not extend to foreigners, submit a request (Article 64). however. The new Slovene constitution Although it represents a clear statement of specifically restricts foreigners from owning land radical intent by the Parliament, the in Slovenia, either for business purposes or as a reprivatization law will not necessity result in an residence, except in the special case of efficient allocation of property rights. inheritance when reciprocity is provided by the Furthermore, it is creating tremendous home country of the heir (Article 68). Although uncertainty due to the law's long period for foreign ownership of buildings is not strictly claims. The process could take several years, illegal,'3 the right of foreigners to own or especially given the limited capacity of the obtain mortgages in any real property was judicial system for processing claims and temporarily suspended in October 1991 until resolving disputes. Insecurity of property rights specific Slovene legislation covering the property during that period threatens to seriously impede rights of foreigners is adopted." the investment that is so badly needed for economic recovery and growth. Finally, the law Eliminang the Monopoly of Socal" Ownership is likely to exacerbate political tensions and uncertainty if it leads to large redistributions of Restitulion. The Slovenian reprivatization wealth away from workers toward pre-war initiative, called "denationalization," is among owners of property and their heirs (whether the most radical to date of all similar initiatives resident in Slovenia or abroad). in reforming socialist countries. Although the Slovene law on privatization of social enterprises Housing pritivaion. In the same month was entwined in political dispute within that the denationalization law was passed, the 138 Slovenia Slovene parliament adopted a housing law that of the most productive use of scarce land and provides, among other things,"5 for extensive should over time replace many administrative privatization of socially-owned apartments. controls.22 About 50 percent of these 229,000 apartments in Controls on the use of urban land also need Slovenia are being sold within 2 years to current rethinking. Although Slovenia suffered less tenants under this law."6 Because of from rigid land use planning and large-panel administratively-determined prices and official construction methods than more highly- discounts offered to purchasers,17 sales prices centralized socialist systems, its construction and are low. For example, when the law was passed zoning rules had some of the same a one-bedroom apartment (55 square meters) in shortcomings. Furthermore, existing Slovene the capital city, Ljubljana, could cost less than construction regulations contain a long list of $8,000 at current exchange rates.1' required permits that are likely to be overly- While privatization of state-built housing is restrictive, ill-designed, or redundant in a relatively easy because existing tenants have private market economy. If the past is an clear priority rights (Article 18), privatization of indicator, they are also likely to impose an previously nationalized housing is much more expensive and time-consuming burden that will difficult because of the competing interests of further hamper the emergence of a private current tenants"' and former owners. Because construction sector.23 of strong support for tenants' rights, the strong push for reprivatization (or denationalization) Rights to Intellectual Property throughout Central and Eastern Europe is most difficult to apply in the area of housing. In Patents and Trademarks Slovenia the denationalization law takes precedence over the housing law. Previous After declaring independence, Slovenia owners can choose between compensation from recognized all federal Yugoslav laws in the field a restitution fund or return of the property in of intellectual property as applicable in the new kind. If they receive the apartment in kind, republic. These include the law on the holders of the housing right are entitled to protection of industrial property of 1981 receive 30 percent of the value of the apartment (covering patents and trademarks), the copyright plus a housing credit of the same amount law of 1978 (as amended), and the statute setting (Article 125) if they vacate within 2 years.' up the patent office. Slovenia is now moving to update and replace these laws with legislation Revising the Regulatory Framework that is more in line with market-based international norms.2' On the institutional side, Slovenia, like the other formerly-socialist in June 1991 it established the Agency for the economies of Central and Eastern Europe, needs Protection of Industrial Property, which is to rethink the many controls on the use of real supposed to assume the functions previously property that it has inherited from the socialist carried out by the analogous Yugoslav federal period. For example, like its neighbors, agency. Registrations previously made in the Slovenia has long protected agricultural land federal agency remain valid in Slovenia. from "misuse" through strict zoning regulations. The applicable law for patents and A permit is still required to convert agricultural trademarks in Slovenia until March 1992 was the land to nonagricultural uses; not only is Yugoslav industrial property law of 1981-the permission difficult to obtain, but such Law on the Protection of Inventions, Technical conversion, if administratively approved, is Improvements and Distinctive Signs. When further discouraged through high taxation.' adopted, this law was a step backward from its As the market in urban and rural land develops, predecessor in terms of the legal protections it relative prices should become more of a gauge provided. For example, patents and trademarks 139 were protected for only 7 years, with the law in the future, the need is not urgent and possibility of extension for 7 more (Article 51), preparation has not yet begun. and many items (such as pharmaceuticals) were Needs are greater on the institutional side. excluded from protection altogether (Articles 20, The previous Yugoslav copyright agency 23). Internal and external pressure led to consisted of a main office in Belgrade and amendments in 1990 that improved patent and regional offices in the capital of each republic. trademark protection, and Yugoslavia In mid-1991, the Ljubljana office became the simultaneously moved to expand its participation Slovenian Copyright Agency, without change to in relevant international conventions. its general functions or staffing. As in the case Slovenia passed a new patent law in March of patents and trademarks, institutional 1992. The new law is similar in structure to the development is critical to the development of a amended federal law of 1990 but broader in reliable legal framework for copyright coverage.' It provides patent and trademark protection. protection closely in line with modern Yugoslavia has ratified the major conventions international standards and existing international in the field of intellectual property, including the conventions. The period of patent protection is 1883 Paris Convention for the Protection of extended to 20 years (Article 37), the first 10 Industrial Property (1967 Stockholm text), the upon request without examination as to novelty 1891 Madrid Agreement for the International or applicability2' and the second 10 upon Registration of Trademarks (1967 Stockholm submission of written proof of testing (the so- text), and the Berne Copyright Convention called "Document of Evidence") by an approved (Paris text of 1971). Slovenia has indicated its foreign testing institution (as specified in the intention to be a signatory to these conventions Patent Cooperation Treaty) (Article 71)." in its own right. Compulsory licenses-pursuant to which the government can force the issuance of a license to Company Iaw a third party to produce a patented product if the patent holder does not produce it-continue to Historical Background be a feature of the law (Articles 112-117).2' For some 30 years prior to 1989, Yugoslav Copyright companies operated under the unique Yugoslav concepts of social ownership of the means of The Yugoslav Copyright Law of 1978, as production and worker self-management. These amended in 1986 and 1990, remains valid in principles, enshrined in successive constitutions Slovenia. The original law was heavily and laid out in greatest detail in the Law on influenced by the self-management philosophy of Associated Labor of 1976, gave no one true the time and was a step backward in legal ownership rights over enterprise assets but gave protection from the previous law of 1968. The ultimate managerial power (at least formally) to 1990 amendments were more extensive. Among workers' councils elected by the workers' other things, they eliminated the self- assembly (Articles 490-495). Separate management rhetoric in the original law and enterprises with legal personality-called "basic introduced copyright protection for computer organizations of associated labor" or programs. Copyright protection under the 'BOALs"-could be formed by any group of current law lasts during the author's life and for workers, whether or not these enterprises 50 years after his or her death (Article 82 of the constituted logically separate economic entities. Copyright Law); in this and most other ways it The only three conditions required for a BOAL fully meets international norms for protection. to be formed were (1) that it be a working unit, Although the Slovenian government has (2) that the value of its product could be announced its intention to adopt a new copyright separately calculated, and (3) that self- 140 Slovenia management rights could be exercised (Article company are relatively well-adapted to the needs 320). Thus the industrial economy was carved of a private market economy. up into a multitude of small self-managed units, The 1988 law distinguishes 4 types of often themselves departments of larger operating ownership-social, cooperative, mixed, and entities. The government used fairly ad hoc private-and 4 forms of companies-the joint taxes and subsidies to redistribute income among stock company, the limited liability company, these units, thus keeping the weaker ones afloat the limited partnership, and the general and preserving employment. Incentives in this partnership (Article 2). Social ownership is a extreme version of worker democracy under remnant of the previous regime. Enterprises "soft budget constraints' ran counter to with social ownership continue under this law to efficiency and growth, as workers tended to be be worker self-managed, although they may for more concerned with increasing wages and the first time be set up as joint stock or limited benefits-and the government with preserving liability companies (Articles 36-41). employment-than with preserving and Cooperative ownership continues to be enhancing the productive capital stock of the recognized, although it has never been widely firm. used in practice (Article 143). Cooperatives can The Yugoslav Enterprise Law adopted in in principle be organized in any of the 4 forms 1988, which took effect January 1, 1989, as well as a more traditional cooperative represented a radical departure from the past. It enterprise. Mixed ownership refers to any introduced modern company forms into combination of social, private, and/or Yugoslavia and provided equal treatment for cooperative ownership, whether or not there is privately-owned and socially-owned firms. participation by foreigners (Articles 81-131). Together with the new Foreign Investment Law Wholly private ownership-involving neither that took effect the same day, it also provided social nor cooperative ownership in any greatly expanded avenues for foreign investment way-can similarly be either domestic or foreign and similar treatment with domestic investment. (Articles 138-142). Firms with mixed and It repealed most of the Law on Associated Labor private ownership-those most relevant to the (except Article 196 dealing with labor relations) topic of this paper-can be set up in any of the and called for the BOALs to be consolidated in 4 company forms provided by this law. In larger units and reorganized into stock addition, small private activities such as shops, companies (Article 192). It also downgraded the farms, or services (such as lawyers or powers of workers' councils (Article 131), and craftsmen) can be carried on less formally with 1990 amendments to the law did away with the simple registration (Articles 141-142). In requirement of obligatory establishment of principle all forms of enterprise under all types workers' councils in joint stock and limited of ownership have the same status, rights and liability companies. responsibilities in the economy. The Yugoslav Enterprise Law is still the currently applicable law in Slovenia, although Characteristics of a Joint Stock Company lawmakers have prepared a draft of a new law that is expected to be adopted in mid-1993. The Capital and share requirements. The joint new law, The Law on Economic Companies, stock company is similar to the French SA, the closely follows the German model. Although it German AG, and the Anglo-American public contains company forms similar to those in the corporation. Until recently minimum required current law (as discussed below), it is a longer capital was quite low at 150 million old dinar law and its provisions are far more detailed. As (Article 86), or 15,000 tolar-worth described below, both the current and proposed approximately $29,000 in December 1988 but laws and the procedures for setting up a less than $1,500 just one year later and less than 141 $200 today.29 The minimum was raised to and proposals regarding profit distribution. 450,000 tolar (about $4,000) in 1992, and under Members of both boards (minimum of three the new proposed law it will again be raised to each) were to be appointed for four-year terms three million tolar (about $27,000). Capital by the general meeting of shareholders or contributions can be in money or in-kind (Article partners (Article 123). Amendments to the law 95), and contributions must be paid-in before the in 1990 eliminated the requirement of a first shareholder meeting (Article 98). supervisory board, although one may still be Shareholders' rights and duties are quite provided for in the company's articles of flexible in this law, and the company's articles association. The new proposed law reinstates of association has wide latitude to tailor them to the requirements of a supervisory board for the needs of the company. Both bearer and large firms. Aside from setting this basic registered shares are allowed (Article 175), and structure for corporate governance, the law is both may be freely transferred (the former by flexible. The company can determine the delivery and the latter by endorsement and entry number of members of each board and special in the share register). Shares can be divided conditions for selection in its articles of into common and preferred, with the latter association or bylaws (Article 123). having priority with regard to dividends or As noted earlier, workers no longer have an return of capital upon liquidation (Article 177). explicit role in management.0 Even the Although the general voting rule is one share- requirement that joint stock companies have one vote, some shares may be accorded more workers' councils, which was contained in the than one vote or the total votes of any one 1988 law, remained only as option in the 1990 investor can be limited by the articles (Article amendments (Article 45). Workers' councils are 122). Non-voting shares are also allowed still required in socially-owned companies (Article 89). Thus investors have wide latitude (Article 47), but the law envisions that such to separate control from ownership and to tailor companies will soon be transformed into share- shareholders' rights to the specific concerns of issuing joint stock companies in which workers' individual investors. For example, some foreign managerial rights will derive solely from any investors-such as those with highly share ownership they may have. Workers' sophisticated technology-may want rights in joint stock companies will henceforth management control despite having only a be protected by collective bargaining agreements minority ownership interest. Or they may be governed by republic-wide standards combined more risk averse than the Slovene partner and with enterprise-specific agreements. prefer priority in the event of liquidation to anything else. These flexible rules allow joint COaracteristics of a Limited Liability Company investors to accommodate each others concerns. The limited liability company resembles the Corporate governance. The 1988 law French SARL and the German GmbH. It is provided for two levels of corporate governance intended as an alternative, less formal corporate for both joint stock and limited liability firms-a form to be used by small groups of investors managing board and a supervisory board. The who know each other. Minimum capital was managing board (Articles 124-127), analogous to originally set at 20 million old dinar (Article a board of directors in the U.S., was responsible 104, about $4,000 in 1988 but only $200 one for appointing the company's senior managers year later) and is now 100,000 tolar (about and setting general guidelines for their $900). As with the joint stock company, it will performance. The supervisory board (Articles be raised under the proposed new company 128-130) was supposed to oversee the managing law-to one million tolar (about $9,000) in the board by reviewing annual reports, accounts, LLC case. Although there is no minimum or maximum number of partners prescribed by law, 142 Slovenia a partner cannot sell shares to outside parties the Ministry of Foreign Affairs, whose approval without the consent of the other partners (Article is deemed granted if no response is received 107). This restriction reflects the nature of the within 30 days. All companies must then send company, where all investors are expected to all relevant documents to the regular court at the play an active role and where close control over seat of registration, which is supposed to issue the activities and ownership of the company is its decision within 30 days (Company Law, thus desired. Articles 183-187). The company is a legal entity upon approval by this court. In practice Characterisfics of the 7Wo Parmership Forms approvals by both the Ministry of Foreign Affairs and the courts have been relatively The two types of partnership are the limited quick. The final step is entry in the court partnership31 and the "company with unlimited register (at which time it is binding against third joint and several liability" (or general parties) and publication in the Official Gazette partnership) (Articles 109-119). Both forms are (Article 186). similar to analogous forms typical of market economies. In the limited partnership, the Foreign Investment limited partners are passive investors and their liability is limited to their investment (Article Foreign investment was first allowed in 109). The general partners manage the company Yugoslavia in the 1978, with the passage of the and have unlimited liability (Article 109). Share Law on Investment of Foreign Persons into capital can be transferred to third parties only Domestic Organizations of Associated Labor. with the agreement of the founders, unless This law was, however, relatively restrictive, otherwise specified in the articles of association with high requirements for invested capital and (Article 112). In the general partnership, all strict limits on profit repatriation. Furthermore, partners are assumed to be active in management foreign investment had to accommodate the and are fully liable for the obligations of the Yugoslav self-management rights of workers, company (Articles 115-117). As with the which in practice meant an often intolerable limited partnership, share capital can be sacrifice of managerial control for the foreign transferred to third parties only with the partner. Amendments in 1984 and 1986 did agreement of all partners (Article 119). little to change this restrictive regime. As a result, the flow of foreign investment was small, Sctting up a ComWany amounting to less than 1 percent of domestic investment over this period (but still more Setting up a company has typically been significant than that in any other CEE country in relatively easy and inexpensive in Slovenia. The that period). founders must first prepare the articles of association and deposit the initial capital in a Forms of Investment temporary account with the Service of Social Accounting (Company Law, Articles 81-84). The Foreign Investment Law of 1988, The signatures of the firm's directors must be introduced simultaneously with the Enterprises approved by the court (Article 184). Approval Law, represented a radical departure from the of the firm's articles by a notary is not required previous regime. Pursuant to this law, which is under the current law but is expected under the still the law in force in Slovenia today, new proposed law. A new Notaries Act, which foreigners (whether legal entities or natural would introduce this institution into Slovenia for persons) may freely invest in Yugoslav firms the first time, is now under debate. Companies and may own up to 100 percent of the assets with foreign participation must then submit the (Article 10). The form of foreign investment is joint venture agreement (or similar document) to governed by the enterprises law (with its 4 143 forms as outlined above), and foreigners are free obtained day-to-day management rights by to invest in firms with social, cooperative, agreement, they could not remove the workers' mixed, or private ownership.' ultimate power to repudiate such agreement. The new laws for the first time give managerial Profit Repatiation and other Rghts and authority clearly to the owners of a firm, and Guarantees provide flexible rules within which the investors can work out their own optimal balances No matter the form or ownership, firms are between ownership and authority. guaranteed management rights and the right to Even with these important changes in 1988, share in profits or return of capital, both in there has been relatively little foreign investment proportion to the amount invested (Article 5). to date. The main reasons are clear-extreme No limits are placed on profit repatriation economic instability followed by political (Article 5 para 6). Broad national treatment is instability. Yugoslavia's inflation soared to an provided by Article 8: estimated 2800 percent33 in 1989 due to a lapse of fiscal and monetary control in the face of Enterprises with foreign investments shall growing enterprise deficits. Dramatic attempts have the same status, rights and at stabilization at the beginning of 1990 responsibilities on the unified Yugoslav succeeded in bringing down inflation and market as socially-owned enterprises. resurrecting some positive economic signs,' but they were quickly followed by the growing he law does not specify a particular tax political crisis and eventually civil war. The regime or special tax incentives for foreign returning relative political calm and economic investment. Rather it provides that the stability in Slovenia as its independence begins individual republics shall decide on the tax to be recognized around the world gives regime and on tax reliefs on start-up profits or renewed hope that the political and economic amounts reinvested (Article 8). Slovenia climate for foreign investment will support the recently reformed its tax structure, and its favorable legal framework introduced earlier to company income tax rate-30 percent-is now stimulate a renewed inflow of foreign capital. among the lowest in Europe. New firms, whether domestic or foreign, get special Contracts treatment. As noted in Chapter 1, special tax incentives for foreign investment alone are not In 1991 Slovenia implicitly adopted the advisable; not only do they complicate tax Yugoslav law on contracts, the 1978 Law on administration and unfairly discriminate against Obligations. This law, along with the Law on domestic firms, but they are unlikely to have a the Foundations of Property Relations discussed major impact on the volume of investment as earlier, had replaced the Austrian Civil Code long as the underlying tax structure is which had previously governed both property reasonable. and contract relations. The 1978 Law on Despite the far-reaching changes in attitude Obligations did not depart radically from its and treatment toward foreign investment Austrian predecessor, and its principles fit embodied in the 1988 law, the most important squarely within the civil law tradition. For change introduced that year for foreign investors example, the generally-applicable sections in was the repudiation of worker self-management Part I of the law provide for freedom of contract and the introduction of modern corporate forms and equality of rights among the parties and set contained in the Enterprise Law. The concept of out modern rules of offer and acceptance, worker self-management was in constant tension concepts of capacity and invalidity (on grounds with the desire of foreigners to control and of error, deceit, or duress), notions of manage their investments. Even if foreigners consideration (or equivalence of things 144 Slovenia exchanged), standards for completion, and on most cases until privatization and other remedies for breach of contract. The law then modes of restructuring are given a chance to provides in Part II special rules for particular proceed. types of contracts, including (among other) sale, Under the 1989 Yugoslav law, now still valid gift, rent, employment, storage, business in Slovenia, bankruptcy proceedings may be representation, insurance, warranty, assignment, initiated by creditors, the debtor himself, the and secured and unsecured credit. Social Accounting Service, or other persons as Although drafted during the socialist period, determined by law (Article 3). A bankruptcy the 1978 law included few references to socialist board composed of three judges oversees the or self-management principles. This was proceedings, with day-to-day management of the because it was always meant to govern relations proceedings by a bankruptcy judge (who is not between private parties, while relations involving a member of the board) (Article 13). Through public entities were to be covered by other public notice creditors are asked to post their laws.35 Thus, major revisions are not needed claims. The board may form a board of (as, for example, were needed in Poland) for the creditors to represent creditors' interests if law to provide an adequate framework for requested by creditors with more than half of all private contracts in the post-socialist era.' claims (Article 53). The management of the insolvent company is turned over to a trustee, Bankruptcy who takes active steps to wind down the activities of the company (Articles 61-64). 7he Current Situation Workers are let go (Article 93), an estate in bankruptcy is formed (Article 95), the accounts Yugoslavia passed a new bankruptcy law in of the debtor are suspended (Article 97), and all December 1989.3 The same month it adopted activities are terminated except for the a new package of economic policies3" designed completion of transactions already begun (Article to bring down the hyper-inflation of 1989 and 119). Assets are sold, and the proceeds are used open the economy to foreign competition. The to pay the costs of the proceeding itself and then government vowed to stop bailing out loss- to satisfy creditors' claims, generally on a making firms, forcing them instead into proportional basis (Article 121). bankruptcy. The Social Accounting Service was Although the law does not allow specifically instructed to file a bankruptcy case any time a for reorganization, an insolvent debtor is entitled social enterprise was in arrears for more than 60 to propose a compulsory settlement to creditors days. As a consequence, the number of prior to or concurrent with bankruptcy bankruptcies increased rapidly. While only 62 proceedings (Article 18). Under compulsory bankruptcy petitions were filed in Slovenia settlement, the company is allowed to continue between 1983 and 1989 (with 41 ending in its normal activities under existing management closure), 134 petitions were filed in 1990 and but notto sell or mortgage property (Article 47). 234 in the first half of 1991.3 Among them If creditors with over 50 percent of all claims were numerous large firms, and the rate of agree, the three judge settlement board can unemployment more than doubled in Slovenia approve a settlement whereby a percentage-not from 1990 to 1992. Fearing the social less than 50 or 60 percent-of each claim will disruption that would result from the ever- be repaid over three years and the remainder increasing number of bankruptcies, the Yugoslav forgiven (Article 21). In contrast to authorities suspended the right of the Social reorganization, compulsory settlement is not Accounting Service to bring cases in early 1992. aimed at changing the structure or activities of The suspension was formally lifted in October, the debtor and thus insuring that the 1992, but relatively few cases are being brought, indebtedness problem is alleviated in the longer and there appears to be an informal moratorium run. 145 Although some bankruptcy cases have been The Slovene draft also contains other filed by the Social Accounting service, as noted changes, including the downgrading of the above, no cases of bankruptcy have been Social Accounting Service (which is no longer brought by creditors. In fact, under current competent to introduce bankruptcy proceedings), procedural law, the procedural barriers to the introduction of the concept of shareholders' creditor filing are enormous. First, the creditor claims (which are subordinate to those of must bring a case and get a court judgment that creditors), and the replacement of the a claim exists. This can take 2-3 years. Then, bankruptcy judge by the president of the the creditor must prove that it cannot recover in bankruptcy board. Liquidation is not covered by any other way, which takes still more time the new draft, but is to be regulated instead by (perhaps 1/2 year). If this is proved, the a new company law now under discussion. creditor must deposit money to cover the costs Some marginal changes could be made to of the bankruptcy case itself-typically DM improve the current draft law. First, the 2000-3000 (which is theoretically later procedural barriers to creditor filing of cases reimbursable from any bankruptcy proceeds). should definitely be lowered. Second, steps could be taken to reduce the power of company 7he New Draft Bankruptcy Law managers and strengthen the voice of creditors in the restructuring process. One means might Although Slovenia continued to use the to be to allow not only current management to Yugoslav law after declaring its independence, submit a restructuring plan, but to solicit other the Slovene government is now debating a new competing plans (including plans from creditors bankruptcy law. The new law, which is still in and/or outsiders) at the same time. This could draft, is intended to remedy some of the be highly beneficial in pushing incumbent deficiencies of the old one. Most importantly, management for true restructuring and giving it introduces the possibility of financial creditors a better view of the true going-concern reorganization in lieu of either compulsory value of the company. In addition, strict time settlement or closure of insolvent firms. Such limits could be imposed on the submission of reorganization could include, for example, sale plans, and managers could be allowed only one of part of the assets of the firm, streamlining the chance to submit a plan before the procedure activities of the firm or laying off workers to converts to liquidation. reduce costs, merger of the firm with another, The main problem with regard to bankruptcy or sale of the entire firm as a going concern. in Slovenia, however, is not the law but rather The debtor can introduce a plan for financial the incentives still inherent in the system. reorganization concurrently with a plan for Creditors are very hesitant to bring cases to compulsory settlement, and both are voted on by court for several reasons, including the high creditors. Because of the possibility of financial costs of the proceedings,'0 the inexperience of reorganization, compulsory settlement is no most judges and trustees, the questionable value longer the only alternative to bankruptcy, and of the remaining assets of the debtor (especially thus it takes on less importance. The in today's recessionary environment), and the bankruptcy board is no longer obligated, for lingering hope that the public treasury will bail example, to test the compulsory settlement route them out from bad debts. More generally, many by trying to assess either the willingness of the Slovene enterprises are illiquid or insolvent, and majority of creditors to settle or the adequacy of the government and Parliament both fear the the bankrupt's assets to meet the claims under social disruption that strict enforcement of such settlement. Rather, the board and the bankruptcy laws might create. Meanwhile, other creditors can consider the alternative of means to collect on bad debts, including creation reorganization simultaneously or in lieu of either and foreclosure of security interests in real or of the other options. moveable property, are themselves 146 Slovenia underdeveloped in both law and practice.41 economy. Competition policies are needed to Bankruptcy is only one part of this larger legal control monopolies and end collusive behavior arena of debtor and creditor rights that will take among producers and/or traders, and unfair some time to develop. competition legislation is needed to prevent As noted in Chapter 1, a two-track approach deceptive trading practices. The existing legal may be optimal in the CEE countries, with one framework is inadequate in both areas. Until track-traditional bankruptcy-applying to new recently the only relevant law in force in private sector firms and a second-an extra Slovenia was the Yugoslav federal Law on Trade judicial workout procedure-applying to the (1990), which remained applicable in Slovenia stock of illiquid or insolvent firms carried over after independence. It replaced the federal Law from socialism. Like Poland, Slovenia is on Unfair Competition of 1974. Although it working actively to design an integrated program provides a beginning framework for limiting of bank restructuring, enterprise restructuring, anticompetitive behavior, this law applies only to and privatization for socially-owned firms. Such trading activities, whether retail or wholesale. a program would involve both financial and real Similar behavior in production or services is not reorganization and/or liquidation of a substantial covered by the law. Furthermore, the law has number of loss-making public enterprises outside hardly been applied in practice and thus has little of the traditional bankruptcy route. Thus, it relevance in practice, although the previous 1974 could help relieve judicial institutions from the law is generally thought to have had some extra burdens now being faced in Hungary, positive effect on business practices. where such loss-making firms are being forced The trade law prohibits certain monopolistic into judicial bankruptcy procedures. practices (Articles 21-29, unfair competition (Articles 30-32), speculation (Article 33), and Antimonopoly Law "limitation of the market"(Articles 33-34). Prohibited as monopolistic agreements or As in other CEE countries, Yugoslav firms behavior are such practices as division of market were quite large and industry and trade was share, price collusion, refusals to deal, and quite concentrated during the socialist period "misuse" of a dominant position (defined as when compared with industry in market controlling over 40 percent of the Yugoslav economies at a similar level of development. market'2) (Article 23). Prohibited as unfair Collusion was actually encouraged in competition are, among other things, advertising Yugoslavia, as all producers of a certain product with an inability to deliver, misuse of were obligated to form associations with each trademarks, and hiding of defects in merchandise other, and traders of that product were required (Article 31). "Speculation" includes provoking to conclude self-management agreements with disruptions in the market or "unjustified" price producers. Traders were also encouraged to increases (Article 32); this category is somewhat form sector-specific trade monopolies. Although of a holdover from the socialist period and could they were not formally supposed to collude in include many strategic moves of competitive price-setting or market sharing behavior, once companies that are entirely legal in industrial brought together they were able to collude and market economies. Finally, "limitation of the also to exert a powerful force in lobbying for market" is a broad category that includes acts protection from international competition. The that block free entry or exit or the free exchange resulting hierarchy of power in the economy put of goods (Article 33). In addition to prohibiting producers first, traders second, and supposedly anticompetitive activities, the law consumers-who remained unorganized and establishes a federal commission of consumer unrepresented-last. protection (Article 16) and charges inspection Clearly these old ideas and practices must officers with the ministry of trade with change as Slovenia moves to a private market enforcement responsibilities (Articles 35-39). 147 Both civil suits (Articles 40-41) and criminal market economy based on private ownership, penalties (fines) (Articles 4247) are envisioned this industrial structure wIll need to change if the for breach of the law. economy is to achieve its desired degree of In March 1993, Slovenia adopted a new law domestic efficiency and international on the protection of competition. The law is competitiveness. Some large firms may need to broad, combining not only monopoly regulation be broken up into smaller competitive pieces. and unfair competition, but also antidumping and Yet few monopolies break up willingly, and limits on "speculation". For purposes of unless the competition office has the authority to enforcement, the law envisions the creation of a mandate such break up, today's socially-owned new specialized agency, the Agency for the monopolies could become tomorrow's privately- Protection of Competition (Articles 19-21), owned monopolies. One convenient way to along the general model of the Bundeskartellamt promote changes in industrial structure is to in Germany or the Federal Trade Commission in explicitly link antimonopoly policy with the the United States. The Agency would render process of privatization. Both Poland and the rulings in administrative procedures, with right former CSFR have made this explicit link by of appeal to the Slovene Supreme Court (Article requiring that the monopoly office review all 22). privatization proposals to see whether a break-up In the areas of unfair competition and of the firm should be required prior to antimonopoly policy, the law appears generally privatization on efficiency grounds. to follow international norms. With regard to Of course the first line of defense against the former, it prohibits such activity as deceptive monopoly behavior, particularly in a small open advertising and misuse of a competitor's trade economy like Slovenia, is international secrets. With regard to the latter, it addresses competition. If trade barriers (tariffs and both horizontal and vertical restraints on quotas) are kept low, large Slovene firms will be competition. With regard to horizontal forced by international competition to remain restraints, the law prohibits cartels in restraint of competitive. However, trade cannot necessarily trade, prohibits the "abuse" of a "dominant provide sufficient competitive pressures in the position" (defined as 40 percent or more of the short run, nor for firms producing nontradeable Slovene market), and requires that the goods or services (such as construction). competition office approve mergers that would Furthermore, domestic producers will often lead to a market share of over 60 percent. lobby for increased protection, and one of the Certain cartel agreements (such as joint R&D) main roles of a competition office should be to are not prohibited, but such agreements must be provide a counterweight, that is, to aggressively submitted to the competition office for and publicly advocate free and fair competition. information. In the area of vertical restraints, Two other rather controversial provisions Article 8 closely follows EC law and prohibits were included in the law. One concerns such behavior as resale price maintenance, tied "speculation", i.e. "the exploitation of irregular sales, and refusals to deal, but it recognizes that market conditions for the purpose of gaining certain restraints may be appropriate in undue wealth, if such acts result or may result in particular contractual arrangements (such as interference in the market or in supply or in franchises). In all cases the approach is "per se" undue price increases." Somewhat similar rather than "rule of reason". provisions are found in section VI-"Market Another issue is whether the Antimonopoly Restrictions through Official Acts and Office should be given the authority to break up Measures," which allows the Executive Council existing firms. The Slovene industrial structure, to impose market restrictions not only during like that of other CEE countries, tends to be natural disasters but also "if appreciable more concentrated than that of typical market disturbance is or may be caused on the market economies. As the economy transforms to a due to the lack of goods essential for production 148 Slovenia if necessary to ensure [inputs] for The Court System production of strategically important products ... I or if imports and exports of goods create The Slovene court system is divided into appreciable disturbance on the domestic market three levels, with 8 basic courts, 4 appellate or they threaten the supply of the domestic courts, and one supreme court, in addition to the market or cause or may cause appreciable constitutional court discussed earlier. Twelve damage to production or trade within the specialized "courts of associated labor", which Republic of Slovenia." Both of these sections deal mainly with labor disputes in socially- provide wide discretion for the competition owned enterprises, also still continue in office to intervene in markets and could be operation. As described earlier, cases in basic seriously misapplied in practice. courts are handled by panels of professional and Another issue regards the "dumping" of lay judges, while those in higher courts are foreign goods on the Slovene market and handled exclusively by professional judges. whether the competition office should be Slovenia's 14 courts are currently staffed by authorized to impose additional levies about 500 judges and almost 7000 lay judges.' (countervailing duties) in cases of dumping. The courts are used extensively in resolving Antidumping policy is essentially protectionist in disputes. Some 150,000 civil cases were nature, and thus it goes against the spirit of handled by first-level courts and some 94,000 by competition and the mission of a competition appeals courts in 1990 alone. Although courts agency. If Slovenia is to adopt antidumping are used extensively, the wait is long-on legislation, it should arguably be in a separate average 3-5 years and sometimes as long as 10 law and administered by a separate agency. years-for a civil case to be decided. The court Furthermore, Slovenia should seriously consider system, while not particularly inefficient when whether it wants to implement antidumping compared to systems in neighboring countries, legislation at this time. Such legislation is often could benefit from enhanced training and a backdoor way of protecting inefficient local technical assistance, particularly in relatively production, thus forcing consumers to pay new and unfamiliar commercial areas such as higher prices and damaging the international company, bankruptcy, and competition law. competitiveness of local firms.'3 If it does As in other post-socialist economies, introduce such legislation, cost of production or arbitration is not well-developed in Slovenia. It international price should be the applicable has not been seen as a viable alternative to standard, not domestic price. regular court procedures in handling domestic commercial disputes, despite the lengthy Judicial Institutions procedures and long delays typical in the courts. Arbitration in the area of international trade has The many parts of the legal framework been an accepted tradition, and has been handled discussed above will take on true meaning only in Yugoslavia by the Chamber of Commerce as they are interpreted and enforced through since 1981. But only in 1990 did Slovenia judicial institutions, including courts and authorize its Chamber of Commerce to set up a arbitration panels that resolve disputes and general commercial arbitration facility applicable attorneys who advise and educate clients about to domestic as well as international disputes. legal norms in their day-to-day work. Although Although still in its infancy, this is a promising far more exposed to market-oriented norms and new avenue-a way to "privatize" dispute principles than some of their socialist neighbors, resolution and thus save on scarce legal and Slovene legal institutions still have far to go in administrative resources-that could usefully be gaining the experience and expertise to fulfill the supported and expanded in the future. promise of the evolving legal framework. 149 The Legal Profession began to creep into law curricula. Many law professors had been formally educated in the There are many trained legal professionals in West, and they could draw on their earlier Slovenia, but few who are well-trained for the learning to introduce these new areas of study. needs of a newly-emerging private market But while current law students are getting economy. Yugoslavia has traditionally had a increasing exposure to market-oriented very high number of law students relative to commercial law, the job of retooling existing other countries,'5 in part because it was one of judges and lawyers is a major challenge. the very few countries offering a short (two- Although judges in particular remain respected year) first degree program. However, its for their honesty and integrity, they number of lawyers is proportionately much understandably lack experience and expertise in lower because a high percentage of law students many of the more complex areas of law do not graduate. Although still high by applicable to market economies. Technical international standards, Slovenia has traditionally assistance, training, and time can all help to had fewer law students and a higher graduation remedy this situation, as can increased ratio than other Yugoslav republics. Now publication of legal articles and court decisions. around 300 new second degree law students graduate from the two Slovene law schools per Conclusion year.46 Despite the sizeable number of law students Slovenia is making steady progress in and graduates, there have traditionally been creating a basic legal framework in which the relatively few practicing professional lawyers in private sector can grow and develop. It benefits Yugoslavia and Slovenia. Most law graduates from the efforts of Yugoslav economic and legal have been employed in general business or reformers since mid-1988, and from the fact that government administration, with only between 5 it was willing to adopt many of the Yugoslav and 10 percent of law graduates going into law solutions upon independence rather than try to practice or the judiciary.'7 Attorneys have start again from scratch. Few changes appear tended also to work for the social sector, and to be needed in some areas of law-including private lawyers, although allowed to practice by company, foreign investment, and intellectual law, have been rare indeed (with around 600 in property. In others, however, such as Slovenia). The number of private attorneys is bankruptcy and antimonopoly law, both the legal expected to increase rapidly with the increasing framework and the legal institutions to interpret role of private market forces. New laws and implement it are still lacking an adequate prepared at the beginning of 1992 are designed structure and sufficient credibility to support a to regulate the profession and set higher private market economy. As in other post- standards for entrance through a bar socialist economies, real property rights is an examination. area of uncertainty, both because of Slovenia's Furthermore, those lawyers that do work in determination to reverse the past through legal professions tend to be inadequately reprivatization and because of the limits it places prepared for the legal demands of a market on foreign ownership. All in all, Slovenia is economy. Until the mid-1980s the law schools' one of the most advanced CEE countries in curricula and law practice provided little economic, legal, and institutional reform. exposure to market-oriented commercial law Continued political stability and economic principles. Social property and all relations and reform should provide an attractive setting for obligations stemming from it were the principle new private sector investment from both topics of study and work. This began to change, domestic and foreign sources. however, in the late 1980s, when the principles and institutions of industrial market economies 150 Slovenia Endnotes 1. For detailed references to Slovene 9-year terms (Article 165) by the State Assembly legislation mentioned in this chapter, see Gray on proposal by the President. All cases are and Stiblar, "The Evolving Legal Framework decided by majority vote of at least 5 members for Private Sector Activity in Slovenia," (Article 162). University of Pennsylvania Journal of International Business Law 14:2 (Spring 1993). 7. As an additional check upon the state, Chapter 6 provides for a "court of accounts" to 2. The U.S. Constitution, in comparison, has inspect public finances (Articles 150-151) and 7 articles with 20 sections on 16 pages. for a central bank responsible to the State Chamber and thus independent from the 3. The privatization law, adopted by the executive branch (Article 152). Slovene Parliament in November, 1992, provides that 20 percent of the shares of each 8. Two reasons help to explain why enterprise will be sold at a discount to numerous issues remained undecided when the employees, and 40 percent more can be offered constitution was adopted. First, Parliament had to employees at book value if certain conditions promised and was under time pressure to adopt are met. it one year after the national referendum on independence. Second, the ruling coalition of 4. As in most CEE countries, the method of parties in Parliament only held 53 percent of the election is not governed by the constitution but votes, while a two-thirds majority was needed to by a separate law. The Slovene election law adopt the constitution. Therefore, numerous was passed by the Parliament (after extensive controversial issues had to be omitted for the debate) prior to the December 1992 elections. document to be acceptable to opposing factions. 5. Lay judges bear some resemblance to 9. The Austro-Hungarian landbook law from common-law jurors in that they are intended to 1871 and the land register (cadastre) law from bring a layperson's perspectives and judgments the 1920s form the basis of the land registration into the legal arena. However, their role is not system that exists today. The system of social distinguished from that of the professional judge property of the last 40 years, however, did as in common law systems, where jurors decide significant damage to land records. Many facts (including guilt or innocence) and judges transfers of social property and most transfers of assure that the proceedings are in accordance private apartments were not registered. Prewar with the law. In the continental tradition, lay private owners of land and buildings often judges and professional judges together decide remain on the books, thus providing a basis for on the law, the facts, and the appropriate implementing the denationalization law discussed penalties. The new Code of Civil Procedure below. allows their exclusion in certain civil cases (particularly commercial cases) if both sides 10. The Austrian Code was very broad, agree. covering not only property and contract principles, but also family law, inheritance, and 6. Although not officially part of the (through later amendment) bankruptcy, taxation, judiciary, the Court is composed of 9 recognized and collateral. legal experts (Article 163) selected for one-time 151 11. Social property was in theory everyone's real property. New legislation on property property but was in fact no one's property, in rights for foreigners is now under preparation. that no private individual could transfer rights to Although the constitution prohibits foreigners the property. In practice "usufruct" (or use) from owning land, the new legislation is rights were allocated to firms at low cost. This expected to permit foreigners engaged in administrative allocation resulted in arbitrary and business to own buildings and hold mortgages on unequal distribution in access to social capital real estate. among workers. 15. The housing law also contains numerous 12. The draft laws on lands and forestry deal other provisions dealing with landlord-tenant with the 15 percent of agricultural land and two- relations, lease contracts, and the management of thirds of forests now under social ownership. multi-unit buildings. Under these laws, these lands would first become the property of the state and then either 16. Yugoslav citizens have always been be returned to previous private owners (pursuant allowed to own private housing, and thus about to the denationalization law) or kept within 70 percent of all apartments and houses in special state funds under state ownership and Slovenia were already in private hands before management (with the possibility of lease to the housing law was adopted. private parties). An earlier draft was rejected in Parliament because of a disagreement over 17. A 60 percent discount is given from the which level of government-central or local- administratively determined price if the should own the funds. purchaser pays in full within 60 days (Article 119). Alternatively, the purchaser can pay 10 13. In its original 1980 version, Chapter 6 of percent at the time of sale and the rest (with at the Yugoslav Law on the Foundations of least a 30 percent discount) over a period up to Property Relations prohibited foreigners from 20 years (with reasonable interest rates and owning any real property in Yugoslavia, except values defined in domestic currency but indexed in the case of inheritance if reciprocal rights to foreign currency) (Article 117). A portion of were granted by the home country of the heir. the sale proceeds is earmarked for state and local Renting was permitted under 5-30 year leases. housing funds, to be used to finance housing Under 1990 amendments to this law, foreigners loans in the future (Article 130). could become owners of commercial building space if allowed by specific federal and 18. For comparison, average annual salaries at republican laws (Yugoslav Official Gazette, No that time were approximately $2500, and 36, 1990, Article 82a). Some federal laws did average annual per capita income was in the then grant broader property rights to foreigners. range of $4000-$4500. For example, amendments to the Law on Exchange and Disposition of the Social Capital 19. The word tenant may be a bit misleading, (Yugoslav Official Gazette, No 84 (1990), because "housing rights" to state- or enterprise- Article 4) granted the right of 99-year use, or owned housing under the socialist system were "usufruct." Slovenia has not specifically more extensive than renters' rights in capitalist abrogated this Yugoslav legislation. systems. For example, those with housing rights had life-time rights of occupation, could transfer 14. This temporary moratorium on the those rights easily to relatives, and paid rent far acquisition of property rights by foreigners not below comparable market value (as measured by only hampers foreign companies wishing to the "gray" rental market in some cities). invest in Slovenia, but also makes it impossible for foreign banks to take security interests in 152 Slovenia 20. Tenants cannot be forced to vacate, 28. Although not allowed under U.S. law, although new owners will have the right to compulsory licenses are common throughout the renegotiate rents within certain limits. world and are permitted under the Paris Convention. 21. For example, the tax charged to convert agricultural land to "building" land can be up to 29. Yugoslavia suffered severe inflation in $8000 for a one-house plot. 1989, and nominal amounts in the law were not adjusted accordingly. 22. Administrative intervention may be justified on economic grounds if private market 30. Only workers in socially-owned prices do not fully reflect social costs. For enterprises continue to have an explicit role in example, governments sometimes set strict management (Articles 63-75). If such zoning limits to protect fragile yet socially- enterprises invest jointly with private investors valuable ecosystems from individual in mixed enterprises, their workers will have a encroachment, or to preserve quaint rural management role in such mixed enterprises, but settings-and thus the widespread benefits of it will be strictly proportional to the amount of tourism-from incompatible private resources invested (Article 122). development. 31. The partners have the option of raising 23. Obtaining a permit for building capital through the issuance of individual shares, construction typically takes at least 1 year. in which case the rules on share purchase provided for joint stock companies are applicable 24. Bojan Pretnar, "Protection of Intellectual (article 114). This is similar to the "limited Property in Slovenia," unpublished manuscript, partnership divided by shares" found in some 1991. other European countries. 25. For example, the law covers plant and 32. Article 9 also specifies that foreigners may animal varieties and all drugs and chemical invest in banks and other financial institutions, compounds (Article 28). However, in the case insurance organizations, and "other forms of of drugs, applications can be filed only after cooperation and joint business as specified by December 31, 1992 (Article 121). statutes." Investments in the extractive industries require legislative approval (Article 26. The application is examined only to be 19), and wholly-owned foreign investments are sure that it meets formal requirements and that prohibited in armaments, rail and air transport, exclusion of other users is feasible (Article 54). communications and telecommunications, Although the patent office does not go further, insurance, publishing, and the mass media any person may oppose the patent by filing a (Article 21). suit in court. A patentee may sue a third party for patent infringement only if he submits a 33. A. Gelb and C. Gray, 1991, The Document of Evidence (as referred to below) to Transformation of Economies in Central and the patent office (Article 86). Eastern EuroRe, Policy and Research Series 17, World Bank, 1991. 27. Relying on officially-approved foreign testing institutions is not unusual for a small 34. For more information on recent economic country that cannot afford to carry out its own developments, see F. Coricelli and R. Rocha, examination to prove the applicant is the "Stabilization Programs in Eastern Europe: A inventor and to assess the novelty and Comparative Analysis of the Polish and applicability of the invention. Yugoslav Programs of 1990," in Corbo, 153 Coricelli and Bossak, Reforming Central and 40. These costs are exacerbated by the Eastern European Economies: Initial Results requirement that creditors prove that a valid and Challenges, World Bank, 1991; Gelb and claim exists and was not able to be satisfied in Gray, id.; and F. Stiblar, "The Rise and Fall of any other way. Yugoslavia (Economic History View)," paper prepared for the Annual Conference of the 41. Mortgages on real property are impeded British Economic History Society, April 1992. by the poor state of land registration and the difficult of evicting tenants. Security interests in 35. Some private contracts in particular areas, moveable property, although legal under the such as securities, are also governed by specific Law on Obligations, are rarely used in practice. legislation. 36. The law does include some provisions 42. Presumably the 40 percent rule now regarding the relationship of private obligations applies to the Slovene market. to the plan and to self-management agreements. These provisions, to be removed in future 43. World Bank, "Should Developing amendments, do not interfere with the sections Countries Introduce Antidumping? Never," governing purely private obligations. Policy Research Department, Outreach Note #1, 1992. 37. This was part of an expanded effort during this time to adopt a legal framework 44. Statistical Yearbook of Slovenia, 1990. (such as the enterprise and foreign investment laws described above) suitable to a market 45. In fact, in the early 1980s Yugoslavia had economy. In addition to bankruptcy and the highest number of law students relative to its compulsory settlement, the 1989 law has a population of any country in the world. F. chapter devoted to liquidation for reasons other Stiblar, Zaposlovanje pravnikov v Jugoslaviji, than insolvency. Zbornik znanstvenih razprav, XLIII, Pravna fukulteta v Ljubljani, Ljubljana, 1984. 38. These included tight monetary and credit policies, a devalued and newly-pegged exchange 46. Stiblar, id. rate, and a dramatic opening of the economy to international trade. See F. Coricelli and R. 47. Out of 80,000 lawyers in Yugoslavia in Rocha, supra note 34, and A. Gelb and C. 1988, about 6000 were judges and roughly the Gray, supra note 33. same number were attorneys. Statistical Yearbook of Yugoslavia 1989. 39. 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Edited by Alcira Kreimer, Thereza Lobo, Braz Menezes, Mohan Munasinghe, and Ronald Parker No. 196 Eastern Europe in Transition: From Recession to Growth?: Proceedings of a Conference on the Macroeconomic Aspects of Adjustment, Cosponsored by the International Mlfonetary Fund and the World Bank. Edited by Mario 1. Blejer, Guillermo A. Calvo, Fabrizio Coricelli, and Alan H. Gelb No. 197 Korean Industrial Policy: Legacies of the Past and Directions for the Future. Danny M. Leipziger and Peter A. Petri No. 198 Exporting High- Value Food Commodities: Success Storiesfrom Developing Countries. Steven M. Jaffee with the assistance of Peter Gordon No. 199 Borroaer Ownership ofAdjustment Programs and the Political Economy of Reform. John H. Johnson and Sulaiman S. Wasty No. 200 Construction Practicesfor Social Ilrfrastructure im the Sahel. Bernard Abeill_ and Jean-Marie Lantran No. 201 Urbanization, Agricultural Development, and Land Allocation. Dipasis Bhadra and Ant6nio Salazar P. 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