http:/Hwww.worldbank.org/transitionnewsletter 42 C Y 4 T H E N E W S L E T T E R A B O U T R E F O R M I N G E C O N O M I E S NEWSLETTER Vol. 13, No. 4-5 THE WORLD BANK in collaboration with July-August-September 2002 STOCKHOLM SCHOOL OF ECONOMICS and THE WILLIAM DAVII)SON INSTITUTE Good Transition Needs Friendly Investment Climate- Some Lessons of Experience By Guy Pfeffermann Rapid growth and poverty reduction are possible only when private enterprises operate in a good investment climate. Transition governments must try to avoid the institutional vacuum that invites state capture by the para- sitic elements of a society. These are some of the important conclusions of this article, which is based on the author's recent address to the Association for the Study of the Cuban Economy at Coral Gables, Florida. A ttention to institutional factors was never absent from Doing Business.. with Constraints development discussions. Indeed, the "Washington v tconsensus," a list of policies that would promote Doing business in developing and transition countries can be healthy economic development, which today is unfairly exceedinglyfrustrating. In 1999-2000 the World Bank conducted greatly maligned, explicitly encompasses institutional fac- a worldwide survey of businesses, focusing mainly on their rela- tors. It recommends abolishing regulations that impede the tions with public officials. The results will be published soon in entry of new firms or restrict competition, as well as putting the World Bank's Directions in Development series under the in place a legal system that provides secure property rights title "Voices of the Firms: Investment Climate and Governance and makes them available to the informal sector. To me the Findings of the World Business Environment Survey," by Geeta only unfortunate thing about the Washington consensus is Batra, Daniel Kaufmann, and Andrew H. W. Stone. Executives of its name. about 10,000 firms, mostly small and medium enterprises, were interviewed in 80 countries. The firms included local firms as well What I find astonishing is how little attention the econom- as those with foreign ownership. The survey asked the execu- ics profession has paid to the role that private enterprises tives how problematic a set of constraints for the growth and play in fomenting development. operation of their firms. The leading constraints vary by region. In Latin America, for example, the top four perceived obstacles to But times are changing, and Nicholas Stern, the World doing business were (1) taxes and tax regulations, (2) policy Bank's chief economist, made the quality of the invest- instability, (3) street crime, and (4) lack of financing. In European ment climate one of the main pillars of economic growth transition countries taxes and tax regulations also came first, and poverty reduction, the other being empowerment poli- followed by (2) lack of financing, (3) inflation, and (4) policy insta- cies, such as making clean water and health and educa- bility. Responses were similar in the former Soviet Union, except tion services available to poor people. In former communist that policy instability was considered to be more problematic countries, perhaps more visibly than in others, sustained than inflation. economic development is impossible without a growing and dynamic private sector. None of this minimizes the role of About two-thirds of firms in Central Europe, Latin America, and the state. Indeed, it is hard to conceive of a good invest- the former Soviet Union reported that the government was inef- ment climate without strong and effective public manage- ficient in delivering services. Worldwide, most firms expressed ment. negative opinions about public health, parliament, and public WB Development Economics RA SITE WDI LGI _ BOFIT Urban Institute E ILRAN $ MEN -(%i W~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~ W hat s, Insidworks and roads, while more than 40 percent rated the WiiauS .i lae-. . courts, the police, education services, and central gov- C s- 1 Good Transition Needs Friendly Investment Clirnate i ernment leadership negatively. The most positive rat- Foreign Investment Slumps in Cuba 4 ings went to the postal, telephone, and electric power X , services. Executives spend an inordinate amount of their - 11 LaborPolicyDilemmas Preceding EUEnlargement l time dealing with public officials. This is obviously re- " 0 Labor Markets of the Accession Countries 6 lated to corruption, which about half the executives in- * t Trade Union Strength in Six CEE Accession Countries 10 terviewed in the former Soviet Union and in Central Europe _ '~ Creating More Jobs in Central and Eastern Europe 12 f > I . . T . regarded as a serious impediment to doing business. World Bank/IMFAgenda 15 EU Labor Policies Need Urgent Reform 16 A good number of former communist countries have dys- .dW . Ireland's Crucial Voting on Nice 20 u S < functional taxation systems. Not uncommonly, so many different taxes are on the books that honest firms would | Russian Accountancy Adopts Intemational Standards 22 end up paying more than their total earnings in taxes. Not U.S. Corporate Capitalism on Trial 25 surprisingly, firms are driven into illegality, and hence are New Books and Working Papers 32 particularly vulnerable to demands by corrupt officials. Per- ]-Digital Divide or Digital Diffusion? 33 a haps most important, econometric analyses of the survey DiEurope's E-Readiness Is Closing in on the U.S. 35 results demonstrate that these institutional obstacles sig- OccupationalHealthHazardsin a " , ' . nificantly reduce sales growth and investment. In other Occupational Health Hazards, in China. 1371 I '< words, improving relations between government and busi- Overcoming Textbook Misery in Uzbekistan 41 ness enhances firms' ability to produce what people need. High Priced-Low Priced: City Rankings by the EIU 43 .New Versus Old Enterprises * Small Businesses Harassed in Russia 44 Vs O Ee i * Russia'sWOAccession 45 Regimes that discourage the launching of new enterprises * Transition Meets Development 48 in particular are harming economic and social develop- * Transition Meets Developmelnt 48 ment. New enterprises are more productive than old ones. LGUOSI They outperform old enterprises in sales, exports, invest- * The Hazards of Transplanting Education Reform, 51 ment, and employment. In the Czech Republic, Hungary, * Decentralizing Education in CEE 54 Lithuania, and Poland new enterprises have grown rap- * Reforms in Russian Education 57 idly and now account for half or more of employment (equal * Private Education in the' EU 59 i to the EU average) and 55 to 65 percent of value added. * LGB Articles Now Being Accepted, 61. Conversely, in Kazakhstan, Russia, and Ukraine, which William Davidson Institue .have seen modest or no growth in new enterprises, their The William Davidson Institute share of employment has stayed at or below 20 percent * Growth in Transition 62 and their share of value added between 20 and 30 per- * Corporate Environmental Performance 667 cent. The latter countries favor old, established firms, * Recent Working Papers of the WDI. 68 which are draining resources such as credit away from new and potentially far more productive firms (Jacques The Urban Institute '. Morisset and Olivier Lumenga Neso, "Administrative Bar- *Transition Policy Network 69 . s .............. Transitio Policy Nriers to Foreign Investment in Developing Countries FIAS," BOFrr Working Paper no. 2848, May 2002). * Fiscal Situation of Baltic Municipalities, .7O, * Dismal State of Russia's Heavy Machinery Industries 72 Foreign investors also face varying establishment costs in i* Role of FDI in the Russian Banking Sector 73 different countries. According to recent World Bank research * BOFIT Discussion Papers 74 foreign firms wishing to operate in any of the 32 countries Conference Diary 74 surveyed had to undertake up to 29 administrative proce- } Bibliography of Selected Articles 79 S t . " i dures to enter the market, up to 125 to secure a land site, and up to 26 to commence operations. The time required to secure all these permits was between 200 and 1,300 business days. As to the transition countries surveyed, permission to enter and secure land took 702 business TRANSITION, July-August-September 2002 3 2002 The World Bank days in Bulgaria and 634 in Romania, but only 75 days in unrealistic prices for raw materials and energy not only Slovenia, one of the more successful transition economies. drained tens of billions of dollars out of Russia, but sig- nificantly discouraged enterprise creation. More often than not, govemments that make life difficult for * Land and real estate ownership should be estab- new enterprises are acting on behalf of powerful established lished as rapidly as possible. Restitution claims are best firms, public or private, that have "captured" policymakers. dealt with by providing former owners with compensation The Worldwide Business Environment Survey in the form of cash or treasury bills, and not I suggests that in half of the transition coun- in the form of actual physical assets such i . 2 tries firm executives report that policies, laws, as land, housing, or plant. Unless this is and regulations have been shaped to a large done, the ownership of assets may remain extent by firms that have made corrupt pay- in doubt for years, blocking most new in- ments. Firms in countries where policymakers . vestment, and possibly resulting in years of avoided being captured, grew much more rap- -l- - . lost production, capital flight, high unemploy- idly and invested significantly more than firms ment, and social turmoil. Hungary provides in countries subject to state capture. Equally a good model of how to achieve cash com- important, firms that were "captors" benefited - . pensation quickly. dramatically from their insider status, although * Opposition to a market economy not by virtue of their competitiveness. should be minimized. There are many ways of doing this, for example, by giving One of the most exhaustive studies of employees of privatized or reprivatized firms privatization and enterprise restructuring in Guy Pfeffermann minority shareholdings at concessional transition countries to date (Transition: "The prices and gearing social policies toward First Ten Years-Analysis and Lessons for Eastern the preserving advantages that a mixed economy may Europe and the Former Soviet Union," Vol. 13, No. 1, not provide. For example, East Germans lost their ac- 2002), useful conclusions, namely: cess to free child care, and therefore women find it harder to continue working. The same holds true for access to * Privatization to outsiders, for example, to strategic basic services, such as clean water and health and edu- investors as opposed to incumbent state enterprise cation services, by the poor. A well-educated and healthy managers and workers, has a large, positive impact on work force is an invaluable asset to our globalized enterprise restructuring. economy, as well as to society at large. * Hardened budgets, that is, the reduction or elimina- tion of government subsidies to state enterprises, are Psyche Needs Transforming Too also significant in explaining the extent of restructuring. * Small firms such as restaurants and dry cleaning As the Germans found out after the Berlin Wall came establishments should be privatized rapidly. down in 1989, the psychological makeup of East Ger- mans who grew up under socialism was quite different Filling the Vacuum from that of West Germans, and in some cases remains so to this day. While some of these differences may Just as nature abhors a vacuum, so do institutions. Once have existed before the communist regime took over a centrally planned regime comes to an end, unless new East Germany and East Berlin, mostly they resulted rules of the game are introduced and swiftly enforced, an from 40 years of socialism. Two signal characteristics institutional vacuum will develop that is most likely to be of socialization under this regime are relevant to the tran- filled by a combination of rent-seeking oligarchs tied to sition to market institutions, and they are two sides of the new government and Mafia enforcers. Replacing these the same coin: risk aversion and the expectation of maxi- parasitic surrogates with market institutions then becomes mum security, however dismal the standard of living. difficult, and in sorme cases impossible. Risk aversion translates into a bureaucratic mind-set. Both economic and institutional reforms should be car- Employees tended to wait until they were told what to ried out quickly after transition, specifically: do. Party cadres tried to maintain a monopoly of initia- tive and organizational skills. At the same time the * Prices should be freed as quickly as possible, regime provided job security, child care, and other basic as Poland and Vietnam did, for example. Maintaining benefits, albeit often at minimal levels. Twelve years after c 2002 The World Bank TRANSITION, July-August-September 2002 reunification, these.attitudes still linger among older people tems (by international standards) and, in many countries, in the eastem states of Germany, many of whom are now good basic health services for the vast majority of the saying: "It wasn't so bad back then after all." Such psycho- population. Good health and education, essential elements Iogical differences are hard to manage. A number of foreign of empowerment, are invaluable assets on which .JI businesses in Eastem European transition countries and in postcommunist governments can build. Yet the develop- : Russia only hired young staff who had never worked under ment experiences of transition countries have been quite J the old regime. Demography solves the problem eventually varied. Some, like Estonia, have managed extremely well as young people grow in numbers and eventually replace and are on the point of joining the EU. Others have failed to their older compatriots. bank on their human capital, partly because they did not engage in in-depth reforrn of their private sector institutions. In addition to good macroeconomic policies, what is required Whatever the pace of transition, the process is painful and is a firm institutional roadbed, which in turn assumes the can take a good deal of time, but the altemative is worse. g existence of an administratively competent and relatively uncorrupt govemment. Most communist systems produced The author is chief economist at the Intemational Fi- some good things, including the excellent education sys- nance Corporation. YFoiReign In'vestment Slumps iln Cuba he active local black market, the murky rules and about $1.4 billion in three to four years, more than half of f regulations, and the negative external environment which will probably come from the United States. H continue to discourage foreign investment in Cuba, which according to the central bank fell from $488 A tough sugar market and a fall in tourism present fur- million in 2000 to $39 million last year. This figure is the ther challenges: the island's GDP growth could slow to lowest since foreign investment data were first made avail- 2 percent this year, down from 3 percent in 2001 and able in 1993. European companies in Cuba complain of compared with 5.6 percent growth in 2000 and 6.2 per- an unfavorable business climate. They feel discriminated cent in 1999. Cuban officials have revealed plans to close against by officials, who arbitrarily apply obscure laws almost half the state-owned sugar mills: 85 of the 156 and complex regulations and change agreements when mills will go, and thousands of jobs with them, with scarce it suits them. They must also cope with high overheads resources to be concentrated on the most modern and and frequently changing work permit requirements, among efficient factories. Up to 1 million hectares of land, ap- other petty annoyances. Furthermore, they often find that proximately 50 percent of the total, would be converted the state companies they have been forced to accept as from sugar to other agricultural uses. The industry is the partners-Cuba has 400 joint ventures-are generally country's main employer, with 400,000 workers. Offi- unresponsive to advice and uncooperative. cials have promised to find new jobs for those who are laid off and to pay at least 60 percent of their wages in Bitter Sugar the meantime. This is the most dramatic economic move since the decision by Fidel Castro, Cuba's president, to The central bank has acknowledged that Cuba is suffer- allow the use of dollars on the island in 1993. Officials ing from foreign exchange shortages and problems in have been urging reform of the antiquated sugar indus- servicing its foreign debt of almost $11 billion, of which try for years. The mills are in poor condition, and most approximately 20 percent is accounted for by overdue date from before the 1959 revolution. Production peaked interest. Almost half of the total debt is to private banks at 8.1 million tons in 1989, but last year stood at only and suppliers, which Cuba uses because it has no ac- 3.6 million tons. cess to the multilateral financial institutions. Cuba's need for expensive short- and medium-term commercial credits Before the collapse of the former Soviet Union, Cuba is likely to increase even further, because it is buying could barter its sugar with its socialist allies at preferen- large amounts of food from the United States. This is tial rates in return for oil and other essentials. Now it paid for in cash, as U.S. banks and suppliers are not must sell its sugar on the world market, where it is worth permitted to finance trade with Cuba. According to the 5 cents a pound. Cuba earned just $430 million from its Cuban food importing agency, Alimport, Cuba will im- latest sugar harvest, down from perhaps $5 billion in port a total of $1 billion worth of food this year, rising to 1990, and its inefficient mills guzzle oil. Since October TRANSITION, July-August-September 2002 C 2002 The World Bank 2000 Venezuela has been supplying a third of Cuba's oil of privilege emerged with an uncontrollable vengeance, imports, on credit and at 2 percent interest. In November so that freedom initially aggravated corruption and crime. it rescheduled previous payment arrears, but Cuba quickly An oligarchy of former communist managers thrived on fell into arrears again, and by April these totaled $63.4 the transitional chaos to amass enormous wealth. The million. Officials are now negotiating a fresh agreement, easiest fortunes were made on privileged trading between but this time Venezuela is pressing harder for payment. low state-controlled prices and high market prices. The cost was borne by the older generation and pensioners, In place of sugar Cuba now relies on tourism and remit- too old to adapt to the rough and tumble of the market. tances for most of its foreign exchange. But despite investment in new hotels and resorts, a slowdown in the Cubans must be mobilized and empowered. Preaching world economy coupled with a post-September 11 down- the principles of capitalism is not enough. Early demo- turn in travel has sent the number of visitors plummet- cratic elections to a new parliament are vital to putting in ing. In the first quarter of this year tourist arrivals were place a functioning legislature that can adopt the hun- S 14 percent below the same period last year. Recovery is dreds of laws a market economy requires. A popularly expected later this year and in 2003, but it will be gradual. elected president cannot do this alone. Early and thor- ough privatization is an economic necessity, but it is also Remittances from Cuban-Americans, worth between $500 a good means of giving many a share in the new market million and $800 million in past years, have fallen sharply. economy. Elsewhere restitution has worked well for hous- Now the government intends to take a bigger slice of a ing and family farms, though it has not been politically smaller remittance pie. At the dollar stores gasoline is to acceptable for large enterprises, even in eastern Germany. go up from $2.85 to $3.99 per gallon, while the prices of electrical goods will go up by 30 percent. This will have a The first moment of economic reform is vital. The focus substantial knock-on effect on food prices and transport has to be on the fundamental principles: maximum lib- costs. Local salaries of around $10 to $15 per month eralization and financial stabilization. When prices and cover only the barest essentials, mainly subsidized food. markets are deregulated, inflation is bound to skyrocket, Many Cubans depend on money from abroad for every- requiring firm fiscal and monetary policy. If the rulers thing else including gasoline. Peso shops are empty of hesitate, the social costs of transition will only rise. A goods, while essential items are increasingly being re- new class of entrepreneurs and civil servants will have moved from ration books and sold for dollars only. to be trained, while business investment is best left to the private sector. According to Aslund and Hewco many Plans for the Future mistakes were made after the fall of the Berlin Wall, and we can only hope that they will not be repeated when The effects of communism on the population's mental- the Castro regime collapses. ity-decades of stifling bureaucracy, incessant propa- ganda, and an extreme "nanny state"-have been Based on reports from Oxford Analytica and the Econo- immense. Entitlements became a way of life. No one mist Intelligence Unit as well as a recent article in the expected to get fired, and the government was viewed Washington Times. as the solution to all problems. Most things-even the shortages and inefficiencies-were predictable. For the worker, peasant, or civil servant the system had consid- -I erable attractions Nobody worried about investments, =I Aslund and John Hewko, now with the Carnegie Endow- ment for International Peace, in a recent article for the Washington Times. ='==.- The arrival of capitalism, with its plethora of choices and e, . . . , risks, upset that predictability and proved unnerving to most of the working class and older generation. For most ftr Jazmtno maye th Bible hasno wr in the West it was difficult to comprehend the impor- for it, but you have to inform the episcopate If tance of contacts, friends in high places, and well-placed you plan a capital increase in your company. relatives. Once the lid of repression was off, these forces From the Hungarian daily N6pszabads6g © 2002 The World Bank TRANSIriON, July-AUgUSt-September 2002 Labor Policy Dilemmas Preceding EUEnlargement u C As the EU enlargement is approaching, public anxiety is clearly detectable among both present and future U ;} Qmember states. Current members worry about whether a mass influx of job seekers from Eastern Europe will r , ;; endanger their jobs. Future members worry about whether the enlargement will expose their skills as obsolete and crowd them out of even the domestic job market. The following articles focus on pre-accession labor policy dilemmas as analyzed by a World Bank study and a senior economist from the Economist Intelligence Unit and as exposed by 13 prominent economists in their passionate appeal for action. - Labor Markets of the Accession Countries: Fit to Join? By Michelle Riboud, Carolina Sanchez-Piramo, and Carlos Silva-Jauregui Observers often view European labor markets as rigid and inflexible when compared with those in North America, where legislation is less protective of employment and fosters greater mobility. They often attribute the high unemployment rates that persist in numerous parts of Europe to these rigidities. The debate has taken on renewed relevance with the potential entry of Central and Eastern European (CEE) countries into the EU. The authors compare labor market institutions and their impact on labor market performance in the Czech Republic, Estonia, Hungary, Poland, Slovakia, and Slovenia. With the help of a set of indicators-such as the magni- countries tend to be in the middle of the labor market tude, coverage, and cost of employment protection; the flexibility scale. effectiveness of passive and active labor market policies; * CEE countries have adopted the set of passive and the strength of trade unions; and the tax burden on labor, active policies common to all EU and OECD countries, for example, through payroll taxes-we can rank the but they are devoting modest amounts of budgetary re- Czech Republic, Estonia, Hungary, Poland, Slovakia, and sources to the unemployed. Slovenia according to the degree of flexibility of their labor * These countries have moved away from a centralized market policies. [Editor's note: Given their varying per- wage bargaining system and toward a more liberalized spectives, employers and employees tend to have differ- system of wage negotiation. The tax burden on labor in ent opinions about what an optimum labor policy might these countries is the highest in Europe. be. Most workers expect as much job security as pos- sible without caring too much about flexibility, while em- While the objective of legislation that restricts employ- ployers want to have a free hand in hiring and firing. Many ers' freedom to dismiss workers is to protect employ- economists try to reconcile the two views, believing that ees' welfare by reducing their exposure to unfair actions the less employers are tied up with regulations, the more and their risk of fluctuating incomes, such regulations jobs will be available. Thus they regard labor market flex- may increase the costs of employing workers. The con- ibility as an important condition for reducing unemploy- sequence can be a smaller number of vacancies, and ment and eventually meeting workers' aspirations.] thus lower employment levels. In Hungary a written state- ment to an employee is sufficient for dismissal, while in These indicators revealed the following: other countries the notice of dismissal must be shared * In terms of employment protection, Hungary seems with a third party, usually an employee representative to have adopted the most flexible legislation and Slovenia body. In Hungary and Poland unsatisfactory performance the least flexible. and job redundancy are sufficient reasons for dismissal, * When compared with EU members and countries of whereas in the Czech Republic, Estonia, Slovakia, and the Organisation for Economic Co-operation and Devel- Slovenia employers are required to take social consid- opment (OECD), with the exception of Slovenia, these erations into account, to look for retraining opportunities TRANSIrION, July-August-September 2002 (C 2002 The World Bank for employees let go, or even to ensure workers' transfer Table 1. Unemployment Rates in 2000 and to another suitable position. In both Hungary and Po- FeaturesoftheUnemploymentInsuranceSystem land the notice period is short and the severance pay- in Selected OECD and EUAccession Countries ment is small. Unemployment Benefit Maximum Active and Passive Labor Market Policies rate, replacement benefit .L 2000 ratio duration :0 While passive labor market policies to support the un- Country (percent) (percent) (months) employed, that is, unemployment insurance systems, OECD may create incentives for workers to remain unemployed Australia 6.3 36 No limit for longer than they might otherwise be inclined to do, Austria 3.7 50 5-12 active policies, such as assistance with finding another Belgium 6.9 57 12-no limit job, training provision, employment on public works, and Canada 6.8 59 12 subsidies, aim at facilitating workers' re-entry into the Finland 9.8 63 24 labor market. The CEE countries have adopted pack- France 9.3 70 27-54 ages of measures similar to those of other European Germany 7.7 61 6-32 countries; but they differ significantly in terms of ben- Ireland 4.1 49 15 efits and program coverage and duration, as well as in Italy 10.4 42 6 terms of their relative preferences for passive or active Japan 4.7 60 6 policies. Netherlands 2.8 69 6-54 New Zealand 6.0 30 No limit The generosity or lack thereof of a particular unemploy- Norway 3.5 67 46 ment insurance system depends on the quantity and Portugal 4.1 65 10-30 duration of the benefits and the system's eligibility rules Spain 11.3 73 4 - 24 Sweden 5.8 75 12 - 18 as follows: ~~~~~~~Switzerland 2.0 73 8.5 - 20 * Magnitude. A simple way to compare benefit quan- United Kingdom 5.3 36 12 tity across the CEE countries is to look at benefit re- United States 4.0 60 6 placement ratios, that is, the initial level of benefits EU average 6.3 60 n.a. divided by some average measure of previously earned OECD average 5.9 58 n.a. income. Replacement ratios in the CEE countries range CEE from 40 to 64 percent, except in the case of Estonia, Czech Republic 9.0 50 6 where the ratio is a mere 10 percent (see table 1). Ben- Estonia 13.8 loa 3-6 efits can also be expressed as a fraction of the mini- Hungary 6.4 64 12b mum and average wages in each country. The Poland 14.0 40 12-24c unemployment benefits in the six CEE countries under Slovakia 17.8 60 6-12d discussion amount to 60 to 100 percent of the minimum Slovenia 12.2 63 3-24d wage and 10 to 45 percent of the average wage. CEE average 10.5 48 (55)e * Duration. In the Czech Republic and Estonia ben- (a) Benefits are set at 60 percent of the minimum wage. This efits are paid for a maximum of 6 months, compared aamounts to approximately 10 percent of the average wage. (b)Requires four years of employment. with 12 months in Hungary and Slovakia and 24 months (c)Benefit duration increases with previous employment in Poland and Slovenia. These figures are similar to those tenure. in the EU and in OECD countries (6 months in the United (d)Benefit duration is a function of the worker's contributive States, 12 months in the United Kingdom, 24 months in history. (e)Figure in parentheses does not include Estonia. Spain, no limit in Belgium). Source: World Bank data. * Coverage rates, that is, the percentage of the unem- ployed receiving unemployment insurance benefits. In the Czech Republic and Estonia those rates are around 40 to 50 percent and have remained fairly stable over 80 to 20 percent in Poland and Slovakia and from 40 to the last decade. This has also been the case in Hun- 30 percent in Slovenia. gary, although at 70 to 75 percent, coverage is much higher. In contrast, the other three countries saw cover- Such differences in benefit quantity and duration and in age rates fall continuously throughout the 1990s, from coveracqe rates translate into differences in spendinq on C) 2002 The World Bank TRANSIIION, July-August-September 2002 N unemployment insurance. The six CEE countries spend fairly low, agreements reached under collective bargain- * ,an average of less than 1 percent of GDP on unemploy- ing can extend to nonunion members, thereby covering ment insurance, for instance, Poland spends 1.7 per- a large proportion of the labor force Furthermore, the cent of GDP, while Slovenia spends 0.9 percent and impact that collective bargaining can have on wages is V M lii Estonia less than 0.1 percent These aggregate spend- likely to depend on the degree of coordination that ex- ing figures can be misleading, however, because they ists between different unions and employer associations, are partly a function of the number of unemployed The as well as on the extent to which the government is I& *., I,ratio of GDP spending to the unemployment rate can involved in the negotiation process. Compared with coun- I therefore be used as an alternative measure of expendi- tries in the EU and the OECD, the six CEE countries , ture This ratio is generally lower in the CEE countries fall in the middle of the range in terms of union strength , than in the EU and OECD and coordination regarding 1" vjl member countries, which de- Table 2. Payroll Taxes collective bargaining (see vote more than 1 percent of Percentage note on page 10). GDP (0.25 percent of GDP Country of gross wages Year per percentage point of unem- Czech Republic 47.5 2000 The CEE countries present a ployment) to unemployment Estonia 33.0 2000 fairly homogenous picture re- insurance. Hungary 48.5 2000 garding wage bargaining and Poland 35.1 2000 the role of unions and em- Active labor market policies Slovakia 50.0 2001 ployer associations During cover a vast array of pro- Slovenia 38.1 2000 the last decade these coun- grams, including job search CEE average 42 7 2000-01 tries all started to move away assistance and counseling, EU average 23.5 1997-98 from a centralized wage bar- training for the unemployed - gaining system and toward a and for youth, employment more liberalized wage nego- subsidies, direct job creation, tiation regime, and these and special measures for disadvantaged groups. The changes have been especially relevant for newly cre- EU accession countries spend between 0.08 and 0.83 ated firms. As a result, even though union density and of their GDP on active labor market policies. Even though coverage are still high, important differences are appar- these are not large amounts, important differences are ent between the public and private sectors, with unions apparent across the countries, for example, as a per- holding a much weaker position in the latter. Union mem- centage of GDP, Slovenia spends 10 times more than bership ranges from 34 percent of all salaried workers in Estonia. Adjusting this measure to account for differ- Poland to a reasonably high 62 percent in Slovakia; how- ences in unemployment rates, the CEE countries spend ever, this does not translate into high union bargaining between 0.01 and 0.11 percent of GDP per percentage power because of low coordination among unions. In point of unemployment on active labor market policies. practice, although basic guidelines are sometimes es- tablished through tripartite negotiations with the govern- When choosing between active and passive policies, the ment, most wage bargaining takes place at the industry experience of the six CEE countries is mixed Estonia, or the firm level, and in the private sector employers set Slovakia, and Slovenia spend almost the same on both wages. EU and OECD members present a more varied types of programs, measured as a share of GDP per per- picture centage point of unemployment, while the other three coun- tries favor passive policies over active ones. In so doing Payroll taxes are high in the six CEE countries, even they are closer to the average OECD member. In practice by Western European standards (see table 2) Rates most EU and OECD countries devote more resources to range from 33 percent in Estonia to 50 percent in their passive labor market policies than to their active ones, Slovakia, while only France, Italy, Spain, and Sweden the exceptions being Italy, Norway, and Sweden. have rates above 30 percent, and in no case are rates higher than 40 percent During the transition period the Strength of Unions and Tax Burden on Labor fiscal pressure to maintain high payroll taxes, or even to increase them, was extremely strong. Unemploy- In most European countries except the United Kingdom, ment was on the rise, which forced governments to trade unions play a significant role in wage determina- continuously increase their spending on unemployment tion, and even when the number of unionized workers is insurance systems and active labor market policies TRANSITION, July-August-September 2002 © 2002 The World Bank Aging populations and declining employment rates also respect the CEE countries do resemble other European put additional strain on public pension systems through countries. In contrast, the long-term unemployed do not falling revenues and increased outlays. Finally, a de- represent more than 7 percent of the pool of unemployed I crease in other types of tax proceeds caused by the in the United States, which has by far the most flexible. economic contraction obliged governments to look for labor market. In sum, while no firm conclusion can be alternative sources of revenues to cover public expendi- reached, low job creation and high long-term unemploy- tures, especially for health and social assistance. Yet ment have often been associated with inflexible labor despite these problems some CEE countries such as markets. Both may become a source of social tensions Hungary have recently started to lower their payroll and impose an increasing burden on public budgets. taxes, albeit at a slow and gradual pace, and there is * Participation rates are falling, especially among reason to believe that other countries will follow as their women and older workers. The reduction in the amount economic situation improves, bringing unemployment of child care support provided by the state and the sub- down. Moreover, the tax burden on labor exceeds the sequent increase in child care prices, combined with a amount of the payroll tax. Sales and income taxes also decline in the number of child care centers and the tight- affect workers' incomes and are part of the tax wedge ening of social assistance for mothers with small chil- between labor costs and take home pay. When both dren, has led numerous women to exit the labor force to consumption and income taxes are considered, the to- attend to their children. Similarly, the existence of sup- tal tax burden on labor varies greatly between countries port for the unemployed made it easier for employers to and CEE countries continues to have the highest total dismiss workers, and early retirement schemes made it tax rates. more attractive for older workers to exit the labor force. In many countries such retirement schemes were used General Characteristics of CEE Labor Markets as a device to control unemployment among this par- ticular group of workers. High exit rates among certain The structural reform agenda had a significant impact on groups of workers therefore helped keep the unemploy- labor market dynamics in CEE countries. The sharp de- ment rate lower than it might otherwise have been. For cline in total employment and the relative increase in pri- example, in Hungary in 1999 the labor force participa- vate sector employment, the shift in economic activity tion rate fell to 11 percent for women aged 55 to 64 and and the reallocation of labor between sectors, the changes to 30.8 percent for men, compared with EU averages of in skill mix, and the reduction in real wages that occurred 30.5 and 52.7 percent, respectively. Moreover, exit by duringonedecadewouldnothavehappenedwithoutwide- choice combined with the labor market entry of large ranging structural reforms. The following are some of the numbers of younger, more educated workers, substan- major characteristics of CEE labor markets: tially altered the overall composition of the labor force in * Employment levels have not recovered. Although the CEE countries. output started to grow in the mid-i 990s and in some cases * Payroll taxes and the overall tax burden on la- has surpassed pretransition levels (in Hungary, Poland, bor are high relative to EU countries. High taxes on and Slovenia), employment levels have not followed the labor presumably create incentives for self-employment same trend. In other words, the correlation between em- and an enlargement of the informal sector. In this regard ployment and growth, although positive, has been weak, the effect of high payroll taxes may affect employment and employment continues to lag behind output recov- protection legislation. ery. This is a source of concern, because employment to * Wage inequality is increasing, but assessing population ratios in CEE are among the lowestwhen com- whether it has reached levels comparable to those in pared with those in EU and OECD countries. Research other countries is difficult, that is, determining the ex- findings show that by increasing both the costs of hiring tent to which inherited institutions and social norms still and of laying off workers, job security provisions reduce play a role in the wage determination process. Certainly the employment to population ratio and increase unem- changes in the bargaining system have been accompa- ployment. Thus the possible negative impact of regula- nied by a sharp increase in private sector employment tions on total employment cannot be dismissed. and a decompression of the wage structure. * Long-term unemployment is high, another feature that has been associated with stricter employment regu- The authors all work at the World Bank. Michelle Riboud lation. The pool of unemployed in CEE economies has is a sector manager, Carolina Sanchez-Paramo is an remained fairly stagnant, with low worker turnover and economist, and Carlos Silva-Jaureguiis is a senior increasing numbers of long-term unemployed. In this economist. C 2002 The World Bank TRANSITION, July-August-September 2002 Trade Union Strength in Six CEE Accession Countries , Czech Republic. The two main trade unions and two working conditions rather than on wages. These are *- main employer associations operate on the basis of free generally determined unilaterally by employers at the association. Agreements signed between unions and firm level, or by the government in the case of public employer associations are only binding for union work- sector workers. ers and firms that belong to the employer association. In addition, if a firm disagrees with a certain industry- Hungary. Trade unions have mainly been relegated to E level agreement, it is free to leave the employer asso- newly privatized state firms, as they have gained little ciation and ignore the agreement. Labor unions are weak, representation in new companies. This implies that with the exception of those in sectors where the pres- unions are strong in heavy industries and weak in the ence of public enterprises is still substantial. As a con- expanding service sector. General economic policy is- sequence, union coverage is limited, with only 30 percent sues and labor matters are discussed in two different of the workforce covered by the 1,222 collective agree- forums. The first is the Economic Council, a consulta- ments signed in 1998, and the number of new unions in tive body composed of representatives of different orga- privatized and new companies is low. nizations, including trade unions and employer organizations, multinational investors, the Hungarian Wage bargaining occurs at multiple levels. First, if the National Bank, and the government. The second forum government is willing to participate in the negotiations, is the National Labor Council, a tripartite council for con- a tripartite body composed of representatives from trade sultation and negotiation on such labor issues as em- unions, employer associations, and the Ministry of La- ployment legislation, industrial relations and social policy, bor and Social Affairs determines aggregate wage growth training, wages, and work place safety regulations. Al- and basic working conditions. Second, industry- and though the National Labor Council is also empowered to firm-level negotiations take place between employers set the minimum wage and to recommend wage in- and unions; however, in practice employers determine creases, centralized collective bargaining has never been wages except in the public sector, where negotiations important in Hungary. Wage deregulation had began al- must comply with a wage grid. Although initially the tri- ready before transition, and during the privatization pe- partite body was responsible for determining the mini- riod most private sector wages became freely negotiable mum wage, since the mid-1990s the Ministry of Labor at the industry and firm level. Hence some form of col- has unilaterally made adjustments as it considered them lective bargaining is still binding only in the public sec- to be necessary. tor, which is regulated through a strict wage tariff system. Estonia. During the 1990s union membership declined Poland. Unlike its Central European neighbors, one of from almost 100 percent to 30 percent. This decrease the main features of Poland's labor market is the large was mainly due to privatization and the increasing im- number of labor organizations. Trade unions and other portance of small and foreign firms, where union pres- employee organizations, which started and accelerated ence is generally weak. In addition, the bulk of economic the transition process, still play an important role. Cur- activity shifted from manufacturing, where traditionally rently the two most important trade union confederations unions were strong, to services. The level of coordina- are Solidarity and the Organization of Postcommunist tion among employers is not high either. They are repre- Trade Unions, but there are also another 9 smaller na- sented, on a voluntary basis only, by a single employer tionwide union confederations, 273 national trade union association that covers around 6,000 firms, or 200,000 organizations, and about 24,000 local trade unions orga- employees out of a total of approximately 640,200. As a nized by enterprise, industry, or region. Poland also has consequence, the government plays a major role in shap- more than 1,000 employer organizations. ing industrial relations, which are thus based on laws rather than on agreements. Both unions and employers By law unions enjoy extensive power in the areas of are invited to participate in the design of such laws through workers' rights, wage policy, and social benefits. In con- tripartite negotiations; however, discussions focus on trast, they have no control over managerial decisions TRANSITION, July-August-September 2002 C 2002 The World Bank regarding company strategy and ownership transfor- and duties of employers and employees. Consultations mations. In the last few years constant growth in the occur first at the national level, resulting in a collective number of small and medium enterprises (90 percent agreement for the private sector that establishes base of all firms outside the agriculture sector have five or wages and adjustment factors for 26 industries and 9 fewer employees and 89 percent of these are sole education levels and a collective agreement for the proprietorships) has eroded the unions' power, so that nonmarket sector. Both agreements constitute the ba- most of their current activity is concentrated in large, sis for all other contracts, thereby limiting wage varia- heavy industry firms yet to be privatized. tion across industries and firms. Since 1995 industrial relations have been organized In addition, social dialogue is also organized around the through the Tripartite Commission, which includes rep- Economic and Social Council, founded in 1994. This is resentatives of the government, employers' associations, a national tripartite consultative body of 15 representa- and trade unions. Other smaller, more localized organi- tives, 5 from each of its 3 members (the government, M zations composed of trade unions, local government of- trade unions, and employers). The council provides rec- ficials, employers' associations, and unemployed ommendations concerning legislation, such as compul- workers' groups serve as consultative and advisory bod- sory insurance schemes (old age and disability ies to the heads of general administrative organs. Wage pensions, social welfare, allowances), employment, la- negotiations between employers and workers can take bor relations, collective bargaining, prices and taxes, place at the industry and the firm level; however, collec- and economic policy. Its recommendations are submit- tive agreements can be adopted only when a union is ted to Parliament. The council also plays an important present. This implies that in practice, collective agree- role in facilitating negotiations between unions and em- ments cover mostly state-owned or large privatized com- ployer associations. panies rather than newly created private firms. As a consequence, during the last decade average pay in the public sector has remained significantly higher than in the private sector. Early Capitalism Slovakia. Union coverage is fairly extensive. Moreover, unions play an important role in the design of industriali relations, as the 1997 Employment Act stipulates that they be represented as a social partner at all levels of the National Labor Office and its organs. The Confed- eration of Trade Unions, composed of 42 independent i2 3t-0r§ groups, is the largest union, while the two most impor- tant employer organizations have 27 member organiza- tions. Slovakia adopted a tripartite system to regulate , labor and industrial affairs in 1990. The Council of Eco- nomic and Social Agreement consists of 21 representa- . - tives from trade unions, employer associations, and the government. The council also determines the minimum wage and the poverty line. Further wage negotiations are conducted at the industry and firm level. Slovenia. The 130 national trade unions operate along X industrial and occupational lines. Membership in 21 of them represents at least 15 percent of all employees in '| that particular industry or occupation. Employers, by contrast, are organized in three different associations, Well then, while I'm away on vacation, watch and their interests are also represented by the Chamber yourself: no coffee-breaks, no shopping and no of Commerce, membership of which is compulsory. Ac- telephone calls! cording to current labor legislation, collective agreements are the main instrument for determining the specific rights From the Hungarian daily N6pszabadsag (© 2002 The World Bank TRANSITION, July-August-September 2002 Creating More Jobs in Central and Eastern Europe Analysis of the Economist Intelligence Unit The main stumbling block in integrating East and West is not further liberalization-although a reduc- tion in the high payroll taxes would be advisable-but faster output growth that generates higher em- ployment, along with measures to boost labor mobility. The EU's main economic problems are a sclerotic labor share of the working-age population) in the EU stands market and high unemployment. The situation in East- at 65 percent, still well below the 72 percent in the United ern Europe is worse. Average unemployment in the 10 States, but at least the rate is rising steadily. The EU Central and Eastern European (CEE) countries that are has set itself the ambitious target of raising employ- candidates for EU membership was more than 12 per- ment rates to 70 percent by 2010 under its Lisbon de- cent in 2001, compared with 8 percent in the EU. velopment program. By that time all the CEE countries will probably have joined the EU; however, if current trends The Shadow of Unemployment persist or do not change significantly, the new members (as well as some of the old members) will still be a long In some candidate countries such as Poland and Slovakia, way from the EU's employment targets. one-fifth of the labor force is out of work. Long-term unem- ployment is a serious problem, with two-thirds of all unem- How Effective Is the EU's Medicine? ployed having been out of work for more than a year in some countries. Young people and unskilled workers suf- Although labor market policies are left largely to the in- ferdisproportionately.Morethanone-quarterofyoung people dividual member states, the EU has drawn up numer- are looking for jobs in the CEE countries, compared with ous programs to support job creation and improve the an average of 16 percent in the EU. Again Poland and functioning of labor markets. Observers generally see Slovakia are particularly badly affected, with 35 to 40 per- the EU's labor market woes as a consequence of insti- cent of all those under 25 years old out of work. tutional rigidities, distorted incentives, and a dearth of professional and technical skills. The EU plans to im- Millions of jobs were lost in the early 1990s, when out- prove the situation through a mix of deregulation, active put collapsed after the onset of economic transition. labor market policies, and training, and is now advising However, faced with bleak re-employment prospects, the applicant countries to follow suit. many laid-off workers did not join the unemployment queues, but left the labor force altogether. Older work- The prescribed medicine may have little relevance for ers took early retirement, women stayed at home, and Eastern Europe, however, as the latter's labor markets others moved into the shadow economy. As a result the are, on average and in most aspects, already more lib- participation rate-the share of working-age people that eral than those in the EU. Employment protection rules either have a job or are actively seeking one-fell in all in the CEE countries are relatively lax and are poorly the countries. Had that not been the case, Poland's enforced, especially in the small and medium enterprise unemployment rate might now be more than 25 percent (SME) sector. Trade unions play a subordinate role in and Hungary's could be approaching 15 percent. wage bargaining, and low unemployment benefits do not deter the unemployed from seeking work. On average, While economic growth picked up almost everywhere in the CEE countries clearly have more flexible labor mar- the second half of the decade, employment remained kets than many current EU members. stagnant, or even continued to fall. In Hungary, Poland, and Slovakia only 55 to 56 percent of the working-age Restrictive rules on dismissals, mass layoffs, and part- population is employed. The real difference between the time and temporary work raise the costs of employing EU's and the CEE countries' labor markets is therefore workers and may increase unemployment. On average, not unemployment rates, but employment trends. The employment protection legislation in Eastern Europe is averaqe employment rate (the number of employed as a formally at least as strict as in the EU, althouah the TRAN5'1 [ON, JUly-August-Septelnber 2002 C 2002 The World Bank rules are less likely to be observed than in most EU Most European countries have set minimum wage lev- countries other than in some of the Mediterranean mem- els to prevent the emergence of a class of working poor; bers. Significant differences are also apparent among however, high minimum wage levels can price low-skilled the CEE countries. Employment protection legislation and young workers out of the labor market and discour- in the most liberal accession countries such as Hun- age job creation. In Eastern Europe minimum wage lev- gary is less flexible than in the EU front-runners (Ireland els are generally low, but they matter more than in and the United Kingdom), but more so than in France, Western Europe, because many payments such as Germany, and Italy. Only in Slovenia are labor laws as public sector wages and social benefits are calculated rigid as in the EU's Mediterranean members. as multiples of the minimum wage. Laying off workers is relatively easy in Hungary, but can In the Czech Republic and Hungary minimum wages be a drawn out and complicated affair in other acces- amount to only 20 percent of the average wage. Even sion countries. In Slovakia and Slovenia, for example, Poland, where the ratio is 40 percent, compares favor- notice periods are lengthy and severance packages may ably with countries such as France and Germany, where amount to five months' pay. Employers may also be the ratio is around 50 percent. However, the much larger required to provide retraining or help with finding alterna- disparities in wage levels mean that Poland's unified mini- tive employment. Downsizing can be challenging in coun- mum wage has become a problem in some segments of tries such as Bulgaria, where mass layoffs require the labor market. In Warsaw the national minimum wage complicated agreements with trade unions. Hungary al- is low enough not to deter the unemployed from seeking lows almost unlimited use of temporary contracts, as jobs, but the wages of unskilled workers in Poland's most does the Czech Republic. In Poland, by contrast, the depressed regions hover just above the minimum wage. use of fixed term contracts is severely restricted, al- The government is now thinking about differentiating mini- though the government is now trying to loosen these mum wages by region and skill levels, but this proposal constraints. has encountered considerable trade union opposition. Blaming the Unions In some EU countries generous unemployment benefits reduce the incentives of the unemployed to look for work, Powerful labor unions have often been blamed for the especially at the low-paying end of the labor market. EU's inflexible wages and rigid work conditions and have Unemployment insurance systems in the CEE coun- been the main opponents of the kind of labor market tries offer lower benefits and limit the duration of entitle- deregulation that the EU is now prescribing for its mem- ment more rigorously. In the Czech Republic and Poland, ber states. Although union membership is high in many for example, the unemployed can expect to receive ben- CEE countries, this does not mean that the unions nec- efits amounting to 40 to 50 percent of their last salary, essarily have much influence. In Hungary, for example, compared with 60 to 75 percent in France, Germany, almost two-thirds of all salaried workers are trade union and Spain. Poland offers unemployment benefits for up members, but the unions are weak and fragmented, so to two years, whereas the Czech Republic cuts them off their influence hardly ever extends beyond their facto- after six months. Hungary is in the middle, offering rela- ries. This allows flexibility in adjusting wages in line with tively generous benefits for up to one year. regional and sectoral conditions. In Germany, by con- trast, less than 30 percent of the workforce is union- Nevertheless, far fewer people are drawing unemploy- ized, but the unions are immensely powerful because of ment benefits in Eastern Europe than one would expect Germany's highly centralized bargaining system, which from th3 high unemployment rates (as calculated from sets industrywide wages and working conditions. labor market surveys, rather than based on claimant counts). In Hungary 70 percent of all those unemployed In Poland labor unions have traditionally enjoyed con- receive benefits, but this share falls to 50 percent in the siderable economic and political clout, but recently their Czech Republic and 20 percent in Poland and Slovakia. position has been greatly diminished. In Poland, as in As a result the CEE countries spend only 0.7 percent of most other CEE countries, labor unions have an appre- their GDP on unemployment insurance, less than half ciable influence in the public sector and in extremely the EU average. large privatized enterprises, but much less of an influ- ence in the bulk of the private sector, where the trend is High taxes on labor are the main institutional problem toward decentralized wage bargaining. for Eastern Europe's labor markets. In Slovakia payroll e 2002 The World Bank TRANSITION, July-August-September 2002 taxes add a staggering 50 percent to employers' labor Medium-term growth rates are unlikely to pick up appre- costs. Hungary is not far behind, and Poland, at 35 per- ciably in most CEE countries, compared with the rates cent, is at the lower end of the regional range, with the seen during the second half of the 1 990s, and may not be average standing at around 43 percent. In the EU only sufficient to support net job creation. Alternatively, the the Mediterranean countries have payroll taxes above quality of growth may have to change so that more jobs , 30 percent. The total tax burden on Eastern European are created at the same rates of output growth. Govern- , labor is even higher than these figures suggest. Once ments in the CEE countries are hoping that expansion of income and indirect taxes are added, the difference be- the SME sector and continued foreign direct investment tween labor costs and take-home pay rises to more than (FDI) will promote future job growth; however, neither has 80 percent in Hungary and Slovakia, compared with a a clear-cut strong impact on employment. typical 40 to 50 percent in the EU. FDI has created hundreds of thousands of relatively @ High taxes on labor discourage job creation, drive busi- well-paid jobs across the region in sectors ranging from nesses into the shadow economy, and encourage self- automotive to retail, but it may also have destroyed as employment. This means that Eastern Europe may be many. Foreign acquisitions of local enterprises tend to stuck in a vicious circle. Rising unemployment has be- be followed by rigorous downsizing and productivity- come a growing burden on public finances as employ- enhancing investment. Subsequent growth creates new ment-and thus the tax base-has shrunk at the same employment, but in some cases this replaces existing time, and therefore the tax burden on those that still jobs elsewhere as foreign-owned companies expand their have work has risen relentlessly. This in turn has added market shares at the expense of local competitors. Also to both workers' and employers' incentives to avoid taxes local suppliers have often been replaced by imported either by underdeclaring wages or by moving into the components as foreign investors have incorporated their shadow economy. Reducing high payroll taxes is a pri- acquisitions into global manufacturing networks. The ority if the CEE countries want to increase employment World Bank found that FDI had a net positive impact on levels; however, as state budgets are already strained, job creation in Poland, but a negative one in Lithuania this will require more thorough reforms of social security and Slovakia. In Poland this may have been because of systems, which can only be implemented over the me- the job guarantee clauses that some countries have rou- dium to long term. tinely written into their privatization contracts. These, however, only offer temporary protection. The rapid rise Despite the differences between the EU and the appli- in Polish unemployment since 1998 has been partly cants, the candidates seem to be trying to mimic the linked to the expiry of such job guarantees. kind of labor market institutions prevalent in the EU. Al- though the CEE countries spend much less on labor SMEs have been the main engine of job creation in most market policies than the West-on average less than 1 CEE countries since the early 1990s. In Poland, for ex- percent of GDP compared with 3 percent in the EU-the ample, the share of employment provided by SMEs grew general trend is upward: However, the applicants cannot from 15 percent in 1993 to more than 60 percent in 1998, afford the West's generous social security schemes. although it has been somewhat stagnant since. Although SMEs have been a useful employment buffer over the last More Jobs Are Needed 10 years, their potential for future employment growth may be limited. Among those SMEs that survive only a minority What Eastern Europe needs first and foremost is more ever grows beyond one employee, usually the owner. jobs. Traditional industries such as steel and energy are still in the process of restructuring, which implies The Regional Divide that labor shedding will continue, but the new private sector is not creating enough new jobs to soak up laid- The main problem is that both FDI and small enterprises off workers. Since the end of the transition recession in tend to cluster around rapidly growing urban areas, where most countries in the mid-1990s, real GDP growth has labor markets are already tight, whereas unemployment been accompanied by low or no employment growth. is still growing in rural areas and declining industrial re- High labor productivity growth has boosted wages and gions. As a result most CEE countries have extreme private consumption, but this also implies that the CEE regional variations in unemployment. Eastern Slovakia, countries will have to grow much faster in the future to for example, suffers from unemployment rates of up 40 raise their employment levels. percent, whereas Bratislava, the capital, has less than 'I'RANSI I ON, July-August-September 2002 c 2002 The World Bank 5 percent unemployment. As discussed earlier, this is to bring workers to where the jobs are and programs to also reflected in large variations in wage levels. lure investors to depressed regions. Increased regional subsidies from Brussels could help once the CEE coun- Most job creation now takes place in the service sector, tries have joined the EU. which still employs less than 30 percent of all workers in the CEE countries, compared with 43 percent in the This article is a shortened version of the Economist , EU. The service sector, however, needs professional skills Intelligence Unit's June 2002 Country Forecast, Regional and flexibility, both of which are in short supply among Overview-Economics in Transition: Eastem Europe and laid-off industrial workers. The region's underfunded edu- the Former Soviet Union. cation systems cannot cope. Although basic education levels are high, professional education and vocational training are underdeveloped, and the share of employ- ees with higher education degrees is still lower than in W orld Bank/IM F I most EU countries. The World Bank estimates that skill mismatches are at the heart of up to 30 percent of un- A genda employment in Eastern Europe. In urban areas and industrial growth centers, flexible In Fiscal Year 2002 World Bank Lending to the ECA and dynamic labor markets are characterized by low Region Reached $5.5 Billion unemployment, high job turnover, rising productivity, and real wage growth. Although education and skill levels In the fiscal year (FY), that ended on June 30, 2002, the World Bank committed a record $5.5 billion for 52 projects tend to be much higher than in low-growth regions, em- *- ployers in urban areas are finding it increasingly difficult in the countries of Europe and Central Asia (ECA). With to locate well-qualified staff at a reasonable price. This a $3.55 billion commitment to Turkey representing al- - contrasts sharply with the stagnant labor markets that most two-thirds of the total, Turkey became the Bank's characterize rural areas and the old industrial heartlands, biggest borrower in FY02 (figure 1). The $5.5 billion total characterize rural areas acmparenwith$2.7 bllionindFY1randl3 bilionlinFY00 which have seen the steepest collapse in output. Here compares with $2.7 billion in FY01 and $3 billion in FYOO. unemployment is regularly in the double digits, with most Finance, agriculture, and social protection were the top workers having been out of a job for several years. Skill sectors in terms of lending (table 1). In FY02, IBRD and levels are much lower than in urban areas and are fur- IDA disbursements totaled $2.2 billion, down from $2.7 (. ther eroded by the prevalence of long-term unemploy- billion in FY01. Since 1991 the Bank has committed $49.2 - ment. The young and better educated move away if they billion to borrowers in the ECA region. , can, leaving behind the elderly, the unskilled, and the -. unmotivated. The low quality of the labor force is one of Table 1. IBRD/IDA Lending for the ECA Region by the reasons why attracting foreign and domestic inves- Sector, FY02 tors to rural and declining areas is so difficult. Sector $ millions 0, Finance 2,642 Despite these regional disparities labor mobility is low, Agriculture 717 lower even than in the EU. One of the main reasons for Social protection 698 this is a lack of infrastructure, in particular, an underde- Law and public administration 639 ,,.,, veloped housing market. Most CEE countries were quick Multisectdral 342 to privatize residential property, but housing prices have Minintg 100 d 85 since followed regional economic fortunes, falling in some Water supply andsanitation 725 areas while increasing strongly in others. Many people Electric power and energy 57 ;=1- are stuck with low-priced apartments in depressed re- Transportation 54 Q gions. As mortgage systems are underdeveloped and Industry 45 subsidized housing is in short supply, they are in no Education 35 Environment 26 position to move to the much more expensive urban Economic policy 6 centers. Commuting may be an interim solution for some, Health, nutrition, and population 3 although infrastructure is again a problem and rising trans- Urban development 2 port prices are an additional deterrent. What is needed, therefore, are better transport and housing infrastructure Continued on page 27 C 2002 The World Bank TRANSI rION, July-August-September 2002 EU Labor Policies Need Urgent Reform- IProminent European Economists Warn of Enlargement's Consequences By Tito Boeri, Guiseppe Bertola, Herbert Brucker, Fabrizio Coricelli, Juan Dolado, John Fitzgerald, Angel de la Fuente, Pietro Garibaldi, Gordon Hanson, Juan Jimeno, Richard Portes, Gilles Saint-Paul, and Antonio Spilimbergo Recently 13 prominent European economists published a joint paper that urges policies for coping with * the impact of enlargement on labor markets and social conditions in current EU member countries. They expect significant changes in the demand for labor and in industrial location and migration pat- terns, and consider how to promote adjustment to these shocks. The ultimate goal is a pan-European social safety net. Treating the new EU citizens differently would backfire they warn. While accepting a temporary delay before lifting all restrictions on migration from East to West, the economists call on current EU members to start opening up their labor markets to migration from the CEE countries even during this transitional period. The initial enthusiasm about the "return to Europe" of the average, in 2000 only 16.4 percent of the working popula- former members of the Soviet bloc has turned to anxiety tion had been with their employers for less than one year, about its potential consequences. Many citizens of the compared with around 30 percent for the United States . current EU members-the EU-15-are concerned that the accession of 10 CEE countries (Bulgaria, the Czech Many EU labor markets also appear ill-suited to coping Republic, Estonia, Hungary, Latvia, Lithuania, Poland, with the geographical relocation of existing industries. Romania, Slovakia, and Slovenia), countries with much Regional labor mobility is much lower in Europe than in lower per capita income levels than those of the current the United States. According to the European Commu- members, will have a range of adverse effects. They fear nity Household Panel, which surveys a large sample of mass migration, pressures on welfare systems, indus- households representative of each EU member and asks trial relocation to the new EU members in response to the same questions about education, jobs, families, and lower labor costs, and job losses for the unskilled when incomes, 1 out of 200 EU citizens (0.5 percent of the displaced by more skilled migrants from the East. Ac- total) change residence every year. In contrast, in the cording to the Eurobarometer survey, an opinion poll con- United States around 6.7 million people (2.5 percent of ducted on behalf of the European Commission at least the population) move across state boundaries every year. twice a year among all EU members, roughly 40 percent Even though U.S. states are more numerous and, on of the population of the EU-15 would currently vote an average, smaller than EU members, the difference in overwhelming no to the Eastern enlargement. mobility rates is striking. The Curse of Rigidity This difference is not solely a reflection of cultural and language differences, after all, in the 1950s and 1960s The Eastern enlargement will call for significantly faster workers did move more around Europe, both within coun- rates of interindustry labor reallocation in current EU tries toward cities and industrial areas and across bor- members, but past evidence indicates that it would ders. Rather, the relative immobility of Europeans reflects be hard for their labor markets' institutional configura- the same institutions that underlie slow interindustry tions to accommodate this. In Germany, for example, mobility. Continental European systems of industrial apprenticeship-based training and industry-level wage relations and social policy tend to maintain employment bargaining have historically resulted not only in high pro- in declining areas and fail to reward mobility with the ductivity at the industry level, but also in remarkably low wage differentials and easy job finding opportunities that rates of worker mobility across employers, and espe- motivate Americans to migrate toward booming regions. cially across industries and occupations. Indeed, Euro- In the EU linguistic differences are also complicating peans generally tend not to change jobs frequently: on cross-country labor flows, and the 11 languages used at TRANSITION, July-August-September 2002 C) 2002 The World Bank present will increase to 21 following full Eastern enlarge- Some of these mobility-friendly reforms will require con- ment. Furthermore, the lack of institutional coordination certed action at the EU level. In particular, supranational across EU members puts a de facto tax on labor flows. authorities should remove the remaining legal, adminis- For example, different national regulations on supplemen- trative, and fiscal barriers to the portability of supple- tary pensions and the absence of harmonized taxation mentary pension rights across EU members and rules for retirement savings can significantly reduce the properly enforce the employment principle in providing pension wealth of workers moving between EU members. social security to immigrants. This principle means that Health care systems also vary widely among countries individuals can have access to the social security sys- and those joining a new system may incur extra costs. tem of the country to which they relocate as long as they have had a job, with entitlements to social security The growing proportion of non-EU citizens resident in the based on the length of their contribution records. EU seems to be more mobile than the rest of the workforce. About 12 out of 200 non-EU citizens of work- Invasion from the East? ing age change residence inside the EU every year, com- pared with 1 out of 200 EU natives, according to a recent The latest negotiations between the European Commis- survey by the European Community Household Panel. sion and the CEE countries on migration suggest that The presence of more immigrants will help the EU have a the Eastern enlargement will involve the free movement of more mobile labor force, thus EU governments should labor only after a transitional period lasting up to seven not restrict this mobility through excessive regulations on years. Hence if the first candidates join in 2005, citizens employment protection, which raise the cost to firms of of the new members will only be free to move and work in dismissing workers, or by maintaining the current ob- the current EU in 2012. The idea of a transitional period is stacles to intra-EU migration. They should take advan- dictated by politics. The European Commission has to tage of the opportunities for efficiency-enhancing trade take account of the concerns of the many EU citizens and migration arising from the Eastern enlargement. who believe that enlargement will lead to mass migration from the East that will create labor market tensions, so- Direction of Reform cial cohesion problems, and associated high crime rates, plus 2002 is an election year for several EU members. EU labor market institutions should be reformed. To shel- ter workers from labor market shocks when competitive At present about 300,000 nationals from the 10 CEE pressures are strong and significant structural adjust- countries work in the EU-15, corresponding to 0.2 per- ments are essential, relying more on unemployment in- cent of the workforce in the EU-15. Migration from the surance and in-work benefits and less on employment CEE countries is concentrated in the neighboring coun- protection legislation is preferable. Unemployment in- tries and regions: around 66 percent reside in Germany surance can cover a larger segment of the labor force and 14 percent in Austria, and the proportions of the not only those who already have a permanent contract workforce that they constitute are, respectively, 0.5 per- than employment protection, while involving fewer effi- cent and 1.1 percent. ciency losses. Temporary unemployment insurance can to some extent reconcile worker protection and mobility These small figures reflect tight restrictions on migration by providing financial incentives to find work, especially into the EU-15. Since 1990 several studies have tried to when job search efforts are appropriately monitored. Simi- assess the migration potential associated with the East- larly, search assistance, as well as a framework of sub- ern enlargement. Most studies converge in predicting the sidized training or lifelong learning, can allow governments long-term migration potential at about 3 percent of the to cope with reallocation demands without burdening current population of the 10 CEE countries, or about 3 workers with an unfair share of the costs of transition. million to 4.5 million individuals. They envisage annual flows of around 300,000 people a year, two-thirds of whom Labor market reforms should proceed in step with appro- would go to Germany, falling to 150,000 within a decade priate deregulation of product and capital markets. Improv- of accession. At 0.8 percent and 1.2 percent of the EU's ing workers' access to financial and insurance markets is population and labor force, respectively, these proportions essential to make labor market deregulation politically ac- are not huge, yet they are substantially more than the ceptable, but wage flexibility and benefit reduction are vital immigration that followed the EU's Southern enlargement. for a more dynamic labor market configuration that may The reduced labor mobility then was due in part to rela- properly support the full integration of an enlarged EU.. tively small income differentials; increased unemployment © 2002 The World Bank . TRANSITION, July-August-September 2002 benefits; and flows of public capital to develop basic of the structural funds can be targeted at building an education, health, and transport infrastructure in the appropriate level of social infrastructure. poorest regions of Greece, Portugal, and Spain. Pan-European Social Safety Net? The CEE countries are substantially poorer than the EU average (at most 35 percent of the EU's purchasing Another, far more ambitious, approach to the reform of power parity-adjusted GDP per capita and 12 percent in social security is not even on the distant horizon of Eu- nominal terms, see the figure on page 19), and in 41 of ropean policy discussion: establishing a pan-European the 53 regions of the CEE countries, per capita income safety net, a European minimum guaranteed income is significantly below the EU average. In addition to the scheme. This social safety net would be one of the pillar average low level, the dispersion of per capita income in institutions of the EU in the same fashion as the single different regions of the CEE countries is striking. In 1998 market and the Common Agricultural Policy. In the single per capita income levels in Prague were 115 percent of market a country that lowers its welfare standards ex- the EU average, while per capita income in most re- erts an externality on other countries by exporting its gions in Bulgaria and Romania was less than 30 per- potential welfare recipients. Similarly, a country that re- cent of the EU average. Moreover, even in some regions duces taxes on mobile factors of production exerts an of Poland, in 1998 per capita GDP was 26 percent of the externality on other countries by poaching their tax base. EU average. The greater the mobility of factors across borders, the more severe these effects. Taking account of externali- While for current EU members importing unskilled la- ties should not mean a one-size-fits-all pan-European bor and exporting capital will improve economic effi- social welfare system. ciency, such outcomes are unlikely to be palatable to their citizens. According to a recent Eurobarometer A preferable option would be to have explicit minimal stan- survey, most Europeans favor zero immigration and are dards set at the European level, with individual EU mem- worried about the possibility of migrants abusing the bers free to improve on them, corresponding to what the welfare state. Certainly in Austria, Belgium, Denmark, least generous countries would be willing to offer if they Finland, France, and the Netherlands non-EU citizens were forced to take account of the externalities. Alterna- are over-represented in the pool of unemployment ben- tively, the minimal standards could be determined on ethi- efit recipients, even after controlling for personal charac- cal grounds by setting them equal to the market value, at teristics, for example, when comparisons are made with local prices, of a basket of goods considered necessary reference to low-skilled workers with the same number for basic human dignity. This would not prevent benefits of dependent children. The 2001 Eurobarometer survey from being too low relative to the optimum, but at least it further indicates that opposition to Eastern enlargement would prevent any race to the bottom from going too far. is concentrated among the unemployed, those with lower levels of education, and the elderly, while ideological From a financial perspective, the EU's budget is suf- factors play a much less important role. ficient to fund minimum social welfare programs har- monized across the EU, and the unavoidable The implication is that the EU-15 cannot allow the CEE interjurisdictional redistribution involved in providing a countries to implement beggar-my-neighbor policies, but pan-European safety net in the presence of sizable in- at the same time they cannot impose high welfare stan- come differences could be cofinanced at the EU level. dards on them and demand that they bear all the costs. The size of the relevant budget line would be signifi- This would slow their convergence to the EU average cantly smaller than existing programs like the structural and reduce their economic efficiency at a time when funds and the Common Agricultural Policy. No institu- productivity growth was vital. The imposition of high taxes tional reform would be required to run such a program. to pay for a more generous social safety net may also Even EU institutions with few supranational powers could backfire by simply expanding the already large informal be in charge of running income support of last resort sectors in the CEE countries. Thus current EU mem- schemes. Above the minimum level, there would be com- bers, while making accession conditional on the exist- petition among national systems. The rights accumu- ence of a decent social safety net, should contribute to lated in the various countries would be fully portable, the costs via structural funds. Accession can be made and workers would have pro rated access to the welfare conditional on progress by appropriate interpretation of system of the country to which they moved. This would the Social Charter. In the new wave of accessions, part allow EU citizens to choose the system they prefer. TRANSITION, July-August-September 2002 C 2002 The World Bank Proposals This article is based on the paper "Who Is Afraid of the Big Enlargement? Economic and Social Implica- To sum up, we recommend the following: tions of the European Union's Prospective Eastern * Setting up more mobility-friendly labor market institu- Expansion," published by the Centre for Economic tions in current EU member countries, that is, more un- Policy Research (CEPR ), London, as policy paper employment insurance of short duration and less no. 7 in June 2002 in cooperation with Fondazione employment protection legislation. Rodolfo Debenedetti, Milan. Tito Boeri is with the * Encouraging candidate members to raise their social IGIER, Bocconi University in Milan, the Rodolfo welfare standards, both by making this a condition of Debenedetti Foundation, and the CEPR; Guiseppe accession and by offering financial assistance for de- Bertola is with the European University Institute in signing and starting up systems. Accession countries Florence and the CEPR; Herbert Brucker is with the should have minimum guaranteed income schemes simi- Deutsches Institut fur Wirtschaftsforschung in Berlin lar to those in place in most current EU members. and IZA; Fabrizio Coricelli is with the University of * * Coordinating the level of these minimum guaranteed Siena and the CEPR; Juan Dolado is with the Univer- income schemes, which would be adjusted to take ac- sity of Carlos Ill of Madrid and the CEPR; John count of differences in the cost of living across countries Fitzgerald is with the Economic and Social Research and regions. The long-term plan should be to build up a Institute; Angel de la Fuente is with the Autonomous pan-European social safety net as one of the pillar insti- University of Barcelona; Pietro Garibaldi is with tutions of the EU. Bocconi University in Milan and the CEPR; Gordon * Introducing a transitional period before migration re- Hanson is with the University of Califomia in San Di- strictions on new members are lifted, provided the pe- ego; Juan Jimeno is with the Foundation for Applied riod is clearly defined from the outset, restrictions are Economic Studies and the CEPR; Richard Portes is flexibly coordinated at the EU level, and existing restric- with the London Business School and the CEPR; Gilles tions on labor mobility within the current EU-notably Saint-Paul is with the University of Social Sciences those preventing the cross-country portability of social of Toulouse and the CEPR; and Antonio Spilimbergo security rights-are dismantled. is with the International Monetary Fund. National Income Per Capita in the EU-15 and Accession Countries, 1991 45,000 ........ . ...... . EU-15 Eastern Enlargement 40,000 0) LAJXIthmbourg a 35,000 30,000 m Denr 400 1 25,000 _ Portugl Cmch Republic . n ~~~~~~~~~~~~~~~~~Hlunpary 10 000 sSbvakia. . I Iitmania 5,000+ .....--- , Bulgaria i, ~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~itia 50,000 100,000 150,000 200,000 250,000 300,000 350,000 400,000 45,000 Population (thousands) Source: the authors. © 2002 The World Bank TRANSITION, July-August-September 2002 Ireland's Crucial Voting on Nice Opponents Play the Immigration Card By Dan O'Brien Ireland's coalition government-returned to power as a result of the May parliamentary election- knows that it needs all its energies to ensure a majority of yes votes on the Nice treaty when it comes to the second referendum, which will probably be held in late October. The most recent opinion poll, taken in May, showed that campaign by advocates that contrasted with the ener- support for Nice had sunk to a record low. Ireland's govern- getic and ultimately effective campaign run by their op- S ment and others across Europe were aghast in June 2001 ponents. Abstention and opposition to the treaty also when, on a turnout of just 30 percent, Irish voters narrowly increased in tandem with concerns about the very na- rejected the EU's latest changes to its founding charter. ture of the EU, such as who calls the shots and where The Nice treaty, the latest changes to the EU's proto-con- the ever-evolving enterprise is going. stitution, which was framed to make decisionmaking easier and to streamline the Union's institutions with a view to Scare Campaign accommodating up to 10 new members as early as 2004. The acrimoniously negotiated Nice treaty requires ratifica- Immigration looks like being a central theme of the sec- tion by each of the 15 existing member states before en- ond campaign. During the first campaign, Nice oppo- tering into force. nents tried to alarm the public by claiming that the treaty would endanger the country's neutral status. Although Why No? Nice has nothing to do with it, the government secured a declaration from other EU member states at the lead- Why did Ireland reject the Nice treaty? One in six Irish ers' June summit in Seville stating that Nice would not jobs depends directly or indirectly on foreign firms. An- affect Ireland's neutrality. Thus some Nice opponents other no vote would be interpreted abroad as a move have switched to raising the specter of a human tide away from Europe. It would also cause uncertainty. More from the east. They say that because Ireland, along with uncertainty means less investment, and less investment Denmark, the Netherlands, and Sweden, has chosen today means fewer jobs tomorrow. Thus a no vote would not to make use of a transition period of up to seven greatly reduce Ireland's influence in the EU. Despite years that would limit the movement of workers from being among the most enthusiastic supporters of the new member countries, 75 million Eastern Europeans EU (9 out of 10 voters believe that Ireland has benefited could make a dash for the only English-speaking coun- from EU membership) the Irish shocked their fellow Eu- try to offer unimpeded access to its labor market. ropeans by rejecting the treaty in 2001. "Wrong," wail the Europhiles, pointing to the heaps of The answer to the seemingly simple question of why evidence about Europeans' immobility. But any talk of the Irish voted no is almost as complicated as the Nice hordes from the east causes some otherwise disinter- treaty itself, and the complexity factor was one of the ested ears to prick up. Although opposition to enlarge- major reasons why so many voters were put off during ment is the second lowest in the EU-15 and the Irish the last campaign. A brief perusal of the treaty can eas- gave short shrift to anti-immigration candidates during ily reinforce these views. The reweighting of votes at the the country's recent general election, 17 percent of those Council of Ministers, more Qualified Majority Voting, and asked in 2001 said that they do not want new EU mem- reform of the Commission are necessary for the EU to bers. Their ranks are likely to swell now that the immi- enlarge and still function smoothly, but they leave the gration card has been played. average voter cold and offer few obvious incentives to vote in favor of the treaty, even for those who are gener- Although an overwhelming majority believes that mem- ally well disposed toward the EU. bership has, up to now, been beneficial, the EU is seen as elitist. A sense of exclusivity is reinforced by the coa- Another reason why some voted no and most of the rest lition of insiders who support Nice, including trade union did not vote at all was a lackluster and unconvincing bosses, captains of industry, religious leaders, and all TRANSI rION, July-August-September 2002 © 2002 The World Bank but a handful of parliamentarians. Add to this the EU's even though a majority is in favor of the treaty, the far image problem. It has the feel of a stuffy gentleman's more motivated minority who oppose the treaty will turn club. Little wonder that the last time around women and out to vote in greater numbers. young people were among the most likely to have re- jected Nice. Perhaps because of Ireland's colonial past, Although greater uncertainty will be introduced into the there remains an acute sensitivity to any appearance of enlargement process, as long as member states do not being pushed around by those in distant capitals. In use the rejection as an excuse to delay expansion in- recent years criticisms of "faceless Eurocrats" and of definitely (a possibility that cannot be entirely dis- "diktats" being foisted on the country from far-off Brus- counted), the Economist Intelligence Unit believes that sels have increased. a wave of accession will still go ahead in 2005. The most likely way around an Irish rejection will be to incor- The yes camp will depend on citizens' groups springing porate those elements of the Nice treaty that are essen- up to broaden its support base. Although individuals' tial for enlargement into the accession treaties of the E instincts about the EU will arguably be the most impor- new member states. If a referendum is required in Ire- tant factor, basic information will also count. Most ab- land (and whether it would be is by no means certain), stainers in June 2001 cited uncertainty about the issues the straight question on enlargement should be accepted. as their reason for not voting. This has led the pro-Nice camp to believe that once the treaty has been fully ex- The author is senior Europe editor of the Economist plained, voters will turn out to nod Nice through. But Intelligence Unit. This article is based on his report "Ire- many voters are not interested: five out of six citizens land Will Vote No to Nice." For more information con- surveyed admitted to having no interest in "discussing tact Jane Gardiner, Press Officer, Economist Intelligence Europe." This "disinterest ratio" is the highest among all Unit, 15 Regent Street, London SWIY 4LR; tel.: 44-20- 15 member countries. 7830-1155, fax: 44-20-7839-1465. But even if voters do take the time to read the treaty, only After Auditing the lawyers among them will make much sense of such a technical and impenetrable document. This makes debate . l even more difficult, as the treaty does not lend itself to easy reference that would allow voters to check the verac- ity of competing claims. The result is that uncertainty abounds, even about the very purpose of the treaty, with the yes side saying it is all about enlargement and the no side saying it is not needed to admit new members. W The government also has some economic woes to worry about. Despite assurances of fiscal equilibrium only a few months ago during the election campaign, the truth about rapidly deteriorating public finances is out and voters are angry. Belt-tightening measures are being in- troduced. Almost a quarter of a million public service workers-nearly 10 percent of the electorate-are dis- satisfied that their pay demands are not being met. Enlargement Is On, No Matter What With electoral politics losing its appeal-the 63 percent turnout in the May general election was the lowest ever- and constitutional referendums exciting even less inter- est (in March only 43 percent of the population voted on This time the general manager is not in the emotive issue of how abortion should be regulated), Florida but in detention. it will be a wonder if much more than the 34 percent who voted in June turns out come October. Quite possibly, From the Hungarian daily N6pszabadsag C 2002 The World Bank 'I'RANSI lION, July-August-September 2002 Russian Accountancy Adopts ~ International Standards By Adolf J. H. Enthoven i- Radical changes have taken place in the structure and process of accounting and auditing in Russia ' during the last 10 years, especially during the last 3 years. Russia expects to have its accounting and auditing standards in conformity with International Accounting Standards (IAS) by 2005, the EU's dead- line for adherence to IAS by public companies. The former Soviet Union used accounting as a tool to safe- management systems have consisted of a collection of guard socialist property and to fulfill the state's central plans. different methods quite independent of each other. Man- The reporting of the financial outcomes of business activi- agement accounting-which analyzes basic financial ties to the central statistical office and to Gosplan, the information, develops financial forecasts, and guides central planning agency, was strictly controlled and moni- budget preparation-has not existed in the form known tored. Control activities included monitoring the care and by Western accountants, although enterprise adminis- retention of assets, the use of factors of production, the trators do make extensive use of cost accounting and compliance with norms pertaining to the amount and com- cost analysis. Activity-based costing (assigning and position of current assets, and the production of goods managing costs based on activities) barely exists, and and services, as well as ascertaining the costs of produc- the absence of true pricing often makes cost estimates tion, the extent of financial profits, and the uses to which useless. profits were put (see Transition, "The Russian Revolution in Accounting and Auditing," January/February 1999, p. 22). In 1991 three events occurred that were crucial to the development of accounting in Russia, namely: Russian accountants have been collecting an immense amount of information about their companies since So- * Publication of the mostly new chart of accounts, that viet times, but they did not use these data to undertake is, the list of ledger account names and associated num- comprehensive analyses or to help guide effective bers arranged in the order in which they normally ap- decisionmaking, neither did they make the results ac- pear in financial statements: assets, liabilities, owners' cessible to outsiders. Today Russian companies still (stockholders') equity, revenue, and expenses. often manipulate financial data to strengthen their posi- * Production of a new set of financial statements simi- tion when negotiating with state authorities, whether the lar to those used in Western accounting. company is looking to pay fewer taxes or is seeking * Initiation of radical changes in accounting and audit- more subsidies. Outsiders find that obtaining reliable ing regulation and methodology. The government approved information about Russian companies is difficult, and the principal normative documentation, "Regulation on available information about many Russian companies Accounting and Reporting in the Russian Federation," fails to give a clear picture of the company. in February 1992. The Ministry of Finance is largely re- sponsible for the transformation of the accounting sys- As a result, Russian accounting standards have become tem, with the assistance of international institutions such the usual basis of financial analysis, but these stan- as the UN, the EU, the World Bank, and the IMF and dards have considerable shortcomings and lag behind the major international accounting firms. market needs. Profits as determined according to Rus- sian accounting standards tend to deviate substantially Current Status of and Trends from profits calculated according to IAS. Such state- in Russian Accounting ments are not useful for purposes of international com- parisons or effective decisionmaking and can easily be The main aim of the government's Accounting Reform misinterpreted. Program, approved in 1998, is to create a set of national accounting standards based on IAS. At this juncture Traditionally, Russian accounting methodology has been Russian accounting standards conform to IAS in the oriented toward financial accounting. Internal operational following main respects: R'KANSITION, July-August-September 2002 ©) 2002 The World Bank * Using a double entry bookkeeping system, that is, Increasing numbers of Russian companies are switch- recording each transaction as both a credit and a debit ing to IAS, although these standards may require adap- * Maintaining balance sheet continuity tation to Russia's economic circumstances. Russian * Recording assets on the basis of the original cost of accounting regulation should be based on various enter- acquisition prise categories based on the types of owners and on * Taking the going concern principle into account, that companies' size and capital market exposure. These is, assessing a company's future prospects based on categories are as follows: the assumption that it can stay in business * Valuing foreign currency assets and liabilities using * Public (open joint stock) companies and other the prevailing market exchange rate. enterprises listed on international capital markets and Russian trade organizations. Some listed com- As the need for understandable, comparable, transpar- panies are already using IAS or U.S. Generally Accepted ent, detailed, and reliable financial statements has in- Accounting Principles for financial reporting purposes, creased, the government has taken steps to promote and are also using national accounting standards for accounting reforms. The Institute of ProfessionalAccoun- Russian statutory purposes. Others use neither IAS nor tants of Russia, which was created a few years ago and U.S. Generally Accepted Accounting Principles for fi- became a member of the International Federation of nancial reporting purposes. However, given the need for Accountants, is playing a major role in the transforma- Russian capital market development and the integration tion of accounting, along with the Interagency Govern- of the Russian capital market with international mar- ment Committee for Accounting Reform. In addition, the kets, the latter enterprises should switch to IAS. government has adopted a resolution requiring audits of * Not listed public (open joint stock) companies major Russian enterprises. using Russian accounting standards for financial Still Worlds Apart? Russian and International Accounting Standards Compared Prime Minister Kasyanov recently announced that ev- * The classification of cash flows between investing ery Russian company had to have shifted to Interna- and financing activities in the cash flow statement may tional Accounting Standards (IAS) by 2004. Given the be different from IAS. inconsistencies that still exist between Russian and * Some parent companies do not prepare consolidated IAS rules, this is a formidable task. Under Russian financial statements. rules: * In the definition of control, the ability to govern decisionmaking does not have to be accompanied by * The banks enjoy far more discretion with respect to the objective of obtaining benefits from the entity's ac- the classification of problem loans, which renders them tivities. less transparent. * Investments in certain securities held for the short * The costs of research can be capitalized under cer- term are not required to be carried at the lower of cost tain conditions. and market value or at market value. * The revaluation of property, plant, and equipment is * Certain subsidiaries beyond those referred to in IAS allowed, but gives different results than IAS and need may be excluded from consolidation (the final financial not be kept up-to-date. statement). * The useful life of property, plant, and equipment is * A subsidiary that is a bank may be excluded from usually determined using periods prescribed by the consolidation if it is dissimilar from the rest of the group. government for tax purposes, which are longer than * Certain fixed costs (operating expenses) that have those for which the assets are expected to be used. been paid by a company's founder, such as rent, prop- * If investment properties are revalued, they are still erty taxes, and interest expense, can be capitalized, depreciated, and the gains and losses are not required that is, recorded as additions to asset accounts and to be considered as income. not as expenses. * Provisions can be established more widely or less * The realizable value of inventories can be measured widely than under IAS, and there is no requirement for without deducting selling costs. discounting. * Certain overheads can be capitalized in addition to * Own shares are shown as assets. those related to production. D 2002 The World Bank TRANSITION, July-August-September 2002 reporting purposes. The major objective of accounting The reformers have paid considerable attention to the reform with respect to this category is to develop a set issue of corporate governance, which encompasses a of lAS-compatible national accounting standards, be- variety of activities connected with the management of cause investors want to have comparable financial infor- companies. Cross-ownership by banks and industrial mation about securities issuers and because of the companies has tended to blur the lines between gover- potential entry of these enterprises into capital markets.. nance and accountability. Improved corporate governance In this context, Russia can study EU experience as the is vital for increasing investment by both domestic and EU is transforming its accounting directives to comply foreign investors in all sectors of the Russian economy. , with IAS. One way to foster such improvement is to introduce stan- ,/4 l 1l Closely held joint stock companies and limited dards that are based on an analysis of best corporate 1' - j'n ! liability companies other than small businesses, that governance practices. Such standards would apply to '> is, enterprises that either do not have outside owners or all economic entities, but are most important for joint . whose outside owners are affiliated with their manag- stock companies, where the separation between own- ers. This group should also include 100 percent state- ership and management is the greatest, and where con- owned enterprises. Enterprises in this category use flicts related to corporate governance are therefore the Russian accounting standards for financial reporting most likely to arise. The final version of the Russian purposes; however, given the lack of people interested Code of Corporate Conduct was submitted by the gov- in their financial statements as well as disclosure re- ernment on April 4, 2002. strictions, they should be subject to less detailed finan- cial disclosures. Educating Accountants * Small businesses. These should be entitled to use a simplified form of bookkeeping and financial reporting For many years, Russian accountants' primary respon- sibility was to generate financial information for control Enforcement purposes, but not for making decisions. As a result, accountants' prestige was. extremely low. Accounting A Russian accounting system that meets market re- training in the former Soviet Union consisted of an odd quirements cannot be created in isolation from the de- mixture of different disciplines (accounting, economics, velopment of capital markets and an efficient corporate finance, and so on) and training in technical accounting governance model that takes specific features of enter- procedures and accounting principles for different types prises with various levels of exposure to capital markets of economic activity With the expansion of the into account. In developed capital market economies accountant's role, accounting education had to go be- stock exchanges and other organized markets are pri- yond the traditional undergraduate curriculum to include marily responsible for bottom-up enforcement functions, expanded bodies of knowledge in a variety of related usually combined with control from above, that is, by fields. Various educational institutions are now provid- government agencies such as securities commissions ing training in modern international financial manage- and other regulators within the corporate governance ment methodologies, and Russian universities have system. started to include IAS in their curriculum As concerns the enforcement of accounting standards It is gratifying to see the radical changes and improve- in Russia, proposed legislation will empower government ments that have occurred in Russian accounting and agencies to exercise control over the preparation and auditing methodology in recent years, along with the presentation of financial statements by securities issu- extensive ongoing work to bring Russian accounting and ers, public (open joint stock) companies, natural mo- auditing in line with international norms and practices nopolies, and other enterprises and provide for a set of By 2005 the similarities in theory, practice, and educa- effective sanctions for breaches of accounting rules; tion will likely be even more pronounced. Nevertheless, consolidated financial statements will be subject to com- based on Russia's particular socioeconomic circum- pulsory audits; professional accounting bodies envis- stances, divergences in accounting practices will remain age adopting and enforcing standards of professional conduct that their members will have to adhere to; and The author is the director of the Center for Intemational markets will exert quality control over the financial dis- Accounting Development, University of Texas at Dallas, closures of public companies and of enterprises listed 2601 N. Floyd Road, Richardson, Texas 75083-0688, on international capital markets. tel.: 972-883-2320, fax.: 972-883-2192. TRANSITION, July-August-September 2002 C 2002 The World Bank U.S. Corporate Capitalism on Trial: What Direction Should Cleanup Efforts Take? By Adolf J. H. Enthoven A previous article in Transition, "The Enron Crisis: Some Lessons for Transition Economies" (January- i February 2002), discussed how transition economies should try to prevent a corporate meltdown like the one that caused the demise of Enron by paying close attention to installing well-functioning financial, accounting, auditing, and legal frameworks conducive to the development of their capital and financial markets. In the meantime, new scandals among U.S. corporate management raise the issue of whether;E the U.S. capitalist system has been eroded from within and is really so impervious to the ethical, moral, and functional deficiencies observed in other countries. Almost half of all adult Americans own corporate stock, 1. Corporate Governance either directly or indirectly. Damage to the system affects millions, and finding a cause is not easy. The culprits, Independent directors on boards of directors should be witting and unwitting, include not only immoral execu- required to meet regularly without internal executive di- tives; compromised auditors and accountants; negligent rectors present. Their job is to hold executives to ac- institutional investors, securities analysts, and lawyers; count on shareholders' behalf. With the exception of the and uninformed or indiffereit directors, but also inatten- chief executive officer, members of corporate boards of tive government leaders. A range of proposals to reform directors should not have a material stake in the com- corporate governance and government oversight are now pany. The purpose of a board of directors is to represent before Congress Underlying these is a basic notion of the shareholders and not management or themselves morality and ethics that may not have received due atten- Regulations may require companies to set up indepen- tion in either the real world or at educational institutions. dent audit committees within the board that have the sole authority to hire and fire auditors and to approve The underlying principles of free markets-transparency contracts for nonaudit services. Directors and executive and trust-have been the first victims of "crony capital- officers should be excluded from selling their holdings of ism," as dramatically illustrated by the scandals involv- company stock while serving on the board. ing Enron, ArthurAnderson, Global Crossing, WorldCom, Tyco, and others Too many corporate boardrooms sac- 2. Corporation-Accountant-Auditor Relationship rificed trust on the altar of quick and illusory profits in- tended to generate astonishingly inappropriate levels of Congress and the public generally agree that account- executive compensation. Corporations established off- ing industry oversight needs to be strengthened, while balance sheet partnerships to mask their liabilities and accounting standards should also be reevaluated. The inflate their profits. Executives maximized their com- elements of a minimum reform have been proposed pensation with stock option plans that burdened their that include prohibiting company auditors from doing companies with huge hidden costs and companies gave nonaudit work, requiring the mandatory rotation of au- their chief executive officers massive "sweetheart" loans. ditors, and creating an official oversight body. During Venerable accounting firms looked the other way as the last 10 to 15 years the leading accounting firms companies cooked their books and shredded their own have diversified their services to include lucrative con- documents to hide their misdeeds Corporations moved sulting for their auditing clients on tax management, their legal headquarters off-shore to avoid taxes. merger and acquisition strategy, systems, cost con- trol, and corporate structure. The purpose was to Laundry List of Remedies strengthen client relationships, improve profitability, and retain talent that the firm's corporate clients were The most important remediable actions proposed for luring away. The result appears to have been to cre- corporate America by both experts and members of ate a fundamental conflict of interest between, on the Congress fall under the foliowing headings. one hand, rigorously and objectively scrutinizing their C) 2002 The World Bank TRANSITION, July-August-September 2002 auditing clients, and on the other hand, currying favor * A new private oversight body has been suggested with those same clients to win their consulting busi- to establish professional standards for audits and eth- ness. ics and to regularly review firms to ensure that they are meeting these standards. Furthermore, accounting firms should be prohibited from both providing internal audit services and carrying out 4. Financial Statements the annual corporate audit. In addition, corporate offic- ers and directors should be prohibited from attempting Congress has been trying to restore public confidence to influence the scope and work of the auditors. The in the way companies state their earnings, a trust that proposed regulation would also forbid the lead account- has been deeply shaken by the continuing scandals ing firm partner responsible for reviewing a specific and indictments. (WorldCom had inflated its profits by company's audit from working with that client for more almost $3.8 billion over the past 15 months, following than five years. Proponents of reform are also examin- the irregularities and frauds uncovered at companies ing whether requiring companies to change auditors regu- such as Enron, Adelphia Communications, Dynegy, Tyco larly would be desirable. Investors may no longer trust International, and Global Crossing.) The rules-driven U.S. the audits of public companies if they see accounting accounting standards-as opposed to principles-driven firms providing consulting services to the same client, standards-leave a great amount of leeway regarding either simultaneously or at some future date, as a con- the application of those rules. Its supporters claim that flict of interest. They consider that a complete and per- a principles-based system, which insists on substance manent separation of auditing and consulting services over form, is not as easily circumvented. is necessary to safeguard the integrity of audits. Ac- cordingly, any firm that serves as the auditor of a com- A proposed law would require top corporate officers to pany would be prohibited from providing any consulting certify personally to the SEC that the company's finan- services to that company. cial reports are accurate and that all information mate- rial to the health of the company has been disclosed. 3. Accounting Oversight Along with the certification executives are to provide a narrative statement of the factual basis for the correct- The current U.S. accounting oversight structure is frag- ness of the statements and to disclose any "close calls" mented and, in disciplinary situations, often ineffective. management made with respect to accounting treatment. It includes a series of independent oversight and stan- Executives who intentionally misstated their companies' dards groups that work with various state and federal financial reports would go to jail. regulators, namely: * The Securities and Exchange Commission (SEC) 5. Public Regulatory Agencies has jurisdiction over the accounting and audit requirements of publicly traded corporations. Securities law requires that A new bill in the U.S. House of Representatives creates these corporations be audited by an independent firm. In public regulatory organizations, private entities thatwould practice, the SEC has left the actual oversight of account- review audits and auditors and take disciplinary action ing firms to a variety of state regulators and self-regulating when necessary, immediately reporting their actions to bodies. The SEC has reacted to the recent scandals by the SEC. Major stock exchanges would be required to proposing the establishment of a stronger public oversight list only those companies that had adopted codes of organization under its jurisdiction. ethics for their senior managers. Companies would be * The Financial Accounting Standards Board, a pri- required to disclose off-balance sheet transactions and vate group of accounting and financial professionals, de- insider transactions or affiliations and relationships and cides how specific financial items and situations should make public disclosures much more quickly than they be treated for accounting purposes. A similar group, the have done to date. Auditing Standards Board, sets standards for corporate audits. In both cases decisions are subject to SEC review. 6. Compensation for Staff and Management * The American Institute of Certified Public Accoun- tants, the professional body of certified public accoun- Stock options are a legitimate and valuable form of em- tants, sets the standards for auditor independence and ployee compensation. (A stock option gives an employee determines whether an auditing firm is qualified to audit the right to buy a certain number of shares in the com- a publicly traded corporation. pany at a fixed "grant" price for a certain number of years TRANSITION, July-August-September 2002 c 2002 The World Bank and then "cash-in," that is, sell the stock at a higher money and their shareholders tended to be satisfied, while market price.) However, stock options should be reported their inflated stock prices were a sign of prosperity to , as an operating expense as will be mandated under in- stay. As has now become clear, much of this was a cover- ternational and EU accounting standards, otherwise they up, and serious deficiencies existed in the system that obscure the company's real worth, misinform investors, were not brought out in the open or adequately disclosed and encourage continued false reporting of profitability. by those who knew the facts. Top executives should be precluded from selling their holdings of company stock while serving in that com- Deliberations in the United States about clamping down pany. They could be allowed to exercise their options, on inequities and deficiencies warrant attention by other but their net gain after tax should be held in company countries. In their move toward more market-oriented stock until a certain number of days after they leave the and capitalist economies many emerging and transition company. economies, while focusing on full deregulation, should ensure that the proper legal, financial, accounting, and * Conclusion economic infrastructures are in place. Loopholes need to be tightened up without killing the more liberal eco- The recent U.S. corporate scandals have seriously shaken nomic system. Morality, ethics, and codes of conduct public and government confidence in the sound function- cannot be learned on the job, but need to be ingrained ing of the U.S. capitalist model. For too long, especially into nations' moral fiber by means of homes, schools, during the booming 1990s, the notion was that the sys- religious institutions, or other processes. Nations' eco- tem was working fine, while scandals and misrepresen- nomic systems depend on the moral and ethical con- tations were shoved under the rug. Companies made good cepts that underpin trust, integrity and transparency. World Bank/IMF Agenda (continued) Continued from page 15 borrowers in FY02). "In the months after the horrific events Including other regions, World Bank lending to member of September 11, the World Bank moved quickly to help countries rose to $19.5 billion in FY02, a 13 percent developingcountriescopewiththeaftershocks,"saidWorld increase compared with FY01 (see table 2 for the top 10 Bank President James D. Wolfensohn. In addition to Figure 1. IBRD/IDA Lending for the ECA Region by Country, FY02 ($ millions) Yugo.lavla 171.8 Uzbeklsta- ti 7 6 Ukralne 33 Turkmenistan 3 TaJikistan 41 SI ovenia l Slovak Republic ,z 201 Russlan Federation .= 35 Romanla 60 Polancd m 100 MoIOov. d 46 Macedonia. FYR i 35 Lith.ania a 43 L-tvMa 2 Kyrgyz Repu.blic 1 5 Kaza kh stan 0 Hungary 0 Estonla 0 8eor0gl 3 Czech Republic 0 Croatla I7-W3 202 9ulgarla 0 Sosnia--le,zegovlna _!M 1 02 Belarus 0 Azerbailan 70 Arl-ena . 39 Albania m 88 0 500 1 000 1 500 2000 2500 3000 3500 4000 c 2002 1 he World Bank TRANSI I ION, July-August-September 2002 financial support, the World Bank increasingly pro- * Financial sector. Privatizing the Romanian Commer- vided policy advice, technical assistance, and ana- cial Bank, restructuring the Savings Bank, reorganizing lytical services to those member countries grappling the Export-Import Bank to improve its capacity to engage with the potential impacts of the September 11 events in foreign trade, improving enforcement of the legal and on their own economies, and on global markets more regulatory framework in the banking sector, and develop- widely. Specifically, the number of country analytic ing the government securities market. reports and other advisory products provided to World * State enterprise sector. Divesting the country's larg- Bank clients increased from 335 in FY01 to 457 in est public sector industrial and commercial loss-mak- FY02. ers from the government portfolio, including the ALRO and ALPRO Malumina and aluminum processing plants Table 2. Top 10 Bank Borrowers, FY02 and the TAROM airline. Country $ millions * Energy sector. Selling controlling stakes of gas distribu- ED Turkey 3,550 tors and Petrom, the national oil company, to strategic inter- Turkey 3,550 national buyers, introducing new tariff structures, increasing India 2,190 the tumover of payables and receivables to contain arrears, Brazil 1,566 and reviewing the tax regime. A modern legal, regulatory, Pakistan 800 and institutional framework will be introduced to encourage Mexico 660 private sector competition among network industres. Vietnam 593 * Social sector. Mitigating the social costs of adjustment Vietnam 593 by making social protection mechanisms more efficient and Colobina 482 better targeted. Key goals include providing adequate and Colombia 482 sustainable income support to laid-off workers without un- Tanzania 402 dermining work incentives and helping laid-off workers ob- tain alternative employment, pursuing comprehensive reform World Bank Rules for Hiring Consultants of the pension system, and improving coordination between central and local administrative units in relation to poverty On August 19 the World Bank clarified those conditions reduction programs. under which the Bank can hire consultants from universities * Business environment. Removing administrative bar- and research institutions in borrowing member countries riers (permits, licenses, inspections, visas); rationalizing and the procedures for doing so. The Bank cannot hire gov- and consolidating institutional fiscal responsibilities and ernment officials and civil servants under any circumstances, special extrabudgetary funds; improving the tax environ- because this would compromise the principle of transpar- ment for businesses to encourage more permanent hires; ency and increase opportunities for abuse. University pro- strengthening corporate governance standards, including fessors or scientists from research institutes can be minority shareholders' rights; implementing sound, inter- contracted individually under Bank financing provided that nationally recognized accounting standards and financial they have full-time employment contracts with their institu- audit requirements; introducing a more effective system tions and have regularly exercised their functions for a year of bankruptcy and liquidation, and adopting a unified cor- or more before being contracted under Bank funding. porate income tax law that creates a level playing field for domestic and international investors. New World Bank Loans to Romania Both loans have a 17-year maturity, including a 5-year On September 12, the World Bank approved a $300 million grace period, at the World Bank's standard LIBOR-based Second Private SectorAdjustment Loan and a $18.6 million interest rate. Since 1990 the World Bank has loaned Private and Public Sector Institution Building Loan to sup- Romania more than $3.2 billion. Its current investment port structural reforms in Romania. "The new operation will portfolio is worth more than $1.1 billion. promote reform in the bank and nonbank financial sectors, accelerate restructuring and privatization, and address criti- Larry Summers Reflects on cal issues, like arrears in the energy sector, while mitigating the Development Agenda the potentially negative social impact of the reforms," said Rodrigo Chaves, the Bank's program team leader for the Larry Summers, president of Harvard, former Treasury Private Sector Adjustment Loan. The two loans will support secretary, and former World Bank chief economist, of- reforms in the following areas: fered a few reflections on the development agenda and TRANSITION, July-August-September 2002 D 2002 The World Bank made four observations at a luncheon address during been effectively harnessed, where the fairly common indi- the World Bank's Poverty Reduction, Economic Man- vidual pursuit of selfish objectives lead to benign social agement Network Week in July 2002. outcomes because of checks and balances in governments, enforced private property rights, incentives for creativity, "First, the World Bank is more important to the fu- and entrepreneurship. The real difficulty, in a sense, is that ture than it was to the past. The World Bank and other we know how to give people things, but we know less international organizations are the subjects of almost about whether the process will lead to sustained, rapid constant criticism. From the left, they are criticized be- development. You have all seen the troubling facts. There cause their staff is 'too reluctant to wear sandals and are various ways to combine these facts, but as one re- stay outside of hotels in the name of being involved with cent set of calculations show, the Marshall Plan equaled 2 local people.' From the right, they are criticized for ab- to 2.5 percent of the GNP of Europe for four years. Africa sence of tough mindedness, excessive affinity for doing has received more than 10 percent of its GNP every year the same things over and over again, and for their ex- for multiple decades. During my time in government, the cessive taste for the public sector. From other quarters, Marshall Plan concept was introduced as connected to they are criticized for not caring enough, for seeing com- the proposed experiences of Haiti, Somalia, Rwanda, the plex people problems through the prism of numbers and West Bank, the Gaza Strip, Bosnia, Kosovo, Cambodia, statistics, rather than underlying human reality. From East Timor, and one or two more countries. In no case, to yet other sources, ihey are criticized for not being ana- my knowledge, has rapid and enduring growth been lytical enough, not insisting on the highest standards, achieved, though these various programs have clearly had and not being prepared to compromise in difficult cir- important positive impacts. It seems to me that thinking of cumstances. The right thing to say is that there are a process central to development and benefiting from the elements of truth in all of those criticisms, but the greater resources is more important than identifying the magic truth is that the world needs the intellectual resources, bullet of the week the financial resources, and the commitment to global development now more than it ever has in the past. There Fourth, not everything that is happening in develop- is an enormous challenge and a moral imperative for all of ment is shaped by the experience of individual devel- us to mobilize support for the global development effort. oping countries. What happens in the global economy is There can be no doubt that there is not a more dedicated, profoundly important. What science and technology bring more capable group of people at work on a major problem and make available is profoundly important. But at our peril, anywhere in the world than the women and men who we ignore those aspects of the broader economic environ- work promoting development every day at the World Bank. ment. In the World Bank, I was involved in research show- ing that the growth rates correlation across countries Second, it is probably going to get harder to mobi- between one decade and the next is close to zero. The lize support for development in the years ahead. The correlation in the attractiveness of policy environments is good news is that development is more fashionable as a surely very high. Countries that are better in this decade subject and is a greater concern than it was a few years tend to be better now than last decade and will be better ago. The needs of aging populations in the major financ- the next decade. But the correlation in actual growth rates ing countries, and even more, the question of demon- is close to zero. That reminds us that there is more seren- strating that resources are being effectively used to make dipity of various things than we might at first suppose." a positive difference is causing difficulty. [Some say] that problems can only be solved by foreign aid. But the World Bank Compensates Russian Enterprises for Not greater emphasis should be on a country's own efforts Producing Ozone-Depleting Substances to create an environment where things can succeed. In early August the World Bank announced payment of Third, development is a process rather than an accu- $17.3 million in compensation to seven Russian enterprises mulation. There is a tendency to see development as that have ceased production of chlorofluorocarbons and the accumulation of something necessary. For a while it halons, the most potent ozone-depleting substances was infrastructure. For a while it was incentives. For a (ODSs), which were used in refrigeration, air conditioners, while it was human capital. There's obviously truth in those and aerosols or as solvents and fire extinguishers. Russia paradigms, and each of those investment areas do have was once one of the world's largest producers of ODSs high returns, but if you look at the societies that succeed and in 1998 accounted for half the world's production ca- in developing, they are societies where selfishness has pacity of chlorofluorocarbons and halons. The funds for D 2002 The World Bank 'IrRANSI1ION, JUly-August-September 2002 the compensation payment to the seven enterprises development. "This is the second largest international de- come from a group of donors organized by the World Bank velopment assistance program in the world after India [which] and known as the Special Initiative for ODS Production reflects the extraordinary potential and opportunities in Viet- C Closure. It includes 10 donor countries (Austria, Denmark, nam," said Hanoi-based outgoing Country DirectorAndrew Finland, Germany, Italy, Japan, Norway, Sweden, the United Steer in a statement. He will be succeeded by Klaus Kingdom, and the United States) and the Global Environ- Rohland, previously the Bank's Sydney-based country di- ment Facility. This payment brings to $25 million the group's rector for East Timor, Papua New Guinea, and the Pacific total compensation to Russian enterprises. The total sum islands. The World Bank opened its Vietnam office in 1993 allocated to this project is $60 million. and Andrew Steer became the first country director in 1997. The Bank's outstanding lending commitment is $3.8 bil- IMF Report Card on Poland lion, of which $1.7 billion has been disbursed. The Polish economy should grow 1 percent this year Ukraine: EBRD's New Strategy ... and 2.75 percent next year, assuming that inflation re- mains under control and the central bank will have room to Cooperation between Ukraine and the European Bank for trim its interest rates, said an IMF fact-finding team in Sep- Reconstruction and Development (EBRD) will focus on oil tember following a visit to Warsaw. An economic expan- and gas transportation, municipal water and heat supply, sion of about 5 percent between 2004 and 2006 should be and small and medium enterprises (SMEs), according to possible as long as the global economy improves, espe- a new strategy for 2003 adopted by the EBRD's board cially in Western Europe. The IMF, noting that Poland's during its September 3 meeting. To facilitate activities by inflation rate is at a record low, joined government calls for microenterprises and SMEs, the EBRD plans to work the central bank to cut rates again. through its Microfinancing Bank and provide direct credit lines to several banks, said EBRD Director Yury Poluneev. IMF Is more Humble, Says Its Chief The EBRD also plans to help the nonbank financial sector, including the development of mortgage finance, leasing, IMF Managing Director Horst Kohler said that the IMF had a and insurance. For Ukraine, EBRD-supported projects have lot to learn about preventing financial crises. Speaking in reached a total of E850 million Those include E1 80 million Japan, Kohler said that the Fund was now more humble for energy; E100 million for agriculture; E35million for mu- about giving advice to its borrower countries, pointing to the nicipal infrastructure, mostly water supply; and E10 million recent failure to prevent the financial crisis in Latin America. for real estate and hotel businesses. "To resolve home-grown problems, no external advice, how- ever sound, and no amount of extemal financing can substi- . . . and Consultations with the IMF over Cooperation tute for self-responsibility and political cohesion in a society,' he said. "The lessons of the Asian crisis have already led to On September 11 Ukraine's Cabinet of Ministers started many important changes in IMF policies and internal cul- consultations with experts from the local IMF office on ture," Kohler said, adding that there had been "a near-revolu- possibilities for further cooperation with the Fund after the tion in transparency," as well as a push to accelerate action expiration of the Extended Fund Facility on September to prevent financial emergencies. He also said that the inter- 3, announced Deputy Prime Minister Vasyl Rohovy. Ear- national financial system was more resilient today than it lier, President Kuchma had suggested that Ukraine should was before the Asian crisis, but added: "The fact that it was gradually switch to nonlending cooperation with the IMF. not possible to avoid the current difficulties in Latin America Ukrainian officials had previously suggested that they may suggests that we still have a lot to learn." seek a precautionary stand-by or Contingency Credit Line. [Editor's note: The CCL allows countries that have met World Bank's Mammoth Program for Vietnam certain preconditions to augment-at low cost-the for- eign exchange reserves they can draw on in a crisis. The The World Bank has approved $3 billion in assistance to knowledge that these resources are available may in it- Vietnam over the next four years to help keep the country's self serve to deter speculative attacks.] In the event, economic reforms on track as part of the Bank's strategy Ukraine increased its foreign reserves to the equivalent of for Vietnam for 2003-06. The country assistance strategy eight weeks of imports, and is therefore in no immediate lays out a lending program of $300 million to $760 million need of external financing. The World Bank is getting a year to support poverty reduction efforts, focusing on ready to provide Ukraine with a $250 million loan under rural and urban development, infrastructure, and human the Second Programmatic Adjustment Loan. TRANSIl I[ON, July-August-September 2002 C 2002 The World Bank EBRD Report: Russia Capital Flight Amnesty Unlikely highly dependent on the operations of a few companies, to Succeed whose profits in turn depend on the dynamics of commod- ity prices. With this trend continuing, economic growth in Russian capital held offshore is unlikely to return to the Russia will inevitably slow down once these companies -. country in large amounts even if the government declares approach their maximum capacity, even if oil prices re- a tax amnesty, said the EBRD. Much Russian money main high, wamed Thomsen. (Source: Polit.Ru, Russia's held abroad left the country in violation of its tough cur- political news channel). rency and taxation laws. The government is considering declaring an amnesty on the money its citizens hold off- IFC Equity Investment in Western China-Based shore in a bid to bring billions of dollars back home and Bank boost investment in the economy, but EBRD economists said that until the country's investment climate improves, The International Finance Corporation (IFC )-the private Russians are unlikely to bring their capital home. "Amnes- sector development arm of the World Bank-together with E] ties cannot provide the solution to the underlying invest- Canada's Scotiabank, signed a memorandum on Sep- ment climate problems," said the EBRD, adding that an tember 11 with Chinese partners to undertake an equity amnesty would only succeed "in the immediate aftermath investment in Xi'an City Commercial Bank (XACB). This first of a fundamental break with past policies" that were re- investment in a financial institution located in China's west- sponsible for driving the capital offshore in the first place. em region will strengthen XACB's capital base and help the "Russia is not in a position to claim that now," the EBRD bank adopt advanced international managementsystems. concluded. XACB was established in May 1997 through the con- solidation of 42 urban credit cooperatives. It has a diver- An EBRD report authored by EBRD Chief Economist sified shareholding structure, with 22 percent owned by Willem Buiter and Senior Economist Ivan Szegvari said the Xi'an city government and some local state-owned that significant capital outflows are likely to continue over enterprises and 78 percent owned by more than 450 the medium term. Any reduction is likely to be gradual and SMEs and 12,800 individuals, including most of XACB's linked to institutional reforms, such as reform of public employees. XACB's customer base is primarily local, pri- administration and the banking sector. The report also said vate, SMEs. To date this sector has been underserved by that the government lacks the credibility to convince citi- the established banking system in China. For more infor- zens that it would stick to the terms of the amnesty. Most mation on XACB (in Chinese) go to www.xacbank.com. experts estimate that between $20 billion and $25 billion left Russia each year during the 1 990s. Some of the money ... Assistance with Drafting Uzbekistan's New Leas- held offshore was earned illegally through crooked busi- ing Rules... ness deals, but a great deal of it is thought to be legiti- mately earned capital fleeing high tax rates, corrupt state Financing options for SMEsin Uzbekistan have improved officials, and criminals. Despite three successive years of considerably through a new leasing decree developed with strong economic growth, foreigners remain reluctant to in- the support of IFC experts. Decreed by Uzbek President vest in Russia, and the government's attention has increas- Islam Karimov at the end of August, the new rules will ingly turned toward Russian capital held offshore. help increase SMEs' access to credit for business ex- pansion and will remove the significant tax barriers to IMF Recommends That Russia Accelerate Structural leasing in Uzbekistan, leveling the playing field for leas- Reforms ing and bank loans. IFC has worked in the leasing sector in Uzbekistan since 1995; was one of the founding share- Russia needs to accelerate reforms of its banking sector, holders in the first Uzbek leasing company, Uzbek Leas- natural monopolies, and public services to reach a high ing International; and recently loaned the company $2.5 and stable level of economic growth, pointed out Paul million to increase its available lease capital. Leasing is a Thomsen, director of the IMF's Moscow office, during a key source of medium and long-term financing for SMEs recent press conference. Thomsen emphasized that in transition countries, improving their access to capital progress in these sectors is needed to attract investment by basing their credit risk on their projected generated in SMEs. The main goal of structural reforms should be to cash flow rather than on their credit history or collateral. reduce the excessive intervention of government agencies IFC has advised 35 countries on developing leasing, and in economic processes. Investment levels outside the en- invested almost $1 billion in leasing operations in 50 coun- ergy sector remain low. The Russian economy remains tries over the last 30 years. C 2002 The World Bank TRANSITION, July-August-September 2002 ...and Help Developing Croatia's Mortgage Finance able micro-enterprises and often cite credit as the primary constraint to business growth. lFC is supporting Croatian home buyers with a E20 million loan to Erste & Steiermarkische Bank, a leader in Croatian Other World Bank Loans mortgage finance. As part of the agreement, signed on Sep- tember 3, IFC will provide the Bank with a 10-year line of Montenegro: $20 million IDA credit, in part for structural credit, which will enable it to provide more residential mort- adjustment ($15 million) and in part for energy sector mod- J F gage loans, thereby deepening the mortgage market and emization ($5 million). The agreement was signed in early offering new opportunities for home buyers The financing September between Rory O'Sullivan, the World Bank's coun- J' follows IFC's provision of a E16 million credit line in 1999 to, try manager of the Belgrade office, and Acting Federal Fi- support Erste & Steiermarkische Bank's lending to SMEs. nanceMinisterVeroljubDugalic.Thecreditwillcarrya20-year term and a 10-year grace period ~ 1 IFC/EBRD Initiative to Promote Micro- and Small Busi- nesses in Central Asia Croatia: $25.7 million loan for the Real Property Registra- tion and Cadastre Project, which will help build an efficient To support micro- and small enterprises in Kazakhstan, land administration system and real property markets. The the Kyrgyz Republic, Tajikistan and Uzbekistan a $155 total target under the project is approximately 250,000 hect- million initiative has been launched by the IFC ($45 mil- ares, involving about 1.05 million parcels, and would benefit CJ". t . lion), the London-based EBRD ($107 million), and the Swiss about 360,000 people, including 110,000 landholders in more . ;> . > Secretariat for Economic Affairs ($3 million). The initiative than 15 cities, several islands, and other areas by stream- . < f will give a major boost to the local banking sector, provid- lining procedures and reducing processing times. > ing credit lines to local banks for on-lending to micro- and small enterprises. The initiative in the four Central Asian Croatia. $27.3 million loan for the Pension System In- countries will help bndge the gap between local banks and vestment Project, which will improve the effectiveness > , micro- and small enterprises, which are currently and transparency of the country's pension system and underserved by existing financial institutions. Selected strengthen the capacity of agencies that operate and iu . banks that employ the credit facility will benefit from a com- regulate the new multipillar pension system. Since *_t . prehensive technical assistance program that will Croatia joined the World Bank in 1993, the Bank has strengthen their lending and operational capacity. More supported 20 projects with about $1 billion in loans and MO than 500 million poor people around the world run profit- a number of grants surpassing $17 million. 11110t New Books and Working Papers World Bank Publications David Ellerman and Vladimir Kreacic, Transforming the Old into a Foundation for the New: Lessons of the To receive ordering and price information for World Bank Moldova ARIA Project, WPS 2866, July 2002, 19 pp. W^b . ...publications contact the World Bank, PO. Box 960, Hemdon, VA 20172, United States; tel.: 703-661-1580, This paper is a case study of one of the most success- fax: 703-661-1501, email books@worldbank org, URL: ful projects in any country in the Europe and Central X 4 http://www worldbank.org/publications, or visit the World Asia region, which also happens to be the poorest coun- O Bank InfoShop at 701 18th Street, N. W, Washington, try of the region-Moldova The Agency for Restructur- D C, tel.: 202-458-5454. ing and Enterprise Assistance (ARIA) project shows new 0t ways to attack some of the most intractable problems e . ( Working Papers of private sector development in Europe and Central Asia, http://econ.worldbank.org/ to facilitate reorganization and liquidation bankruptcies, and to promote small and medium enterprise spin-offs Michael Lokshin and Martin Ravallion, Rich and Pow- and new start-ups. The prime mover for these programs i erful? Subjective Power and Welfare in Russia, is the quasi-public restructuring agencyARIA, which was W9- : WPS 2854, June 2002, 45 pp. Continued on page 77 ( - FTRANSITrON, July-August-September 2002 C 2002 The World Bank , *. '., ,, ', ! Digital Divide or Digital Diffusion? By Richard Rose Studies of the Internet are full of references to a digital divide, referring to the fact that access to the Internet is not equal within or between countries. In several countries more than half the population can access the web. By contrast, in many poor countries both the educated and the uneducated alike lack access. Representative sample surveys can not only identify the percentage of users in a society, but car. also reveal the characteristics of people who do and do not use the Internet. Furthermore, surveys yield information about how people use the Internet and yield insight into whether nonuse is due to poverty, ignorance, or lack of motivation. S ince the days when the Rothschild family used computer facilities, Internet access is becoming pro- carrier pigeons to speed the free flow of informa- gressively cheaper. tion across the principalities of the Holy Roman Empire, information has moved readily across borders. Measuring Internet Use Today the rapid movement of information is central to main- taining the EU's single Europe market. It is also impor- Computers and telecommunications facilities are nec- tant for labor mobility, enabling migrants to keep in touch essary conditions for Internet use, but by themselves with their homes and signaling job opportunities to people are insufficient. Use of the Internet requires at least a who live in places with a high unemployment rate. The minimum degree of computer skill. The development of free flow of information is important in Transparency icon-based programs has been a major step forward in International's anticorruption campaigns and, as Karl promoting computer point-and-click literacy. Govern- Popper and North Korea remind us, it is critically impor- ments must not only promote low-cost and high-access tant for an open society-and for its enemies. telecommunications, but must also allow their citizens freedom to communicate with foreign countries. Where Internet access is especially important in the transition Internet access is growing most rapidly, far more people countries, because the transition process is about open- are signing on than there are PCs. Educational institu- ing up a country to the world. The readiness of Central tions and some public libraries offer Internet connec- and Eastern European postcommunist countries to ap- tions for multiple users and the market encourages ply for membership in the EU is one example of opening multiple users through Internet cafes. In poor countries up. China's entry into the World Trade Organization and the scribe with an ancient typewriter is being replaced Russia's newly expressed desire to join are other ex- in the bazaar by an entrepreneur with a cell phone and amples. While technology permits information to flow an Internet connection that users can pay for by the freely, realization of its full potential is blocked by eco- minute. nomic, social, and political obstacles. The critical ques- tion for transition countries is whether the current divide When the New Europe Barometer survey asked citizens is more or less permanent or is temporary. in 11 postcommunist countries whether or not they used the Internet, their replies showed substantial differences Insofar as diffusion occurs, sooner or later the digital between leading and lagging countries. The leading coun- divide will erode. In the case of the enormous gap try was Estonia, where three in eight adults sometimes between Europe and Africa, the Internet did not cause used the Internet. At the other extreme were Bulgaria, the gap neither can it close it. Within the EU the gaps Romania, and Russia , which also lag behind other tran- are substantial, but Internet access is now sufficiently sition societies on many material indicators of develop- widespread in such countries as Greece and Portugal ment. However, GDP per capita is insufficient to account for catching up to occur as the Scandinavian countries for differences in Internet use. Estonians have less reach the limits of access. What is true of Mediterra- money than Czechs or Slovenes, yet their Internet use nean Europe is also true of the postcommunist coun- is higher (see figure next page). The average 20 percent tries of Central and Eastern Europe and of developing level of use in postcommunist countries places these middle-income countries on other continents. As techno- economies between two extremes of the digital divide: logical progress results in a drop in the cost of standard between the African nations and current EU members. C) 2002 The World Bank TRANSITION, July-August-September 2002 Figure 1. Internet Use in Post-Communist inference is inconsistent with the fact that Estonians Countries and Slovenes have three to four times the Internet use of Russians, even though the three countries' populations Estonia 38% differ little in education levels and age structure. * Czech Rep 33% ?.'l' Slovenia 330% Slovenia 30 -Rapid diffusion of the Internet within a society depends ., *- Latvia 20% much more on how fast it can spread among laggard u-i., > Slovakia 19% groups of the population. The first obstacle to diffusion Lithuania 19% is ignorance of the web. The annual study of Internet Poland 18% trends ("Face of the Web") by the international research Hungary 14% firm Ipsos-Reid shows that even in the poorest coun- tries, Internet awareness is substantial, especially among E Romania urban populations. In countries such as Poland and Russia _8% Bulgaria 7% Russia, where the young and educated are already online 0% t0 10% 20% 30% 40% 50% or about to go online, there are three sets of obstacles. Sources: Centre for the Study of Public Policy New Europe First, many people see no need to use email or the Barometer nationwide representative sample surveys (autumn, web. Second, many people do not know how to use a 2001); New Russia Barometer 10 survey (summer, 2001). Total computer or lack access to a computer at work or at number of interviews: 13,0`10. For more details seecoptrrlakcestoaomuratwkort www.cspp.strath.ac.uk home. Third, and much less important, is the cost of access. Within a country variations in access reflect age and education differences, for example, more than one-sixth In countries where one in five adults has access to the of Russians under the age of 29 are Internet users, Internet, the potential for rapid diffusion is great, because while only 1 percent of Russians over the age of 60 use of incentives for people of different ages and education the Internet. Almost one-third of older Russians have levels to learn to use the Internet. Central and Eastern never heard of the Internet, but only a small percent- European countries are moving to a situation in which age of young Russians are unaware of it. Education is you can contact many people if you have email access. an important influence too. Practically all Internet us- If one shopkeeper or farmer obtains a competitive ad- ers have completed at least a secondary school or a vantage by checking out prices of suppliers or competi- specialized vocational school. A university degree tors on the web, others have an incentive to do the same doubles the likelihood that a Russian uses the Internet. if they want to stay in business. Families whose mem- Employees in new enterprises are most likely to be bers are dispersed across the country or the world can Internet users, followed by the self-employed. Employ- use email to communicate across the generations. Un- ees in state enterprises and public employees, includ- der such circumstances the cost of occasional visits to ing nurses and low-level civil servants, are less likely an Internet cafe become negligible. to be Internet users. Implications Nevertheless, Internet use is expanding with lightening speed in Russia. Between January 2000 and July 2001 Within a country the diffusion of Internet use reduces Barometer surveys showed that the estimated number inequalities in access to information. It also increases of Internet users increased at about 25 percent a year. integration across national boundaries, as the web is This implies that in a few years time about one in five global in its reach. It enables citizens and organizations adult Russians will be using the Internet. Russia's dy- in EU accession countries to become part of the main- namism in not unique. Surveys in many countries cur- stream of Europe far faster than could the residents of rently ranked somewhere in middle of global rankings of small towns and rural areas of France and Italy following Internet use show that double-digit annual growth in the establishment of the European Community in March Internet access is widespread. 1957. The Internet will also make it much easier for na- tionalities with a dispersed diaspora population to main- At first glance the influence of age and education im- tain contact across continents. plies that diffusion of the Internet will require time, until the new, computer-literate generation takes over and the In business, access to the Internet increases opportuni- cohorts of older nonusers fade away. However, such an ties for just-in-time exports. It also enables consumer T RANSImION, July-August-September 2002 C) 2002 The World Bank goods manufacturers to advertise their wares widely of 280 million people or a Europe approaching half a across continents. The Internet can put labor recruit- billion people, scale stretches the trickle-up theory of ment on a more open basis, for example, enabling every interpersonal trust to the vanishing point. The Internet computer programmer in Hungary to scan the web to makes it uhnecessary for individuals to meet face to find out what job vacancies exist in his or her field in face. The impersonality of requesting information or en- Germany. titlements from the government via the web can be an advantage in societies where the bureaucrats you meet Political parties have been quick to use the web to pub- face to face may be passive and unresponsive and the licize their activities, thereby becoming less dependent personal touch involves favoritism or corruption. Insofar on the partisan press. Some NGOs are creating a vir- as the diffusion of the Internet continues, it offers people tual civil society, using the web rather than street dem- whose contacts with the wider world were previously onstrations to propagate their messages and recruit restricted by political repression and relative poverty an supporters. Whistle-blowers can drop into an Internet opportunity to become more readily integrated in an in- cafe to give national publicity to a confidential govern- creasingly open world. ment document indicating the existence of corruption. Richard Rose is director of the Centre for the Study of The diffusion of the Internet can turn social capital into Public Policy, University of Strathclyde, Glasgow, and virtual capital. In his major work, "Making Democracy convenorof the Global Barometer Survey Network, which Work," published in 1993, Robert Putnam described covers Africa, Latin America, and East Asia as well as democracy as being built on foundations of interpersonal postcommunist countries. His latest book is Elections trust between people who saw each other regularly in without Order: Russia's Challenge to Vladimir Putin (Cam- choirs or bowling leagues. While this model may have bridge, U.K.: Cambridge University Press, 2002), with applied to Tocqueville's rural America, in a United States Neil Munro. For more details see www.cspp.strath.ac.uk. Europe's E-Readiness Is Closing in on the United States The Economist Intelligence Unit's New Ranking "Despite the dotcom bust, the Internet is still reshaping For example, the Netherlands has moved into 2nd place the way companies do business, and countries' e-readi- from 10th place in 2001 (see the table), and northern ness will be a vital feature of the global competitive land- Europe now claims most of the other top spots, thanks scape." With these words Daniel Franklin, editorial not only to sophisticated information technology (IT) in- director of the Economist Intelligence Unit (EIU) com- frastructure and high mobile phone penetration, but also mented on the release of the EIU's latest e-business to smart government policy and a good overall business rankings. ("E-readiness" is shorthand for the extent to environment. Asia, Latin America, and Africa trail further which a country's business environment is conducive to behind, but a few standouts in each region have made Internet-based commercial opportunities. It is a concept significant gains: Venezuela, for instance, improved its that spans a wide range of factors, from telephone pen- ranking from 47th in 2001 to 37th in the current rankings. etration to online security to intellectual property pro- tection. The EIU developed the criteria for the e-readiness The following are among the main conclusions suggested rankings with the support of IBM Global Services.) by the new rankings: Altogether 60 countries are included in the list. The United * Western economies take the lead. North America States leads the pack, as it did in 2000 and 2001. How- and Western Europe dominate the top 10 places in our ever, partly because of changes in methodology and rankings, with Australia the lonely outsider. These coun- mostly because of developments in countries' infrastruc- tries score highest both because consumers and busi- tures, regulatory environments, and economies, signifi- nesses have embraced the Internet, and because their cant shifts are apparent further down in the rankings. economic and political stability and openness to foreign D 2002 The World Bank TRANSITION, July-August-September 2002 investment make them good bets for all kinds of busi- * Business culture is decisive. The United States tops ness, particularly e-business. the rankings because of the degree to which the Internet * E-business is less uniformly developed outside has become embedded in commercial culture. Nowhere Western Europe and North America. Transition econo- is so much business conducted over the Internet so mies have a mixed record: from the 27th place (Czech routinely. This explains why the United States scored Republic and Hungary) to the last two (Kazakhstan and highest in the category for e-business supporting ser- Azerbaijan) they are spread throughout the ranking. vices (the consulting and IT services and back-office Singapore and Hong Kong (China) lead the pack in Asia, solutions used to facilitate online business), as well as taking 11th and 13th places, respectively, while Viet- in the social and cultural category, which considers, nam and Pakistan languish at the bottom of the heap, in among other things, the degree of innovation and entre- 56th and 57th places. In the Middle East and Africa, preneurship in business. It also explains why Singapore Israel alone ranks among the top 30 countries. and Hong Kong (China) rank as the most competitive * Bigger is not always better. The United States may telecommunications markets in the world and among rule the roost, but many of the world's largest econo- the best equipped, yet do not figure among the top 10 mies, including France, Germany, and Japan, are out- countries. While high-grade infrastructure is important, paced by smaller, more agile competitors, such as the more important is how people use it. Netherlands, Sweden, and Switzerland. What sets these * Infrastructure is still evolving. Even top-ranked coun- countries apart is the broad accessibility and affordability tries have not yet satisfied consumer demand for fast, of the Internet, thanks to state-of-the-art IT infrastruc- cheap, secure, and reliable Internet connectivity. High- ture and high per capita income. speed, broadband services are not universally available, E-readiness Ranking, 60 Selected Countries, 2002 and 2001 (highest score is 10) 2002 2001 E-readiness 2002 2001 E-readiness ranking ranking Country score ranking ranking Country score 1 1 United States 8.41 31 30 Poland 5.52 2 10 Netherlands 8.40 32 33 Malaysia 5.50 3 3 United Kingdom 8.38 33 35 South Africa 5.45 4 (tie) 11 Switzerland 8.32 34 36 Brazil 5.31 4 (tie) 6 Sweden 8.32 35 31 Argentina 5.14 6 2 Australia 8.30 36 32 Slovakia 5.00 7 9 Denmark 8.29 37 47 Venezuela 4.91 8 12 Germany 8.25 38 38 Colombia 4.77 9 4 Canada 8.23 39 40 Peru 4.43 10 8 Finland 8.18 40 37 Turkey 4.37 11 (tie) 7 Singapore 8.17 41 48 Bulgaria 4.25 11 (tie) 5 Norway 8.17 42 43 Sri Lanka 4.05 13 13 Hong Kong China) 8.13 43 45 India 4.02 14 16 Austria 8.10 44 52 Romania 4.00 15 14 Ireland 8.02 45 42 Russia 3.93 16 19 Belgium 7.77 46 46 Thailand 3.86 17 15 France 7.70 47 44 Saudi Arabia 3.77 18 20 New Zealand 7.67 48 40 Egypt 3.76 19 22 Italy 7.32 49 39 Philippines 3.72 20 16 Taiwan (China) 7.26 50 50 Ecuador 3.68 21 21 South Korea 7.11 51 49 China 3.64 22 24 Spain 7.07 52 54 Indonesia 3.29 23 26 Greece 7.03 53 50 Iran 3.20 24 25 Portugal 7.02 54 52 Ukraine 3.05 25 18 Japan 6.86 55 56 Nigeria 2.97 26 23 Israel 6.79 56 58 Vietnam 2.96 27 27 Czech Republic 6.45 57 60 Pakistan 2.78 28 29 Chile 6.36 58 54 Algeria 2.70 29 28 Hungary 6.05 59 57 Kazakhstan 2.55 30 34 Mexico 5.67 60 59 Azerbaijan 2.38 TRANSITION, July-August-September 2002 C 2002 The World Bank and Internet-ready mobile phones are still in their in- Working in association with IBM's Institute for Business fancy, even in mobile-crazed Scandinavia. Value, the EIU adjusted the rankings framework to take * Governments have wide influence. Internet busi- into account the shift away from the dotcom era's empha-. ness thrives when governments have a clear strategy- sis on e-commerce to the new imperatives of corporate . and money to spend-to develop IT infrastructure. But efficiency, security, and global connectivity. The six cat- that is not the only area for official involvement. Suc- egories that feed into the rankings (and their weight in the cessful e-business depends on a strong legal frame- model) are connectivity and technology infrastructure (25 work that protects private property and encourages percent), business environment using 70 indicators cov- cm entrepreneurship. Increasingly, it also requires Internet- ered by the EIU's business environment rankings for 60 specific legislation. In the crucial category of the legal countries (20 percent), consumer and business adoption and policy environment, Australia comes in first, followed (20 percent), social and cultural infrastructure (15 percent), by Sweden, Switzerland, Finland, and the United King- and legal and policy environment (15 percent). dom. Other countries-even those without a strong e- business culture, such as Chile and Mexico-are The EIU is the business information arm of the Econo- enacting smart Internet legislation, recognizing that good mist Group, 15 Regent Street, London SWIY 4LR, laws promote industry growth. www.store.eiu.com. Occupational Health Hazards Facing China's Workers and Possible Remedies By Su Zhi, Wang Shang, and Steven P. Levine A national law on preventing occupational illnesses finally became effective in China in May 2002. It enables workers to seek legal redress if their employers violate their right to be protected from working in dangerous environments. Earlier, China's health authorities had published a report that focused on employers, who often ignored the necessary protective measures. As a result, health conditions associ- ated with a poor working environment are plaguing a large number of workers. Based on a series of surveys of occupational health risks in township industries, the authors analyze some of the underlying problems. In 2001 China's Ministry of Health received reports of enterprises (TVEs) have been established and have be- 13,218 cases of occupational diseases a 13 percent come a major component of China's economy; how- increase over 2000, when 2,352 people died as a result ever, 60 percent of these have minimal industrial safety of such diseases. "Due to incomplete reports, this is measures. Workers employed in industries involving coal only the tip of a huge iceberg of health hazards at the production, metallurgy, building materials, nonferrous workplace in China. The actual statistics are far worse," metals, machinery manufacture, and chemicals run es- warns Su Zhi, a Ministry of Health official responsible for pecially high risks of suffering from occupational ill- implementing the new law. According to a ministry re- nesses. These small and medium enterprises have port based on a survey of half of China's 31 provinces, spread rapidly in rural areas because of their dyna- autonomous regions, and municipalities, fewer than 30 mism and flexible ownership structure: they can be percent of workers exposed to dusty environments have collectively owned, individually run, take the form of received health checks for pneumoconiosis, the deadly joint stock cooperatives, or, more recently, can be lung disease caused by inhaling dust or small particles. funded by foreigners. As of 1999 TVEs accounted for Together with chemical poisoning and leukemia, it has 50 percent of total production, and exports produced become one of the leading causes of workers' inability by TVEs accounted for 40 percent of the national total. to continue working at ages younger than normal retire- In 1999 China had 20.71 million TVEs employing more ment age. than 120 million rural workers out of a total national labor force of 700 million. Currently one out of every As a result of rapid industrialization over the past two five rural laborers works in a TVE, and TVEs have ab- decades, more than 20 million township and villaqe sorbed 50 percent of the total surplus rural labor force. C 2002 The World Bank TRANSITION, July-August-September 2002 Policymakers hope that TVEs will eventually absorb availability and quality of local occupational health ser- more than 140 million surplus farm laborers, or some 30 vices to determine whether a disparity existed between percent of the estimated rural labor force. available and required services. -u Health Risks Scrutinized The investigators found at least one occupational haz- ard in 83 percent of the workplaces surveyed, and con- u To evaluate occupational risks and the occupational cluded that about one-third of all employees were '= health service needs of rural industries, the Ministry of exposed to those hazards (table 1). The 10 industrial Health and the Ministry of Agriculture carried out a joint sectors with the greatest number of workers exposed to study that covered 30 sample counties in 15 provinces. hazards are shown in the table. These sectors ac- The study was based on an industrial hygiene survey counted for 79 percent of all exposed workers in all sec- carried out for all industrial TVEs in these 30 counties, tors. The more developed the region, the lower the but was extended to small workshops owned by indi- proportion of workers directly exposed to hazards. viduals or families working together in 8 townships in 4 of the counties. Altogether almost 30,000 entities were At about 40 percent of work sites where enterprises were involved, and the survey evaluated 3.1 percent of all TVEs. not in compliance with national occupational health stan- dards for workplaces, hazard levels were 10 percent above The survey included monitoring of workplaces as well mandated minimums. The compliance rates for levels of as physical examinations of workers. Chest X-rays, three types of dust were all low: 7 percent for silica dust, Table 1. The 10 TVE Industrial Sectors with the Highest Worker Exposure to Hazards Industrial Number Number of enterprises Number Number of sector of enterprises with occupational risks of employees exposed workers Textiles 1,777 1,537 246,277 110,392 Production of construction materials 3,944 3,830 303,450 107,014 Equipment and machine production 3,532 3,088 227,049 72,651 Plastics manufacturing 2,361 2,051 226,229 49,049 Chemical industry 1,553 1,473 86,716 37,506 Metal processing 2,164 1,836 127,812 35,765 Construction material mining and processing 768 695 52,118 27,515 Coal mining and processing 218 217 22,671 16,834 Electrical machinery manufacturing 925 733 72,677 13,614 Electronic communication equipment manufacturing 548 414 82,554 12,406 Total (A) 17,790 15,874 1,447,553 482,746 Total for all industrial sectors (B) 29,246 24,183 2,108,994 607,922 (A)/(B) (%) 61 66 69 79 biological monitoring, and hearing tests were conducted 29 percent for coal dust, and 0 percent for asbestos. In for workers exposed to eight occupational hazards: lead, comparison, levels of chromium, benzene analogs, and benzene analogs, mercury, chromium, silica dust, coal lead were closer to mandated minimums. As concerns dust, asbestos dust, and noise. Workers suffering from noise pollution above 90 decibels, volumes were higher occupational diseases were diagnosed according to at 43 percent of total work sites, with noise at 23 per- standard procedures laid down by the Chinese health cent of sites being louder than 95 decibels. The compli- authorities. ance rate for noise pollution was only 33 percent. Current standards are 85 decibels for newly established indus- Another survey measured the attitudes of both employ- trial premises and 90 decibels for old ones. ees and employers of the same enterprises in relation to improving the occupational health situation and their Of 1,780 TVEs with hazardous working conditions, only plans as they pertained to these problems. This sur- 42 percent had any kind of ventilation equipment. Of those vey covered 30 employers and 100 employees from that had ventilation equipment, only 87 percent reported every sample county whose workplaces had to deal using it and 81 percent reported carrying out regular main- with occupational risks. A further survey assessed the tenance of the equipment. Physical examinations showed TRANSITION, July-August-September 2002 C) 2002 The World Bank that 4.4 percent of all employees had detectable occu- from 1.4 to 36 percent for the five categories of services pational diseases caused by the seven different types examined. of exposures listed earlier. In addition, 11 percent of sur- veyed employees had illnesses in which the workplace Health coverage for TVEs is especially limited in the ,; was the suspected, but not proven, cause (table 2). case of services that require complicated technologies or highly trained occupational health professionals. Other Ailing Health Services services, such as health inspections, physical exami- nations of workers, and workplace monitoring, were in- In rural areas preventive health services are provided by sufficient because of a lack of resources. In the 30 county-level health and epidemic prevention stations counties surveyed only 235 health professionals were Table 2. Rates of Occupational Diseases Number of Healthy Sick Suspected employees emplovees emolovees occupational illness Hazard examined Number % Number % Number % Silicosis 6,268 6,010 96 75 1.2 183 29 Coal workers' pneumoconiosis 1,653 1,582 96 18 1.1 53 32 Asbestosis 87 66 76 3 3.5 18 21 Chronic lead poisoning 1,085 800 74 45 4.2 240 22 Benzene analog poisoninga 3,071 2,916 95 16 0.5 139 45 Chronic chromium poisoning 330 293 89 37 11.0 0 0 Noise induced hearing loss 6,453 4,289 66 633b 9.8 1,531c 24 Total 18,947 15,956 84 827 4.4 2,164 11 a. Benzene, toluene, and xylene, measured separately. b. Hearing impairment in relation to sound frequency. c. Hearing impairment in hearing high frequencies. (HEPSs), township health centers, and village clinics. available at the HEPSs to provide occupational health In each county the HEPS is the primary center for medi- services, one-third of whom worked part-time. These 235 cal services, supervision, and technical assistance. health professionals serviced the needs of 170,613 state- Within each HEPS a small group (11.6 percent of all run enterprises and TVEs with a total of 3.2 million em- professional public health workers in the surveyed coun- ployees. In 1989 the average length of experience for ties) is responsible for occupational health services for occupational health workers working for the county the county's industries. Because of rapid industrializa- HEPSs and assigned to TVEs was a mere 78 days. tion in rural areas, most TVEs are unable to access the basic occupational health services offered at no cost by In 1989 the 30 counties had 895 township health cen- the HEPSs and the Institute of Occupational Health. ters, which included 1,736 people whose work was related to preventive, maternal, and child health care. For this study the investigators chose five routine occu- Of this total 993 people were involved to some extent pational health services and supervision activities of in providing occupational health services for TVEs; county HEPSs as indicators of the adequacy of occu- however, most had received no formal or professional pational health resources (table 3). Coverage provided training in occupational health. County governments' for TVEs was found to be extremely limited, ranging expenditures on health averaged 3 percent of total Table 3. County Provision of Occupational Health and Safety Services to TVEs Enterprises covered by Number of occupational health services Category enterprises Number % Preventive inspections 7,716 106 1.4 General industrial hygiene walk-though 55,461 19,767 36.0 Workplace hazard monitoring 55,461 2,164 3.9 Physical examinations of workers 55,461 1,494 2.7 Help with setting up occupational health recordkeeping 55,461 16,050 29.0 C) 2002 The World Bank TRANSITION, July-August-September 2002 local budget expenditures, that is, disease prevention Su Zhi is the director of public health inspection and and health inspections accounted for a mere 0.25 per- administration in the Department of Health Legislation cent of budget expenditures. The amount spent on oc- and Inspection, Ministry of Health, Beijing, 100044, fax: cupational health services was even smaller. 861-68792400, email: zhisu@hotmail.com. Wang Sheng is a professor and director of the Department of Occu- Few enterprises had health clinics for their workers pational Health, School of Public Health, Beijing Medi- | and 60 percent of employers did not pay for medical calUniversity, Beijing, 100083, fax: 861-62304145, email: insurance for their employees. No compensation of any wsheng@public.bta.net.cn. Steven Levine is a profes- kind was given to workers with occupational injuries or sor at the World Health Organization's Collaborating illnesses in 11 percent of the enterprises. Unlike in Center for Occupational Health, School of Public Health, state-run enterprises, only a small fraction of TVEs Department of Environmental Health Sciences, Univer- fully covered their employees' medical expenses and sity of Michigan, and the Institute for International Health, compensated them for occupational injuries and dis- Michigan State University, Ann Arbor, Michigan 48109- eases. 2029, fax: 734-995-2531, email: slih@umich.edu. For a complete list of references and data tables and figures Promising Pilot Project see the article "National Occupational Health Service Policies and Programs for Workers in Small-Scale In- Given the continuing rapid development of TVEs and dustries in China," American Industrial Hygiene Asso- the growing gap between the level of occupational health ciation Journal, vol. 61, 2000, pp. 842-49. services that can be provided and the level actually needed, the Ministry of Public Health decided to con- duct a further field intervention study using an expert group in the Department of Health Inspection. The ex- Health Care System Waits for Reform in pert group has drafted a national field study program Hungary for provincial governments that has started as a trial in four counties prior to nationwide implementation The program incluces the following: b, * Strengthening occupational health supervision and in- spection 4l * Coordinating improved occupational health services for rural industries with the goal of improving general health conditions in the country HfiM * Improving grassroots health organization networks so 9 i that they can deliver occupational health services and manage and supervise such services * Applying appropriate technology for hazard control and 1 personal protection * Implementing occupational health education programs * Assuring adequate human resources and better work- ing conditions for those employed in occupational health services * Increasing local governments' health budgets and the * - . proportion of occupational health expenditures within total health budgets. A developing, rapidly industrializing country will inevita- bly face many environmental and occupational health You were right. We should have paid the problems during the initial phase of industrialization; doctor more for this operation. however, the belief is that most of these problems can be controlled through preventive interventions by the government and by health workers. From the Hungarian daily Nepszabadsag TRANSITION, July-August-September 2002 © 2002 The World Bank Overcoming Textbook Misery in Uzbekistan By Tony Reed An innovative textbook rental scheme, based on British know-how and international financing, helps Uzbek students acquire the necessary textbooks and has triggered further reforms in Uzbekistan's edu- cation system. The project could be adapted for use elsewhere. The ability to maintain a regular supply of all the required User-friendly, open access libraries or resource centers school textbooks is high on the social policy agenda of with a wide variety of attractive materials in different me- all post-Soviet countries, and is one of a handful of critical dia formats and plentiful study places were unknown educational and social issues that deeply concern every parent. In Uzbekistan, the Cabinet of Ministers maintains Eleven years after independence, many of these charac- an interministerial committee that monitors progress on teristics are still in place. Well-written and relevant teach- the provision of school textbooks, and the government ers' guides to support new approaches to student learning has borrowed large sums of money from the Asian Devel- are still rare. Most school libraries in Uzbekistan have opment Bank (ADB) to reform school textbook supply as received no new library book stocks for at least 10 to 12 a basic plank of its education reform program. years, and there are virtually no computers in schools, and thus no Internet access. Access to information is In 2000 the British Council and International Book Devel- therefore difficult in most schools. Under these condi- opment, a U.K.-based education consultancy group tions the textbook has become virtually the sole source agreed with the Uzbek Ministry of Public Education and of subject information for both teachers and students. the ADB to launch an ambitious program based on Brit- Typically they are voluminous; crammed with facts, sums, ish technical know-how and aimed at breaking away from and exercises; dull in design and presentation; and lack- the rigid and highly didactic former Soviet education sys- ing in imagination and learner-friendly strategies and ap- tem. The latter is largely still in place, even though the proaches. An Uzbek eighth grade student is provided with ideological content of the curriculum was removed imme- four to six times more textbook content than a compa- diately after independence in 1991. The central issue in rable student in Western Europe. This is not only burden- the current reform program has been the urgent need to some to the student, but also extremely expensive. find an affordable and acceptable method of guaranteeing sustainable supplies of all core textbooks. Free Textbooks: A Distant Memory Soviet Legacy Although the latest curriculum seeks the rapid introduc- tion of activity-based, student-centered learning with a In Soviet times students got along well if they had a good clear emphasis on student research and discovery meth- memory and were willing to cope with long hours of home- odologies and encourages creativity, independent think- work. The basic learning and teaching methodologies were ing, and a questioning attitude, many teachers are the mechanical memorization of facts, the repetition of untrained in and uncertain about the new teaching and grades, and an avalanche of numbers and problems. Most learning techniques. Because of low pay, recruiting new problems had an accepted ideological answer and stu- teachers is problematic, and a high proportion of teach- dents had to learn these automatic responses. The sys- ers are approaching the end of their careers and have few tem rarely encouraged or valued independent thinking. incentives to adopt new approaches. The curriculum, syl- Educational standards and curricula were unambiguously labus, and textbook requirements mean that learning time targeted at the top 5 percent of students, and the rest is desperately overcrowded and allows little time for ex- were expected to cope as best as they could. perimentation, while alternative information is hard to ac- cess. So for most schools and most students the lofty School libraries, as understood in the West, hardly ex- objectives of the new curriculum have not been easy to isted in the former Soviet Union outside a handful of ex- achive, particularly when even the core textbooks have perimental schools. A typical Soviet school library was a not been available in most schools. tiny room with a few rows of cramped, tightly packed shelves of ideologically acceptable fiction, which were In Soviet times textbooks were loaned to students free of made available for borrowing td a few favored students. charge. They were supolied with onlv a sinqle textbook, D 2002 The World Bank 1RANSI'l-ION, July-August-September 2002 bulky enough to last at least four years. Textbooks turned of use and were under the full control of school textbook up reliably year after year before the beginning of the committees, which included both teachers and parents. school year, and even though More than 92 percent of parents * they were not designed to be .- paid their rental fees (the target attractive or user-friendly, they D, collection rate had been set at .U C> were taken for granted. ' 70 percent). O In recent years, however, most .r -  *. Opening a school bank account formerSovietrepublicshaveex- . - and accumulating funds under perienced great financial diffi- their own control was the num- culty in maintaining free supplies ber one priority for all the schools of textbooks to schools, and in the pilot program. Schools, E Uzbekistan is no exception. By r parents, and district education the late 1990s the government ,,, ., ' offices all responded enthusias- was providing free textbooks only -. -; tically, and districts not included to first grade students. In other ___ in the pilot demanded that the grades only a few students Uzbek student with rented textbook. scheme be extended as soon could receive free textbooks, bor- as possible. By November 2001 rowing them from school libraries if justified by their social the govemment had approved nationwide introduction of the situation. Most students were expected to purchase their textbook rental scheme commencing in September 2002. textbooks, but this was difficult for most parents, partly because they were expensive in relation to income, and Parents like the rental scheme because it has greatly re- partly because textbook availability was poor and many duced their annual cost of providing their children with text- textbooks were simply not printed in sufficient quantities books. Schools are supportive because they will now have to satisfy even the reduced demand. In 1999 a set of text- textbooks in sufficient quantities for all students in all core books for eighth graders purchased from a street trader subjects, and because the scheme provides them with could cost the equivalent of $15 at a time when the aver- school-based funds and decisionmaking capacity for the age monthly salary was significantly less than this. first time. The government will get rid of its annual head- ache of financing textbook supplies (except for the very Rental Scheme-New Concept poorest students) and will be able to invest the savings in other high-priority educational needs. In 2000 Intemational Book Development and the British Coun- cil proposed the introduction of a textbook rental scheme Reforms in the Pipeline funded by parents and supported by a school-based revolv- ing fund. The Uzbek Education Ministry agreed to test the The textbook rental scheme and revolving fund has thus concept on a pilot basis in 14 districts that included more created a chain reaction of educational reform. A new ADB- than 500 schools and 250,000 students, including some of funded project has now been approved, which will extend the poorest areas of the country. International Book Devel- the textbook rental scheme into all schools and into a se- opment designed the details of the scheme in close asso- lected number of minority languages in all subjects and at ciation with the ministry and assisted in the preparation of all grade levels over the next few years. The project also training materials and the delivery of training. specifies investment in library and resource center develop- ment, and the Uzbek govemment is interested in exploring The ADB paid for the printing of pilot sets of textbooks that the possibility of adding a computer revolving fund based on had been redesigned and respecified specifically for the parental contributions. A major teacher training investment pilot project. The British Council organized a national pub- is expected in 2003. The development of good, open-ac- licity campaign to inform all parents in the pilot districts cess school libraries will encourage students to engage in about the scheme. The textbooks were supplied to the research and to take responsibility for their own leaming. schools and the schools collected rental fees from parents and deposited the fees in interest earning textbook ac- The author is senior consultant on the British Council- counts in local banks. The fees, approximately $2.20 per led Basic Education and Textbook Development Project student per year, were calculated to accumulate in order in Uzbekistan, e-mail to the council public relations of- to purchase the required replacement copies after four years ficer: Natalya. Malyova@britishcouncil. uz. TRANSITION, July-August-September 2002 C) 2002 The World Bank High Priced-Low Priced: Global City Rankings by the Economist Intelligence Unit Worldwide Cost of Living, the biannual Economist Intelligence Unit survey, compares prices and prod- ucts in more than 130 cities around the world. Surveys are carried out in March and October each year. The survey's purpose is to provide companies with an unbiased and independent guide for calculating allowances for executives and their families being sent overseas. The Economist Intelligence Unit can calculate indexes based on any one of the cities. The data quoted here used New York as a base index of 100 for comparison purposes. The survey's main findings are as follows: movement. If, for example, a currency strengthens or I3 inflation pushes up the price of goods, then the rela- * The capitals of some of the transition economies, tive cost of living in that country will also rise. Bucharest, Belgrade, Budapest, and Prague, are the cheapest cities in Europe. Worldwide Cost of Living is now available from the * China: Accession to-the WTO and cheaper imports Economist Intelligence Unit online at http:// have meant that the cost of living in China has fallen wcol.eiu.com, by telephone on 44-20-7830-1007, or over the past 12 months, a trend that is likely to con- by email at london@eiu.com. For more detailed infor- tinue. mation on the survey please contact Bill Ridgers on * The Americas: New York (ranked 7th) and Chicago 44-20-7830-1118. For more information on the Econo- (10th) remain the most expensive cities in NorthAmerica. mist Intelligence Unit, go to www.eiu.com. Calgary (82nd) is the cheapest in North America, while Atlanta (63rd) is the cheapest in the United States. Fol- Worldwide Cost of Living, June 2002 lowing the economic crisis in Argentina and the collapse Rank 12 of the peso, Buenos Aires (120th) has dropped from Latin Rank 12 America's most expensive city to its second cheapest in the space of 12 months. Rio de Janeiro and Sao Paulo Tokyo (Japan) 1 129 1 are both comparatively cheap holiday destinations. Osaka Kobe (Japan) 2 127 1 * Africa: For the first time two African cities are in the Hong Kong (China) 3 115 3 top 10. With inflation of more than 100 percent, short- Beijing (China) 13 94 12 top u. 100 ~~~~~~~~~~~Shanghai (China) 18 91 17 ages of goods on the shelves, and a government dog- Guangzhou (China) 26 87 19 gedly holding on to an overvalued exchange rate peg, Moscow (Russia) 35 83 34 Harare has risen from 120th a year ago to 4th this time Dalian (China) 36 83 31 around, joining the perennially expensive Libreville (6th). Shenzhen (China) 43 81 27 The South African cities of Johannesburg and Pretoria Tianjin (China) 50 77 45 (both 129th) remain Africa's (and some of the world's) Ho Chi Minh (Viet Nam) 75 68 77 cheapest St. Petersburg (Russia) 80 67 89 * Asia: The Japanese cities of Tokyo and Osaka re- Kiev (Ukraine) 83 65 85 main at the top, although the gap between them and Baku (Azerbaijan) 86 64 98 third-placed Hong Kong (China) has narrowed. While Warsaw (Poland) 87 64 89 the most expensive cities are located in Asia, the re- Hanoi (Viet Nam) 88 64 85 gion is also home to some of the cheapest. New Delhi Zagreb (Croatia) 97 62 98 DliPrague (Czech Rep.) 106 59 108 (133rd) is the second cheapest, with a cost of living Phnom Penh (Cambodia) 109 56 115 less than a third of Tokyo's. Although the Australian Tashkent (Uzbekistan) 116 54 102 cities have risen in the rankings, their cost of living Budapest (Hungary) 118 51 121 indexes have remained relatively static, while the in- Belgrade (Serbia) 121 45 130 dexes of similarly ranked cities have fallen. Bucharest (Romania) 123 44 124 Johannesburg (South Africa) 129 38 122 A city's cost of living index will change over time for Pretoria (South Africa) 130 38 122 two main reasons: exchange rate movement and price Tehran (Iran) 131 30 131 C) 2002 The World Bank TRANSITION, July-August-September 2002 Articles provided by: ffiSITE Stockholm Institute of Transition Economics STOCKHOLM SCHOOL OF ECONOMICS - ..- Small Businesses Harassed in Russia Despite New Deregulation Results of a Business Survey * ByOlegZamulin The preliminary results of a survey undertaken last spring by the Center for Economic and Financial Research (CEFIR), a leading Russian economic think tank, with the financial support of the World Bank and USAID, indicated that despite the Russian government's efforts to deregulate, the mid-level bureau- cracy is still applying regulations that hamper the development of small businesses. Under a project funded by the World Bank and the U.S. the government. On average, registering a business Agency for International Development, in its spring 2002 takes about a month at a cost of Rub 5,000, more than survey Moscow-based CEFIR started assessing the im- double the amount prescribed by the law, and entre- pact of new regulations on small businesses. The project preneurs must visit five or six different government of- is to be conducted in several stages to track changes in fices to complete their registration. An interesting finding l the level of administrative barriers over time. The first was that a large proportion of firms, especially in Mos- round of surveys covered a large number of firms to as- cow, hire consultants to take care of the registration sess their experience with the simplified regulations. despite the extra costs incurred by doing so. Promising Deregulation Program... In addition, according to the new law no agency is sup- posed to carry out "planned" inspections more often *4 jThe deregulation program is a recent initiative of the than once every two years, although the number of "un- Ministry of Economic Development and Trade. Presi- planned" inspections is not regulated. However, CEFIR dent Putin has signed three laws intended to reduce found that the number of inspections was excessively r '~, the number of activities requiring licenses, simplify busi- high. For example, although police inspected only 20 ness registration procedures, and protect entrepreneurs' percent of the firms interviewed in the second half of rights during inspections. In addition, the Duma is cur- 2001, for more than half of these firms the number of rently reviewing the Law on Certification and Standards. visits during that period exceeded one. Although on ,zP. If these reforms succeed, a dramatic reduction in the average the regulatory problems may not seem to be IL--, regulatory burden is expected, allowing for a much freer serious, most firms suffer from problems associated and more mobile market economy. with irregular harassment by a particular bureaucrat. A suspicious finding in these cases was that in one-third ^i.. ', According to one of these new laws, which came into of these inspections the inspectors could not produce cf. ,, effect on July 1, 2002, the process of registering a new a warrant, and if they fined the business, in almost half business should take no more than five days and cost of the cases the level of the fine was unclear and was no more than Rub 2,000. The government also hopes not based on an official schedule. The most striking .-.> to establish a "one window" rule, meaning that an en- observation was, however, that the number of inspec- ;! , trepreneur would only need to visit a single government tions increased in the second half of 2001-whether agency in order to register. planned or unplanned-compared with the first half, even though the Law on Inspections came into effect in Au- ... But Inspector Visits Intensify gust 2001 and was supposed to reduce the number of ---J inspections. Whether this was caused by a seasonal The survey revealed that the specified times and costs pattern will only become clear after the second round : of registration are still wishful thinking on the part of of the survey. 0J,-. TRANSIrION, July-August-September 2002 © 2002 SITE © 2002 The World Bank ... and License Formalities Increase onstrate that entry is harder in regions with a higher con- centration of industry, but that the number of inspections The requirements for various licenses and permits also in such cities is actually smaller, which implies that the impedes the growth of small businesses. According to a larger firms apply pressure on local authorities to limit the new law that came into effect in February 2002, a license entry of new firms, apparently because of their fears of should cost no more than Rub 1,400 and should be valid the competition on the labor market. The number of in- for at least five years. Yet the survey showed that only 1 spections is also smaller in the cities, where local gov- percent of all licenses were valid for five years, and more ernments are more dependent on their own tax base, and were valid for less than three years as envisaged in the implies that the authorities in such cities have incentives previous law on licenses, and the median payment was to nurture local businesses. about Rub 8,000. Survey Design Enforcing the new law on licensing is hard, because many in firms currently possess a large number of illegal licenses. This project employs two survey instruments, one for older Thus in the second half of 2001 the firms interviewed ap- firms and one for recent entrants. The first survey instru- plied for a total of 700 different types of licenses and 336 ment records the burden imposed on firms by licensing types of permits. What these permits are for is not clear, and certification regulations, as well as the frequency and but many of them appear to be illegal and are required by length of sporadic inspections by representatives of differ- local inspecting agencies. Similarly, half of these licenses ent government agencies. The second instrument is de- and permits are for types of activity not mentioned in ei- signed specifically for new businesses, because one of ther the new law or the old law that was in effect before the primary goals of the de-bureaucratization program is to 2002. Furthermore, whether small firms will really be af- make it easier for new firms to start up. Hence this survey fected by the significant reduction in the number of types instrument adds a section on registration procedures in of activities that need to be licensed is not clear: 81 per- addition to sections devoted to licensing and registration. cent of all the licenses that the firms applied for in the second half of 2001 remain in effect under the new law. CEFIR plans to conduct five separate rounds of the sur- Further survey rounds will reveal whether such a reduc- vey. The first round was conducted in spring 2002, the tion actually takes place. next is scheduled for fall 2002, and the rest will take place annually in January 2003, 2004, and 2005. In each round CEFIR also examined various interfirm and interregional about 100 firms will be interviewed in each of 20 different differences and found that larger firms are subjected to a regions spread across the country. In each region 20 firms much harsher regulatory burden than smaller firms, which are recent start-ups and the rest are established firms. obviously impedes growth. Younger firms also have a harder time coping with all the requirements than estab- The author is a researcher at CEFIR, e-mail: lished firms. Intercity and interregional comparisons dem- ozamuliu@cefir.ru. Russia's WTO Accession: Scholars See Positive Effects By Ksenia Yudaeva Russia applied to the WTO in 1993, although active negotiations and discussions started only a few years ago after President Putin declared that WTO accession was one of the goals of his presidency. The current final stage of negotiations could be drawn out. Russia is reluctant to liberalize its service sector, despite the advantages once accession has actually taken place. Russia's WTO accession was the topic of a recent CEFIR conference held in Moscow. The conference, Negotiating Russia's WTO Accession: Conditions of Accession Strategic Lessons from Multilateral Trade Liberalization and Club Enlargement, was held in late June and ad- As Russia's accession will take place after the Uru- dressed such topics as the conditions of accession, guay round, Russia will have to accept more obliga- the current state of negotiations, and the expected ef- tions than countries that acceded earlier. The core fects of the accession for Russia. requirements that all countries that accede to the WTO C) 2002 The World Bank © 2002 SITE TRANSITION, July-August-September 2002 after the Uruguay round have to fulfill are as follows: have doubts about Russia's ability to fulfill its obliga- * Providing complete information about direct state in- tions in the future, making the negotiation process more terventions in the economy, including state trading en- problematic for Russia than the average would-be mem- terprises and price control ber. * Complying fully with WTO requirements on import li- censing, customs valuations, customs fees, rule of ori- Tariffs Russia's WTO accession does not coincide with gin, technical barriers to trade, food safety, and animal any major trade liberalization. Russia liberalized its in- and plant health measures ternational trade in the early- to mid-1 990s as part of the * Granting Most Favored Nation status to member coun- IMF stabilization program. It has already eliminated al- tries [Editor's note: This was recently changed to Nor- most all quotas and most tariffs are set below 20 per- mal Trade Relations status, as this is what it means in cent. Trade liberalization in Russia coincided with a deep practice] economic decline, and most Russians believe that trade E * Eliminating quotas prohibited by the WTO and provid- liberalization was one of the major causes of the de- ing information about others cline. Thus a number of strong lobbying groups insist on * Eliminating export subsidies an increase in tariffs during WTO accession. * Notifying members about trade-related investment mea- sures and conforming to the Agreement on Trade-Re- Price Control Price control is another important im- lated Intellectual Property Rights pediment to Russia's accession negotiations. Other * Conforming to traditional requirements, such as re- countries, mainly the United States and EU countries, ducing tariffs on goods, improving market access for insist on equalizing prices, which would apply to Rus- foreign firms in services, and reducing state support to sian natural gas sold both internally and externally. This agriculture, although the exact nature of this obligation request confronts strong opposition in Russia, because will depend on the outcome of the negotiations. implementation of this measure would significantly in- crease the domestic price of energy and could once Current State of Negotiations again render Russian manufacturing uncompetitive. Russia submitted its first market access offer in Febru- Agriculture Russian agriculture is largely still state ary 1998, and in spring 2002 the working party com- owned,thustranslatingRussianagriculturalsupportmea- pleted its report. This means that Russia is entering the sures into traditional WTO classifications of green, red, final phase of the accession process, in which it will and yellow light subsidies is difficult. [Editor's note: Red negotiate the conditions of entry and implement the re- light subsidies, which are contingent upon export per- quired legislative reforms. However, because of the many formance or on local content, are prohibited because disagreements between Russia and other countries, this they distort marketing decisions, that is, international final stage could take some time to complete. trade competition. Yellow light subsidies, the category into which most subsidies belong, are not prohibited, As an organization whose aim is to liberalize trade, the but if they adversely affect the trade interests of other WTO's aim during accession negotiations is to decrease WTO members, they can be subjected to countervailing trade barriers. The Russian case is unusual, because duty procedures or WTO dispute settlement. Green light when Russia applied to the WTO, its economy had a subsidies are permitted if used for research and devel- different structure from traditional nonplanned economies. opment, regional development, and environmental com- A number of sectors such as services did not exist, and pliance assistance programs.] Russia will most likely many important regulations had not been formally legis- have to bring its system of government support in line lated. Even now, after 10 years of transition, Russia still with the WTO Agreement on Agriculture and eliminate lacks legislation in a number of areas. This situation export subsidies before accession. had a direct consequence for the accession process, because for several years Russia was unable to provide Service Sector The most difficult negotiations concern the required information about regulations. Given the the service sector, most of which is new to Russia, for absence of formal rules and the set of informal rules that example, no proper financial sector existed under the governed the economy, authorities at different levels planned economy. The current position is largely affected enjoyed significant discretion. Thus when formal rules by lobbying groups from this new sector, which use the were introduced, the authorities failed to enforce many infant industry argument in their defense. Russia insists of them. Because of this a number of member countries on limiting the foreign presence in a number of service TRANSITION, July-August-September 2002 ( 2002 SITE Cl 2002 The World Bank sectors to allow the domestic sectors to develop, and Russian territory (branches are prohibited), but it also also insists on retaining a state monopoly in some ar- restricts the types of operations foreign banks can en- eas. Newly independent regulation agencies, which do gage in (lending is restricted). The situation is even worse not want to be subjected to international accountability, in the insurance sector. Foreign firms are prohibited from play an important role in this process. participating in the country's compulsory insurance schemes, which are vital for foreign insurance compa- The current Russian accession offer is extremely restric- nies' presence in Russia. tive. In the banking sector, for instance, the Russian offer not only set limits on the combined foreign equity share Another area of the service sector is telecommunications, and restricts the mode of operation of foreign banks on considered critical for the development of Internet-based Russia's WTO Entry in Perspective By Robert M. Stern The author, professor of economics and public policy at the University of Michigan, in his paper, "An Economic Perspective on Russia's Accession to the WTO," presented at the CEFIR conference in Moscow, reached the following conclusions: * Russia has made remarkable progress in achieving since 1993, and it is now apparently in its final phases. macroeconomic stability and structural reform, which will Pending the outcome of ongoing bilateral negotiations, help ease the process of adjustment to WTO accession. Russian accession may be completed by the time of * Russia's merchandise exports are concentrated in the next WTO Ministerial Meeting, to be held in Mexico minerals and fuels and, to a lesser extent, in some in the second half of 2003. categories of industrial products. Russia's imports are * Russia may realize significant economic benefits concentrated in some categories of industrial products from WTO accession as a result of reducing its im- and in agricultural products. port tariffs and liberalizing its domestic policies. Ad- * Russia's exports and imports are concentrated geo- ditional benefits, which are difficult to quantify, may graphically with the EU/EFTA and with the former So- arise from more predictable access of Russian ex- viet republics and members of the former Soviet bloc. ports to foreign markets and Russia's adherence to Russia's export specialization in minerals and fuels may WTO rules and agreements, especially the use of be of key economic and strategic importance, espe- binding dispute settlement to protect its trading in- cially in its intra-European trade. terests. * Russia's tariffs are, on average, relatively low (see the * Russia may further realize significant economic ben- table). Official tariff rates are substantially in excess of efits from participation in the ongoing Doha Round of applied rates. Weaknesses in customs procedures may multilateral trade negotiations. These benefits could constitute significant Average Official and Applied Tariff Rates on Russian Imports, 1996-99 barrier to imports. * Several aspects of (percent) Russia's trade and Tariff rate 1996 1997 1998 1999 related policies are Nominal official weighted average tariff rates 14 14 12 8 at issue in the WTO Applied tariff rates (actual duty collected/value of imports) 4 7 7 5 accession process, including policies per- Source: Adapted from M. Gorban, S. Guriev, and K. Yudaeva, Russia in the WTO: Myths taining to agriculture, and Reality, CEFIR and Club 2015, Moscow (2001, p. 6). intellectual property, services, standards and certification, investment, gov- be considerably greater than those that would result ernment procurement, state trading, and the United from preferential trading arrangements with CIS mem- States granting Russia permanent normal trading rela- bers and with the EU. tions. * Russia's application for General Agreement on Tar- The complete analysis, published as WDI Working iffs and TradeNWTO accession has been in progress Paper no. 472, can be found at www. wdi.bus.umich.edu. C) 2002 The World Bank © 2002 SITE TRANSITION, July-August-September 2002 businesses. New technologies that appeared in the last ply of exports. General equilibrium models, which are better 10 to 15 years, such as mobile phones, broke the former suited for forecasting the effects of the accession, predict position of this sector as a natural monopoly; however, that the effect of the accession will be positive and that most - the Russian offer is still based on a natural monopoly of the gains will result from the liberalization of services. view of the sector. Rostelecom, the incumbent Russian Model-based computations show that the total medium-term telecommunications firm, is supposed to keep its mo- gains of Russian accession to the WTO will amount to 6.8 nopoly on long distance and international telephone ser- percent of Russian consumption (3.2 percent of GDP), while vices until 2010. Foreign operators can only provide the long-term gains could be as high as 54 percent of con- services at the local level and are not allowed to have sumption or 25 percent of GDP. Almost 70 percent of these more than a 25 percent equity share when providing total gains are due to improved access for foreign investors resale-based services and 49 percent when offering to the service sector (4.7 percent of consumption in the facility-based services. This offer appears to be com- short run), while tariff reduction amounts to an additional 25 E pletely unacceptable for the WTO, which requires a percent of total gains (1.7 percent of consumption). The rest shortening of the period before foreign competition is of the gains arise from productivity effects and improved allowed and an increase in the limits on foreign equity market access for foreign firms in the manufacturing sector. shares. Moreover, the foreign presence in some sectors is higher than the proportion proposed in the offer, for Econometric studies using firm-level data provide some ad- example, in mobile telecommunications, and foreign ditional insights about the productivity effects. Trade liberal- counterparts require a drop of all foreign equity limits in ization, especially an increase in inflows of foreign direct sectors where foreign providers are already allowed. investment, lead to productivity increases among Russian firms, both because of restructuring under increased com- Long-Term Gains petition pressure, and because of improved quality of im- ports. The evidence suggests that the entry of foreign direct Russia will be expected to introduce new and more trans- investment in downstream sectors has positive effects on parent regulations, especially in the area of international domestic suppliers, which could mean that increased for- trade in goods and services. This would certainly lead to eign direct investment in the trade sector could have positive major improvements in the business climate and would spillover effects on industrial firms. have a positive influence on Russia's economic growth. Protectionists, however, are criticizing this decision, Thus even though Russian accession is supposedly at its claiming that accession will cause a drop in Russia's final stage, many problems remain and the process could GDP, with their estimates ranging from a modest 1 per- take much longer. Ironically, the greatest gains from acces- cent decline to significantly larger numbers. sion would result from liberalization of the service sector, which is the sector Russia is most reluctant to liberalize. Such forecasts are based on a partial equilibrium view, which does not take into account the fact that the de- The author is a researcher at CEFIR, e-mail: mand for imports would be compensated for by the sup- kyudaeva@cefir.ru Transition Meets Development Economists Debate Convergence during Riga (Latvia) Conference By Romans Pancs In what was Latvia's biggest academic event in economics, the Seventh Annual Conference on Transi- tion Economics, held in Riga and organized by the Centre for Economic Policy Research (CEPR) and The William Davidson Institute (WDI), offered three days of presentations, panel discussions, and policy sessions during June 20-23, 2002. A central topic of debate was the convergence of the economics of transition and development economics and their common place within institutional economics. This year's meeting also made a special effort to bring together the new generation of local economists, with a special session of presentations by Baltic Ph.D. students studying at leading Western universities. This article focuses on some of the presentation and debate highlights. TRANSITION, July-August-September 2002 C 2002 SITE © 2002 The WNorld Bank In his keynote speech, Timothy Besley of the London The policy panel on Ten Years of Exchange Rate Re- School of Economics described development econom- gimes was devoted to policies in Eastern Europe and* ics and outlined its intersections with the economics coincided with the 10th anniversary of the reintroduction of transition, including the unifying theme of poverty of the Estonian kroon Peter Bofinger of Wurzburg Uni-, reduction. According to Besley, the incidence of pov- versity took issue with the view that corner solutions for: erty is extensive-about 1 billion people worldwide live exchange rate policies are the best (either free floating . on less than $1 a day-and development economics or fixed parity) Managed floating, a targeted exchange might be described as good economics when applied rate combined with capital mobility, has performed quite to poverty reduction. As for the theme of the confer- well in Hungary, Poland, and Slovenia, while a fixed ex- ence, Besley suggested "development meets transi- change rate has failed in the Czech Republic. Marten i Ii . l tion," with the consensus of researchers in both fields Ross of the Bank of Estonia argued, however, that the: of economics on the importance of getting institutions Estonian solution of fixing the kroon to the German mark right. Moreover, both fields draw on public economics and adapting the currency board system was a prag- to help decide what good policies are and how these matic and relatively successful decision and a credible might be implemented, and both fields acknowledge one, except for some doubts during 1997-98. the need for better subnational data to study incen- tives and behavior. Rumen Dobrinsky of the UN Economic Commission for Europe provocatively suggested that exchange rate ex- At the subsequent academic roundtable discussion, Jean- perience during transition has corresponded exactly to Philippe Platteau of the University of Namur defined the what textbooks have taught us The financial crisis in role of development economics as facilitating an Bulgaria was due to the accumulation of huge deficits, economy's adaptation to emerging new opportunities. The and similar crises occurred in Russia in 1998 and in ingredients for successful adaptation-and the subject of Argentina this year. Differing opinions about this topic development economics-are the establishment of trust are perhaps best reconciled by a remark by Paul and honesty and the development of informal netwo.' s. Seabright of the University of Social Sciences of Gerard Roland of the University of California at Berkeley Toulouse from his presentation on bank performance in noted that Adam Smith's question, "How do countries transition economies: "Can we tell a crisis coming? Yes, get rich?" (and thus reverse poverty), is also the defining but only in retrospect." theme in the economics of transition. Law and its en- forcement, ownership, and proper constituencies-in Both theoretical and empirical papers addressed such short, institutional economics-matter no less than liber- topics as inequality Erik Berglbf of the Stockholm Insti- alization.Theconvergenceofdevelopmenteconomicsand tute for Transition Economics and Patrick Bolton of transition economics owes much to the events of the Princeton University built on observations that inequal- 1990s following the disintegration of the former Soviet ity hampers growth in many countries, while countries Union. As for drawing boundaries between fields, most with a large middle class enjoy better economic perfor- scholars agreed that this was not particularly important mance and law enforcement. In their theoretical paper as long as good economics was being pursued. the authors assumed that the poor are less interested in investment protection and more in redistribution through A number of papers were devoted to China, which in the taxation, while the rich can protect their investments words of Yingyi Qian of the University of California at themselves and can even benefit from expropriation un- Berkeley "has been meeting transition for some 25 years," der weak law enforcement. Hence in such an economy and is regarded as a developing economy by some, a the middle class is a necessary but an insufficient con- transition economy by others, and both by many. Em- dition for rule of law enforcement. More interesting, the pirical research on growth, privatization, inequality, and government can choose not to enforce the rule of law financial markets was presented that drew on the expe- even when it has the capacity to do so, and financial riences of China, India, Russia, the Baltic countries, development may permit private or government consump- and Central Europe. Theoretical work on law enforce- tion to crowd out investment, thereby undermining rule ment, illegal migration, and trafficking was found to ap- of law enforcement. Jan Svejnar of WDI noted that higher ply to both developing and transition countries. The policy income levels can compensate for the lack of equality issues that were most relevant to both disciplines, such by allowing relatively poor households into the fold of as ending illegal human trafficking, aroused the most investors, thus making them interested in law enforce- heated debates in the context of China ment. © 2002 The World Bank © 2002 SITE TRANSITION, JLuly-AugList-Septemnber 2002 Claudia Senik of DELTA in Paris studied the impact of with respect to external currency shocks and found inequality on individual sentiments in Russia. She ob- that the strongest impact came from transition econo- served that on the one hand, people may have a quasi- mies. Furthermore, the Estonian kroon may act more aesthetic preference for more equal distribution of as a transmission port for currency shocks than as an income, but on the other hand rising inequality, as in original source of shocks because of the openness of Russia, can be interpreted as a positive sign of future the Estonian economy. prospects (the "tunnel effect"). Senik's estimation showed that the progress of peers is interpreted as Neringa Jarmalaite of Heriot Watt University investigated I: good news in Russia, even if it is associated with in- the relationship between the prices of securities and fu- creased inequality, so that reference income serves as ture earnings in Estonia, Latvia, and Lithuania during 1995- -an information category. For Jan Svejnar the policy 2000. The challenge of working with Baltic data was to implications were obvious: government money should cope with different accounting practices and insider trad- - be spent to provide opportunity rather than to promote ing in an environment characterized by low liquidity and equality. Ksenia Yudaeva, however, was skeptical about lack of forecasts by analysts. Jarmalaite established that the tunnel effect: from her driving experience she learned prices lead earnings, which is consistent with a broad that Russian drivers are furious, not delighted, when hypothesis of the effects of insider trading. they learn that they have chosen the slower lane. Romans Pancs, a CEPR rapporteur for the conference, Young economists from Estonia, Latvia, and Lithuania is a Baltic International Centre for Economic Policy Stud- presented their latest research at parallel sessions. ies (BICEPS) researcher and will be a graduate stu- Dmitri Koulikov of Aarhus University introduced a new dent in economics at the London School of Economics class of long-memory models. The new process can in 2002-03 as a Latvian holder of a Chevening scholar- be used in volatility modeling and in high-frequency ship. The papers by Baltic Ph.D. students have been financial data econometrics. Martins Kazaks and Duo compiled in a special volume that is available from Qin from Queen Mary University in London assessed BICEPS.The full program is available at http:// the vulnerability of the exchange rate of the Latvian lat www.biceps.org. Trade Unions' Limited Role . , 1~~~U .16- xl; Io r. 1J Ic Activists: "The owner had him fired and beaten up, but we brought him home!" From the Hungarian daily Nepszabadsag TRANSITION, July-August-September 2002 C 2002 SITE © 2002 The World Bank Articles provided by: I Local Government and Public Service Open So Institute Reform Initiative The Hazards of Triansplanting Education Reform A View from the Classrooms of Postcommunist Schools By Johanna Crighton Before transplanting Western teaching strategies to the former communist countries under the banner, of reform, one has to be clear about the hazards of culture-free transplants. Traditional, teacher-led methods, if balanced with group work and exercises, could develop a firm grasp of facts, fluent and articulate oral responses, confident blackboard performance, and, above all, discipline. One can then argue whether this fosters the kind of creativity, independence, and problem solving skills prized so highly in the Western cultural context. After 12 years of transition, schools carry on much as they to regain national leadership and to establish standards, always have, with the best still delivering high-quality edu- and accountability for newly decentralized functions. The cation against all the odds, but for most, the cracks are challenge is to achieve a degree of rationality and coor- beginning to show. The plain truth is that many dination among multiple initiatives. Yet, as with many of postcommunist schools are now more concerned about the early initiatives, the new frameworks tend to be ex-: survival than change, as are most communities, fami- ternally conceived and sector specific. Progress is mea-, lies, and children. The unchanging classroom has be- sured more in terms of how well top-down projects are! come a symbol of comfort and stability, presided over implemented than on how the education system itselfi by middle-aged women tired of reform without resources, (students, teachers, schools, and institutions) are chang- t who see their first duty not as innovation, but the safe- ing. Reforms still lack strong connections with the keeping of children, the maintenance of old-fashioned country's traditions and culture, and often do not reflect values like discipline, and the unchanging "correctness" a genuine sense of ownership by the nation's political of textbook and timetable in a sea of chaotic change. leadership. Because they tend to be sector specific, focusing, for example, on vocational or preschool edu-: Stages of Reform cation, they lack overall coherence. * The third stage seeks to achieve a closer match' Countries emerging from the Soviet past tend to go between the early, externally conceived initiatives j through the following series of reform phases: and the country's own traditions and unique cir- cumstances. Many countries are revising the laws they * The first stage is shaped by initial euphoria about initially adopted after 1990 to reflect more home-grown newfound freedoms as the controls of the past col- priorities and values, and to focus more closely on re-. lapse. There is an intense interest in reaffirming the taining efficiency and quality controls over a diversifying traditions and structures that preceded external domi- system. However, this third stage is also characterized nation, a proliferation of new initiatives, and a conviction by reform fatigue, especially where the fabric of school ! that decentralization is the answer to most-or even life has worn thin through a chronic lack of resources all-problems. This early stage often involves a high Most postcommunist school systems now find them- degree of participation by external agents, such as do- selves in this third stage. nor agencies, international NGOs, and religious groups, each advancing its particular view of needed change. One major problem throughout the region is educa- * The second stage is often a reaction to the initial tion funding. In general, public financing of education proliferation and decentralization. Efforts are made is poor, amounting on average to 3 to 4 percent of © 2002 The World Bank © 2002 LGI/OSI TRANS1I ION, July-August-September 2002 GDP, sometimes even less, while OECD countries, Changeable Reforms on average, spend 5 to 6 percent of GDP on educa- tion. Foreign aid is not always sufficiently organized, Trends and fashions in education-whether or not an- nor is it properly coordinated or sustainable. Nearly nounced as reforms-are as changeable as weather all public resources are allocated to teachers' sala- patterns, and are pushed by the winds of political and ries, and almost entirely for pre-university education. social change. Some pass by almost unnoticed; others Funds for school equipment amount to 2 percent or burst upon classroom life with sudden force. In England, less of public funding for education or less in Croatia, for example, the 1967 Plowden Report made thousands Moldova, Montenegro, and Romania, and investments of primary school teachers rearrange classroom furni- total 3 percent or less in Macedonia, Montenegro, Ro- ture so that children could work in groups, pursuing mania, and Serbia. Chronic underfunding erodes the projects or working at their own pace. In the egalitarian quality of education, especially in education systems 1960s, "progressive" teaching became classroom ortho- that were clearly designed for a much higher level of doxy, replacing the traditional "chalk and talk." The much- public financing. feared 11-plus exam-taken by pupils at the end of primary school at the age of 11 to determine their aca- Constraints of Reform demic future-was declared unfair, because research showed that it tended to be the richest rather than the In the day-to-day life of most ordinary schools, reform is smartest children who passed the exam. not the main issue. Asked what their preoccupations are, principals are likely to say repairs, firewood, and This was the message to English schools throughout the salaries, not standards, curriculum reform, or decen- 1970s and 1980s, until more and more insistent con- tralization. Money, of course, has been the main limita- cerns were voiced about falling standards and a steady tion. Not enough is coming from central governments, decline in student achievement. A 1996 report on primary and what little does come is barely enough to keep the school teaching in the United Kingdom, coupled with in- school doors open and the roof from leaking. Charging ternational research on primary school effectiveness, fees for compulsory state schooling is both morally and prompted the chief inspector of schools to instruct teach- legally suspect, although many schools now find that ers to adopt whole-class teaching strategies used in "suc- they must charge for supplies, extra activities, and some- cessful" countries like Germany, Switzerland, and Taiwan times books to make ends meet. (China). The new orthodoxy of effectiveness involves whole- class teaching for at least half of class time in each sub- Thus the notion of school autonomy has little practical ject; daily literacy and numeracy hours; and new powers meaning. In the heady days after 1989 many envisaged forthechiefinspectortointervenedirectlyinfailing schools, a new type of autonomous, empowered school as the if need be with the help of management consultants from key to creating a new society brimming with initiative, outside the school system. Maintaining discipline, ac- energy, and critical thinking. The temptation to go for quiring solid mental arithmetic skills, learning to read and broad, radical reforms across the entire system was write accurately, giving plenty of homework, and increas- strong, but these first bold efforts bore little fruit. While ing expectations comprise the current ministerial credo. the approach was understandable, it inevitably ran into problems, because the emerging political, institutional, This credo finds a ready echo in the United States, where legal, and social fabrics were (and still are) too fragile to most states are adopting more demanding educational support radical change of this kind. standards in the wake of embarrassingly low performance by American schoolchildren on international mathemat- The limits of educational reform are therefore set by con- ics and science tests. The underlying assumption is of straints imposed by the largely unreformed environments a conclusive, causal relationship between national eco- in which systems are trying to operate. For example, nomic performance and classroom teaching methods, decentralization efforts will founder in a society that re- and the message to classroom teachers is decidedly mains centralized in all its institutions, expectations, conservative. and social behavior. With hindsight, many of the impedi- ments to reform were inevitable, but the first reform Wrong Message from the West? projects tried to do something that had not been done before in an environment that was still in a state of post- Ironically, this return to traditional teaching and learning traumatic shock. strategies in the West is occurring just as progressive TRANSI'I'ION, July-August-September 2002 © 2002 LGI/OSI D 2002 Thie World Bank approaches are spreading eastward in first- and second- in large-scale international comparisons, do better than stage reforms, often driven by external donors. Teachers their counterparts elsewhere in the world, often embar- deprived of years of contact with Western trends are, rassingly better considering the huge differences in per quite naturally, curious about what innovations have pupil expenditures and facilities (see table). arisen, especially when they offer scope for teachers' long-suppressed creativeness and professionalism with- Active learning is not an option in small classrooms out placing too many immediate demands on schools' where children are crammed three to every two-seater material resources. Grouping children around tables desk and the teacher barely has space to stand near rather than in serried rows, allowing them to work to- the scratchy blackboard. Self-directed, project-based gether, and integrating learning across traditional sub- learning is not an option in a school without an atlas, a ject lines all tend to give teachers and children a sense dictionary, an encyclopedia, room for children to work, of renewal, excitement, and optimism even where or homes without books. Where schools work in two, or schools are crumbling and classrooms are cold. But even three, shifts a day, teachers cannot use walls to E9 teachers might think twice before abandoning home- display learning exercises and children cannot use desks grown traditions that have, on the whole, served stu- to store work in progress. Where large numbers of teach- dents well-traditions whose disappearance is being ers are unqualified, underpaid, unmotivated, or absent, lamented by many in the West. exhortations to innovate will be resisted and resented. Where efforts to slim down an overloaded curriculum The lesson here is that before transplant- ing teaching strategies under the banner Mathematics and Science Literacy Average of reform we need to be clear about the Scores of 15-year-olds, by Country, 2000 relationship between pedagogy and cul- Mathematics literacy Science literacy ture. Consciously or not, teachers every- Country Average Country Average where use the strategies best suited for - Korea, Republic oF o 552 - where_seth strategie bet s _ Japan 550 conveying certain cultural messages Finland 538 about what learning is about: whether * n Kinqda m 52 - Cancda ~ 529. knowledge is absolute or provisional, when ideas should be accepted or ques- Asr 51 tioned, about the nature of "truth" and Belgium 520 Ireland 513 authority, about acceptable behavior for France 517 Sweden 512 Austria 515 Czech Republic 511 success in learning. Denmark 514 France 500 Iceland 514 Norway 500 Sweden 510 United States 499 Classroom observations in many former Ireland 503 Hungary 496 communist countries show teachers us- Norway 499 Iceland 496 methods. In ~~Czech Republic 498 Belgium 496 ing traditional, teacher-led methods. In United States 493 Switzerland 496 the worst cases this produces an unnerv- Germany 490 Spain 491 ing culture of passivity. Yet in the best Hungary 488 Gerrnany 487 Spain 476 Poland 483 cases whole-class teaching is alive and Poland 470 Denmark 481 successful. A diverse mix of teacher-led Italy 457 Italy 478 Portugal 454 G'reece 461 learning, balanced with group work and Greece 447 Portugal 459 exercises, will develop the kind of perfor- Luxembourg 446 Luxembourg 443 mance skills still most highly valued: a Mexico 387 Mexico 422 firm grasp of facts, fluent and articulate OECD average 500 OECD average 500 oral responses, confident blackboard Non-OECD countries Non-OECD countries performance, and, above all, discipline. Liechtenstein 514 Liechtenstein 476 We can then argue whether this fosters _Russian Federaton 478 Russian Federation 460 We can thn argue wether thi fostersLalvia 460 the kind of creativity, independence, and _ Brazil 375 problem solving skills we prize in our own cultural context. The hazards of culture- Average is significantly higher than the U.S. average free transplants are obvious. Children in m Average is not significantly different from the U.S. average some of the countries of Central and Average is significantly lower than the U.S. average Eastern Europea (CEE) that participate Source: OECD, Program for International Student Assessment (PISA), 2000. c 2002 The World Bank ( 2002 LGI/OSI TRANSITION, July-August-September 2002 ; S >!result in fewer hours on the compulsory timetable, This includes children across the ability range, children teachers will fear a logs of income or status With min- with special needs, and children from ethnic or linguis- isters and their agendas changing every six months, tic minorities or from poor families. Giftedness is only with several parallel reform projects descending on for a few, but achievement is for everybody. schools at once, with some prestigious schools de- * Pay more attention to the emotional needs of children , dclared pilot or model ones and thus given computers or (and their teachers) who have been traumatized by war, science laboratories while others have no running wa- conflict, displacement, and family breakdown. No com- ter, reform becomes no more than externally-imposed, munity can be expected to function normally in abnor- 1 ..tj r piecemeal change. The result is often a sense of fear mal conditions Expert help may be needed. -,7.,g t~ |and unfairness rather than a spirit of renewal and op- * Develop educational leadership at all levels. :sX' .b k~l 4tem out of the four financed until July this year only '1l > Z by the state, some districts received as much as two- The case studies suggest that states have been no more thirds more funding per student than others. Else- successful than local governments in rationalizing school where, and now in Slovakia, the number of students systems and staffing, and if anything, slightly less effi- is the dominant factor determining state funding, with cient. Central governments are inhibited by the power of some weighting for the higher costs in rural areas. teachers' unions and local governments by the number of The case studies agree, however, that the develop- teachers elected to councils. Some evidence suggests ments of the last decade have resulted in a growing that those Hungarian municipalities that had given schools differentiation in the quality of schools and the types the right to manage their budgets and had allocated fund- of education and subsequent employment opportuni- ing to them on a normative, per student basis had made ties that they provide. the most progress in rationalizing their school systems. Schools had been under direct pressure, both to attract Differentiation students and to adjust staff numbers. In Poland, however, national legal restrictions on firing teachers, or even trans- The report also noted differences in some, but not all, ferring them to other schools, severely constrain the use of the countries in the measured performance of students per student funding to rationalize staffing levels and costs. from rural and urban primary schools. These can be Equally important to efficiency is the way in which indi- attributed in part to differences in the more specialized vidual schools use resources. There is a growing tendency teaching and equipment required in the upper primary to give schools legal status This generally gives them the grades. The Hungarian case study, however, draws on discretion to make budgets, shuffle funds between expen- research that suggests that these differences can be diture items, and retain unspent balances at the end of a attributed as much (if not more) to the socioeconomic budget year. backgrounds of students and the stimuli of the family environment It would not be surprising if a similar con- The relationship between divisions of responsibility for clusion applied to the other three countries schooling and its effectiveness is diverse and inconclu- sive. The four countries are still searching for the appropri- The consequences of differentiation are more marked ate balance between national and local responsibilities in in the case of secondary schooling. Vocational schools the education sector. After the initial surge of devolution, have also varied in their responses to market change. ministries of education have tended to emphasize the con- The curricular range that they offer has an increasing stitutional guarantees of education and the need for strong impact on the careers and lifestyles of their graduates. state supervision, if not direct funding and management of schools. They have all retained the power to negotiate and In all four countries parents may seek to place their set terms of employment for teachers, regardless of the children in schools outside the designated school dis- financial consequences for either state or local budgets. trict. Their chances of success depend on both the capac- ityof the school of theirchoice and theability of theirchildren The need for national governments to ensure some de- to compete in admission tests. Family background and gree of equality in access to education and some degree ability to meet transport costs count significantly c' uniformity in content and in minimum standards can scarcely be denied. That some ministries of education The link between social and educational differentiation is have been slow in developing the capacity to fulfill this apparent and growing. Systems that base teaching staff role is a separate issue. Nevertheless, the quality of local levels, or even total funding, on numbers of students give education is a major concern for parents and for local TRANSITION, July-August-September 2002 © 2002 LGI/OSI © 2002 The World Bank communities. The evidence of the case studies is that own staffing levels and remuneration promote both equity local governments are as concerned as states about edu- and efficiency; however, the effect of financial incentives should cational standards, if not more so. Local governments' not be overstated. The ambition and morale of the teaching financial contributions have considerably exceeded the force are closely associated with the attraction of motivated levels expected of them by intergovernmental finance students and a sense of relevance to contemporary society. systems, and in some cases have compensated for the Whatever the balance of responsibility between state and underperformance of state budget obligations. The coun- local government, the key factors in school governance are try where schools have suffered the most from the discretion and accountability of the individual school. underfunding has been Slovakia, where local governments have had no legal responsibilities for education. Parental market choice is constrained, however, and Dar- winian solutions ("Let's weed out the weak") are inad- The case studies clearly show, however, that educational equate by themselves. In particular, schools serving management is a tripartite game, with the individual school disadvantaged localities or social groups need special z as a third and active player. School directors and teaching support. The challenges to government, whether national staffs have much operational freedom, and teachers col- or local, are to develop the capacity for normative super- lectively exercise strong influence on both local and na- vision and to combine a high degree of delegation to school tional decisions. School boards and parents may also play management with selective intervention and support. a significant role. The author is lecturer at the Institute of Local Govern- Systems that fund individual schools largely on the basis of ment Studies, Univeristy of Birmingham, e-mail: student numbers and allow them flexibility to manage their k.j.davey@bham.ac.uk Reforms in Russian Primary and Secondary Education: Losses and Gains By Natalia Bartasheva Russia has introduced a number of reforms in elementary and secondary education, such as elaborat- ing academic curricula, producing new textbooks, and using new teaching methods; however, it still has much to do if it is to use resources efficiently, provide teachers with decent salaries, and equip schools with computers and connect them to the Internet. Private schools were founded in Russia following the in 1993 to 607 by 1999. A variety of nonstate schools enactment of new legislation in 1991 and 1992 that per- were established. This includes secondary schools spe- mitted the existence of nonstate educational institutions cializing in certain subjects, such as economics, math- and specified the necessary licensing and accreditation ematics, humanities, or the arts; religious and ethnic procedures. Tuition-based educational services were also schools; secondary schools for girls; military schools; introduced at state schools, and home-based studies university-based secondary schools; and foreign lan- (intensive self-study without classroom instruction) were guage schools. All these institutions charge tuition fees. permitted. These new initiatives were accompanied by innovation in curricula, and students were allowed to Because of their innovative approach to curricula and select materials from a variety of educational literature. application of new teaching methods, such schools are However, government bureaucrats, who wanted to pre- in high demand, because many students plan to obtain serve their positions and privileges, prevented more radi- higher education degrees abroad . Some private schools cal educational reforms. Thus regulations that would have are offering the Test of English as a Foreign Language granted more freedom to teachers never got off the (TOEFL) exam and the Scholastic Aptitude Test or the ground. First Cambridge Certificates, as these exams are man- datory for students wishing to continue their education Despite these stumbling blocks, the number of new in a foreign country. To obtain an international bachelors' nonstate schools has been growing each year, from 368 degree, a secondary school graduate must continue © 2002 The World Bank C 2002 LGI/OSI TRANSIT'ION, July-August-September 2002 studies for an additional year and study six subjects in natural sciences and should be more focused on hu- > English, subsequently only those fluent in English and manities and social sciences. Curricula in chemistry, with a strong background in mathematics are eligible for physics, and biology are to be reduced, and more atten- the international bachelors' degree program. tion will be given to foreign languages. The overall aca- demic load has increased by 50 percent, which has Among the public, the belief that only state-licensed affected children's health. Previously students in grades w and state-accredited nonstate schools are reliable is four through eight had 24 hours of class time per week, * widespread. Although state-licensed schools do have but now have 31 hours per week. I the right to teach children, only those with accreditation - are entitled to issue the state certificates required for Education institutions cannot make use of new educa- ;admission to national and foreign colleges and universi- tional technologies unless they have sufficient numbers ties. Thus unlike what happened in other branches of of computers in classrooms. Recent years have seen a -: the economy, the education sector emerged not through good deal of improvement in this area. An initiative by the privatization of state-owned schools and universi- the president provided Rub 1 billion to equip village ties, but through the creation of new schools in addition schools with computers in 2001, and local authorities to those owned by the state. also contributed on a matching basis. Such programs are being implemented in Novosibirsk, Samara, Tomsk, Russia has 68,000 secondary schools, two-third of which Voronezh, and other regions; however, funding is still a are located in villages. According to 1999 data, nonstate huge constraint: currently only 20 to 25 percent of Rus- secondary schools made up less than 1 percent of all sian schools have computers. Moreover, only 3 percent schools, and only 0.2 percent of all students attended of schools can connectto the Internet. The government's those schools. Thus most children still attend state strategic development program for 2001-10 envisages schools. Students may obtain proficiency and skills be- that by 2005 at least 60 percent of secondary schools yond federal and local standards, but only with addi- will have computers in their classrooms and will be able tional funding from either their parents or other private to connect to the Internet. Students have also been prom- sources. ised individual access to computers for at least six hours per week. A letter from the Ministry of Education dated July 21, 1995, outlined additional fee-based education services Given limited financial resources, the financing of educa- that state schools can offer. These include courses in tion is still at a crucial point. Budget expenditures on special subjects not required by the national curricu- education fluctuated between 2 9 and 4.5 percent of GDP lum, such as additional foreign languages, vocational during 1991-98, and are expected to stand at 4.2 percent skills (driving or typing), sculpture, and gymnastics, with in 2005. Thus education is underfunded and, at the same the added stipulation that these courses be taught out- time, available resources are not used efficiently. In most side school hours, schools new curricula coexist with outdated materials and facilities. Despite financial guarantees from the gov- When education was standardized nationwide, from ernment, teachers' salaries are often delayed. In 1985 Kaliningrad to the Far East, all children used the same the average salary of a school employee was only 77 textbooks and studied the same curriculum. A great deal percent of the national average and has declined since. has been done recently to produce new textbooks, and This has resulted in a chronic shortage of teaching staff. teachers are now allowed to select and use any educa- tional literature. The federal list of 700 textbooks was Despite these multiple obstacles, reforms are going introduced to ensure the uniformity of the educational ahead. With the introduction of a 12th year in second- process nationwide. These textbooks were selected on ary school, 10 years of schooling will be mandatory. the basis of public appraisal and are supposed to be After completion of the mandatory 10 years, around half made available to all students at no cost. However, stu- of the students are expected to go on to vocational or dents receive only a fraction of the required textbooks: other technical schools, and those who wish to go to 25 percent in 1997, 7 to 9 percent in 1998, 18 percent in colleges or universities will follow up their secondary 1999, and 57 percent in 2000. education with another two years of study. Thanks to the increased length of schooling, Russian students will Curricula are continuously changing. According to be less burdened with lessons and will be better able to expert opinion, today's curricula are overloaded with compete for admission to higher education institutions TRANSI riON, July-August-September 2002 i 2002 LGI/OSI © 2002 The World Bank abroad. Extending education will help bring the Rus- on a national level, thereby enabling an objective assess- sian curriculum closer to that of European schools, ment of students' knowledge and logical reasoning. for instance, Russian students currently do not have classes on probability theory and statistics, subjects To sum up, while perceptible results have been at- taught in European secondary schools. tained in terms of content, in organizational and fi- nancial terms Russia still has much to do. A few This year, on an experimental basis, a single state positive reforms are under way, but the Russian edu- examination was introduced to serve both as a gradu- cation system is still badly in need of additional re- ation and admissions exam. In most cases second- forms to reach the final goal: giving all students the ary school graduates are obligated to pass several best chance to succeed. exams required by the state, and depending on their interests, they may have to sit for an array of other The author is a training specialist in Russia, e-mail: examinations. Subject examinations are to be held nata-bar@yandex.ru. Private Education in the EU By David Hayhurst The very mention of private schools conjures up a variety of different images for people in various parts of Europe. In the United Kingdom the phrase "old school tie" is virtually synonymous with "old boy network": a well-entrenched, centuries-old tacit network of almost exclusively wealthy, and often titled, plutocrats in firm command of the upper echelons of business, politics, and society. Elsewhere in West- ern Europe private education also often has a certain stigma of elitism firmly aftached to it. In reality, there are widely different legal definitions within compulsory instruction. This excluded any forms of the EU as to what constitutes a private or autonomous preprimary schools, postcompulsory instruction, or in- educational institution. The most common definition re- stitutions dealing with special needs children. gards any manner of formal education that is founded and wholly organized by nongovernmental agents or in- According to the report; EU member states can be di- dividuals as part of the private sector, but within this vided into the following three groups in terms of institu- broad category, distinctions are almost always made tion and state authority relationships: between strictly private education that involves no state financial assistance whatsoever, and varying forms of * In Greece and the United Kingdom most types of pri- grant-aided education that may be made available to vate schools receive no public funding of any kind; how- teaching institutions. ever, national governments still exercise significant control over such institutions. In the first case, institutions are wholly financed by individual * In France, Italy, and Portugal different types of contrac- patrons or by nongovernmental associations under private tual relationships between the state and private education law. In the second case, grant-aided schools receive public bodies are possible. Schools may receive more or less funds, but the amounts of such funds often differ widely, and funding, depending on their willingness to accept cer- in many instances such funds can only be legally used for tain state-dictated conditions with regard to syllabuses, specific types of expenditures. Depending on the country, staff recruitment, and so on. both forms of private institutions may or may not be subject * In Austria, Belgium, Denmark, Finland, Germany, Ire- to some type of governmental oversight. land, Luxembourg, the Netherlands, Spain, and Swe- den all private teaching institutions receive some level of Eurydice, the EU's information network on education in state aid. Private schools are permitted to operate un- Europe, first published a detailed account of the different der similar conditions to public schools. private education systems within each EU member state in 1992, at the request of the European Commission. The Government Conditions European Parliament asked for an update in 1999. The more recent Eurydice report chose to focus exclusively All EU states have legislative conditions intended to on private education bodies that provided full-time and guarantee minimal acceptable standards for providing ©) 2002 The World Bank © 2002 LGI/OSI TRANSIIION, July-August-September 2002 education. Legal conditions tend to become more de- and capital-related costs, that is, those involving build- manding for private schools to receive greater state ing purchase or rental and maintenance costs. recognition and greater parity with state schools and/ or more state funding. The vast majority of EU member Public funding schemes differ greatly across the EU. In states demand that teachers in any type of formally six states national governments pay staff salaries in full. recognized private school have earned academic quali- The state also frequently finances or meets operational fications relevant to their disciplines and the student costs. In the area of capital-related expenditures, how- l levels they wish to teach. ever, EU states tend to be more parsimonious. The Neth- erlands is the only EU member to provide grants that Austria, Germany, Holland, and Luxembourg also have cover all expenses involved in building construction, pur- legal stipulations regarding teacher suitability that ex- chase, rental, and maintenance. In Belgium, Finland, tend to the morality or fitness of character of potential France, Germany, and Ireland such expenses are met M instructors, particularly with regard to being able to prove in part. Elsewhere private institutions must deal directly themselves to be law-abiding citizens and generally with local authorities on such matters. sound role models for youth. (Denmark and Sweden are the only EU nations that leave teaching personnel stan- Private schools in some EU countries have great liberty dards entirely up to individual private schools.) Legal to set their own curricula. The United Kingdom has no requirements relating to physical teaching conditions legal requirements whatsoever for private schools to fol- tend to center on building and equipment safety and low public school teaching programs, but private schools public health issues. National governments also deter- must meet certain expectations to satisfy the national mine minimum enrollment numbers in six EU states. It inspectorate. In most EU countries students' academic is in the area of pedagogical content, however, that the qualifications are either identical or almost equivalent in vast majority of EU countries make the greatest number both the public and private spheres. of specific demands. Interesting idiosyncrasies are evident within the various In all EU nations, private schools' compliance with legal states. In Germany the Basic Law prohibits any form of norms is subject to some level of official scrutiny. Overall state monopoly on compulsory education. Almost all pri- responsibility for governmental oversight lies with the vate schools are members of associations that defend national ministry or department of education in Finland, their interests to the regional governments, but institu- France, Greece, Holland, Italy, Ireland, Luxembourg, tionalized cooperation between such associations and Portugal, Sweden, and the United Kingdom. Such re- relevant government authorities is absent. In Ireland most sponsibilities are left to subnational or local govern- primary schools are publicly funded, but are privately ment levels in Austria, Belgium, Germany, and Spain. owned by a religious denomination. Multidenominational In countries where the overall responsibility for such schools-established, owned, and managed by parents- controls is a national-level responsibility, practical ar- also receive state support. rangements for school monitoring and supervision for both public and private institutions take the form of ei- Italy would appear to be the EU country where debates on ther a national inspectorate, as in Holland, Ireland, private school status and funding have been the most frac- Portugal, and the United Kingdom, or of other entities tious, involving social debates between religious and secu- operating at the national level in the case of Luxem- larpartiesthathavespanneddecades.The Italian Parliament bourg. Comparable arrangements exist at subnational only managed to overcome the half-century-old blockage of levels in Austria, Belgium, Germany, Greece, and Spain. affording equal legal status to private schools in 2000. Fi- In Holland the national inspectorate is semi-autono- nancing is now provided only indirectly in the form of schol- mous and enjoys self-governing status. This affords it arships and tax breaks to private and public school students a great deal of autonomy without affecting the overall alike, therebyadhering tothe constitutional requirementforbid- responsibility of the Ministry of Education as the rel- ding private institutions from burdening the state. However, evant oversight body. many regional governments had already taken advantage of a 1997 law delegating certain administrative functions re- Public Funding garding education to them to offer grants and school vouch- ers to parents of children attending private schools. Three general categories of state expenditures relate to private schools: teaching staff costs; operational costs; The authoris ajoumalist, e-mail davidbudapest@yahoo.com IRANSi'ION, July-August-September 2002 © 2002 LGI/OSI © 2002 The World Bank LGB Articles Now Being Accepted LGI is now accepting unsolicited articles for its forth- environment, and so on). This section aims to increase.1 coming editions of the Local Government Brief (LGB). the understanding of basic terminology and processes If you are interested in submitting an article, please of local governance and public administration in the adhere to the following guidelines. region. The section is well structured, clearly written, and presents a comprehensive introduction/guide to Each LGB has a general theme. Articles must be re- the topic discussed (textbook style). 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Articles, charts, and tables must cratic governance, public administration reform, and be properly footnoted using either the Harvard or Ox- local governance. The Feature is written in journalis- ford style. tic style (like the Economist). It follows an analytic approach, contains interesting and accessible lan- Our contributing writers are truly "contributing." As a guage, and, if necessary, headings and subheadings. nonprofit organization, LGI invests its resources in Authors are welcome to include tables and/or figures. maintaining our high circulation and good reputation, making the LGB a publication where our contributing * The Policy Guidelines section. Articles intended writers will be widely read and proud to be published. for the Policy Guidelines section should be written for an audience of policymakers, professionals, consult- For more information about submitting an article to ants, experts, and trainers in various fields of local the LGB or about-any of the specific topics mentioned governance (public service delivery, outsourcing, bud- in this announcement please contact Scott Abrams geting, finance, taxes, revenues, regional development, at ascott@osieurope.org. C 2002 The World Bank © 2002 LGI/OSI TRANSITION, July-August-September 2002 THE WILIAM DAVIDSON INSTITUTE AT THE UNIVERSrrY OF MICHIGAN BUSINESS SCHOOL Growth in Transition: What We Know, What :;We Don't Know, and What We Should Know 0 By Nauro F. Campos and Fabrizio Coricelli This article surveys the macroeconomic issues that marked the transition from centrally planned to market economies in Central and Eastern Europe (CEE) and the former Soviet republics. We first estab- ,-L '! , lish a set of stylized facts of the transition so far. We then critically survey the theoretical literature on A transition, discussing various explanations for the initial output fall, as well as medium-term issues, such as optimal speed of transition, disorganization, institutions, and sectoral reallocation, as sources of output dynamics. Finally we provide conclusions along with a succinct list of suggestions for future research. (The original paper from which this summary is drawn also reviews the empirical literature to {. _-: assess how well it translates the theoretical models and explains the stylized facts.) In the early 1990s, when the first signs that the socialist two of the 25 countries, and in the most severe cases : I experiment was finally over appeared, surprise and opti- the observed cumulative output fall was larger than 50 mism immediately followed. The surprise arose because percent of 1989 GDP (EBRD 2000). K of the speed with which communist regimes collapsed, culminating in the dissolution of the Soviet Union in 1991. The objective of this article is to take stock of what hap- The optimism arose because the removal of the over- pened during the first 10 years of the transition in the whelming apparatus of political control over economic countries of CEE and the former Soviet Union and of the' activity could only mean prosperity in the medium term. various theories and explanations that have been pro- The countries of CEE and the former Soviet Union were posed. This is an ambitious but important task: argu- ' well prepared for rapid takeoff: they were industrialized, ably, the transition will join the Great Depression as one they had reasonably educated and healthy labor forces, of the most important economic events of the last cen- 1 and their population growth was minimal. Technology tury. Like the Great Depression, it will be intensely stud- was lagging, but with the free flow of information and ied for years to come, in part because it marks a Western assistance, that could be overcome. Moreover, fundamental break in the ways of organizing and going the substantial technical progress in the defense sector about economic life. The time is ripe for taking stock of could perhaps spill over into the economies, reinforcing what we have learned so that we can identify directions optimistic predictions. Some countries, notably Poland, for future research more precisely. had to tackle macroeconomic imbalances first, but economists felt it was well equipped for this task. Pros- We chose to frame the discussion that follows in terms perity was, finally, around the corner. of economic growth after 1989. The reason for concen- trating on the post-1989 period is the radical structural Some 10 years have passed, and the results are mixed break that is currently taking place in the transition econo- ... ; , ' at best. The defining stylized fact of the first 10 years of mies as the long-run trend is shifting away markedly the transition from centrally planned to market econo- from that established under communism. Transition it- mies is the massive output fall. Although the myriad self can be thought of as a change in underlying long- data problems still prevent a full assessment of its mag- run trends. For present purposes this break is best seen nitude, few doubt its occurrence. Reported output fell in in the drastic changes, still taking place, in the way every single country of the former Eastern bloc. Indeed, savings are mobilized and investment is carried out, in by 1999 real GDP had surpassed its 1989 level in just the different ways labor is organized, in how prices are TRANSITION, July-August-September 2002 C 2002 WDI c 2002 The World Bank set, and in the full access to Western civilian technol- worsening income inequality and mortality and poverty ogy and management practices. We also note that rates. when economists talk about economic growth, what we have in mind is growth of per capita income or of These seven facts apply to the countries of CEE and productivity over long periods of time, but in the litera- the former Soviet Union and should not be seen as styl- ture on transition economies, growth is used in a more ized facts of transition in general. Indeed, the experi- literal sense, that is, it refers to the short-run dynam- ence in Asia has been quite different, and a review of ics of GDP per capita or labor productivity. developments in transition economies cannot afford to exclude some of the most rapidly growing countries. Growth Performance Economic performance in China and Vietnam during the 1990s was impressive, and contrasts markedly with the The underlying question is what are the basic facts performance of the European transition economies. that a theory of transition should try to explain? Based on the analysis presented in the complete working A large body of research addresses these differences. Why paper, we believe that the facts set out in the table have these Asian economies been so successful in con- should stand as a robust set even in the face of future ducting transition and the former Soviet bloc economies revisions and refinements in the underlying data. The so unsuccessful? Initial conditions certainly play a role. evidence is sufficient to argue .that in the first 10 years China, and the Asian economies in transition in general, output fell; the stock of physical capital shrank; labor had a relatively large share of agriculture in employment moved; a rapid and intense reorientation of international and in GDP, had much lower per capita incomes, and were trade toward the West took place; the structure of the relatively less integrated with the Council for Mutual Eco- economies changed; institutional structures collapsed nomic Assiscance (CMEA). Institutions also account for rapidly followed by a vacuum in many countries; and an important difference. In addition, these countries did not large social costs were incurred, principally in terms of embark on political and economic transition simultaneously. Seven Stylized Facts of 10 Years of Transition Stylized fact Comments Output fell In stark contrast with China and Vietnam, where growth has been rapid and sustained, output fell in all the countries of the former Eastern bloc. The exact magnitude of the fall is a matter of controversy, partly because of the sizable informal sectors that quickly emerged. Labor moved While labor moved in all senses, geographical mobility has been extremely low. Nevertheless, large changes in labor market status, sectors, and occu- pations are apparent. Trade reoriented CMEA trade collapsed, and with few exceptions was rapidly redirected to industrial countries (the slow reorientation in BUR is led by Belarus and Ukraine, not Russia). Economic structure changed The share of value added by industry in GDP declined rapidly. In the case of Central and Eastern Europe and the Baltics, this was due almost exclusively to the increase of the service sector's share. In the case of the CIS, the rea- sons for the slower decline are much less clear-cut. Institutions collapsed The fall of communism created an enormous institutional vacuum. Although efforts to understand and measure it are just starting, its effects have been sizable and omnipresent. Transition costs appeared One of the surprises of the transition was the appearance of unexpected costs. The rise in unemployment and income inequality was expected. The rise in mortality rates and the decline in school enrollment rates were not expected. C) 2002 The World Bank © 2002 WDI TRANSITION, July-August-September 2002 Theoretical Literature existing models used to analyze market economies cannot readily explain their experience. In particular, The theoretical literature on transition can be divided into supply-side explanations are likely to be more relevant two groups, one focusing on the initial fall in output and the for the transition economies than simple Keynesian other on medium-term issues. The short time span that models. Two main contributions stand out in the litera- covers the experience of transition from planned to market ture on the initial output collapse: one underlines the economies means that any analysis of economic growth role of credit markets, the other the role of the so-called cannot neglect the initial sharp, and largely unexpected, phenomenon of disorganization. fall in output. Moreover, in some instances the initial col- lapse translated into a persistent depression. Following Credit Market Imperfections the output collapse, a lively debate started on its causes. In planned economies the artificial structure of produc- Several observers claimed that such a collapse could be tion and trade imposed by the system made credit mar- simply explained as a Keynesian recession driven by a fall kets, and to some extent money, irrelevant, at least in in consumer demand. Other observers argued that the fall relation to the enterprise sector. Dismantling the plan- in output could not be described as a simple Keynesian ning system implied that production and trade were not recession, as the timing and magnitude of the collapse only decentralized, but were carried out by means of suggested a different interpretation based on the concept monetary or credit arrangements. Developing credit of "trade implosion." The trade implosion phenomenon can markets requires time. The availability of cash for trans- be ascribed to the substitution of the old system of coordi- actions by enterprises was constrained by official credit, nation of production and exchange with a system of de- given that firms lacked financial savings, which were il- centralized decisions and free markets. The absence of legal in most centrally planned economies. (Calvo and fundamental market institutions implied that the old pro- Coricelli 1992, 1993) single out the credit market as one duction and trade mechanisms could not be quickly re- of the fundamental institutions missing in the formerly placed by new, well-functioning mechanisms. The trade centrally planned economies. The collapse of CMEA implosion approach stresses the important effects of insti- trade can also be seen as an example of trade implo- tutional factors in relation to output performance in econo- sion, related to the abandonment of an old mechanism mies in transition. The growth literature also points to the of trade and netting out of payments without substitu- fundamental role of such institutional factors as institu- tion with a private credit market. tions relating to financial markets. The imposition of tight financial policies at the time of Explaining the Initial Output Collapse price liberalization probably caused a credit crunch for enterprises. The contraction of central bank credit re- The sharp and unexpected fall in output is a puzzle for sulted in a contraction in overall credit to the economy, economic theory for two main reasons. First, the liberal- as private credit markets could not develop overnight. ization of prices, the dismantling of trade barriers, and Liquidity shortages can, in principle, explain a tempo- theeliminationofpervasivestateinterventionineconomic rary fall in output. Over time, firms can accumulate activity should have resulted in large efficiency gains. monetary balances and converge to the optimal level Second, based on the experience of programs imple- of output that they would have reached in the presence mented in developing market economies, stabilization of perfect credit markets. Accordingly, output should as such should not have caused a sharp fall in output. follow a U-shaped pattern. An implication of this view is For instance, in Latin America and Israel stabilization that output decline should be accompanied by a de- programs relying on the exchange rate as an anchor to cline in productivity. Moreover, real wages would drop reduce inflation were not associated with significant out- as well, as enterprises attempt to generate liquidity to put decline, at least in the initial phase of the programs. purchase inputs. Moreover, in market economies the output performance of stabilization programs relying on the exchange rate Disorganization as an anchor differed sharply from that of countries that used monetary aggregates as an anchor. An alternative channel that shares some of the main elements of the foregoing view is disorganization In the transition economies output fell irrespective of the (Blanchard and Kremer 1997), defined as the breakdown type of stabilization program implemented. Therefore of economic relations of the old regime, which cannot IRANSITION, July-August-September 2002 © 2002 WDI ©) 2002 The World Bank be replaced overnight by new ones. Blanchard and A popular view of transition describes output dynamics Kenner claim that disorganization was an important rea- along a path determined by the sectoral reallocation of son for output collapse, especially in the countries of resources. As resources move out of the old state firms the former Soviet Union. into the private sector, productivity increases. If there are adjustment costs or other imperfections, such as search The main concept underlying this view is specificity in costs, aggregate output is likely to drop initially and in- economic relations between firms. The period of central crease afterwards, when the private sector has reached a planning was one of extreme specificity, as firms were sufficient size. Accordingly, output follows a U-shaped locked into relationships with a small number of pre- path. The initial contraction in output is reminiscent of the assigned firms, and in many cases only one such firm. Schumpeterian phenomenon of "creative destruction." In- Firms did not need to accumulate any information about efficient firms are weeded out, leaving room for the expan- other firms, and in particular they lacked information sion of new, more efficient firms. A clear signal of such a about their customers' ability and willingness to pay. A Schumpeterian process would be an increase in produc- high degree of specificity implies the presence of mo- tivity accompanying the initial decline in output, in stark nopoly rents. Production chains link firms to several contrast with the implications of the models described suppliers, depending on the degree of complexity of pro- earlier. At first sight, making the process of transition as duction. Higher complexity implies a larger number of rapid as possible by shortening the initial period of de- inputs. Under a decentralized system prices are set cline in output would appear to be optimal. However, if through a bargaining process. Customer firms, gener- one takes possible adverse feedback effects, such as ally state enterprises at the start of reforms, make an the fiscal costs of the initial fall in output or the conges- offer price to their suppliers. If such a price is below the tion effects in the labor market caused by high unem- reservation price of the supplier, the supplier does not ployment, into account, the normative implications of the provide inputs to the state firm and output falls. models are less obvious. For these reasons a literature on the optimal speed of transition emerged. Assuming strong complementarities in production, the lack of even one input implies an impossibility to pro- Institutions and Growth duce. The reason for inefficient bargaining is that the reservation price is known only to the supplier. An impli- In recent years the literature on growth has paid increas- cation of the model is that the larger the number of in- ing attention to the effects of institutions on growth rates, puts, the higher the degree of complexity of production, viewing the transition economies as a unique labora- and thus the larger the output fall. One would therefore tory. Indeed, central planning was an institutional ar- expect the output fall to be more pronounced in highly rangement that has proven to be highly inefficient industrialized economies, and this may help explain the different output performance in the highly industrialized The notion of institutions is too vague to lead to a simple countries of the former Soviet Union compared with that theoretical treatment. Although the theories are still of mostly agrarian economies such as China. Another sketchy, several channels that contribute to what is implication would be that output decline would be worse referred to as social infrastructure or social capital have in countries that started reforms from a more rigid sys- been identified. Romer (2000) divides the studies on tem of central planning. In countries in which firms had the determinants of social infrastructure into three already experienced decentralized bargaining mecha- groups. One focuses on incentives, and underlines dic- nisms, output decisions, and even price setting, the tators' preference for building and maintaining social adverse effects of inefficient bargaining would be less infrastructure that is conducive to low average incomes. acute. The second group concerns cultural factors and en- compasses religion, ethnic diversity, family structure, Creative Destruction and Optimal Speed and civic participation. The idea is that ethnic homoge- neity and common religion and culture, in addition to As transition progresses and several countries of Cen- civic participation, increase social cohesion and trust. tral and Eastern Europe started to grow out of the initial The latter seems to be crucial for the development of collapse, a literature focusing on the medium-term per- efficient financial markets. The third group focuses on spective and on dynamic issues developed. Structural individuals' beliefs about the right policies and institu- change and the reallocation of resources across sec- tions. Individuals'different beliefs imply different choices tors and firms are at the core of this literature. of institutions by governments. D 2002 The World Bank © 2002 WDI TRANSITION, July-August-September 2002 All three channels seem important for transition econo- labor should also be improved. In particular, future re- mies. Out of a common shift toward more democratic search should go beyond the number of workers and societies and more liberalized economies, countries in years of schooling and try to provide a more economi- transition have displayed a wide range of institutional cally meaningful picture of the contribution of labor, spe- arrangements, and for all of them the process of institu- cifically, in terms of hours worked and effective use of tional building has taken a long time. A general problem skills. More reliable estimates of physical, human capi- the transition economies have encountered has been tal, and labor contributions to growth will improve our their assumption of the existence of a blueprint for effi- understanding of the sources of this process and the cient institutions and their attempts to adopt it. The de- relative roles of various crucial factors. bate between gradualism and shock therapy is a case * Research should focus more on institutions, includ- in point (Lipton and Sachs 1990; Fischer and Gelb 1991). ing the role and size of the government. A clear speci- fication of the channels through which institutions affect growth Furthermore, we should not underestimate the role of is needed. In this respect the role of institutions for the de- social safety nets as a fundamental factor in generating velopment of financial markets is a particularly relevant area social cohesion and support for market reforms. An addi- for research. This extends beyond purely conceptual pur- tional important aspect in the analysis of institutions is suits. Data on institutions based on objective criteria are the upcoming accession to the EU by several CEE coun- also highly desirable. A last concern is the emphasis on tries. Indeed, in this case institutional change is largely inadequate cross-sectional data, which we deem to be mis- constrained to occur within the EU's blueprint. However, taken. Transition is a dynamic process, a crucial aspect of entry into the EU is seen as one of the main objectives which has been the dynamics of institutional reform. The for the populations of CEE, which probably believe that empirical efforts that attempt to put forward cross-sectional EU institutions represent the right institutions. time series data on institutions in transition are few, and are admittedly crude at this point. One crucial suggestion for Conclusion future research is to change this situation. * Relevant measures of initial conditions should Transition is a simultaneous change in economic struc- be provided. Moreover, researchers should study how tures and institutions, and the final outcome depends cru- they relate to degrees of distortions across sectors, cially on the coherence between economic reform in terms across countries, and over time. of the liberalization of goods and factor markets, macro- * More emphasis should be placed on a better un- economic policies, and institutional development. The col- derstanding of the role of economic reforms and lapse of output in CEE, and especially in the former Soviet reform strategies in dictating the path of the transi- Union, indicated a lack of coherence in reform strategies. tion process. This should be pursued both conceptu- In general, paying more attention to a comparative analy- ally and empirically. A number of theoretical models stress sis of China's experience could prove useful. Initial condi- the role of reform strategies, yet the data for discrimi- tions and economic structure were sharply different in nating among these models are lacking. The few avail- China, but reform strategies also differed. Therefore the able indicators are unnecessarily subjective, and more comparison with China highlights one of the main les- often than not the needed documentation on their con- sons that we can draw from the first 10 years of transi- struction is not disclosed. tion, namely, that reform strategies cannot neglect the * Many new challenges to the conceptual frame- different institutional structures. Based on our review, the works we use to study economic growth and de- following suggestions for future research stand out: velopment have arisen as a result of the transition experience. One key example of these new challenges * Our list of stylized facts is based on currently avail- is the need to isolate the sources and effects of reallo- able data. These data are limited in terms of both com- cation from accumulation and technological progress. pleteness and accuracy. A fundamental direction for future research is to try to validate these facts. More work Nauro F Campos is a professor of economics at the should be devoted to examining the limitations and in- University of Newcastle and a fellow of The William adequacies of the various time series needed to study Davidson Institute (WDI) and the Centre for Economic growth in the early transition years. For instance, recal- Policy Research (CEPR). Fabrizio Coricelli is a profes- culations or revaluations of the capital stocks are sor of economics at the University of Siena and a fellow needed, along with attempts to disentangle the roles of of WDI and CEPR. This article is a summary of the au- public and private investment. The available series on thors' study published as WDI Working Paper no. 470. TRANSITION, July-August-September 2002 ( 2002 WDI © 2002 The World Bank Effects of Ownership and Financial Status on Corporate Environmental Performance By Dietrich Earnhart and Lubomir Lizal Recent economic analysis has estimated the effects of different ownership structures on standard mea- sures of corporate financial performance, such as revenue and capital investment, in the transition econo- mies of CEE. In contrast, this paper estimates the effects of different ownership structures on corporate environmental performance as measured by air pollutant emissions in the Czech Republic during 1993-98. It also examines the link between financial performance and environmental performance. Like previous studies of ownership, our analysis focuses in mature market economies, especially the United Ea on the effects of privatization, that is, on a comparison of States. Our study explores the effect of financial perfor- state ownership and private ownership. We test the gen- mance on environmental performance in the transition erally accepted hypothesis that private ownership gener- economy of the Czech Republic. In particular, our study ates better environmentally-related corporate performance. assesses whether successful financial performance This hypothesis is based on the expectation that private begets or undermines good environmental performance. owners reduce costs more effectively. Emissions repre- Successful financial performance may allow a firm to sent costs, because they generally indicate an inefficient generate internal financial resources that it can use to use of inputs; generate emission charges (at least in the improve its ability to reduce pollution. This generation of Czech Republic); prompt a greater need for costly end- internal financial resources is probably more important of-pipe treatment when production management gener- in a transition economy such as the Czech Republic, ates more residuals upstream in the production process; where internal financing is especially important for in- and induce regulatory authorities to impose potentially vestment, because Czech accounting standards and tax costly penalties, such as fines and requirements to modify laws require firms to finance all investment with retained production processes. As an alternative hypothesis, per- profits. haps preferences for better environmental stewardship, independent of cost concerns, differ by ownership struc- Our analysis shows that successful financial perfor- ture. In this case, the state may express a greater con- mance improves future environmental performance. cern for the environment by reducing emissions more Moreover, we find that increased state ownership actu- strongly than private owners. ally improves environmental performance relative to all other investor types, even though the state has appar- In addition, we examine variation across different types of ently retained ownership in industries that produce private ownership. In particular, we distinguish between higher levels of pollution. Indeed, during the Czech concentrated ownership, for example, a strategic inves- privatization of the early 1990s, the state retained a tor, and diffuse ownership, for instance, an investment significant portion of assets in so-called strategic firms, fund, using three measures: (a) basic investor catego- which included many large enterprises engaged in heavy ries, (b) threshold level for reporting ownership shares, industry, which generally emit above average pollution. and (c) concentration based on the single largest share- Nevertheless, after controlling for firm-specific fixed ef- holder. One might anticipate that more concentrated own- fects, which capture industry-specific effects, we find ership permits owners to manage costs better, including that greater state ownership leads to better environ- environmentally-related costs, through better monitoring mental performance. of managers. However, concentrated ownership may harm firm performance, for example, highly uncertain business In addition, concentrated ownership, as measured by conditions may require managerial initiative and incen- the single largest shareholder, improves firms' environ- tives to acquire information, and concentrated ownership mental performance, consistent with the notion that con- may thwart these efforts. Therefore the expected effect of centrated power allows an owner to manage costs better, ownership concentration remains an unresolved issue. including environmentally-related costs. Finally, owner- ship structure does not directly affect environmental Other recent economic analyses explore the links be- performance; it only indirectly affects environmental per- tween corporate financial and environmental performance formance by influencing financial performance. c 2002 The World Bank © 2002 WDI TRANSITION, July-August-September 2002 Dietrich Earnhart is a professor of economics at the versity, and the Economics Institute of the Academy of University of Kansas and a WDI research fellow. Lubomir Sciences of the Czech Republic, and a WDI research Lizal is a professor of economics at the Center for Eco- fellow. This article is a summary of the authors' study nomic Research and Graduate Education of Charles Uni- published as WGI Working Paper no. 492. Recent Working Papers of The William Davidson Institute Papers can be downloaded at no charge from www wdi. bus. umich. edu. * Berkowitz, Daniel, and David N. DeJong, Integration: Egert, BalIzs, Equilibrium Real Exchange Rates An Empirical Assessment of Russia, WP 488, Feb- in Central Europe's Transition Economies: Knock- ruary 2002. ing on Heaven's Door, WP 480, July 2002. Bhaumik, Sumon Kumar, and Jeffrey B. Nugent, Does El-Hamidi, Fatma, and Katherine Terrell, The Impact Economic Uncertainty Have an Impact on Deci- of Minimum Wages on Wage Inequality and Em- sions to Bear Children? Evidence from Eastern ployment in the Formal and Informal Sector in Germany, WP 491, July 2002. Costa Rica, WP 479, April 2001. Bonin, Holger, and Rob Euwals, Participation Be- Galiani, Sebastian, and Hugo A. Hopenhayn, Dura- havior of East German Women after German Uni- tion and Risk of Unemployment in Argentina, WP fication, WP 477, July 2002. 476, October 2001. Bourguignon, Fran,ois, Francisco H. G. Ferreira, and Haltiwanger, John, and Milan Vodopivec, Worker Phillippe G. Leite, Beyond Oaxaca-Blinder: Ac- Flows, Job Flows, and Firm Wage Pulicies: An counting for Differences in Household Income Analysis of Slovenia, WP 486, July 2002. Distributions, WP 478, February 2002. Hoek, Jasper, Labor Market Institutions and Re- Brown, J. David, and John S. Earle, The Realloca- structuring: Evidence from Regulated and Un- tion of Workers and Jobs in Russian Industry: regulated Labor Markets in Brazil, WP 484, July New Evidence on Measures and Determinants, 2002. WP 490, August 2002. Jazbec, Bostjan, Real Exchange Rates in Transi- Campos, Nauro F., and Dean Jolliffe, After, Before, tion Economies, WP 482, July 2002. and During: Returns to Education in the Hungar- ian Transition, WP 475, April 2002. Koulikov, Dmitri, Modeling Sequences of Long Memory Positive Weakly Stationary Random Vari- Dimitrova, Kalina, and Nikolay Nenovsky, Dual In- ables, WP 493, August 2002. flation under the Currency Board: The Chal- lenges of Bulgarian EU Accession, WP 487, July Lehmann, Hartmut, Kaia Phillips, and Jonathan 2002. Wadsworth, The Incidence and Cost of Job Loss in a Transition Economy: Displaced Workers in Drine, Imed, Balazs Egert, Kirsten Lommatzsch, and Estonia, 1989-1999, WP 489, August 2002. Christophe Rault, The Balassa-Samuelson Effect in Central and Eastern Europe: Myth or Reality? Qian, Yingyi, How Reform Worked in China, WP WP 483, July 2002. 473, June 2002. Earnhart, Dietrich, and Lubomir Lizal, Effects of Own- Senik, Claudia, When Information Dominates Com- ership and Financial Status on Corporate Envi- parison: A Panel Data Analysis Using Russian Sub- ronmental Performance, WP 492, August 2002. jective Data, WP 495, May 2002. TRANSITION, .Uly-Atlgust-September 2002 © 2002 WDI ©3 2002 The World Bank Smarzynska, Beata K., and Shang-Jin Wei, Corrup- van Ours, Jan C., The Locking-In Effect of Subsidized tion and Cross-Border Investment: Firm-Level Evi- Jobs, WP 474, June 2002. dence, WP 494, December 2001. Voicu, Alexandru, Labor Force Participation Dynam- - Stern, Robert M., An Economic Perspective on ics in the Romanian Labor Market, WP 481, July Russia's Accession to the WTO, WP 472, June 2002. 2002. Articles provided by: The Urban Institute A NONPARnSAN ECONOMIC AND SOCLkL PuOuCY RESARCH OPtGANITNNA | Transition Policy Network: A Regional Network of Independent Think Tanks By Clare Romanik What should a minister of finance do once leaving office? For Albania's ex-finance minister, Genc Ruli, the choice was relatively easy: together with another "ex," the former foreign trade minister, he estab- lished a think tank, the Institute for Contemporary Studies. The Tirana-based research institute is one of 10 independent think tanks that are loosely affiliated within the Transition Policy Network (TPN), founded -r" in 1997 by the Urban Institute and the Metropolitan Research Institute, Budapest, and the Institute for Urban Economics. As periodic one-on-one collaboration grew into more steady and mutually beneficial relationships, the concept of a regional network of public policy think tanks became a realistic possibil- ity. East-East collaboration has been notoriously lagging West-East teamwork in donor assistance projects, and the network has proved to be an unusual approach to rectifying this situation. TPN members are experts on a wide range of important and share experience only available from other think public policy issues, including public finance and ad- tanks. On the occasion of its 10-year anniversary, the ministration, urban infrastructure, social protection, hous- Krakow Real Estate Institute recently organized a net- ing policy and finance, corporate governance, civil society, work conference on think tank development and man- and anticorruption initiatives. They are adept at turning agement. The participants mostly agreed that once their their policy expertise into policy change. For example, credibility as independent policy experts has been es- the Bulgarian Center for the Study of Democracy is play- tablished, they must be continually vigilant to maintain ing a major role in implementing and monitoring an anti- their relevance by addressing important and timely is- corruption awareness campaign initiated by civil sues, be they related to economic convergence with the ?- organizations and state institutions, and senior staff of EU, to membership in the European Monetary Union, or the Russian Institute for Urban Economics serve on the to corporate governance and fiscal federalism. Commission on Separation of Powers between the Fed- eral, Regional, and Municipal Government, which will Mentoring the next generation of experts is another chal- - make recommendations to Russian President Vladimir lenge. The network's research grants are targeted to Putin. The diversity of experience and special interests mid-level staff of these institutes to strengthen and ex- creates many possibilities for sharing expertise through- pand their professional expertise. In addition, TPN helps out the network. them publish their research results. Think tanks in Eastern Europe are facing many challenges, When TPN members assist governments in other tran- operating in an environment where think tanks were previ- sition countries, it boosts their credibility and pres- ously unknown. Through the network they receive support tige at home. Slovakia's Institute of Housing (IH) has D 2002 The World Bank C 2002 The Urban Institute TRANSrriON, July-August-September 2002 Russia on local government finance issues; and the Mos- Members of the Transition Policy Network cow-based institute for Urban Economics offered its ex- pertise on housing finance and social assistance in 0 Albania: Institute for Contemporary Studies several Central Asian countries. http.//www. ics-al. orgl * Armenia: Center for Policy Analysis ;~ http://www.aua.am/aua/research/#cpa TPN members are also providing technical assistance * Bulgaria: Center for the Study of Democracy to each other. Slovakia's Institute of Housing worked : http./-www csd. bg/ with the Urban Institute to establish the Union of * Hungary: Metropolitan Research Institute Homeowners' Associations, a financially independent hMIpdAreww.rnri.htu NGO (and currently the second largest NGO in Slovakia) tives with regional training centers and an advocacy mandate. http.//www. iatp.md/vi#toru1/desO2e. htm E * Poland: Krakow Real Estate Institute The network is open to new members. Candidates should http://www.kin.org.pl be nominated by at least one existing member and their * Romania: Center for Political Studies and Comparative membership must be approved by all existing members. Analysis http.//wwwiatp.md/viitoru1/ A new initiative is being explored to build a virtual com- * Russia: Institute for Urban Economics munity through a members only intranet site (in addition http.//wwwurbaneconomics.ru/englindex.html to the present external site: www.urban.org/tpn). The * Slovakia: Institute of Housing site would host user groups on specific research inter- http://www.instbyv.sk * United States: Urban Institute ests and deal with policy research techniques, such as http:/fwww urban.org/ surveys, mapping for geographical analysis, and micro- simulation. provided housing policy expertise in Armenia, Georgia, Clare Romanik is director of the Transition Policy Net- and the Kyrgyz Republic; staff from Hungary's Metro- work and a research associate at the Urban Institute. politan Institute have worked in Albania, Georgia, and She can be reached at Cromanik@ui.urban.org. Articles provided by: rgBank of Finland Institute for Economies in Transition Fiscal Situation of Baltic Municipalities By Viktor Trasberg During the last decade, the Baltic countries have reformed their public administration systems in re- sponse to the overcentralization of their Soviet past. The reforms seek to devolve certain expenditure functions and revenue collection to lower levels of government. Yet despite this restructuring, serious problems still exist. Municipalities in all three Baltic countries have limited Administrative Structure fiscal resources to fulfill their main functions, and thus remain highly dependent on the central authorities. During the euphoria of re-establishing new local admin- Moreover, regional disparities in public good provision istrative units in the early 1990s. Estonia and Latvia fo- have increased. Even though most municipalities' ac- cused on restoring systems that had existed prior to tivities have become more transparent and efficient, in World War II. The mixture of nostalgia and economic many cases their administrative capacity is still insuf- nafvet6 led to the re-establishment of numerous thinly ficient. populated, financially weak local municipalities. In TRANSI I'ION, July-August-September 2002 © 2002 The Urban Institute/BOFIT © 2002 The World Bank Administrative Division of Baltic Countries, 1999 equalize revenues, but also increase political depen- (number) dency on the central authorities. Unit Estonia Latvia Lithuania . .. In Lithuania, increased tax revenues since 1997 have Rural authorities 205 472 n.a. cut the amount of annual grants from the central bud- Towns 42 80 60 get, and in 2001 no transfers were made from the cen- Regional governments 15 26 10 tral budget to local budgets. However, Lithuanian local Total 262 578 70 governments have fewer functions than their Estonian Source: Organisation for Economic Co-operation and and Latvian counterparts, and therefore need less money. Development country reports (2001). Motivation for Further Reforms Lithuania, local public administration reform has moved slowly, and the problem of how to transform Soviet-style Territorial and local budget reforms in all three Baltic administrative units into units that are genuinely repre- countries continue to result in improved administrative sentative of local interests persists. capacity. This is crucial for the EU accession process, because adequate administrative capacity on the part Estonia and Latvia have many more municipalities than of municipalities is an important requirement for mem- Lithuania (see the table); however, Lithuania plans to bership. In Estonia and Latvia, reforms have focused on increase the number of municipalities in 2003. Most mu- consolidating small municipalities into larger units to nicipalities in Estonia and Latvia have relatively few secure a tax base and fiscal autonomy, as well as to people: some 85 percent of Estonian municipalities and maintain their functions with fewer central government 91 percent of Latvian municipalities have fewer than 5,000 grants. In Lithuania, the thrust of reforms is to optimize inhabitants. In Lithuania, only 7 percent of communities municipalities' size and functions and to limit central have fewer than 10,000 inhabitants. Moreover, in Esto- government influence. nia and Latvia the population is concentrated around the capital cities, which creates huge revenue disparities Viktor Trasberg is a lecturer in the Faculty of Economics between these areas and low-density rural municipali- and Business Administration, University of Tartu, Esto- ties. nia. This article was first published in the September, 2002 issue of Baltic Economies-Bimonthly Review Are Transfers the Answer? Politicians Draft Election Program The share of Baltic municipalities in consolidated bud- gets remains less than one-fourth. Subnational govern- ments receive most of their revenues from income taxes, H| |r which are a shared tax in Estonia and Latvia and a solely l , l\ h local tax in Lithuania. Other local taxes, such as land and property taxes, are insignificant, mainly because of . _ the low tax base. In Lithuania tax revenues account for 97 percent of total revenues, while in Estonia and Latvia tax revenues represent less than half of total revenues . their economic activities, privatization transfers, fees, fines, and user charges. They account for less than a fifth of all revenues in Estonia and Latvia and only 2 percent in Lithuania. In Estonia and Latvia, local mu- t 3 nicipalities receive a substantial share of their income in the form of central government grants as specific or "Let's not mention mass transport and vegetable general (equalization) fiscal transfers. The largest pro- prices, none of us have ever ridden the metro or portion of specific grants in Estonia and Latvia covers done any shopping at a grocery store" transfers to support education. General grants-in-aid (27 percent of Estonian municipalities' total revenues) From the Hungarian Daily N6pszabadsag D 2002 The World Bank © 2002 BOFIT TRANSITION, July-August-September 2002 Dismal State of Russia's Heavy Machinery Industries By Pertti Naulapaa The production of heavy machinery, especially tractors, was once the backbone of Soviet engineering. A study carried out during late 2001 to early 2002 found that the condition of Russia's heavy machinery industries was gloomy. The main markets for this machinery are still agriculture, forestry, and construc- tion, and in all these sectors the level of technology in Russia is extremely low. With the disintegration of the Soviet Union, Russia's existing service infrastructure, Western manufacturers agricultural and construction machinery industries col- found it hard to penetrate the Russian market. Pro- lapsed. By 2000 the manufacture of tractors and grain ductivity requirements in the Russian agriculture and combine harvesters had fallen to 7 to 10 percent of construction sectors remain low, and Russian ma- their 1990 level, and the production of other machin- chines are adequate to meet these low expectations. ery for the agriculture and forestry sectors had also Nevertheless, as soon as competition intensifies, the collapsed. Annual production has risen slightly in the need for imports of high-productivity Western equip- past two years to 15,000 tractors and 6,000 harvest- ment will also increase. ers, but U.S. authorities and Russian government experts estimate that Russia still needs at least The study mentioned earlier used benchmarking tech- 600,000 tractors and more than 400,000 combine har- nology to evaluate Russian manufacturers of agricul- vesters. Only about 50 percent of Russia's tractor fleet tural and construction machinery based on nine groups of 700,000 is fully functional, and the fleet continues of indicators. For example, the average technology to decrease at a rate of about 10 percent per year. rating of the Russian manufacturers was about 40 on Each year more than 20 percent of the grain harvest a scale of 100, while Scandinavian benchmark com- is lost because of the poor condition of agricultural panies had ratings of between 90 and 100. Russian machinery. production technology and production management are generally at the level of Scandinavian manufactur- The production of construction machinery has also ers in the early 1970s, and most products are still fallen sharply. Compared with 1990, the production of based on 1970s and 1980s designs. excavators had collapsed to about 10 percent by 2000 and of bulldozers to 20 percent, although production Thus the need for investment in product development, has picked up slightly since that time. About 50 per- production, and marketing is huge. In addition, the cent of construction equipment in service has reached systems for production and distribution of spare parts or exceeded its useful economic life. do not function either, as dealer networks are still being created. According to some Russian government ex- Imports of agricultural machinery expanded rapidly be- perts, merely preserving the current tractor fleet would fore the ruble fell in 1998. In 2000 Russia imported cost about $1 billion per year, yet only a fraction of about 14,000 agricultural and industrial tractors, in- this sum has been invested in tractor production in cluding about 6,000 from Belarus. Imports of combine recent years. According to the same experts, about harvesters amounted to about 500 units in 2000. As $20 billion would be needed for machinery and other concerns construction machinery, about 20 percent inputs to restore the Russian agricultural complex to of excavators, 30 percent of cranes, 33 percent of its earlier levels. scrapers, and 13 percent of bulldozers were imported in 2000. Pertti Naulapaa is managing director of DBD Intema- tional Development, Ltd. This is a shorter version of Russian made agricultural and construction machin- an article published in the July/August issue of the ery became competitive after the 1998 ruble devalua- Russian Economy-The Month in Review and is avail- tion. Given Russia's low labor and fuel costs and able on pertti.naulapaa@kolumbus.fi. TRANSITION, July-August-September 2002 © 2002 BOFIT @ 2002 The World Bank Role of Foreign Direct Investment in the Russian Banking Sector By likka Salonen The role of banks, particularly of foreign banks, is still underdeveloped in Russia, largely because of its history of protection. As a result, the banking sector is a bottleneck to economic growth. While the number of banks in Russia rose to more than size of the largest bank, Sberbank, may restrain competi- 1,000 before a banking law was introduced in 1967, the tion. The evolution of transparency in Russian banks has track record for foreign direct investment in the banking yet to reach real disclosure, and there is still no formal sector remains modest. The first joint venture bank was pressure on banks to be open. Only some of Sberbank's U founded i.1 1989, ending the state's monopoly in foreign shares are publicly quoted. Most large banks apply Inter- currency operations, and the first fully foreign-owned bank national Accounting Standards, but small banks do not. subsidiary was set up in 1993. At the same time, numer- Moreover, the general introduction of International Account- ous newly established private Russian banks sought gov- ing Standards, which is slated for 2004, needs to be coupled ernment protection for their domestic and foreign currency with other improvements in internal and external bank su- operations. Despite various deficiencies in markets and pervision. In 1998, for example, all large banks that failed the operating environment, by June 2002 Russia had still had previously published sound figures based on Interna- managed to attract 26 fully foreign-owned bank subsidiar- tional Accounting Standards. Banks' balance sheets are ies and another 11 banks with majority foreign ownership. heavily weighted with short-term liabilities, as the number of potential investors with long-term interests in ruble as- Emerging Banking Market sets is limited, which is also hampering investment financ- ing. As concerns borrowers, transparency is naturally The emerging, cautious state of banking in Russia is re- important, but in the current stage of lending, such basics flected in foreign involvement that differs from the situa- as collecting collateral require significant improvement. In- tion in most Central and Eastern European countries, as deed, the preconditions for bank lending even extend to all major foreign-owned banks in Russia are greenfield the reform of Russian courts. operations and their position is substantially weaker. Of the 30 largest Russian banks, only 6 are foreign owned, Winds of Change and the share of the 10 largest foreign banks amounts to no more than 7 percent of the banking sector's total as- In such an environment, even the largest foreign banks sets of about $100 billion. Foreign banks in Russia have could not make much headway, and caution prevails. For- notably differing business profiles than elsewhere in Cen- eign bank subsidiaries remain unwilling to engage in sub- tral and Eastern Europe, reflecting the differences in par- stantial investment, and parent banks are wary about ent banks' strategies regarding Russia. Some of the injecting equity to prop up their lending capacity. In the largest foreign banks have been active in collecting cor- future, expansion of foreign banking services in Russia may porate deposits, and more recently household deposits, be a combination of two directions. First, while there is which account for 5 to 25 percent of their balance sheets. currently no need for large foreign direct investment in the Assessing the state of the market via major assets is financial sector for financing large investments in Russia, if complicated by caution in relation to risk taking. For ex- a bank wants to become a serious player in Russia's still ample, foreign banks' corporate loans and interbank loans relatively volatile market, it must have a local presence. may contain limited exposure to Russian risk. Second, some leading international banks may also make major acquisitions of Russian banks in the next couple of Ongoing Issues years, mainly to gain local retail banking capacity. Distrust of banks remains a leading reason for the low likka Salonen is chairman of the board of the Interna- level of deposits, although the large shadow economy tional Moscow Bank (www.imb.Ru). This is a shorter also avoids banks. Various Russian banks have mis- version of an article published in the June issue of The treated their depositors, and banks thus face an uphill Russian Economy-The Month in Review and is avail- struggle to restore public confidence. Moreover, the sheer able on pertti.naulapaa@kolumbus.fi. (C 2002 The World Bank © 2002 BOFIT TRANSITION, July-August-September 2002 ; dBOFIT Discussion Papers a .0 Z '~ John Bonin and Paul Wachtel, Financial Sector De- infrastructure and regulatory mechanisms, while at the 1;itvelopment in Transition Economies: Lessons from same time avoiding interference in the markets Virtu- ,!az - c 1the First Decade, DP no. 9/2002, 61 pp. ally all the transition countries' capital markets are still 3: 0 x missing many components. .> < ,' 1The first decade of transition witnessed rapid and tumultuous financial sector development. Although Christoph Fischer, Real Currency Appreciation in . 7,.1. few transition economies have reached the point Accession Countries: Balassa-Samuelson and In- 7/A/-R a where institutions and markets fulfill all the functions vestment Demand, DP no. 8/2002, 36 pp. ,'.V~ .) iof market-based financial intermediation, progress has *, been much more rapid than had been anticipated. In The Balassa-Samuelson effect [Balassa-Samuelson's many countries, active market-oriented financial insti- 1960s analysis predicted that the real exchange rates tutions function where a decade ago there was only a of fast-growing countries will tend to rise over time, mainly state planning mechanism. Initial experiences showed because growth bids up the prices of nontraded goods, that bank privatization programs often failed to achieve in other words, productivity improvement biased towards independence from government control and from unde- traded goods] is usually seen as the prime explanation sirable weak clients. of the continuous real appreciation of currencies of the Central and Eastern European transition countries It is now widely accepted that participation by foreign against their Western counterparts. This study shows strategic investors in banking is an effective way to ad- that productivity shocks work not only through a Balassa- vance this sector Capital market development is com- type supply channel, but also through an investment plicated by the need to strengthen institutional demand channel. Conference Diary For the Record Forthcoming EU Enlargement in a Changing World-Challenges Showcasing Russia: The Reforming Elite-An for Development Cooperation in the 21st Century Euromoney Conference September 19-21, 2002, Ljubljana, Slovenia October 3, 2002, Metropolitan Club, NewYork, United States Topics: Transition studies and development studies- Organized by Euromoney and sponsored by Renais- the role of Central and Eastern European social sci- sance Capital and Ernst & Young, the conference will ence; EU enlargement and European development policy provide an opportunity to hear in-depth from the corpo- for a changing world; the Stability Pact for Southeast rate leadership driving Russia's entry into global capital Europe-model for other crisis regions?; clash of civili- markets and to debate key market and policy develop- zations or intercultural dialogue?; challenges for EU ments. Is the Russian investment environment really Mediterranean policy; from transition to accession- improving, and is the improvement sustainable? What perspectives for the new members; EU trade policy and is driving the restructuring of Russia's largest corpora- the new WTO Round; beyond fortress Europe-bridges tions? What do they need to do to approach interna- to the South; impact of enlargement on EU relations tional levels of competitiveness, and is this achievable? with the developing world; and from aid recipients to re- These and many more questions will be discussed. The emerging donors-the role of accession countries in the presenters will be senior leaders of Russia's reform pro- EU system of official financial flows. gram and CEOs of those Russian companies with the scale and quality required by global investors. The Information: Institute for Economic Research, speaker line-up includes Russia's Minister for Economic Kardeljeva pl. 17, SI-1000 Ljubljana, Slovenia, tel.: Development and Trade German Gref and top manage- 386-1-5303-810, fax.: 386-1-5303-874, e-mail: mentof leading Russian companies, including RAO UES, stanovnikp@ier.si or recnikm@ier.si. Yukos, VimpelCom, and GMK Norilsk Nickel. TRANSITION, July-August-September 2002 ( 2002 The World Bank 'Information: Suzanne Freeman, Euromoney Confer- unrecorded, unreported, informal, underground, hidden, ences, Nestor House, Playhouse Yard, London EC4V shadow, parallel) activities in transition countries during 5EX, tel.: 4420-7779-8394, fax: 4420-7779-8396, the past decade. email: sfreeman@euromoneyplc.com, URL: http:// , www.euromoneyconferences.com/. Information: Institute of Public Finance, Katanciceva 5, 10000 Zagreb, Croatia; tel.: 3851- 481-9363, fax: 3851- Youth Cooperation Conference 481-9365, email: kott@ijfhr, URL: http://www.f.hr. , October 3-6 2002, Bornholm, Denmark Conference on East-Central Europe Infrastructure This conference is being organized by the Danish Cen- and Investment-How Can Companies and Govern-. , tre for International Cooperation and Mobility in Educa- ment Agencies Upgrade Transport, Water, Telecom- tion and Training to bring together representatives of the munications, Power? EU member states, the candidate countries, and the October 30-31, 2002, New York, United States CIS and create the basis for cooperation in the youth area. The participants will exchange experience about Sponsors include Hewlett-Packard, the World Bank, the project management and discuss new projects. United Nations, FitchRatings, the Intemational Herald' Tribune, the Washington Times, the British Consultants Information: Benedikta von Eltz-Rubenach, Cirius, and Construction Bureau, and the International Private Fiolstraede 44, 1171 Copenhagen K, Denmark, email: Water Association. The conference will include presen- ' ber@ciriusmail.dk, URL: http://wwwciriusonline.dk. tations from mayors of key European cities; CEOs of:' companies based overseas; and leading representatives I International Financial Crises: What Role for Gov- of financial institutions, including the European Invest- ernment? Cato Institute 20th Annual Monetary ment Bank, the European Bank for Reconstruction and ' Conference Development, and the Hungarian Central Bank. October 17,2002, WaldorfAstoria, New York, United States Information: tel.: 1-877-422-8382 (inside the United u Leading experts discuss the following issues: Should States) or 1-415-374-8235 (intemational dialing), e-mail: the IMF act as an international bankruptcy court? Would GordonF20@ATTbi.com, URL: http://www.acteva.com/t global capital markets be better served by new contrac- go/Nyconference. tual arrangements that rely on market discipline, not politics, to determine bankruptcy procedures in the case Exchange Rate Strategies during the EU Enlarge- i- -----i of sovereign doubt? What lessons can be learned from ment the Argentinean default? Which is more likely to bring November 27-30, 2002, Budapest, Hungary about monetary stability, currency unification or compe- tition? Will the new Basel capital standards improve risk The International Center for Economic Growth is hosting assessment or simply add new regulations that limit this event. The purpose of the conference is to present. -l socially beneficial innovation? Participants include theoretical and empirical analyses on exchange rate poli- Samuel Brittan, Steve H. Hanke, Anne 0. Krueger, Allan cies and the choice of exchange rate regime in pre-acces- ; H. Meltzer, and Jeffrey Sachs. sion economies during the EU enlargement. Eight keynote speakers will address four sessions, and the organizers; Information: Conference Department, Cato Institute, expect around 35 additional papers for presentation. K, 1000 Massachusetts Avenue' NW., Washington, D.C. 20001; email: monetary@cato.org. Information: Agnes Szigetvari, email: aszigetvari@ axelero.hu, URL: http://wwwicegec.org. Unofficial Activities in Transition Countries: 10 Years of Experience Economic Development and Reconstruction Poli- October 18-19, 2002, Institute of Public Finance, Zagreb, cies in Southeast Europe: Regional Cooperation,: Croatia Trade, and Foreign Investment April 10-12, 2003, Dubrovnik, Croatia An international conference organized by the Institute of Public Finance, Zagreb, will analyze the size, scope, causes, Organized by the Inter-University Center, Dubrovnik, which consequences, and policy implications of unofficial (illegal, is an independent international institution for advanced - c 2002 The World Bank TRANSITION, July-August-September 2002 studies and a forum for learning and scholarship, co- to be included in the review process. Details on confer- sponsored by some 200 member universities and in- ence sessions and presentations, as well as on con- stitutions of higher learning around the world. The ference venue, will be sent along with the instructions conference is the second in a series that will ad- to authors by October 31, 2002. dress the issue of economic development and re- construction in Southeast Europe (the first, held in Informat.on: Faculty of Economics, 31 Matice Hrvatske, April 1992, focused on the role of small and medium 21000 Split, Croatia; teL.: 385-21-430-600 or 430-700, - enterprises). The conference is designed to bring fax: 385-21-430-701, email: eitconf@efst.hr, URL: http:/ together academics, policymakers, and practitioners /www.efst.hr/eitconf. interested in issues relating to economic develop- ment and reconstruction policies in Southeast Eu- Public Relations-An Instrument for Transforma- rope to present research results and policy tion and Development of Higher Education in Cen- evaluations (what works and why), and to participate tral and Eastern Europe in intensive debate and exchange of views. May 23-25, 2003, University of Economics, Poznan, Poland Application deadline: November 15, 2002 (for abstracts). Organizers: Chair of economic journalism and pub- Information: Maja Vehovec, tel.: 385-51-338-067, fax: lic relations, Poznan University of Economics, 385-51-322-621, email: maja.vehovec@ri.tel.hr, URL: Poznan, Poland; and the United Nations Educational, http://www.hr/iuc/docs/konfer/confer.html. Scientific, and Cultural Organization-CEPES, Bucharest, Romania. The conference will bring to- Enhancing the Capacities to Govern: Challenges gether professionals and academics working in the Facing the CEE Countries-llth Annual Confer- areas of both higher education and public relations ence of the Regional Center of the United Nations in the European transition economies. Participants Online Network in Public Administration and Fi- will discuss current reforms and development issues nance as they pertain to higher education and how to forge April 10-12, 2003, Bucharest, Romania good working relationships and create strong com- petition between public universities and newly es- This conference will discuss the theory and practice of tablished private universities. Proposals for papers, enhancing capacities in public administration. Papers based on concluded or ongoing research, case stud- are invited on the main conference theme or on the ies, working papers, and/or review papers must fo- themes of the working groups. cus, among other things, on: * The image of institutions of higher education-sell- Information: Viera Wallnerova, Project Manager, ing a "product" or fulfilling a mission? NISPAcee, Hanulova 5/B, 840 02 Bratislava 42, Slo- * Differences in the public relations strategies of pri- vak Republic; tel.: 421-2-6428-5558, tel./fax: 421-2- vate and state-owned schools of higher education. 6428 5557, email: Wallnerova@nispa.sk. * Fund raising, a new phenomenon. Do universities need lobbying? Fifth International Conference on Enterprise in * Differences in the visual identity of private and state- Transition owned schools. May 22- 24, 2003, Split, Croatia * Role of alumni associations as multipliers of a posi- tive image. Organized by the Faculty of Economics, University of * Role of ranking in creating positive images of a uni- Split. The conference will have two focus areas: institu- versity. tions, investment, and integrations and new challenges * University newspapers and editing houses, their role for the enterprise in transition. Prospective authors are in the school's public relations. invited to submit a short abstract (up to 250 words) in English, including the author's name, affiliation, and Deadlines for submission: abstracts by February 15, contact details, by September 30, 2002. Detailed in- 2003, and complete papers by March 15, 2003. structions for authors will be provided to all the authors whose abstracts are accepted for the conference. Pa- Information: Jacek Trebecki, Chairman of the Organiz- pers should be received by January 31, 2003, in order ing Committee, e-mail: kpr@novcil.ae.poznan.pl. TI RANSITION, July-August-September 2002 C) 2002 I he World Bank New Books and Working Papers (continued) Continued from page 32 experience of Eastern European countries, however, seems to some extent to go against these conclusions. established as part of a World Bank loan to Moldova. This opens possible new vistas for research, namely, ARIA was structured to combine private sector entrepre- the need to incorporate the length of democratic experi- neurship with a public function in managing restructuring ence and the role played by ideology and social values. and bankruptcy. The authors may be contacted at The authors may be contacted at grade@bgumail. dellerman@worldbank.org or vkreacic@worldbank.org. bgu.ac.il or bmilanovic@worldbank.org. Liesbet Steer and Markus Taussig, A Little Engine that Branko Milanovic, Can We Discern the Effect of Glo- Could.. Domestic Private Companies and Vietnam's balization on Income Distribution? Evidence from I8 Pressing Need for Wage Employment, WPS 2873, Household Budget Surveys, WPS 2876, August 2002, July 2002. 22 pp. Vietnam's small private sector (its share in GDP and The effects of globalization on income distribution in rich employment are 8 and 2 percent, respectively) contrib- and poor countries are a matter of controversy. While uted 15 percent to industrial growth between 1995 and international trade theory in its most abstract formula- 2000. In addition, 43 percent of export growth in both tion implies that increased trade and foreign investment 1999 and 2000 originated from the private sector. Since should make income distribution more equal in poor the implementation of the Enterprise Law in 2000, a to- countries and less equal in rich countries, finding these tal of 35,440 private firms have registered, nearly two- effects has proved elusive. The paper uses data from thirds the total number of registered firms for the entire household budget surveys and looks at the impact of preceding decade. Pre:iminary evidence suggests that openness and foreign direct investment on the relative the increase in the number of genuinely active private income shares of low and high deciles. At very low aver- companies has been between one-third and one-half of age income levels, the rich benefit from openness. As the new registrants. Private companies are significantly income rises to higher levels (comparable to the income better off now than they were a couple of years ago, level of Chile, Colombia, or the Czech Republic), the when regional economic recession and stagnating do- situation changes, and the relative incomes of the poor mestic policy reforms nearly halted development of the and the middle class rise compared with those of the formal private sector. At the same time, the sector's rich. Thus openness seems to make income distribu- small base means that its impressive rates of job cre- tion worse before making it oetter, or to put it differently, ation still fall far short of matching the rapid growth of the effect of openness on income distribution depends the overall work force. The authors may be contacted at on the initial income level of a country. The author may Isteer@netnam. vn or markus@fpt. vn. be contacted at bmilanovic@worldbank.org. Mark Gradstein and Branko Milanovic, Does Liberte Gregorio Impavido, On the Governance of Public Pen- =Egalite? A Survey of the Empirical Links between sion Fund Management, WPS 2878, August 2002, Democracy and Inequality with Some Evidence on 36 pp. the Transition Economies, WPS 2875, August 2002, 38 pp. This paper surveys the empirical literature on the rela- tionship between the governance of public pension fund The literature suggests that formal exclusion from the management and investment performance. Consensus political process through restrictions on voting rights has is building on the following statements: caused a high degree of economic inequality, and that democratization in the form of voting rights expansion * The sole objective of public pension funds should be has typically increased redistribution, at least in the small to provide affordable and sustainable retirement income. sample of episodes studied. In a less pronounced way, * Governors should be independent from political power recent evidence also indicates an inverse relationship and fit and proper for their role. between measures of democracy based on civil liber- * The law of fiduciary duty should define the responsi- ties and political rights and inequality. The transition bilities of governors. D 2002 The World BaInk TIRANSI'I ION, July-AUgUSt-September 2002 * Governors should be made accountable for the fund's Alexander S Preker and David M. Dror, Social Rein- performance. surance: A New Approach to Sustainable Commu- * Independent performance evaluations (investment, nity Health Financing, International Labor Organization audit, actuarial, and other) should be conducted by and World Bank, September 2002, 540 pp. I external and independent entities on a regular basis. * Outside experts should be used regularly to define The World Bank Annual Report 2002: Volume 1, and implement fund policies. Year in Review, September 2002, 176 pp. * Internal controls should be established to avoid con- flicts of interest. Dimitri Vittas, Gerard Caprio, and Patrick Honohan, eds., Financial Sector Policy for Developing Coun- / . Research is clearly needed to identify what gover- tries: A Reader, Oxford University Press, August 2002, ' nance elements are relevant for, and specific to, pub- 272 pp. lic pension plans that are not relevant for private pension funds; what governance elements are linked The dramatic events of the late 1990s brought the is- with performance, especially in developing countries; sue of financial sector policy in developing countries and what good governance practices can be used to to the forefront. Financial sector reform involves improve the performance of public pension fund man- strengthening the prudential regulations and supervi- agement in developing countries and how these can sion of the financial system. A well-functioning finan- be implemented. A network of public pension fund cial sector is necessary to ensure market-driven managers that would be responsible for developing allocation of investible resources. Drawing on the ac- guidelines is needed. The author may be contacted cumulated experience of its contributors, this book at gimpavido@world bank.org. provides an understanding of the sector's structure and dynamics. Martin Ravallion, Externalities in Rural Develop- ment: Evidence for China, WPS 2879, August 2002, Aaditya Mattoo, Bernard M. Hoekman, and Philip En- 35 pp. glish, eds., Development, Trade, and the WTO: A Handbook, June 2002, 672 pp. Soumya Alva, Edmundo Murrugarra, and Pierella Paci, The Hidden Costs of Ethnic Conflict: Decompos- This handbook offers guidance on the design of trade ing Trends in Educational Outcomes of Young policy reform and surveys key disciplines and the func- Kosovars, WPS 2880, August 2002, 31 pp. tioning of the WTO. It also discusses those issues and options that confront developing countries in us- Other World Bank Publications ing international cooperation to improve domestic policy and obtain access to export markets Sepa- World Development Report 2003: Sustainable De- rate sections summarize what constitutes sound trade velopment in a Dynamic World: Transforming In- policy; major aspects of the WTO from a development stitutions, Growth, and Quality of Life, Oxford University perspective; policy issues in the area of merchandise Press, September 2002, 272 pp trade and the liberalization of international transac- tions in services; protection of intellectual property This year's World Development Report examines, the rights and economic development; new regulatory relationship between the competing policy objectives subjects that are emerging on the agendas of trade of reducing poverty, maintaining growth, improving so- talks; and enhanced participation by developing coun- cial cohesion, and protecting the environment over a tries in the global trading system The book also in- 50-year period It emphasizes that many good policies cludes two CD-ROMs: "A Dataset on Trade and have been identified, but have not been implemented Production, 1976-99" and "Applied Trade Policy for because of distributional issues and barriers to devel- Developing Countries: Outline, Content, and Readings oping better institutions The report reviews institutional for a Short Course." innovations that might help overcome these barriers and stresses that ensuring economic growth and im- Alessandro Magnoli, What Do You Mean? Concep- proving management of the planet's ecosystem require tual Clarity in Social Policy, Inter-American Devel- a reduction in poverty and inequality at all levels: local, opment Bank, July 2002, 237 pp. (Available at the national, and international. World Bank's Infoshop.) TRANSITION, July-August-September 2002 C) 2002 The World Bank According to Jacques van der Gaag, director of the IXH, Scotland, tel.: 44-141-548-3217, fax: 44-141-552- Amsterdam Institute for Intemational Development: "How to 4711, URL: www.cspp.strath.ac.uk. deliver social services in an efficient and equitable way is one of the core issues of today's intemational development Judith Thornton and Charles E. Ziegler, editors, Russia's agenda.Magnolichallengespolicymakerstothinkhardabout Far East: A Region at Risk, The National Bureau of whattheymean by'efficient'and'equitable.'Isthere reallya Asian Research, Seattle, Washington, 2002, 498 pp. trade-off between the two? This is a must read for everyone To order: The National Bureau of Asian Research, 4518 - who takes the Millennium Development Goals seriously." University Way, N.E., Suite 300, Seattle, WA 98105, United States, tel.: 206-632-7370, fax: 206-632-7487, Other Publications URL: http://www.nbr.org, email: nbr@nbr.org. Richard Rose, A Bottom Up Evaluation of Enlarge- OECD, Russian Federation, Economic Surveys, vol. ment Countries-New Europe Barometer 1, Stud- 2002/5, February, 207 pp. ies in Public Policy no. 364, University of Strathclyde, To order: Organisation for Economic Co-operation and Glasgow, Scotland, 2002, 60 pp. Development, 2 rue Andre-Pascal, 75775 Paris, France, To order: Centre for the Study of Public Policy, Univer- Cedex 16, tel. 331-4524-8770, fax: 331-4524-9175, sity of Strathclyde, Livingstone Tower, Glasgow GI email: silvana.malle@oecd.org. Bibliography of Selected Articles The web site addresses are for information only. Given the frequent changes in their content, we cannot take responsibility for their accuracy. Postsocialist Economies T. G. Tarjan, Janossy's Trendline Theory in the Light of the New Growth Theory, Acta Oeconomica (Hungary) 52(1): G Bel, Privatization: Public Offerings and Political Objec- 79-104, 2002 tives, Applied Economics (United Kingdom) 34(12):1421- 32, July 20, 2002 Televising Money [Interview with Dan Yergin, author of The Commanding Heightsltelevized documentary on glo- D. A. Benitez, A. Estache, D. Mark Kennet, and C. A. Ruzzier, balization], Intemational Economy (United States), 16(3): The Potential Role of Economic Cost Models in the Regu- 26-31, Summer 2002 lation of Telecommunications in Developing Countries, Information Economics and Policy (Netherlands) 14(1): 21- China 38, March 2002 X. Liu, P. Burridge, and P. J. N. Sinclair, Relationships be- tween Economic Growth, Foreign Direct Investment, and K. E. Case, Reconsidering Crucial Concepts in Micro Prin- Trade: Evidence from China, Applied Economics (United ciples, American Economic Review, Papers and Proceed- K d 332 ings (United States) 92(2): 454-58, May 2002 K, B. Datta and H. Dixon, Technological Change, Entry, and D. Murhy, Aiming-forthe Top-China's Information Tech- Stock-Market Dynamics: An Analysis of Transition in a nology, Far Easte Economic Review (Singapore) 165(37), Monopolistic Industry, American Economic Review, Papers e 1 and Proceedings (United States) 92(2): 231-35, May 2002 Central and Eastern Europe Distress in the Developing World, Far Eastem Economic Croatia: Financial Times Survey, Financial Times (United Review (Hong Kong) 165( 25): 45, June 27, 2002 Kingdom) pp. 9-11, June 24, 2002 M. Duani. After the Revolution [the FIDESZ Story]. NGO > a Y. Eilat and C. Zinnes, The Shadow Economy in Transition N ( News (Hungary) 21:20-21, summer 2002. t->1 Countries: Friend or Foe? A Policy Perspective, World Development (United Kingdom) 30(7): 1233-54, July 2002 P. K. Mitra and M. Selowsky, Lessons from a Decade of Transition in Eastern Europe and the Former Soviet Union, N. Mygind, Enterprise Governance in Transition-A Stake- Finance and Development (International Monetary Fund) holder Perspective, Acta Oeconomica (Hungary) 51(3): 315- 39(2): 48-51, June 2002Poland: Financial Times Survey, Fi- -_ 42, 2002 nancial Times (United Kingdom) (Suppl.): I-VI, June 17, 2002 '. C) 2002 The World Bank TRANSITION, July-August-September 2002 - Subscribe to TRANSITION We appreciate the continuing (ENGLISH VERSION) support of: TRANSITION For a free subscription to the English Bank of Finland Managing Director: Boris Pleskovic language version of TRANSITON, write to: Institute for Economies in Transition Senior Editor: Richard Hirschler Jennifer Vito P.O. 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