http :llwww.world ban k.org/htm Il/prdd r/translWE B/trans .htm http://www.wdi.bus.umich.edu THE NEWSLETTER ABOUT REFORMING ECONOMIES T tANsITIoN'"':ig^ N E XVSb E IE I~ THE WILLIAM DAVIDSON INSTITUTE N E W SL E T T E R ~ ~~~~~~~~~AT TIE NMMIY OF NHMIEGkN BUSS HO Vol. 12, No. 4 October-November-December 2001 "Just Like Combating Terror, Fighting Poverty Is a Common Responsibility" Interview with Nick Stern, Senior Vice President and Chief Economist of the World Bank By Richard Hirschler 23512 According to Nick Stern, while the World Bank's long-term strategy is not changing as a consequence of S,eptember 11, certain adjustments are taking place. The Bank will apply a more inclusive approach to ensure that developing and transition countries share the benefits of globalization more equitably, and recognizing that no "one size fits all" solution is available, the Bank will increasingly encourage countries to choose their own approach to development. Q: Many scholars have argued that rector Paul Collier clearly points in this same time, Wolf notes, 99 percent the September 11 terrorist attacks direction. Thus some connections be- of the 3 billion growth in world popu- and the frustration of the impover- tween poverty and the attacks are ap- lation foreseen in the next 50 years ished Muslim masses are connected. parent, but we should avoid simplistic is expected to be in the developing Do you see such a connection? explanations. world. He also predicts that more fragile countries will continue to A: First, let us be clear about one point: Q: Still, as Martin Wolf wrote re- stagnate; that there is a possibility no sense of injustice can ever justify cently in the Financial Times, the of wars over resources, particularly what happened in the United States on terrorist attack of September 11 water; and that nuclear weapons September 11. In analyzing the connec- killed the post-Cold War delusion of may proliferate, some perhaps fall- tion between poverty and terrorism, effortless international harmony. He ing into terrorist hands. As he puts there is great temptation to simplify, highlights the income gap between it, "The position enjoyed by the rich Most of the terrorists involved in this poor and rich. The high-income countries may be more fragile and crime appear to have come from rich countries, with a combined popula- less easy to defend than many have, families, from relatively well-to-do coun- tion of 900 million, have an average until recently, assumed." Have we tries. At the same time, we have to per capita annual income of $26,000 entered a period of escalating con- study and understand the role of failed and are generating four-fifths of the frontation between rich and poor statesthatoftenprovideorcondonesafe world's gross national income at countries, and will this require a havens for organized terrorism. These market prices. In the developing change in the World Bank's long- safe havens are frequently outside gov- world, 5.1 billion people have an term strategy? ernments' control, and they are often average annual per capita income afflicted by conflicts, mostly internal of $3,500. Half of them, about 2.4 A: The fallout of September 11 is pro- conflicts that are, at least in part, pro- billion people, live in low-income found. However, we also have to con- voked by poverty. Recent research on countries with average annual per sider the pre-September 11 situation conflict and violence by Research Di- capita incomes of $1,900. At the more realistically. From 1980 to 2000 Development Research Group The World Bank F The William Davidson Institute SITE LGI ___ C , . jthe number of people living in pov- that have succeeded in their devel- C on tents erty-defined as $1 or less income opment efforts have all encouraged a day in purchasing power parity- entrepreneurship, reduced govern- Corruption 5-16 declined by about 200 million, de- ment harassment and obstacles to Wild Wild East 5 spite the global population increase private enterprise, and opened up to Paradoxes, Inconsistencies 7 of about 1 .6 billion. A new World trade-but they did this in their own Writing a Law 10 Bank study, "Globalization, Growth, ways. Slovakia Takes On 12 and Poverty," written by Paul Collier Enemy of Progress 13 and David Dollar, divides developing So I wouldn't simplify the present Hungary s Out of the Loop 15 countries into two groups. The first situation as an escalating confron- World BankkllMF Agenda 16 group of 24 countries, which in- tation between rich and poor, but China's Reformer Speaks Out 17 cludes Bangladesh, China, and In- certainly we need to recognize that Accounting 19-22 dia, has doubled its ratio of trade to we have to build an integrated world Accounthina 19-2 GNP in the last two decades, while with much stronger inclusion and ...in Cioldova 21 the second, less "globalized" group with more leeway for diversity. If we on average trades less than it did can integrate a diverse world while Railways 23-28 20 years ago. In the "more global- avoiding any traps of standardiza- Russia Needs Reform 23 ized club," where about 3 billion tion, development efforts will be "Gazprom on Rail" 26 people live, income per person grew more successful ancl the world we CollapseofBritain'sRailtrack 27 by 5 percent a year during the live in will be a more harmonious Mlortgage Finance Missteps 28 1990s, faster than in the industrial place. But I don't think that a radi- Toward Russias Land Rerorm 30 countries. Life expectancy is much cal change in the Bank's longer-term longer than it was 30 or 40 years approach to development will be SITE Articles 32-36 ago, and the literacy rate is far necessary. Indeed, I think it under- Dilemma of ECB Enlargement 32 higher. In China, for example, dur- lines the importance of the message Baltic Mionetary Transition 34 ing the last two decades illiteracy of inclusion that is at the center of Latvia's Super-Regulators 35 dropped from 35 to 16 percent. In our approach. LGI/OSI Articles 37-44 the less globalized group, however, EU Accession Accelerates? 37 average incomes fell by nearly 1 per- Q: But as the blaclk clouds of a Baltic Identity 39 cent a year during the same period, worldwide recession hang over Russians in Baltic Societies 40 and the development gap between us, will the Bank's approach Kaliningrad's Future 41 theseandtherichcountries, asmea- need to change iin the short Transforming Public Utilities 42 sured by per capita income, wid- term? Argentina is practically Outsourcing Risks 44 ened significantly. Thus billions of bankrupt, and we cannot ex- Local Government Networks 45 people-even many in the more suc- clude the possibility of another cessful countries-were left behind, terrorist attack. These and other WDI Articles 46-50 excluded from a better life. dangers could cause havoc to Bank Rescues 46 the world economy. Fear of Political Instability 48 Thus we must look to a much more Market Integration in Russia 49 inclusive approach toward reaping A: The World Bank anticipates that Recent Working Papers 51 the benefits of globalization. Devel- the worldwide economic slowdown FDI Country RanKing 52 oping countries should participate will reverse in six to nine months, more actively in the technological and that the world economy will be- BOFIT Articles 54-55 progress of our age, share more gin to return to higher growth in mid- Baltic Supervision 54 equitably in the benefits of interna- 2002. We are predicting 1.3 percent Russian Bank Reform 55 tional trade, and enjoy the social and global GDP growth for 2001 and 1.6 World Bank\IMF Agenda 56 economic advantages of living in percent for next year. The United Conference Diary 58 open societies. We must also rec- States, with a combination of fiscal New Books 60 ognize that integration can take and monetary measures, is doing a many different forms; there is no lot to revitalize its economy. Europe a"one size fits all solution." Countries could do a little more, but Japan is TRANSI IION, October-November-December 2001 The World Bank/The William Davidson Institute © 2001 the one that really needs to boost I have said, are directed at the long- and severely damaged social sectors. its economy, probably with a com- term challenge of promoting devel- The Bank will focus more intensively bination of structural reform and opment-while doing our best to onhelpingimprovetheinvestmentcli- moderate inflation. And the world's respond to new needs. As it be- mate in transition economies, particu- trading system has to be strength- comes necessary and feasible, we larlyforsmall and medium enterprises ened. The international community will actively participate in the rebuild- and farmers. This is also clasely re- made an excellent start at Doha, ing of Afghanistan. We must also lated to the efforts to include the poor and we have been working throughout recognize that the slowdown will fur- in the development process. Invest- the last year to support this outcome. ther depress some commodity ing in and empowering poor people In general, the Bank will play an even prices, which will inflict serious will be fundamental. more central role in losses on some the future, because countries, particu- Q: In one of your speeches given of its improved un- larly in Africa. recently in Beijing you compared derstanding of the reform strategies in China and importance of mul- £ Q: How will the Russia and underlined the im- tilateral efforts. ' \. new approach ap- portance of building on existing ai * t, ply to the transi- institutions. Many scholars argue As I indicated a tion economies of that creative destruction, as a moment ago, the Central and East- major notion of Western devel- broad thrust of the ern Europe and opment policy, has backfired se- Bank's strategy i c Central Asia as verely in Russia. has not changed in well as to the re- response to Sep- r forming econo- A: In China, life for the new small tember 11. We mies of China and and medium private companies has believe that our Vietnam? In the been much easier than in Russia, emphasis on poverty reduction al- European Union (EU) many aid despite the more radical political ready had us on the right long-term officials have started to reevalu- changes in the latter. In the early course, and we were also taking ate their aid policy, admitting 1980s the Chinese authorities re- steps before September 11 to re- that the policies put in place 10 moved entry barriers and gave the spond to the short-term problems years ago to help the newly in- green light to the development of caused by the cyclical global slow- dependent countries of the small and medium businesses. As down. But we have, of course, made former Soviet Union, trying to Deng Xiaoping himself admitted, the some additional adjustments in re- prop up democratic institutions authorities couldn't foresee the full sponse to the changed conditions and jump-start free markets in consequences and were surprised since the attacks. We have put sup- places where these institutions by the intensity of the response. port mechanisms in place for coun- were scarcely understood, were However, they were ready to follow tries that suddenly find themselves "misguided at best, and down- the course of adaptive learn ng, and hosting large numbers of new refu- right unhelpful at worst." With as their successful accession to the gees. We are providing financial and poverty growing in Central Asia World Trade Organization has illus- other support to maintain the mo- and health care and education trated, were also ready to undertake mentum of reform in the nations levels declining, a new EU policy courageous steps. In Russia, at- most affected by the shock to inter- will be based on alleviating pov- tempts to legislate almost instanta- national capital markets, such as erty and raising educational stan- neously a large array of institutions Turkey. We have gone through our dards, as the EU's Javier Solana for a market economy, of wnich the portfolio of activities, country by has pointed out. Is this also the population had no memory, rnay well country, and in cooperation with the thinking inside the World Bank? have been counterproductive, particu- countries' authorities have worked larly in an environment where gover- through the implications of the at- A: The big challenge is to get growth nance was weak and deteriorating. tack and have adjusted our pro- going. The large output declines in The result was a slow emergience of grams accordingly. We will deliver much of Europe and Central Asia in the sound institutions necessary to on our existing programs-which, as the 1990s have put many into poverty support the markets. In agriculture, C 2001 The World Bank/The William Davidson Institute TRANSIFION, October-November-Decenlber 2001 forexample,andincontrasttoChina, the failures when countries have policy? At the beginning the the knowledge of how to be a peas- turned inward. So we have to set Bank emphasized the beneficial ant farmer and of who owned what those facts out, and our new study role of government and of cen- land were simply gone, and bringing on globalization, which I mentioned tral planning in managing the it back is hard. earlier, is doing just that. However, economy, then praised the in- we have to recognize that people visible hand of the market, es- We also have to remember that worry about exclusion. They also pecially in the late 1980s and the Stalin's strategy was for an incredibly worry about cultural and economic 1990s. Are we now going back overintegrated, rigid production sys- domination and about standardiza- to the age of big government tem, motivated by politics and ideol- tion. The development community that can protect citizens from the ogy, that held everybody hostage to has to act to address those con- dangers of weapons of mass de- the state and to party apparatchiks. cerns. For example, we have to struction? * In contrast, China was much more make sure that trade rules recog- decentralized, so that people's mu- nize the interests of the developing A: I don't think we are seeing a tual dependence was much more lo- countries much more strongly than massive switch back to big govern- cal. There, if a new opportunity came they do now. The industrial coun- ment; rather, in the last three along and somebody wanted to start tries spend a total of up to $1 bil- months we have seen a recogni- a business, inputs were locally avail- lion a day on agricultural subsidies, tion that the governrnent is respon- able. And liberalization, instead of which is more than six times the sible for providing security. This knocking down a rigid system as it amount they provide in develop- may mean that some civil rights we did in Russia, produced gains from ment assistance. Better market have come to see as natural will internal as well as external trade. So access for developing countries is now come into question, and as the message is not that one country essential. We also have to make citizens, we have to look at certain should exactly follow the model of sure that intellectual property things very carefully. But I don't another country, but that one should rights, rules, and regulations are think that is the sarne as big gov- build on existing institutions. I may not implemented in a rigid or inflex- ernment. The argumients for govern- add that recently the Russian ible way, and that the industrial ment providing good governance, economy is also showing more hope- countries open up their markets sound institutions, aind appropriate ful signs. The government is making more to imports of agricultural regulation, and for government in- serious efforts to stabilize the goods from developing countries. volvement in large parts of the edu- economy, move ahead with structural cation, health, and social protection reforms, and reduce poverty. Trade alone, of course, is not systems, are as strong as ever. In enough. Sound policies and insti- these respects the government's Q: Realizing the pivotal role tutions are crucial, and here the role should never have been re- that it will play in the future to Bank has a central role to play. With garded as minimal. What I would uplift the poor, what can the good policies, governance, and in- really emphasize at this point is Bank do to improve the nega- stitutions in place, overseas assis- that the world now has a real op- tive views about it so as to neu- tance can be a powerful force for portunity to learn from adversity and tralize the demagogy of the growth and poverty reduction. pull people together. We saw the antiglobalist movement and world do this after World War II, with other critics of the Bank? Q: Despite its original motto of the creation of the United Nations "the smaller the government and the World Bank, and with the A. As a former university teacher I the better," to wage a war start of what has become the EU. believe in the importance of ideas, against terrorism on a wide Just as combating lerror is the re- and thus of exposition, persuasion, front and ensure public safety, sponsibility of us all so too is fight- clarity, argument, and evidence. I the U.S. leadership has had to ing poverty. And many of the steps believe that we have to show people increase the state's role and in- that we need to take-such as cut- evidence of the role that integration troduce a range of new govern- ting off financing for terrorists and into the world economy has played ment regulations. Does this strengthening states at risk of fail- and the success stories of devel- mean that the pendulum will ure-will succeed only if we do opment. And we can demonstrate swing again for the Bank's them collectively. TRANSIrFON, October-November-December 2001 The World Bank/The William Davidson Institute D 2001 Petty Corruption in the Wild, Wild East By Scott Thomas In the early and unsophisticated nies, strip them of anything of value, crookery is likely to be just as seri- stages of the transition, people who default on their liabilities and contin- ous economically in terms of lost wanted to gain monetarily from their gent liabilities, and end up with for- sales, jobs, income, and growth, be- position in government or their ac- tunes. Although much of the cost of cause it preys on the main growth cess to public sector officials would this ownership "transfer" was one-off, sector: small- and mediumn-scale target their tender efforts on public to the extent that the oligarchs ended enterprises. expenditures. This meant they ei- up owning or controlling natural or ther gained access to direct budget- state-sanctioned monopolies, they The fact is, in many, if not most of ary allocations or to soft loans from continue to represent a major dead- the economies in transition, with- public sources that they had no in- weight loss to society. The solution out petty corruption, economic ac- tention of repaying. However, when is proactive government policy to in- tivity would grind to a screeching opening the vein of domestic credit crease competition, coupled with halt. Why? The complex overlay of creation through these more con- the enforcement of laws against anti- economic laws, regulations, inspec- ventional means proved hyper-infla- competitive behavior and, where tions, reporting requirements, fees, tionary in so many countries, the some form of natural monopoly ex- and taxes, if actually implemented hemorrhage was eventually stanched ists, government regulation. as written, would bankrupt anybody under pressure from the international so foolhardy as to follow them to the financial institutions. This led to the Petty corruption. Small-timers, on letter. In many cases following them more sophisticated rent-seekers we the other hand, have to rely on in- to the letter is not even possible have become familiar with today. come from the ubiquitous bribes that because they are contradictory and These fall into two general types: are necessary to conduct business overlapping. in an exceedingly hostile enabling Corruption with clout. Those rent- environment. Although not as politi- Most countries in transition imple- seekers with real clout have utilized cally polarizing as the large-scale mented the maze of economic leg- it to influence privatization processes, theft described above, the dead- islation and regulation without any gain control of state-owned compa- weight loss of small-time official advance public consultation, or re- In Country YAgency Inspectors Have Going (Away) Rate Each month Country Y (which shall go nameless) re- analyze them. One agency representative said, quires all enterprises to file four separate payroll dec- "Monthly reporting is hell for us." laration forms, containing essentially the same information. Companies are subject to payroll inspec- Why all this effort? Because payroll contributions to so- tions by six separate agencies. Payroll forms and in- cial funds, health, pension, unemployment, disability, edu- spection results are not shared among the agencies. cation, and so on are not being paid. On closer inspection, The forms must be filed in hard copy, and usually must however, it turns out they aren't being paid mainly by the be delivered in person to each of the four agencies. long-bankrupt state-owned or formerly state-owned large Forty percent of the companies that had been inspected enterprises. But as these companies are bankrupt, agency said they had received visits from representatives of inspectors hardly ever visit them. Instead, they focus on two or more agencies during a short period, a proce- small and medium enterprises. Although these compa- dure described as extremely onerous by every enter- nies are rarely in arrears, the inspectors have broad dis- prise manager surveyed. cretion: they will always find something wrong. rhe real reason for all this seems to be to benefit the army of in- The social fund agencies, for their part, are inundated spectors: When last checked, the going rate to rnake an with the monthly reports, which burden their staff with inspector go away was about $40. Not bad in a, society so much paperwork they have no time to review and where the average monthly salary was around $120. © 2001 The World Bank/The William Davidson Institute TRANSITION, October-November-December 2001 ally without much prior analysis at Tax and customs collection. Un- lations, standards, taxes, and cus- all, and it is rarely subject to any even and nontransparent collection toms levie, or failurie to implement feedback from the citizenry being of taxes and customs levies cre- contracts with local partners. regulated, or to expost performance ates enormous opportunities for review by the agencies supposedly corruption. Import delays are fre- The list could go on and on. The in charge. To be blunt, without a rela- quently used as an incentive to pay point foreign investors are making tively easy way around the incoher- bribes. is that they have other opportuni- ent, duplicative, intrusive, and ties, with similar potential payoffs, maddeningly time-consuming and Product and building standards. and much less risk of losing the costly public sector interference in Product and building standards are whole venture to a death by a thou- the economy, no economic activity often significant barriers to invest- sand paper cuts. And in fact, Coun- could survive. And that way is-the ment, are based on outdated meth- try Y's record is not good: Despite bribe. odologies with no reference to cost, being accepted for entry into the and through the threat of significant European Union, foreign investors At a conference held at a major U.S. delays offer significant opportuni- have pretty much given it a miss. university some time ago, represen- ties for corruption. With all the lost sales, jobs, in- tatives of public sector institutions come, and growth that has entailed. of Country Y were almost uniformly Licensing and registration. Re- The deadweight loss of petty cor- blase about the impact of this kind gional and local licensing and reg- ruption, by this measure, may be of petty corruption on their economic istration procedures are often the difference between growth and prospects. Corruption was universal, fragmented, duplicative, time-con- no growth. the question was only one of degree. suming and arbitrary, and are It was a form of "networking." Italy sources of frequent corruption. The author is a senior economist was corrupt-and look how success- at the Louis Berger Group, Inc., in ful its economy was. Corruption was Redress of grievances. Investors Washington, D.C. He has worked embedded in their culture. It was a have little recourse for redress of as a policy economist in Central small cost of doing business. No real grievances stemming from the ar- and Eastern Europe and the former harm done. bitrary enforcement of laws, regu- Soviet Union since 1990. But that's not the reaction of foreign investors when they're asked about barriers to risking their money in the Fortune is Blind-Or Maybe Not? economies in transition. Here's a sampling of what they tend to say i l, . when interviewed about sources of 1 AI4t'l corruption in the wild, wild East: i Currency controls. Currency con- as trols and licensing procedures are of- f ten extremely time-consuming, and 2 . ^ I,J - 4S can harm ventures with foreign part- . . Tax rates. Tax rates, including pay- I ' roll taxes, are high, and the tax code is an intricate maze, creating disin- T .. c: - > c _=_____ centives and distortions. "My brother-in-law is a really lucky guy. If he wasn't already a millionaire, he might as well play the lottery; he is once again Tariff and nontariff barriers. Tariff the winner of our open tender." and nontariff barriers are often inco- herent and distortionary. From the Hungarian magazine H6cipo TRANSITION, October-November-December 2001 The World Bank/The William Davidsor, Institute © 2001 Anticorruption Campaigns: How to Get Rid of Paradoxes and Inconsistencies ByArista-Maria Cirtanutas International organizations will have to go well beyond their current anticorruption efforts if they want to succeed. They will have to rely more on grassroots organizations and drop their unrealistic zero tolerance demands, and instead, tap into local customs and traditions. The author also suggests that economic and political elites should be held accountable to their own citizens. C onsistent with the recent against bribery and corruption," as this new "climate of civic responsibil- E recognition by international the Organisation for Economic Co- ity and ethics" ("Corruption in Poland: organizations such as the operation and Development (OECD) Review of Priority Areas andl Propos- International Monetary Fund and puts it, has assumed global propor- als for Action," World Bank, Warsaw, the World Bank that markets will tions that extend beyond the October 1999; and "Assumptions of not function properly in the absence organization's own 1999 Convention Poland's Anticorruption Strategy," of states, they are now paying in- on Combating Bribery of Foreign 2001, http://www.worldbank.org.pl/ creasing attention to substantive Public Officials in International Busi- html) are often supported locally by questions of good governance. As ness Transactions to include efforts concerned citizens and public offi- an overarching concept, good gov- being undertaken by the European cials, the heavily promoted, suppos- ernance focuses not only on the Union (EU), the Council of Europe, edly universal standards are clearly appropriate parameters for liberal, the Organization of American States, derived mainly from idealizied West- capitalist institution building, but the International Monetary Fund, the ern standards and are meant to su- also on the standards for appropri- World Bank, the World Trade Orga- persede local customs and practices. ate conduct within these institu- nization, the United Nations, the In- The OECD convention, for example, tions. Accordingly, the international ternational Labour Organisation, and states that bribery is an offense re- development community is devoting even the Open Society Institute. Ex- gardless of "the value of the advan- ever more rhetoric and resources to tensive monitoring and training pro- tage, its results, perceptions of local the problem of corruption, given the grams have been established under custom, the tolerance of such pay- extent to which corrupt practices can the auspices of these organizations ments by local authorities, or the al- subvert the formal institution building to promote public administration re- leged necessity of the payment." process by undermining profession- forms; strengthen control mecha- Even seemingly harmless "common alism, administrative efficacy, and, ul- nisms; and perhaps most important, practices, such as gift-giving to em- timately, democratic legitimacy. educate both elites and publics in ployers, superiors, et al, in positions affected countries that the "cancer of influence, are inherently inimical to Converting Hearts and Minds of corruption," as described by proceduressuchasformaltendering." World Bank President Wolfensohn Even though the local costs of cor- in his 1996 annual meeting address, Perhaps nowhere is this internation- ruption were presumably just as or is a serious matter. ally orchestrated "clean-hands" cam- more burdensome in the days of the paign more evident than in the efforts Duvaliers and the Idi Amins, the vio- An impressive, almost missionary to combat corruption in Eastern Eu- lence of such regimes, the end of effort in the form of anticorruption rope and the former Soviet Union. the Cold War, and the dynamics of campaigns and international conven- Because of their geographic proxim- globalization have created new con- tions is under way to convert the ity and growing economic interdepen- ditions. Under these conditions the hearts and minds of people around dence, not to mention pending EU corrosive effects of corruption are the world to a universal set of norms membership for at least four or five even less acceptable to international and principles defining ethical and countries in the region (the Czech organizations because they are less professional conduct. While the in- Republic, Estonia, Hungary, Poland, containable. Consequently, "the fight ternational organizations promoting and Slovenia), the dangers posed by © 2001 The World Bank/The William Davidson Institute TRANSITION, October-November-December 2001 the "contagion of corruption" have the answer favored by many West- cation between the populace and the spurred Western efforts to promote ern experts and advisers who bemoan institutions of the state, the organi- anticorruption measures throughout the lack of political will in the transi- zations that comprise civil society the region. As these measures have tion countries. can be essential in ccnstraining cor- not yet met with overwhelming suc- ruption" (Anticorruption in Transition: cess, the EU, as the most concerned One could also point to the resiliency A Contribution to the Policy Debate, Western organization, continues to of customary practices of local World Bank, Washington, D.C., voice its reservations, most recently communities where corruption func- 2000). On a similar note, the World in its 2001 "Enlargement Strategy tions not just as an instrument of ex- Bank's 1999 report onr Poland cited Paper" (http://europa.eu.int/comm/ clusion and privilege, but also as a earlier concludes that the assis- enlargement), the annual progress re- mechanism for individual survival and tance of civil society is essential to port for candidate countries. The pa- resistance to externally imposed rules establish "priorities and modes of per points out that "previous reports of conduct. Just as the U.S. war operation. And it will also be impor- identified corruption as a serious prob- against drugs has run aground, in part tant to tackle public apathy if anti- lem exacerbated by low salaries in because of the intransigence of drug- corruption efforts are to have any the public sector and extensive use producing communities whose liveli- credibility and command the support of bureaucratic controls in the hoods depend on the drug trade, so they need to be successful." In build- economy. This assessment remains too ordinary people, not just corrupt ing anticorruption coalitions, interna- largely valid, although several positive elites, will resist the fight against cor- tional advisers are energetically developments have taken place. In ruption. The former might understand pursuing-as necessary and desir- most countries anti-corruption bodies the problematic nature of their con- able-partnerships with civil society have been strengthened, and progress duct, but may still depend on corrupt organizations. They view these rela- has been made in legislation, in such practices simply to get by. tionships as crucial, riot just for the areas as public procurement and pub- constructive synergy that can result lic access to information. Encourag- While both explanations are doubtless from state-society interactions, but ing developments in several countries relevant, a third factor may also pro- because the widely recognized pub- as regards the reform of public ad- vide some insight into why Western lic apathy regarding these matters, ministration also contribute to the fight anticorruption campaigns have not especially in Eastern Europe, repre- against corruption. Notwithstanding been as effective as hoped in Eastern sents a formidable stumbling block. these efforts, corruption, fraud and Europe and elsewhere. Along with the economic crime remain widespread vested interests and the practices of In addition to engaging the social in many candidate countries, where the targeted populations, the para- dimension, international anticor- they contribute toa lack of confidence doxes and inconsistencies of the ruption strategies have also be- by the citizens and discredit reforms. anticorruption efforts themselves come more multifaceted, going Continued, vigorous measures are mayalsohavediminishedtheirimpact. beyond legal and technical en- required to tackle this problem." forcement mechanisms in the at- At first glance the current campaign tempt to create a culture of Factors behind the Failures appears quite comprehensive and decency and integrity-based eth- well laid out. For example, having ics management. Remarkably, noth- Given the attention focused on this learned from past mistakes, interna- ing less than a fundarnental human fight against corruption, especially in tional organizations are now quite transformation appears to be at Eastern Europe, and the orchestrated cognizant of the need to involve civil stake in which cultures of hypoc- international effort behind it, how can society in the campaign against cor- risy are to be transformed into cul- the ongoing failures be explained? ruption rather than relying solely on tures of virtue and professionalism. elites who can too readily bend anti- Perhaps realizing that markets re- Most obviously, one can blame the corruption campaigns to their own quire not just states, but also civi- vested interests that local politi- purposes.Accordingly,organizations lized conduct, the international cians and civil servants have in re- from the World Bank to the OECD community is now intent on promot- sisting anticorruption measures that and the EU all agree that "as stake- ing such apparently indispensable would reduce their opportunities for holders in the quality of governance "protecting principles" as public duty graft and rent-seeking. This is clearly and as intermediaries for communi- and professional commitment. TRANSIlION, October-November-December 2001 The World Bank/The William Davidson institute C 2001 Inconsistencies in Design and that the required anticorruption lead- From a sociological perspective, cor- Implementation ership has not been forthcoming in ruption can be analyzed not just in Eastern Europe is hardly surprising. terms of the unethical or criminal use While more encompassing and am- Even in a country like Poland, where of public office for private gain, but also bitious than past anticorruption ef- the media and the public are quite in terms of the bonds of reciprocity forts, the current campaign is flawed well informed about the existing lev- and interdependence that; structure in both design and implementation els of corruption and where every ef- the interactions between elites and for a number of reasons. fort is being made to pass all the right the public. If significant groups in a laws mandated by the international given society believe that a breakdown Whereas Western states are simply community, the World Bank is still in these bonds has occurred and that invited to overhaul their fundamentally waiting for decisive leadership to move restoring relationships of respect and sound systems of governance, by beyond formal compliance to a sub- trust is vital to the government's sta- contrast, East European states are stantive transformation of the system bility, then international efforts could told that they must engage in sub- of governance. usefully be directed toward helping to stantive reforms as a condition of reestablish such bonds. International membership in the Western club as Zero Tolerance? organizations must accept that these represented, for example, by the EU. will vary from case to case and, more While qualitative differences in gover- Rather than waiting for a deus ex to the point, will no doubt deviate from nance between Eastern and West- machina committed to battling cor- idealized Western standarcls. If, how- ern Europe certainly exist, given the ruption from the top down, a more prof- ever, communities see local social recent, very public problems of cor- itable approach might be to focus on networks as adequate or necessary ruption in France, Germany, Italy, and bottom-up, socially integrated solu- guarantors of their survival, such net- the EU itself, not to mention the at- tions capable of altering the overall works are unlikely to be amenable to mosphere of electoral fraud and public environment in which elites op- reform, no matter how corrupt outside disenfrancisement surrounding the erate and to which they are account- observers deem them to be. Anticor- last U.S. presidential election, able. This type of engagement with ruption campaigns must therefore greater attention could be devoted to social actors would, however, have to genuinely resonate with local com- the shared problems of political cor- be sensitive to prevailing public opin- munity concerns regarding the extent ruption and weakened democratic le- ion in Eastern Europe regarding poli- to which the norms and practices of gitimacy. ticians and state administration in reciprocity have eroded, thereby pos- general. For the most part, people ing a threat to the community's very Disjunction between the stated in- appear to agree that public officials endurance. By tapping into the val- tention of involving society at large will always steal, but that they ues of the local "moral economy," in the effort and the continued em- should also keep such activities anticorruption campaigns could well phasis on the role of elites is a less within certain rules or boundaries. succeed in diminishing truly harmful obvious, but critical, inconsistency Under these conditions, the zero tol- corrupt practices over time. This in the design of the international an- erance anticorruption campaign in- might not occur in the revolutionary ticorruption undertaking. For ex- ternational organizations favor is led-from-above sense enviisioned by ample in the transition from the likely to be deemed unrealistic, if not today's advisers, but amelioration as vicious circle of monopolistic rent- hopelessly nalve and needlessly an evolutionary development predi- seeking to the virtuous circle of di- rigid. Even if "low pay is no excuse cated on social-as opposed to purely minished control rights and limited for illegal or unethical behavior," as political or sweeping cultural-trans- discretion, transparency, and ac- the OECD's elaboration of an "ethi- formations might well come about. countability is assumed to rest al- cal infrastructure" asserts, popula- most entirely on the shoulders of tions struggling to survive are unlikely Accountability to Own Citizens "decisive political leadership" ca- to be sympathetic to such puritan pro- pable of pushing through the nec- nouncements. Thus the focus should Because the EU's Phare programs essary reforms. As these same shift to provoking public discussion for civil society development in East- political leaders remain located of what exactly the self-limiting rules ern Europe had previously come un- within the unreformed structures and boundaries in any given institu- der critical scrutiny and been highly conducive to corruption, the fact tional setting should consist of. subjected to budget cuts, the EU's ©) 2001 The World Bank/The William Davidson Institute TRANSITION, October-November-December 2001 capacity and will to develop state- The author is assistant professor of published in the spring/summer is- society partnerships have been cur- govemment and foreign affairs at the sue of the East European Constitu- tailed, especially in the most ostensibly University of Virginia. This article is tional Review, a joint publication of developed East European countries. an abridged and updated version of the New York University School of Law Instead, as the date of enlargement her article "Corruption and the New and the Central European University draws nearer, concern has shifted to- Ethical Infrastructure of Capitalism," in Budapest. ward establishing the proper "control environment" in the leading candidate countries to promote sound financial W riting an Effective management via internal supervisory Law and auditing procedures. Anticorruption Law The narrowing of the EU's focus to civil By Richard E. Messick and Rachel Kleinfeld service reform may pose additional dan- gers if the outcome is the creation of As growing numbers of citizens in developing and transition countries have closed mandarin-like elites with greater suffered at the hands of corrupt officials, they have started to demand gov- accountability to the EU than to their emment action. An obvious first step is ensuring that laws to deter corruption own citizens. We have already seen are in place. Deterrence is not the first, or necessarily the prefierred, method the extent to which nongovernmental of defense. An informed and vigilant citizenry, govemment emrployees en- organizations in the region can become dowed with a service ethic, and other measures can be more effective in more accountable to international do- combating corruption. However, achieving those objectives takes time, while nors and supporters than to their own enacting an anticorruption law is a relatively speedy inexpensive way to start communities. Teaching professional- addressing the problem. As a result, laws that punish bribery and other forms ism to East European elites in Brus- of corruption have proliferated throughout the developing worlac sels and elsewhere in Westem Europe or training them in the twinning proce- The problem with these laws is that general standard, such as the provi- dures established to provide Eastem often they do not reflect the limita- sion found in several nations' laws that European administrators with Western tions of the institutions that enforce make the "abuse of public office for European advisers and partners will, no them, be they the police force and private gain" a crime. doubt, enhance efficiency and promote public prosecution service or a non- merit-based appointments. However, criminal administrative agency. Many Such sweeping language does ad- whether this type of training will result recent anticorruption initiatives have dress bribery, nepotism, and conflicts in administrators responsive to the also overlooked complementary le- of interest, but bureaucratic and po- needs of their citizens is doubtful in the gal reforms that can prevent or ex- litical rivals can also invoke it to ques- absence of parallel funds and attention pose corrupt acts. tion perfectly innocent actions by paid to the development of social ac- those holding public office. Accord- tors who can demand responsiveness. Law Enforcement Capabilities ingly, those who draft anticorruption legislation should ask several ques- In remaking local elites in their own Anticorruption and ethics laws gener- tions: What is the capacity of the idealized image, Western organiza- ally encompass a variety of statutes institutions that will enforce the law? tions may well be forging bonds of that prohibit bribery, nepotism, conflicts Are the police, prosecutors, courts, respect and trust between interna- of interest, and favoritism in awarding and otherenforcement agencies staffed tional and national elites, which will contracts or providing government ben- by honest, technically competent pro- help to contain the contagion of cor- efits. Such laws often also require pub- fessionals? Are they independent of ruption. But if this protective firewall lic servants to disclose their incomes the executive? To whorn, and in what for the West comes at the expense and assets. When drafting such acts, ways, are they accountable? of reinforcing the moat that already the instinct is to list every activity that divides postcommunist politicians could conceivably be considered cor- The answers to these questions will andcivilservantsfromtheirownpopu- rupt and then write language making often not be reassuring. In many lations, the social cost in Eastern each illegal. The result is often a countries enforcement institutions Europe will be immeasurable. broadly drawn provision setting out a lack skilled professionals. Moreover, TRANSITION, October-November-December 2001 The World Bank/The William Davidson Institute C) 2001 the employees of such institutions are of value in excess of a small sum from blower protection laws, which en- often easily manipulated for political anyone who is not a member of that courage government empiloyees to purposes. World Bank surveys have person's immediate family. reveal corrupt acts they have uncov- found that the poor rate the police and 0 No employee may hold, directly ered in the course of their work with- other enforcement agencies as some or indirectly (that is, through family out fear of retaliation. of the most corrupt and least trusted or other agents), an interest in a cor- government agencies. Reformers may poration or other entity affected by Libel law reform can also be an believe that anticorruption work can- that employee's decisions. important part of anticorruption leg- not proceed until enforcement agen- * Every year all employees above islation. Some countries' laws make cies are strengthened. But while a certain pay level must publicly dis- it a crime to publish anything that capacity building is essential for the close all the assets they hold directly brings the government into disrepute long-term sustainability of an anticor- or indirectly. or insults a government official. Un- ruption program, it takes time. * No employee may hire a relative der such laws a journalist who ac- (with a precise specification on how cuses an officeholder of accepting Adopting "Bright-Line" Rules distant relatives must be before they bribes or otherwise acting corruptly are not considered relatives). can be fined and jailed regardless Those writing anticorruption statutes 0 All employees must disclose any of whether the allegation is true or must take into account the weak- relationship with people hired and false. To ensure that fear of pros- nesses of the agencies that will en- with firms or entities to whom they ecution does not deter the press forcethe lawtheyaredrafting. In most award a contract or concession. from exposing corruption, many in- cases that means writing a law that dustrial nations make it difficult for is easy to understand, simple to ap- No statute can avoid some open- government officials to obtain com- ply, and demands little or no judgment ended provisions. If a section in an pensation if they are libeled by the in determining its applicability. Laws anticorruption law must leave some- press. written this way are said to contain thing open to question, one way to "bright-line rules" as opposed to those reduce enforcers' discretion is to es- National legislation alone is not a containing standards that are open tablish a procedure for obtaining ad- panacea; international cooperation to interpretation by enforcement vance rulings. Employees concerned is also required. In cases involving agencies. about doubtful cases can then ask rep- large sums of money, recouping sto- resentatives of the enforcement unit len funds is often problematic because If hiring a relative were against the for an advance ruling on the legality of corrupt officials can stash assets law and an official's nephew suddenly a proposed action. Gradually, the ac- abroad. Treaties should be considered appeared on the payroll, the ethical cumulated opinions will develop into a that would permit a requesting coun- breach would be obvious. By con- body of law to guide both the courts try to overcome bank secrecy laws trast, if the law contained an excep- and those subject to ethics guidelines. and other obstacles to recovery. tion for "qualified" individuals, endless Transparency International's Source arguments about the nephew's quali- Complementary Laws Book (2000) lists dozens of other fications could ensue, muddying the systemic reforms needed to root out question. With bright-line rules citi- Statutes outlawing bribery, nepotism, corruption. zens, the media, and watchdog and other corrupt acts should be groups can readily determine whether complemented by laws that help bring This is a shortened version of the the government is serious about en- corruption to light. Freedom of in- authors' article, published as a forcing anticorruption laws. formation laws are one example. PREM Note, in October 2001, and Such laws require the government to available on http://www-wbweb. Countries with weak enforcement disclose information about its activi- worldbank.org/prem/pas/premnotes/ institutions should consider includ- ties at the request of any citizen and PREM note58.pdf. Richard E. ing the following bright-line rules in watchdog groups can use them to Messick is a senior public sector their anticorruption laws: monitor government behavior. specialist, and Rachel Kle-infeld is a consultant in the Public Sector * No government employee may re- Similarly, in recent years several Division, PREM Network, World ceive any gift, payment, or anything countries have adopted whistle- Bank. C 2001 The World Bank/The William Davidson Institute TRANSITION, October-November-Decernber 2001 Slovak Republic's Fight Against Corruption- Excerpts from a Government Report The Slovak Republic adopted a na- cials must be required to submit dec- Some early results of the fight against tional program to fight corruption in larations of their assets. Moreover, in- corruption include the following: June 2000. The program has the fol- vestigation methods need to be lowing objectives: considerably strengthened, including * Criminalization of corruption. the deployment of special agents to Corruption was criminalized under * Eliminating opportunities for combat corruption. The risk associ- the Criminal Code onApril 11, 2001, corruption. The principal remedy in ated with corruption can be increased and the government approved the this area is access to information. The through harsher punishment. imposition of harsher sentences for Free Access to Information Act, in corruption. The upper limit of a jail effect since January 1, 2001, is one 0 Enhancing public sensitivity to sentence for bribery was increased of the main pillars of the program. In corruption. The first barrier to cor- from one to two years and for the principle, this act allows access to ruption, which must be as strong as abuse of office from two to three any information other than classified possible, is high personal and moral years. data. It also mandates increasing the standards. To this end, the public transparency of public administration must incessantly be informed of the 0 Case distribution. A computer- as a whole; minimizing subjective el- harm corruption causes. Detected based system for randomly distrib- ements in decisionmaking; removing corruption cases should be brought uting cases to judges was introduced unnecessary administrative barriers; to the attention of the public, together at the Banska Bystrica District Court enhancing the transparency of public with a computation of the estimated in cooperation with the Swiss Minis- procurement; and eliminating corrup- damage. Education should be aimed try of Justice. This system speeds tion in state enterprises, mainly by at lowering the public's tolerance of up court procedures and guarantees reducing the government's influence. corruption. Enhancing public sensi- the observation of the constitutional tivity should start at school in the right to a lawful judge by preventing * Increasing the risks of engag- context of ethics classes. Nongov- the arbitrary assignment of cases. ing in corrupt practices. In addition ernmental organizations and the me- This model will be imrplemented at to prevention, corrupt practices must dia should be enlisted to cooperate all district courts throughout the Slo- carry a greater risk. Thus public offi- in enhancing public awareness. vak Republic. Perception of the need to give a bribe, 1997-2001 (percentage of those surveyed in a sample conducted in 2001) 16 1 4 12 *1997 10 i 01998 8 * 1999 6 0i2000 4 *2001 2 0 Customs Tax authorities Trade licence Labor offices Regional state authorities authorities administration Source: Slovak government's report 2001 TRANSITION, October-November-December 2001 The World Bank/The William Davidson Institute © 2001 0 Company register. Regular op- Con The E Of eration of the company register Cor up ion T eiEem o started on January 1, 2001, and has helped create a more transparent Progress business environment. Accelerated By Jennifer Munroe procedures, such as those for pro- cessing applications for entering a "Corruption and social inequality make people cynical about democracy, " noted company in the company register, are Bulgarian President Petar Stoyanov, opening the Partners in Transition confer- also expected to help curb corruption. ence held in Sofia, Bulgaria, in September 2001. One major topic of the con- ference-organized by the Center for Institutional Reform and the Informal * Ombudsman. A law that is cur- Sector (IRIS), together with USAID and KPMG Consulting-addressed the rently under preparation will regulate obstacles posed by corruption. In the months preceding the conference, IRIS 9 the status of the human rights om- organized working groups in six countries (Albania, Bulgaria, Georgia, Hun- budsman, whose aim is to help gary, Russia, and FR Yugoslavia) to address the theme of corruption. people exercise their constitutionally guaranteed rights and freedoms. orruption is reversing some groups or enterprises seek to influence of the gains achieved by the formulation of laws, regulations, and * Act on free access to informa- transition countries over the policies, so as to secure special ad- tion. The right to be informed helps last ten years, and continues to pose vantages. In some transition countries, prevent situations likely to give rise to several threats. It can hold back eco- this activity has diverted significant corruption from developing, increases nomic reform by distorting govern- attention away from market-oriented the risk of detection, and allows the ment policies and by diverting private restructuring of the economy and to- public to scrutinize the exercise of sector effort from value-added invest- ward the entrenchment of oligarchical public power and the use of public ment to lobbying and rent-seeking. power through state intervention in funds. As mentioned earlier, access It tends to drive new firms under- banking and industry. to information is open to everybody. ground, siphon resources offshore, * Administrative corruption: if in- Applicants are not required to give rea- and dampen incentives forforeign in- dividuals or groups provide illicit sons for or to justify why they are re- vestment. Worse, when corruption gains to public officials in exchange questing access to information. seriously compromises the legal sys- for advantages created intentionally tem, predation can reach cata- distorting the implementation of ex- * Register of licenses, conces- strophic dimensions, essentially isting laws, rules, and re(gulations. sions, and permits. The aim of this shutting down the economy. Administrative corruption takes such register is to list licenses and per- forms as the exchange of bribes for mits issued by central government While corruption clearly has damag- the unlawful granting of licenses, ing effects, it is fundamentally im- state bank loans, privatization and identify potential problem areas. portant for reformers to bear in mind awards, court judgments, and infra- that corruption is a symptom of un- structure contracts; "grease pay- * Law on lobbying. Aworking group derlying institutional imbalances. ments to secure permits, customs hLaw oen sobbuing. Areporkthing grop These include subordinate judiciaries clearance, and government services has been set uptopreparetand audit systems, perverse incen- to which the payer is entitled; and tives in the civil service, weak civic the misdirection of public funds by * Cadastral authorities. Work is institutions, and skewed relation- state officials for their own, families,' under way to improve the cadastral ships between government and the or friends' benefit. authorities, which according to diagnos- private sector. tic surveys are affected by corruption. In many transition countries, corrup- Recent literature suggests that there tion is "path dependent"; that is, it rep- Excerpted from the govemment's are two main categories of corrup- resents the continued mingling of state report on the Fight Against Corrup- tion in transition countries: state cap- and enterprise interests and decision- tion in Slovakia, published in Octo- ture and administrative corruption: making through non-transparent chan- ber 2001, wwwgovemment.gov.sk * State capture: if individuals, nels of personal influence, both of D 2001 The World Bank/The William Davidson Institute TRANSITION, October-November-December 2001 which were prevalent underthe Com- tion that facilitate corruption: the an open public registier of income munist system. That system also left wholesale revision of legal and regu- declarations by government officials a legacy of state dominance and latory systems, the massive redis- (see box). feeble civic organization. Moreover, tribution of assets, and the absence the economic, administrative, and of countervailing institutions. Under Other speakers gave additional ex- political changes associated with the these conditions, corruption tends amples of policy changles that help transition of the past 12 years have to build and sustain the rule of oli- combat corruption, such as improv- t'- - created additional incentives for cor- garch groups, especially through ing financial audits (Hungary), abol- ruption, including falling wages and their undue influence on state policy ishing compulsory foreign trade morale of public servants and weak processes and control of the me- permits (Yugoslavia), and reforming administrative taxation systems. dia. customs valuation (Bulgaria). Many speakers also stresse!d the impor- M Various Strategies This suggests that fighting corrup- tance of external forces, such as rati- tion must be an integral part of build- fication of the OECD convention and What is to be done? Speakers at the ing an accountable government. In the run-up to EU accession-includ- Sofia conference reported the strat- general, corruption in industrial ing the adoption of harrnonized legis- egies they have developed to address countries can be reduced by an ef- lation-as providing helpful incentives corruption, and their attempts to fective and transparent state admin- for countries in the region to address implement reforms. istration coupled with an active civil corruption seriously. society. Georgia has made some H. E. Mikheil Saakashvili, then the progress on this front, with its re- Speakers from Albania and Bulgaria Georgian minister of justice, listed form of the judiciary to require quali- each referred to the financial crises three core components of the transi- fying exams, and establishment of in their countries during the 1990s, Rule of Law Project Brings Quiet Reform to Georgia Georgia's new Freedom of Information chapter of the assistance of USAID and its contractors, Georgia General Administrative Code affects the life of almost adopted a important new General Administrative Code every Georgian. For example, the city government of in 1999. This code included the freedom of informa- Tbilisi is required to give information, if asked, about tion rules, which were the most progressive ever the money it spent on new cars for city officials. Since passed in the former Soviet Union and have become the media will also have access to this information, a model for other states. the local government is likely to be more careful about how it spends the taxpayers' money. This fall marked the award of a $10.8 rnillion, four- year contract to the IRIS for the USAID Rule of Law It used to be very difficult to get in touch with most govern- project in Georgia. IRIS has been working in Geor- ment officials, or even to learn who they were. Today, if gia for several years, and was instrumental in the you walk in to the State Chancellery building, you find a list adoption of the administrative law reforrns. posted with the names of the government officials that work there, their title or position, and their telephone numbers "The kind of transparency and accountability that and room numbers. If you are denied information about these reforms can provide will not only make the your pension by the government, there is a set process government work better, but make it incrieasingly dif- now that you can follow to have this decision reviewed. ficult for corruption to flourish," Howard Fenton, lo- cal director of IRIS's Georgia project, pointed out. These are not big, exciting changes that get everyone's attention. But multiply the effect of these examples IRIS will be working with several Georgian NGOs. in throughout the country, and at every level of govern- conjunction with the Georgian Young Lawyers Asso- ment, and you begin to see how changes in the law ciation and the Liberty Institute, the project will help can make Georgia a better place to live and work. raise people's awareness of their legal rights and help the government administer laws in a better and Administrative law comprises those rules that affect more open fashion by working with individual minis- the way government does its business. With the tries. TRANSITION, October-November-December 2001 The World Bank/The William Davidson Institute © 2001 and stressed the linkage of those and therefore elaborate strategies and ter, University of Maryland. IRIS does crises to corruption. They also sug- anticorruption commissions would be research and provides advice to transi- gested that the weakness of the me- unnecessary, Boris Begovic suggested. tion and developing countries, ranging dia played a significant role in from anticorruption reform to capital perpetuating systemic corruption in To sum up, corruption has clearly be- markets development. Led by Direc- both countries. Boiko Todorov, co- came a high priority item on the re- tor CharlesA. Cadwell, IRIShasmore ordinator, Southeast European Le- form agenda of both governments and than 160 economists, lawyers, social gal Development Initiative Coalition civic organizations. Understanding of scientists, and other staff worldwide. 2000, Bulgaria, suggested that or- the causes, mechanisms, and con- This article is adapted from materials ganized crime and trafficking, key sequences of corruption is advancing written by Patrick Meagher and Robyn factors generating corruption in the as studies proceed across the region. Jordan of IRIS. To read more about the Balkans, arise from that region's in- Sofia conference, see the IRIS web stability and underdevelopment. A Jennifer Munroe is director of Outreach site at http:/Jvwww.iris.umd.edu/News/ regional approach is therefore and Information Seivices at IRIS Cen- conferences/transitionconf html. needed to address corruption effec- tively. How Hungary Escaped Transition Business Capture Gyorgy Satarov chairman, indem Failure and Runaway Corruption Foundation, Russia, presented a brief analysis of data from the World Bank's The early 1990s in Hungary were marked by rapid institutional change and study Aggregating Governance Indi- severe economic downtum. Credit relations and the financial system gener- cators. The data suggest a non-linear ally suffered from widespread corruption, including the exchange of loans for relationship between the progress of bribe, self-enrichment schemes and manipulation of such procedures as transition, on the one hand, and of bankruptcy, state-initiated debt restructuring programs, and banking super- state capture on the other. The two vision processes. The cost of this early rash of corruption and later episodes advance in linear fashion until a mid- through the 1990s easily runs into hundreds of millions of dollars. point of instability, where, in the suc- cessful countries, state capture Many countries in similar circum- in a complex and murky business declines as the transition advances, stances have failed to come to grips environment. Hybrid (state-private) but in the unsuccessful cases, state with these problems, with disastrous corporate groups, in many cases run capture continues to increase while results-the paradigm example be- by (former) state managers, linked the transition's progress is reversed. ing Russia's experience leading up enterprises, banks, and the state in The latter trajectory seems to involve to the crisis of 1998. There, rapid an often collusive mutual embrace. another form of capture, "business privatization (in the absence of func- Studies elsewhere have shown the capture," in which officials gain con- tioning safeguards and market insti- governance failures that arise (with trol over private firms to extract rents. tutions) opened the door to massive resulting underperformance and vul- self-enrichment by enterprise insid- nerability to crises) where financial Boris Begovic, chief economic advi- ers, and the recycling of funds institutions are predominantly con- sor to the deputy prime minister, Fed- through a loosely supervised bank- glomerate- or state-owned, espe- eral Republic of Yugoslavia presented ing system. This led to the rise of cially in emerging markets. In these a survey from Serbia that found that oligarchs who bent the system to situations, financial flows often de- multiple bribing of officials by respon- their will, creating public giveaways pend far more on politics and per- dents was prevalent, that bribers nor- and a culture in which lobbying and sonal networks than on transparent mally receive the services they have self-dealing trumped the profit mo- accounts and legal arrangements. "paid for," and that both the share of tive. turnover and of senior officials' work What could be done about this? Fo- time devoted to corruption are sub- Hungary saw the beginnings of this cusing on a direct assault against stantial. The core anticorruption strat- in the early 1 990s. Its experiments corruption would likely prove wasteful egy in Serbia should be deregulation, with market socialism had ushered at best, if not disastrous, in a context C) 2001 The World Bank/The William Davidson Institute TRANSITION, October-November-December 2001 where market institutions and the rule divested its holdings in the real and 0 State ownership can be made ac- of law have only just begun to financial sectors, Hungary is poised countable if it is sufficiently small, in emerge. This suggests that estab- to emerge from its market transition. a context of meaningful political and lishing effective governance in the The disciplines imposed by the ap- market competition. economy must be among the first plicable international regimes, espe- * High levels of foreign direct invest- priorities for a number of reasons, cially the EU, have played an ment-especially by strategic inves- including the reversal of the wrong important role. tors-are fundamental to timely incentives. Thus the choices confront- emergence of sound banking and cor- ing Hungary in the early 1990s were The lessons learned from this expe- porate governance in transition envi- tough, and the stakes high. Should rience include: ronments (In the period 1990-2000 privatization be rapid or gradual? foreign direct investment flows to Hun- Should market institutional reform be * Binding outside constraints (in gary reached almost $20 billion, com- C strict and sudden, or slow and ac- Hungary's case, huge foreign debt) paredwithitspopulationof10million). commodating? Should banking re- can effectively motivate restructuring. form center on existing institutions * Intelligent incrementalism can suc- This case study and the others in or rapid influx of new ones? Hungary ceed (Hungary averted the temptation the series-on infrastructure projects escaped the trap of failed transition of a large-scale mass privatization, in- in Nepal, customs reform in Bolivia, that would have meant a spiral of dis- stead sold the state-owned companies and electoral campaign finance in tortion, stagnation, and corruption. forcash-which proved to be moretime- Argentina-are available on the IRIS The main steps in the reform were consuming, but also more rewarding). web site at http://wwwiris.umd.edu. the implementation and adjustment of a legal reform package known as W orld Ba17\TA1 \1 "legislative shock therapy," a (highly flawed), debt restructuring process, and robust privatization-especially A genda of state holdings in the banking sec- tor. These changes helped create World Bank Is Drafting New As- IMF Backs Bankruptcy Plan to one of the strongest financial sec- sistance Strategy for Russia Protect Indebted Countries tors in the region along with a com- petitive and reasonably well-governed The new, two-year World Bank strat- The International Monetary Fund's market. egy for Russia is currently being pre- (IMF's) management has thrown its pared and is scheduled to be weight behind a radical plan for an These reforms revolutionized owner- discussed by the Bank's Board of international bankruptcy procedure ship incentives and imposed trans- Directors in April 2002, Julian that will allow indebted governments parency on the system. The influx of Schweitzer, director of the World to seek legal protection from private foreign owners, together with the Bank's Moscow Office, announced sector creditors. Describing the plan growing strength of markets and pub- during a recent press conference in as "the missing element we must lic sector institutions, brought banks Moscow. The Bank has started re- provide" in the global financial sys- and enterprises under the effective leasing $600 million in loans to Rus- tem, on November 26 IMF Deputy discipline of corporate governance sia for six previously approved Managing Director Anne Krueger and regulation. This helped create programs. The six projects include said the Fund should have the power one of the strongest financial sec- a $85 million loan for municipal heat- to impose temporary standstills on tors in the region, a vibrant economy, ing, $122.5 million for municipal wa- debt payments while countries and a reasonably well-governed and ter supply and sanitation, $50 million worked out restructuring deals with competitive marketplace. Corruption for education reform, $80 million for their creditors. "At the moment, too in the financial system, nearly a way promoting relocation of far north resi- many countries with insurmountable of life in 1991, has become far more dents, $60 million for a forestry pilot debt problems leave it too long, im- episodic and manageable. Having project, and $200 million for a coal posing unnecessarily heavy eco- significantly improved both corporate and forestry coguarantee. In 2002 the nomic costs on themselves and on governance and state oversight in- Bank may lend Russia another $600 stitutions, and having substantially million. Continued on page 56 TRANSITION, October-November-December 2001 The World Bank/The William Davidson Institute C 2001 China's Own Path toward a Market Economy: Interview with a Prominent Reformer By Pil Reti Pal R6ti, editor of the World Economy Weekly, Hungary's leading economic magazine, recently interviewed Chi Fulin, executive director of the Haikou (Hainan)-based China Institute for Reform and Development and a regular contributor to this newsletter, during a visit to Hungary. The interview touched upon a wide range of topics currently hotly debated in China. This article is an edited translation of the original interview. In the first half of the 1980s, Chi Fulin taught political science at the University of Defense in Beijing. In 1986 he E moved to the Central Office of Political Reforms headed by Prime Minister Zhao Ziyang. He has held his current position since 1991. Q: China's membership in the nese Communist Party ready to that is, in villages and small towns, World Trade Organization is now give up that privilege? residents freely elect local leaders. official, which means that gov- ernment officials can no longer A: This is an especially important is- Q: Two decades ago the Chinese interfere in and control the state- sue in China. The previous policy of reform process started in the coun- owned enterprises. Are they will- cadre management was certainly tryside with the reorganization of ing to refrain from doing so? faulty in many ways, for example, it the production of goods. However, was a breeding ground for corruption. observers have recently said that A: Yes, they are. About 220 Chinese We have already progressed in four the agricultural reform is loosing laws that are incompatible with areas. First, senior officials, that is, momentum. What do you think World Trade Organization rules have ministers and regional secretaries, are should be done about this? to be changed. Our objective is chosen by the competent party, or clear: companies should be inde- more often by state agencies, after A: The lack of up-to-date agricultural pendent and the government should the opinions of some 100 to 200 de- technologies and the low quality of not interfere in their affairs. Chinese partment heads, directors, and other Chinese agricultural products is due courts are also playing a greater role, senior officials have been taken into mainly to the unclear legal status of for example, when state-owned en- account. If these opinions are nega- land leasing. The law currently allows terprises sue the government. Just tive, then candidates find it difficult to peasants to cultivate a certain area recently a small, partly state-owned, obtain the positions they are seek- of land based on a 30-year lease. but majority privately-owned, com- ing. Second, lower-level positions, However, as land is collective prop- pany based in Hainan sued the that is, directors and department erty, if they wish to, local authorities state-controlled securities commis- heads, are officially advertised and all can assign such parcels to different sion for not allowing the company affected are asked to give their opin- lessees every year. This keeps the to issue shares on the stock ex- ions on the applicants, which could peasants in a state of perpetual un- change. Initially the court rejected number in the dozens or hundreds. certainty. We would like the People's . the complaint against the state, but Candidates are chosen on the basis Congress to pass a law on land leas- ~ following an appeal, the company of these opinions. Currently, individu- ing next year that would prevent in- won the case. als with university degrees can ob- terference in the use of land. That - tain such positions without being party would allow peasants to cultivate the Q: Hungarian experience shows members, which is a relatively new same piece of land for many years. that the main instrument whereby development. Third, company man- They would be able to invest in it, to the Communist Party exercises ager positions are also advertised and mortgage it, even to sell the lease if control over companies and notices about vacant positions indi- they moved elsewhere. This would other institutions is the policy of cate the salary that goes with the be an enormous positive change for cadre management. Is the Chi- position. Fourth, atan even lower level, China's 800 million peasants. © 2001 The World Bank/The William Davidson Institute TRANSITION, October-November-December 2001 Q: Market forces are already influ- lated companies should be relieved tion models and practices for years. encing the agriculture and indus- of their bad debts and those that We think that China is too big a coun- try sectors, but what will happen operate under market conditions try to follow any one particular model. to such state monopolies as tele- should start out with a clean slate. However, the Hungarian reforms- communications, air and rail trans- which assured the stability of the port, or the energy sector? Q: In your writing you emphasize transformation-have some valuable the need for China to adopt a clas- lessons for us, especially those in- A: We should pass laws that would sical market economy, but at the troduced in the 1980s. When we vis- create a legal framework for market same time you often mention that ited Russia recently, we were quite competition in such sectors, includ- China should develop a socialist surprised to learn that the Russians ing allowing foreign ownership of com- market economy. Why? are extremely interested in the Chi- panies. Such reforms have started, nese reforms, and generally believe 3 and these companies have already A: I use the term people's market that their own shock therapy has been transformed into shareholding economy-which is also the title of been a failure. companies. For example, the local my book to be published next year- government owns only 10 percent of in which the main role in the economy Q: China is the only large region the shares of Hainan Airlines, while is assigned to workers. We have to where economic growth did not private companies and individuals take into consideration that China's slow down significantly and is own the other 90 percent. workers created an enormous amount running at well over 5 percent of property.JanosKornai,thefamous per year. How long can China Q: Did you also buy some of these Hungarian economist, wrote a book sustain this growth rate during shares? about the shortage economy in so- the current slowdown of the world cialist countries. I would address economy? A: Many of my friends have bought this same problem as one of a some, but my position as director of shortage of ownership rights. This A: In the first half of 2001 China's the provincial reform commission pre- theory was tested when Hainan's GDP grew by 7.8 percent, and eco- cludes me from doing so. state-owned company that pro- nomicgrowthforthisyearwill not be duces drinks from coconuts was less than 7 percent. However, while Q: In one of your papers you wrote transformed into a shareholding the worldwide slowdown, especially that during the process of trans- company. The company's employees that of the United States, will cer- forming the state-owned banks all received a small portion of the tainly influence China's economy, we into shareholding companies, an shares for free and more shares for a have some advantages that can bal- enormous amount of irrecoverable third of their market price. We must ance these influences. The domes- debt came to light. How is China also bear in mind that more highly tic market is reviving and market addressing this problem? qualified employees contribute more forces have started to boom in the to a company's capital accumulation, countryside. Private enterprises have A: About 20 percent of the state- and thus deserve a bigger share. In gathered strength and progress has owned banks'debtsare bad and may the case of the coconut drink com- been enormous. In the next five not be paid back, and another 5 to 8 pany, the management received 25 years, investments in infrastructure percent of loans are definitely irre- percent of the shares and other em- alone will reach $100 billion, and coverable. The banks transformed ployees got 75 percent. China will spend an additional $30 some of these loans into shares. billion in investments related to the Larger banks created their own debt Q: China has several models of 2008 Olympics. These developments management departments or affiliate economic transformation to will significantly influence China's companies to reorganize their bad choose from, ranging from that economic growth. debts and sell them if possible. applied in the Czech Republic to Those small or medium state-owned that used in Tajikistan. Which Q: Two years ago I interviewed enterprises that accumulated too model will China choose? Fang Gang, economic advisor to much debt should go bankrupt. I be- the Chinese government. His radi- lieve that radical solutions should be A: My institute has been carrying out cal reform ideas were similar to applied in such cases, and that re- research on the various transforma- yours, but one year later he quit TRANSITION, October-November-December 2001 The World Bank/The William Davidson Institute © 2001 his job as head of a government Society for Economic System Re- continue, but we don't have to be research institute. Are you not form. He can propagate his views afraid of reprisals. Chinese leaders afraid that your views might more freely now than as the head are more than willing and ready to cause you some problems? of a government research institute. learn from the ideas of academic ex- Reformers have been often criti- perts. One can even gain a certain A: Fang Gang is currently a vice cized for their views and fierce de- fame if criticized by high-level offi- chairman of the Chinese Research bates about the direction of reform cials. Accounting Standards in China By Ray Ball, Ashok Robin, and Joanna Shuang Wu 3 Since China adopted its open-door policy and embarked on a path to economic reform more than two de- cades ago, the world has witnessed a stunning transformation. GDP growth has averaged 8 percent per year, exports have grown 15 percent per year, the state's share of industrial output has shrunk from 78 to 28 percent, China has attracted $300 billion of foreign direct investment, and individual and foreign portfolio investment have become considerably more significant. China is now an active participant in the increasingly integrated world markets. Prior to the reforms, China's ac- thought to be insufficient for interna- on a timely basis. (Economic losses counting rules were adapted to a tional users for the following reasons: arise from reduced present values of Soviet-era planning system. Like 0 While the ASBE are based on expected future cash flows from an their counterparts in many coun- IAS, they are different in several as- individual asset or group of assets, for tries, China's regulatory authorities pects. They overlook the rule that in- example, a portfolio, a business unit, p have concluded that international ventories are valued at cost or at a subsidiary company, or a strategy. transactions would stand to gain if market price, whichever is lower, and Timeliness implies that soon after "*'L the accounting standards Chinese do not report if the value of land, build- managers are aware of an economic 4 companies used conformed more ings, and equipment becomes non- loss, an asset write-down is charged closely to international practice. recoverable. against income.) Information asymme- Higher-quality financial statements * Under the ASBE international us- try is resolved at least in part by pri- also increases their utility in evalu- ers do not receive a certification that vate communication rather than V ating managers' performance, a sig- the financial statements conform to through published financial state- nificant problem during China's internationally acceptable standards ments. The pressure for transparent, ' - transition from state control to a or an indication of the extent of any publicly-disclosed accounting informa- A market economy. divergence. tion is reduced by the following: 0 The financial statements of do- 0 The prevalence of guanxi (con- - China has made a great deal of mestic companies reporting underthe nections) networks, as well as by X= progress in reforming its accounting ASBE are audited by domestic audit extensive share ownership by the 2 standards. Most notably, in 1992 the firms, whose independence has been state and by institutional investors. f Ministry of Finance promulgated a questioned. Staff in many of these 0 The strong role the govern- completely new set of standards for firms were formerly internal accoun- ment plays in the accounting sys- domestic companies known as the tants in the companies they now are tem and the resulting close link ; Accounting Standards for Business required to audit, and in the Chinese between tax reporting and financial Enterprises (ASBE). The ASBE were context their relationships with and reporting, which create demands based on International Accounting obligations to former colleagues who such as ensuring a stable source of d Standards (IAS) and adapted to lo- now are managers in their client com- tax revenue for the state and avoid- _ cal conditions. panies are likely to persist. ing reporting embarrassingly large profits or losses. Despite these reforms, the quality of Managers have few incentives to in- 0 The stock exchange listing domestic financial statements was corporate losses in reported income rules that require companies to be ©) 2001 The World Bank/The William Davidson Institute TRANSITION, October-November-December 2001 profitable, providing a further incen- little incentive to incorporate eco- performance evaluation, and the de- tive to hide losses. nomic realities, including losses, in velopment of auditor training and in- * The many institutional features published financial statements in a dependence. This implies that the that limit the quality of accounting timely fashion. mostfruitfulareaforChineseaccount- information. Transactions among or- ing reform lies not in simply adopting ganizations with historically close Thus government regulation by itself or imitating IAS, but in reforming do- relationships under state ownership will not induce the provision of high- mestic institutions. are widespread, and when the state quality accounting information. Man- remains asamajorshareholder, this agers and audit firms must face The authors may be contacted as provides enhanced opportunities for market-based incentives to ensure follows: Ray Ball, Graduate School income manipulation to hide losses. that such information is provided. of Business, University of Chicago, Off balance sheet liabilities of un- Accounting standards interact 1101 East 58th Street, Chicago, IL certain quantities (for example, to closely with the institutional environ- 60637, tel.: (773) 834-5941, email: provide housing, schooling, or ment, including the development of ray.ball@gsb.uchicago.edu; Ashok health care) further reduce the an independent judicial system, the Robin, College of Business, Roch- transparency of financial state- reform of the management and gov- ester Institute of Technology, Roch- ments. ernance of state-owned enterprises, ester, NY 14623, tel.: (716) 475 * The shortage of qualified ac- the implementation of bankruptcy -5211, email: ajrbbu@rit.edu; counting professionals and the law, and the reform of the financial Joanna Shuang Wu, William E. lack of auditor independence, and tax systems. Simon Graduate School of Business which hinder the application and en- Administration, University of Roch- forcement of accounting standards. The real challenge facing accounting ester, Rochester, NY 14627, tel.: * The rudimentary legal frame- in China today involves the domestic (716) 275-5468, email: wujo@ work and the essential absence of uses of accounting information, for ssb.rochester.edu. The authors' shareholder litigation provide issu- example, in resource allocation, cor- sample consisted of 1,625 firms dur- ers (managers and auditors) with porate govemance, stewardship, and ing 1992-98. Purchase Versus Pooling Method of Accounting: What a Difference! Under the current purchase method of accounting, for two years after the transaction. Under the pooling the acquiring company must write off as goodwill a standard companies are not required to amortize good- portion of the purchase price of a target company that will generated in such transactions against future earn- has not been accounted for by the target company's ings. In practice, therefore, merging companies can tangible assets. This poses a particular problem for ignore goodwill for accounting purposes. This allows high-tech companies, which often have significant in- the financial statements of merged companies to show tangible assets (such as intellectual property and highly larger returns on assets and equity than if the com- trained personnel) and few solid physical ones. In many panies were required to amortize goodwill. high-tech transactions where few tangible assets are involved, much of the purchase price can consist of In early 2001 the Financial Accounting Standards goodwill. Under current rules such goodwill must be Board-the designated U.S. organization in the pri- written off periodically against a company's future earn- vate sector for establishing and improving standards ings, according to a defined schedule, over a specific of financial accounting-decided to eliminate the pool- amortization period of up to 40 years. This naturally ing of interests method of accounting for business decreases a company's net earnings. mergers and acquisitions and require a single method: the purchase method. The board argues that this will Many firms therefore use the alternative pooling of greatly improve transparency and that the current val- interests standard in mergers and acquisitions. Firms ues of assets and liabilities that have changed hands choosing this option have to meet specific criteria, in- will be reported to investors, who will be able to learn cluding the requirements that acquisitions must be fi- the real cost of one company buying another, and as nanced by common stock rather than by cash and a result be able to track future returns on the invest- that assets of the acquired company must not be sold ment. TRANSIIION, October-November-December 2001 The World Bank/The William Davidson Institute © 2001 Accounting and Auditing Reform Advances in Moldova By Adolf Enthoven and Mike Neider The countries of the former Soviet Union (FSU), of which Moldova is one, have made radical structural changes to their political and economic conditions since 1991. As a result, their accounting and auditing systems have also been subject to restructuring. Moldova was recently elected as the first associate mem- ber of the International Federation of Accountants, the world's leading body of professional accountants. The changes in Moldova present some interesting lessons for other transition economies. While lagging behind in many areas of transition, Moldova has become a leader in accounting and auditing reform among the newly independent states of the FSU. Moldova's government and institu- 0 Helping the government draft and members. This association was the tions were well aware that to accom- implement new accounting and au- first accounting association in the plish the transition to a more diting standards based on interna- FSU to be inducted as an associ- market-oriented system, their ac- tional practices, and promoting these ate member into the International counting and auditing systems had new standards through coordinated Federation of Accountants. to be reformed. The various steps public education activities called for included: Aided by MARP, the association of- * Building a self-sustaining asso- fers comprehensive training pro- * Adopting international account- ciation to promote accounting and grams for accountants, auditors, ing and auditing standards auditing principles and to train and and enterprise managers, includ- support professionals ing a continuing professional edu- * Setting up a professional organi- cation program for certified public zation of accountants * Ensuring long-term professional accountants, and has developed a capacity by developing new account- professional testing and certifica- * Supplying technical assistance ing and auditing curricula at institu- tion program, a code of professional to enterprises. tions of higher learning. ethics, and other professional guidelines. It has published three * Restructuringtheeducationaland The government estimates that training manuals on the new ac- training process 22,000 enterprises have converted counting system, on managerial to the national accounting stan- accounting techniques, and on tax While accomplishing all this is not dards, representing 95 percent of accounting. These manuals de- easy-indeed, it requires nothing less those mandated to do so. The en- scribe the conversion to the new than a full-scale reorganization of the terprises using the national ac- national accounting standards, the way companies and individuals do counting standards require trained maintenance of an accounting sys- business-its success is critical to the professional accountants, and tem, and the preparation of finan- Moldovan economy. A major imple- MARP recognizes that this need cial statements and address tax mentation and assistance vehicle has can be met most effectively by lo- accounting and reporting and dis- been the MoldovanAccounting Reform cal institutions. To this end MARP closure issues in relation to annual Project (MARP), funded by the U.S. has helped develop the Association financial statements. Agency for International Development of Professional Accountants and and managed under the auspices of Auditors, a self-regulating account- The accounting and auditing pro- the East-West Management Institute, ing and auditing association respon- fession, and the economy as a a Soros Foundation affiliate. MARP is sible for professional development, whole, depend heavily on students providing assistanceto Moldova'stran- training, certification, and other pro- in the field receiving a high-quality sition to international accounting and grams. The association's member- education. MARP is working with auditing practices using the following ship is growing steadily, and today the Moldovan Ministry of Education, three-pronged approach: it has more than 1,600 registered the Academy of Economic Studies, © 2001 The World Bank/The William Davidson Institute TRANSITION, October-November-December 2001 and a number of universities to as- agencies, need to work closely to- somewhat different approaches and sess and improve their accounting gether to accomplish the desired vehicles. and auditing curricula to bring their objectives. The circumstances un- standards to international levels. der which all these parties had to AdoffEnthovenisprofessorofaccount- operate, especially initially, was dif- ing and director of the Center for lnter- MARP clearly shows that all par- ficult, but commitment by all those nationalAccounting Development at the ties involved in this kind of trans- involved has led to success. University of Texas at Dallas and con- formation process, including the MARP's sound management and sulting director on accounting for the government and its institutions, pro- activities are a potential model for East-West Management Institute. Mike fessional and academic bodies, other transition economies, al- Neider CPA, isdirectorofthe Moldovan and international development though each country may require Accounting Reform Project. Moldova's Economy Has Far to Go Moldova, with a population of 4.3 million, is one of the same period of 2000, and the food processing in- the poorest countries in Europe, with per capita GNP dustry accounted for 70 percent of overall industrial of $328. This ethnically diverse country is wedged output. Moldova's economy depends on trade, with between Ukraine and Romania. It was the second the shares of imports and exports averaging 50 per- smallest country in the FSU and has the highest cent of GDP. Its principal exports are agricultural, in- population density. Moldova's rich soil and temper- cluding wine, processed foods, and tobacco products. ate climate made the country a major supplier of The country is almost totally dependent on imported agricultural products to the FSU. energy, and most other inputs are also imported, mostly from Russia and Ukraine. Given Moldova's Moldova's boundaries have been redrawn many times. small domestic consumer base, future growth is likely Once part of the Ottoman Empire, the country was to be export led, and the country will need to switch absorbed into the Russian Empire in 1812. After a its resources into products that have profitable export brief period of independence in 1918, it became part markets. of Romania. During World War II, the FSU annexed the territory on the right bank of the Dniestr River. At The country's external debt has grown enormously the same time Moldova lost part of its territory to in the past eight years and now stands at $1.5 bil- Ukraine, while being combined with the Moldavian lion, or 120 percent of GDP. Western financial as- Autonomous republic of Ukraine to form Moldova as sistance and help with economic reforms and mass it is constituted today. The majority of the population privatization did not result in economic growth until consists of ethnic Romanians (65 percent), but this year, when economic growth is expected to reach Moldova also has sizable minorities of Ukrainians and 4 to 5 percent. Russians (13 percent each), together with Bulgarians (2 percent), a Christian Turkish people known as the In 2001 Moldova was due to pay $110 million in ex- Gagauz (3.5 percent), and other ethnic minorities. ternal debt service, equivalent to one-third of its bud- get revenues. Next year marks the peak of liabilities, Under the command economy of the FSU, Moldova's with $200 million due for repayment. International economic role was as a producer of raw and processed Monetary Fund officials have identified several as- foodstuffs, primarily grapes, grains, wines, vegetables, pects of the government's economic program that and livestock. Agriculture accounted for more than 40 they regard as controversial, namely: the price con- percent of the net material product, while agroindustry trols on public goods, the trade restrictions to pro- contributed approximately half of the almost 40 per- tect local producers, the reestablishment of a cent of net material product accounted for by the in- monopoly in the alcohol and tobacco industries, the dustrial sector. preferential energy prices for agricultural producers, and the stalled privatization of telecommunications Moldovan industrial enterprises registered 14 percent operator Moldtelecom and the wine and tobacco in- growth in the first 11 months of 2001 compared with dustries. TRANSITION, October-November-December 2001 The World Bank/The William Davidson Institute C 2001 How to Avoid Derailing Russia's Railways Reform by Russell Pittman Given both the vast dimensions of the Russian Federation and the poor state of its road system, the railways are much more important than in most other countries. Currently the railway system, historically a vertically inte- grated, state-owned monopoly, is facing tremendous pressures to reform. In many ways the railway system widespread complaints about tariff term. Thus how much competition remains as it was 10 and more increases. While the Ministry for An- would actually be created is not years ago. Seventeen separate timonopoly Policy has restrained in- clear. railway enterprises, divided into geo- creases in some cases, it has not graphic monopolies, have a large stopped them. How might the system be restruc- degree of autonomy over technical tured in a competition-friendly man- operations in their territories. Never- Reform Plans ner? Most experts would agree on theless, the central Ministry of Rail- the bare minimum requirements for ways in Moscow sets all tariffs and Serious discussions about reform a liberalized Russian railway system schedules and regularly reallocates began in 1998 with a government to operate in a more efficient and pro- revenues so as to more or less equal- resolution calling for a broad restruc- ductive manner, namely: permitting ize the enterprises' profitability. Al- turing, focusing on sloughing off aux- flexible local or regional tariff setting; most 50 percent of rail traffic is iliary activities that competitive allowingflexiblelocalorregionaltrain interlined, that is, it moves on the markets could supply, such as loco- scheduling; ending systemwide rev- tracks of more than one of the re- motive and car repair, and including enue redistribution; separating the gional railroads, and with each the now standard reform proposal to ownership and regulatory functions; change to a different railway enter- allow some competition among dif- and implementing direct, transparent prise, the train must stop and a dif- ferent train operating companies on government subsidization of passen- ferent locomotive must be attached. a monopoly track system. The Min- ger operations rather than subsidiz- Most of the large mining and manu- istry of Railways circulated a simi- ing them from freight revenues. facturing enterprises have their own lar, but more detailed, proposal in late private "industrial" railways, which 2000. At this point the Ministry for In Russia, both the road freight trans- - also require a change of locomotive Antimonopoly Policy formally ob- port and riverfreight transport indus- ' upon shipment delivery. jected, focusing in particular on two tries tend to be structured so they r* aspects of the reform plan, namely: are reasonably competitive, therefore Freight tariffs have long subsidized where economically feasible, they intercity, suburban, and commuter * The new railway enterprise, Rus- provide shippers with competitive e passenger operations, as well as sian Railways (Rossiyskiye Zhelezniye transport alternatives and obviate the light-density freight lines that the rail- Dorogi or RZD), would continue to need for regulation. Thus the govern- roads have not been permitted to be state owned for the foreseeable ment should encourage competition abandon. No separate rail regulator future. As the Ministry of Railways between various modes of transpor- exists, and the ministry both over- would continue to set tariffs, the lack tation by providing private operators sees and regulates the operations of independence between the regu- with the necessary road and water of the regional railroads. lated enterprise and the regulator infrastructure; protecting competition would persist. in the state's procurement policies As the Russian economy begins to * Although the reform plan envisions at all levels to ensure that infrastruc- recover and the demand for freight the creation of competing companies ture investments achieve the best services grows, so does the demand operating trains, it envisages that results possible; and ensuring that for improvements in railway services. RZD will own at least 50 percent of tax policies, including taxes on fuel The ministry's dual role as both op- these companies in the near term use, do not discriminate against par- erator and regulator has given rise to and at least 25 percent in the longer ticular transport modes. C) 2001 The World Bank/The William Davidson Institute TRANSITION, October-November-December 2001 However, regardless of any such poli- Most such arrangements are volun- serious problem of favoritism and dis- cies, in this vast country huge vol- tary and mutually agreed upon. criminatory access may arise. If the umes of commodities travel most * One or more railroad compa- track owner or operator is not per- economically by rail. Railroad com- nies may serve a particular loca- mitted to run trains, economies of petition is an important part of any tion, but captive shippers have scale are lost, chances of competi- liberalization program. more choice. Two privately-owned tion among railroad companies are carriers, the Canadian National Rail- further eroded, and complex con- International Models way and the Canadian Pacific Rail- tracts have to be worked out between way, handle most rail traffic in the track owner or operator and the A number of possibilities for compe- Canada. They run their own trains train operators. tition exist, as illustrated by various over their own track. The main differ- * The countries of the European international models. ence between the Canadian and the Union (EU) have traditionally had U.S. system is that in Canada, cap- unitary, monopoly, state-owned * Private railroad companies tive shippers located on one of the railroads. However, as a result of control both the tracks and the railroads but within 30 kilometers of EU directives, each member coun- trains that run along them. This the other can insist upon using ei- try will be obligated to separate the was the case in the United King- ther service. cost accounting records of the track dom for the first 100 years of rail * Source competition is intro- and other infrastructure from that of operations. In the United States, duced. In 1997-99 the Mexican rail- train service and to allow international Canada, and Mexico, most traffic way system, a government-owned groups to use the rails. (The hope is moves on nonregulated tariffs using monopoly, was divided into three to further unify the market by provid- nonregulated shipping arrange- major privately-owned regional rail- ing seamless transborder rail ship- ments, though there is some regu- roads, each with a monopoly in its ments within the EU). For the latory protection available for own region, and seven smaller com- foreseeable future, train operators "captive" shippers (shippers who rely panies were also established. Each and track companies will remain ver- on a single railroad for freight trans- of the three main rail enterprises tically integrated; however, under portation, without effective choices, runs its own trains over track that it certain circumstances they must who must accept the rates and ser- controls through a long-term conces- permit other train operators to oper- vice levels offered). Competition is sion. Instead of much parallel com- ate over their track, presumably un- not perfect, but it is workable. The petition between different railroads der regulated rates and conditions. result has been a much reduced competing as origin to destination 0 The United Kingdom has sepa- presence for the rail regulators in services, Mexico relies on source rated the ownership and control these countries. competition, that is, shippers from a of the track and the operation of * One or many railroad compa- particular source, for example, trains into two completely inde- nies may serve a particular loca- Mexico City, can forward goods to pendent enterprises to encour- tion. This is the case in the United several Gulf ports for further delivery age competitive train operators States, where pairs of major cities using competing railroad companies to enter the market. The track com- often have two, or even three- "par- based on the best freight prices. pany, Railtrack, provides track ac- allel" railroad companies operating * Different train-operating enter- cess to both freight and passenger between them and competing for prises compete using a single trains at a regulated tariff level. Thus customers. Most tariffs have been monopoly-owned track. This is far the rail regulator has permitted deregulated, and are set in contracts identical to unbundling the natural only one freight operator on the track between railroad companies and monopoly bottleneck from competi- (see page 27). shippers. At particular locations with tive markets in the electricity and multiple shippers, such as cities, telecommunications sectors. Unbun- Russia's Choice railroad companies may agree to form dling, however, raises a difficult ques- a switching area, whereby they use tion: is the owner or operator of the Currently the EU system is popular each other's railroad track. (Note that natural monopoly bottleneck, the in policy debates around the world, the switching area track may be track, to be permitted to operate in and forgood reason: it provides trans- owned by the local government or the competitive sector of the market, parency as well as competition be- jointly by the railroads that use it.) the trains? If the answer is yes, a tween the various transport modes TRANSITION, October-November-December 2001 The World Bank/The William Davidson Institute D 2001 (rail, road, and water). Like the EU, As concerns the three North Ameri- be determined. This list would Russia should also require the rail- can systems, parallel rail service be- probably include a few large cit- ways to keep separate accounts tween origin and destination points ies, for example, Moscow and for their track and train operations. provides the best economic alter- Yekaterinburg, and a few large, It should also require them to natives for shippers who depend on single-industry production areas, charge themselves a reasonable, rail and requires a minimum of close for example, the Kuzbass. Some regulated tariff for track access, so regulatorysupervisionandintrusion. of these cities may already be that in the future, shippers of large Certain rail routes in Russia-such served by more than one railroad volumes-who typically run their as the Pacific coast to Europe and enterprise, with track heading in own internal railroads anyway- some areas in European Russia- different directions from the city. may be able to continue to supply could provide sufficient parallel track, The single-industry production ar- their own long-distance rail trans- and policymakers should consider eas are typically located in the in- port or threaten to do so. introducing this option in those ar- terior of a region covered by a eas. Shippers who remain captive single railroad enterprise. The EU system, however, is ex- to a single rail carrier in these terri- tremely regulator-intensive. It tories could be protected in the Therailwayenterpriseswouldbere- seems very unlikely that the Rus- same way the Canadian system organized and restructured so that sian regulator will have the knowl- protects captive shippers, whereby each of these cities and production edge or enforcement capability therailroadservingtheshippermust areas would be served by at least necessary to ensure that this ac- provide access or connecting ser- two independent rail enterprises, per- cess tariff is set at the correct, ef- vice to the nearest alternative rail- haps one going east and one going ficient, nondiscriminatory level in road. west, or one going north and one hundreds of different situations going south. The overall number of around the country, even if econo- Thus options include parallel rail independentrailenterprisesmightbe mists can ever agree on how to do competition for some shippers lo- fairly small, but shippers at each of that conceptually. cated in the right places, regulatory these rail termini would have at least protection for shippers in such ar- two choices of rail service. The com- This is even more true of the U.K. eas who remain captive to a single petition would require much less system, which requires complete carrier, and perhaps potential entry day-to-day regulation, and rely much enterprise separation between the into long-distance haulage of their more on day-to-day, rail-to-rail com- track owner or operator and all train own commodities by some of the petition than alternative plans. operators. Such a system may re- largest shippers. However, other al- quire less regulation of access ternatives are possible. For more In such a huge and difficult to gov- termsthantheEUsystemgiventhat than a century experience in ern country like Russia, relying on the track owner has no reason to Canada, the United Kingdom, and source competition among verti- discriminate among different train the United States has shown that cally integrated regional railroads operators, but it more than offsets the central idea behind the Mexi- may well be more straightforward this advantage by the additional con- can system-source competition- and lead to a superior outcome than tract negotiation and enforcement is an effective constraint on railroads relying on close regulation of verti- that it requires, a burden for which thatwould otherwise have monopoly cally separated monopolists from the Russian legal system is unpre- power. the center. pared, and the loss of economies of scale between train and track op- More Competition, Less The author is director of economic erators. The EU system is at this Regulation research and director of international point essentially untested. The ex- technical assistance in the Eco- perience of the U.K. system to date The Mexican system deserves a se- nomic Analysis Group, Antitrust Di- is one of controversy, confusion, and rious look as a possible solution for vision, U.S. Department of Justice. failed hopes. At this point, neither Russia. In those areas where paral- The views expressed do not neces- seems to be a solid foundation upon lel railroad competition is not fea- sarily reflect the views of the U.S. which to base competition in the sible, the most important locations government or the U.S. Department Russian railway sector. for rail origins and/or deliveries would of Justice. ©) 2001 The World Bank/The William Davidson Institute TRGNSITION, October-November-December 2001 ¢-Gazprom on Rails?-Russia's New Railway Company Railways Minister Nikolai Aksenenko, under investiga- the railways to boost efficiency, investment, and so on; tion for misuse of office, left his office at the end of Octo- and second, the allocation of control over the enormous ber and took what might be an open-ended vacation. financial flows that the ministry currently controls. , - Before his "leave of absence," federal prosecutors for- mally charged him with misuse of office under article The government is scheduled to finalize and submit to the 286 (3) of the Russian Federation Criminal Code, which Duma soon the first package of legislation goveming rail carries a possible sentence of 3 to 10 years' imprison- restructuring. In the first phase of the planned restructur- ment. ing, the new state-owned monopoly, Russian Railways (RZD), will take over all ministry enterprises, including the * The current charges focus on the alleged misallocation country's 17 regional railways. With an annual turnover of of around 70 million rubles ($2.35 million) and unpaid $10 billion to $15 billion, RZD is likely to be even larger taxes of 11 billion rubles. However, investigators have than Gazprom or the electricity monopoly EES Rossii. indicated that much larger sums are involved, including The ministry's regulatory functions will be separated from funds linked to the annual shipments of fuel and other its business activities, and activities that are natural mo- necessities to remote northern regions before the win- nopolies will be separated from those that are not. The ter. Investigators claim that the central apparatus of the cross-subsidization of passenger services by rail freight ministry was financed from a "black cashbox," from which will gradually be phased out. The government will preserve funds were allocated to purchase apartments for senior intact the single state-owned network infrastructure and ministry officials and to pay them unauthorized bonuses. the unified management of regulators. Competition is to be developed in the sector where possible, especially by pro- In recent years, Aksenenko and his colleagues have viding independent companies engaged in freight and pas- been the focus of numerous investigations and allega- senger services, maintenance activities, and other services tions concerning commercial relationships between the equal access to this federal infrastructure. ministry and various shipping companies allegedly con- trolled by ministry insiders or people close to them, in- The government and the ministry believe that these mea- cluding companies linked to both the minister's son and sures, together with steps to increase the sector's financial his nephew. In 1999 the Duma became concerned about transparency, will make investment in rail transport more the relationship between the ministry and the Swiss- attractive, not least for foreign investors. However, how re- based company Transrail, and asked Aksenenko to ex- structuring along these lines would attract investors, one of plain it. He refused. the key aims of the reform, is not clear. Aksenenko esti- mates that the sector requires around 600 billion ruble ($21.5 Aksenenko claims that the case against him has been billion) in investment over the coming five years. initiated by opponents of rail reform, and that the inves- tigators do not understand the specific character of his The ministry's proposals would mean that RZD would ex- ministry's work. The Ministry of Railways is one of two ercise just as much control over rail finances as the minis- ministries-the other being the Ministry of Atomic En- try currently does. The more radical reformers would rather ergy-authorized to undertake commercial activities as organize RZD as a holding company and transform the 17 well as government functions. Whether Aksenenko is regional branches into independent companies initially, but guilty or innocent, the mixing of commercial and govern- not permanently, owned by the holding company. Oppo- mental functions in these ministries makes policing cor- nents argue that such demonopolization would reduce the ruption more difficult. efficiency of the rail network and undermine the country's economic unity. They also argue that the costs of reform At any rate, Aksenenko and the ministry have tended to could easily exceed its projected benefits. take an extremely conservative approach to restructur- ing the ministry. Critics argue that Aksenenko and his The battles over rail reform are thus set to continue for team are less interested in radical reform than in creat- some time. ing a Gazprom on rails. The more liberal elements of the government fiercely criticize the ministry's proposal. Two Excerpted from reports of Oxford Analytica, an intema- major issues are in contention, first, the restructuring of tional research group based in Oxford, U.K. TRANSITION, October-November-December 2001 The World Bank/The William Davidson Institute © 2001 The Dismal Record of Britain's Railtrack By Luigi Marcon On October 8, 2001, Railtrack, a private U.K company that owned and still operates the railway infrastructure, officially went bankrupt. It is the latest episode in the sad privatization saga of the national rail network. Was this a privatization that was too far-fetched? In October the government refused ready high at almost £2 billion ($3.3 issue was that Railtrack had no evi- to provide further subsidies to the billion) per year. dent incentive to invest in the rail ailing Railtrack and put it in receiver- network it owned. In this situation of ship, thereby appearing to justify During 1994-97 British Rail was a growing backlog of capital mainte- those who had criticized the hasty unbundled, restructured, and di- nance, railway passengers started British Rail sell-off by a Conservative vided into more than 100 private to feel the heat as the crumbling rail government in the mid-1990s. companies, including rail passen- infrastructure led to poor service; Railtrack's demise has shattered the ger and freight operators, compa- drastic speed restrictions; and ex- underlying belief that if it is perform- nies that maintained the track and pensive, urgent repairs. Many angry ing an essential public service, a equipment, and companies that commentators argue that these cha- subsidized, regulated private com- leased rolling stock. Both public otic conditions were responsible for pany is too important for the govern- offerings and management buyouts two major recent railway accidents ment to let it fail. How could this were used as privatization tech- in Paddington and Hartfield. happen in a country that in the last niques. Some British Rail manag- decade has privatized with inventive- ers who knew the correct internal Capital Needed ness and flair all the essential public costs of the rail industry bought utilities and infrastructure, such as some rolling stock companies and Inmid-Novemberitbecameclearthat water, electricity, gas, and telephone sold them soon after, reaping huge Railtrack needed a massive influx of networks? profits. Railtrack was put at the capital, £3.5 billion, to keep going center of this new system to man- over the next few months to pay Some History age the network, that is, the tracks, creditors and replenish its working stations, yards, and signaling and capital, that is, money needed to run The restructuring and sell-off was other equipment, and under a strict the business over and above its in- meant to shake out British Rail, the regulatory regime was authorized come from access charges. Most of U.K.'s subsidized, vertically integrated, to charge the train operating com- the money is needed by the end of state-owned railway monopoly, which panies that used this infrastructure. March 2002. Railtrack expects to was losing its competitiveness and The privatization of the railway in- have £5 billion of debt by March 31, was costing the government and tax- frastructure, in addition to the train the end of the company's fiscal year, payers more and more. By mid-1990 operations was, and still is, unique up from £3.9 billion at the end of its demand for rail transport had con- in Europe. last fiscal year. tracted significantly. Between 1953 and 1993, the share of rail within In 1998, the second year after Who will eventually inherit Rail- transportation modes decreased privatization, total profits in the in- track's operations? For the time from 17 to 5 percent in terms of pas- dustry as a whole were some £1.1 being there are only two publicly senger-kilometers, and freight ton- billion ($1.8 billion), while total sub- confirmed bidders: the govern- nage was halved, with a market sidies still exceeded £1.8 billion ($3 ment's nonprofit distribution com- share reduction from 42 to 6.5 per- billion). The pursuit of profits from all pany with a stakeholder board cent. At the same time, mainte- sides gave rise to adversarial rela- representing the wider industry, nance and operating costs were tionships and a lack of coordination and the German WestLB Panmure rising together with the need for new among too many private players, with investment bank, which has pro- capital investments. That required recurrent disagreements between the posed a collaborative effort whereby ever greater subsidies to the rail in- rail regulator, Railtrack, and the train private bidders and the government dustry, even though these were al- operators. Perhaps the most critical jointly buy the rail network. C 2001 The World Bank/The William Davidson Institute TRANSITION, October-November-December 2001 ;Some Lessons Mortgage Finance in Privatization clearly helped make fi- nancial flows transparent in the pre- Transition Countries viously state-owned railway sector . f and has changed the traditional or- Learning from Common Mlstakes ganization and culture of the U.K 's By Raymond J. Struyk railways. Nevertheless, private in- volvement in the transport sector Hungary, Poland, and Russia addressed the development of mortgage fi- should not be seen as an end in it- nance comparatively early during their transition. They have generally suc- self, but as a potentially useful way ceeded in putting in place the necessary legal base for mortgage lending to achieve the real objective of in- and in launching responsible lending operations. They were also able to EW creased efficiency and better services remove the vast majority of home ownership subsidies from the banking for users. In the case of Railtrack, the system. High marks go to Russia's support of home purchases through its private sector was not a magic bullet down payment subsidy scheme. Nevertheless, some policies were not op- that could make the government's timal, and countries that are just now developing their mortgage finance costs disappear, as in the end all system may be able to leam from these experiences. costs must always be met, either di- rectly by charging users, or indirectly Poland and Russia have chosen Agency for Housing Mortgage Lend- by taxpayers when direct revenues completely different approaches for ing. The agency is an open joint stock do not suffice. In addition, as is often developing mortgage finance and pro- company, initially fully owned by the the case in the railway industry, re- moting homeownership: government, that purchases mort- structuring is complex, and when 0 Poland now has elements of gages in much the way Fannie Mae coupled with private sector involve- the German mortgage system. operates in the United States. How- ment has some painful social conse- The bausparkassen system is a ever, because credit and liquidity risks quences that can spill over into the closed system in which mortgage have made banks reluctantto originate political arena. Eventually, it was the loans from specialized housing loans, a number of builder-financed political irritation about a company banks are funded exclusively from the operations have also emerged, along that relied on taxpayers for most of savings of future would-be borrowers. with some bank-operated contract its funding, mainly via the regulated Because it is a closed circuit-only savings schemes. These schemes are access charges paid by the subsi- the funds saved are lent-interest numerous and probably assist with the + .9 dized train operators, and yet paid divi- rates on both savings and deposits purchase of more units each year than dends to its shareholders, that can be substantially below market formal mortgage lending. Moreover, a weighed heavily in the government's levels, with borrowers subsidizing number of oblasts (regional govern- decision to pull the plug on Railtrack. themselves by accepting low inter- ments) and municipalities have initi- est rates when first saving. Mortgage ated interest rate buy-down subsidy The company's sad track record pro- banks are components of the rap- schemes with their own budget funds. vides many lessons for railway com- idly developing mortgage loan mar- These schemes undermine the de- panies in other countries that must ket. The government supports home mand for market rate mortgages from r~ S ^'/ restructure in search of increased effi- ownership through deep tax subsi- banks. ciency and better service, while at the dies to those households purchas- same time facing contracting markets, ing new units. Most of these policies are inefficient. rising operating costs, and ever greater * Russia's financing model is one In both countries the tax subsidies needs for government subsidies. of commercial banks working accrue to richer families, are poorly with a nascent refinancing facil- targeted for influencing the home Luigi Marcon is an adviser on trans- ity. Here too home purchasers receive ownership decision, and are ex- port projects at the European Invest- costly tax benefits, but in addition, tremely expensive. In addition, the ment Bank in Luxembourg. The down payments by moderate-income evolving structure of mortgage lend- views expressed here are those of families are subsidized. Commercial ing in Poland, with its specialized the author and should not be attrib- banks act as loan originators to- institutions, is less efficient than the uted to the bank. gether with a liquidity facility, the universal bank model. TRANSITION, October-November-December 2001 The World Bank/The William Davidson Institute C 2001 The lessons of these early reform- law and seniorjudges need to review try. Incremental funding also often ers are critically important to other early rulings to be certain that they causes legislators to underestimate countries in the region that have thus are in line with this law and that the total cost of the commitments far done little other than create na- judges are not still invoking Soviet they are making. tions of homeowners through mass legal principles. Reliable, accurate, * Wrong home ownership sub- privatization of former state housing. and prompt title registration systems sidies. The list of subsidy mecha- The countries of southeastern Europe are also a necessity. Finally, the gov- nisms with undesirable features is and the Commonwealth of Indepen- ernment, working with local bankers' long. Prominent entries include the dent States will soon be starting to associations, must develop training following: develop their first real policies in this programs to ensure proper loan un- --Allowing the costs of home pur- area. Because they tend to adopt derwriting and servicing, which will chase, home ownership, or mortgage policies similar to those in place in help minimize credit risk. interest payments to be deducted the leading countries of Central Eu- 0 Specialized instruments, not from taxable income. , rope and Russia, their policymakers special institutions. The development --Forcing banks to devote a cer- and bankers should understand the of housingfinanceintheVisegradcoun- tain share of their assets to mort- pitfalls as well as the strengths of tries has been dominated by the cre- gage lending or to cross-subsidize these countries' accomplishments to ation of institutions to execute special mortgage loans to make them afford- date, as follows: tasks: bausparkassen for housing- able. * Macroeconomic stability. As il- linked contract savings schemes and --Using the bausparkassen sys- lustrated starkly by the Russian mortgagebankstoattractfundsfrom tem. This an expensive form of case, and to a lesser degree by con- capital markets to housing lending. governmentsubsidy. The system tar- ditions in Hungary and Poland, even The disadvantages of this approach gets subsidies poorly; they result in with a good legal and institutional are clear. New institutions are costly limited home purchasing power for framework in place for housing fi- to develop, take time to become op- participants; and they seem to re- nance, little borrowing for home pur- erational, and make the whole hous- sult in little, if any, net household chases will occur when the economy ing finance system inflexible. While savings. Unlike German borrowers, is characterized by substantial tur- specialization has its advantages, Eastern Europeans can only afford bulence. High interest rates and un- countries initiating the development to take a single loan. With the certain future incomes discourage of their housing finance systems bausparkassen system in the domi- borrowers from taking long-term would be well advised to rely first and nant position, these loans will be low loans, and instability increases foremost on universal banks. loan-to-value, highly subsidized banks' exposure to the credit, inter- 0 Best home ownership subsi- transactions. est rate, and liquidity risks inherent dies. If a government determines * Permitting interest rate write- in mortgage lending. Economic sta- that assisting with home purchases downs. bility strongly promotes housing in- is a priority for the nation, then ex- * Capital markets. Obtaining funds vestment by making mortgage loans perience shows that three attributes from capital markets is a way of ob- attractive to both sides of the mar- are most desirable. First, it should taining funds for financing mort- ket. make subsidies demand-side sub- gages, particularly in countries * Government action. More im- sidies. The best among these are where the banking system is char- portant than subsidies in inducing down payment subsidies of the type acterized by low liquidity and banks' banks to make mortgage loans with implemented in Russia. Second, it liabilities are concentrated in short- at least a five-year term is a strong should target subsidies to lower- and term instruments. Despite its puta- mortgage law that minimizes the moderate-income households, with tive attractiveness, no country in the credit risk associated with lending. larger grants going to lower-income region has yet succeeded in system- While this sounds obvious, some families. Third, it should avoid long- atically channeling funds from gen- Commonwealth of Independent term budgetary commitments, such eral capital markets into housing States countries still prohibit eviction as multiyear subsidies to lower in- loans. Neither mortgage banks nor in the case of foreclosure when a terest rates on mortgage loans. Such liquidity facilities have proven them- home purchase mortgage loan is in commitments limit a government's selves. default. Beyond this, judges need ability to shift programs in response * Rental sector: the essential training in any new mortgage-related to changing conditions in the coun- complement. Some governments in C 2001 The World Bank/The William Davidson Institute TRANSITION, October-November-December 2001 the region used mass privatization F * t as a way of trying to wash their First Step toward Russia s 2 - hands of the enormous rental hous- : ing responsibilities they formerly Land Reform ' t held. In other countries either the national government or local gov- ByArielCohen ernments have used the municipal (former state) housing stock as an On October 29, Russian President Vladimir Putin signed the Land Code economic shock absorber, keeping into law thereby allowing private ownership of and trade in land for the first rents low to cushion the impact of time since Stalin's collectivization of 1928-32. adverse economic developments. A few, such as Poland, continued this The new legislation will affect only 2 With capital flight of $200 billion to policy long after strong economic percent of Russia's huge land mass, $300 billion over the last 10 years, the growth kicked in. Government but the Land Code will cover the land and real estate market may be- policy for the rental sector has a most lucrative land: urban housing come an attractive investment target dual role. Obviously, the longer and industrial real estate. Millions of for Russian money parked in such off- rents are controlled and kept far Russians who formerly had practi- shore havens as Cyprus and the Chan- below market levels while tenants' cal possession of the land their nel Islands. In addition, the lawwill open rights are kept strong, the weaker homes or dachas sit on will now be the gates for the development of pri- are renters' incentives to spend able to register it as their own per- vate housing and a mortgage indus- more of their own money to become sonal property. That means they can try, and will allow millions of Russians homeowners. At the same time, a sell it or put it up as collateral for a to improvetheirliving conditions. Hous- functioning rental housing market mortgage or loan. However, it also ing starts could become a key indica- is needed to provide housing to means that they will have to declare tor for the Russian economy in the those who cannot afford or do not the real price of the land and pay future. Western economists have said want to become homeowners. Con- taxes accordingly. that with time, the law could spawn trolled rents also discourage private the growth of a new property-owning E-I investment in the sector. Hence, Many privatized companies sitting on class in a country where home owner- k; continuing reform of the rental sec- substantial plots in urban areas ship is still a novelty despite 10 years IV tor is the handmaiden of success- could use their purchased land as of economic reforms. ful and efficient home ownership collateral to raise loans for fresh op- CZ policies. erating capital. Experts were divided The authorities will develop a national as to whether privatized Russian land registry, an impressive under- The author is senior fellow at the firms, many of which view land own- taking, especially given that Russia ~ Urban Institute, Washington, D.C., ership as a tax liability, would leap is the world's largest country. Esti- and director of the institute's Tran- to seize the opportunity. Experts mates of the value of job growth in sition Policy Network. This article thought that foreign investors were construction, banking, real estate, r is based on the overview in the vol- more likely to be attracted to doing and other related areas are in the ume Home Ownership and Hous- business with Russian companies millions. Supporters of the Land ing Finance Policy in the Former that owned land as a capital asset. Code insist that the new law will pre- Soviet Bloc: Costly Populism, ed- The fact that foreigners now also have vent the further spread of black mar- ) ited and coauthored by Raymond the right to buy land could boost for- ket land. Over the past decade a Struyk, Sally Merrill, Nadezhda eign investment interest (foreign in- shadow land market has sprung up. Kosareva, and Andrei Tkachenko vestment is expected to reach $5.5 Thousands of apartments, dachas, and published by the Urban Insti- billion in 2001). German Gref, minis- and commercial properties change tute in 2000. For information go to ter of economic development and hands every month, but the transac- http://www.urban.org/housing/ author of the law, pointed out that tions have been largely illegal and costly-populism.html. To order a foreign investors will feel more se- greased by official corruption. copy go to www.uipress.org, or in cure in the knowledge that the land the United States call toll free (877) that their factories and shopping cen- Most important, the Land Code sets 847-7377. ters occupy belongs to them. the scene for introducing a separate TRANSITION, October-November-December 2001 The World Bank/The William Davidson Institute C 2001 law allowing the purchase and sale will regulate the buying and selling tural land reform, as this might give of agricultural land. In czarist times, of agricultural land. The government them access to additional financing most agricultural land belonged to is expected to submit the bill on farm- by mortgaging the land. Because of peasant communes. Tsar Alexander land to parliament soon. As currently the absence of a sufficient legal in- 11 had abolished serfdom by 1861, envisaged, the federal law on farm- frastructure,since 1991 only 260,000 E but severe limits to private landhold- land would leave regional governors individuals have ventured into private ing and dependence on the czar's to deal with the farmland issue. The farming. largesse stymied the development of governors of southern Russian re- civil society and democracy. Never- gions, the country's main crop farm- With Russia seriously considering theless, in 1895 the Russian Empire ing area, have already said that they entering the World Trade Organiza- supplied 25 percent of the United will not allow private ownership, while tion, deep reform of the agriculture Kingdom's grain and 50 percent of the governors of northern regions are sector, including private ownership its eggs. It exported grain to most of more open to privatization. and markets in farmland, is becom- Europe and successfully competed ing particularly urgent and necessary. against Argentina and the United Many agricultural companies that States. control former Soviet-era collective The author is a research fellow at the farms-which in many ways still Heritage Foundation. This article is The reforms of Prime Minister Pyotr function just as they did in Soviet based on his report originally distrib- Stolypin in 1908-12, which included times-are ready to support agricul- uted by United Press Intemational. the privatization of agricultural land, laid the foundations for the emer- gence of a strong agriculture sector Doctor's Advice to the Poor based on individually-owned farms. These reforms were cut short by his assassination and the outbreak of World War I. After the 1917 Bolshevik Revolution, _______ Russia's agriculture was utterly de- stroyed and millions died because of the resulting starvation. Since the 1970s Russia has been dependent on grain imports from abroad. Tiny __I_________i_ private plots of land, 0.3 percent of the former Soviet Union's total ar- able land, provided more than 30 per- cent of its vegetables, meat, and poultry. Nevertheless, even today, communists and nationalists op- pose private ownership of agricul- tural land and compare trade or lease in farmland to "leasing your mother or your sister," as the Slavophile Nobel prize winning writer Alexander Solzhenitsyn once put it. Ironically, Solzhenitsyn is the most famous admirer of Stolypin and his reforms. "Mrs. Kovacs be careful. You shouldn't give up eating so abruptly, you should give it up gradually." Russia's politicians are already pre- paring the groundwork for a law that From the Hungarian Daily Nepszabadsag C) 2001 The World Bank/The William Davidson Institute TRANSITION, October-November-December 2001 Articles provided by: SITE Stockholm Institute of Transition Economics STOCKHOLM SCHOOL OF ECONOMICS Enlargement of the European Central Bank Requires Urgent Reform By R. E Baldwin, E. Berglof, F. Giavazzi, and M. Widgren @ Enlargement of the European Monetary Union (EMU) will soon be a reality. Under current rules the central bank governor of each new EMU member will get a vote on the European Central Bank's (ECB's) key decisionmaking body, the Governing Council. Euroland's interest-setting body will thus expand from its current 18 members to 30 or more, clearly too many for efficient decisionmaking. The economies of the new EMU members will more ognized that ECB reform is a precondition for enlarge- d closely resemble that of Ireland than that of Germany ment. Article 5 of the Nice Treaty (the so-called en- or other core Euroland nations. They are small, with abling clause) enables the EU to modify the ECB's high growth and high structural inflation. The Govern- decisionmaking procedures without convening a new ing Council thus risks becoming divided between a intergovernmental conference. Given how the final deal dozen or more high-growth, high-inflation "Irelands" and was handled in Nice, this was probably a wise strat- a handful of "core" nations, with the Irelands having egy. ECB reform is too important to be thrown into a enough votes to set interest rates while accounting for big, political horse-trading pit. A declaration annexed only 20 percent of Euroland's output. to the treaty indicates, however, that this matter should now be dealt with rather urgently: "The conference ex- Decisionmaking Mechanism at Risk pects that a recommendation ... be presented in the shortest delay possible." Enlargement will weaken the relative power of the body's leaders, namely, the president and Executive Board. At a June 21, 2001, press conference in Dublin, ECB Enlargement without reform would create an opportu- President Wim Duisenberg acknowledged that a prob- nity for coalitions formed by EMU members with less lem exists, but suggested that the process of solving it synchronized economies to prevail and set interest could wait. In response to a question about ECB re- rates for the whole area. Enlargement might also in- form proposals, the president said: "We will come with duce a status quo bias, making reacting to significant suggestions in that respect [solving the numbers prob- changes in the macroeconomic climate more difficult. lem] as soon as the Nice Treaty has been ratified by all the parliaments, including of course the Irish Parlia- The ECB and/or the European Commission should give ment, and we hope that at some time that will happen. top priority to formulating a response to this challenge. At least that is my personal hope." The urgency arises because even medium-term chal- lenges can have an immediate effect when such chal- Preparations for Shake-Up lenges are predictable. Every day financial markets must price 10-year euro debt instruments with an eye to fu- Waiting for ratification would be a mistake. While the ture monetary policy, which, ultimately, depends on enabling clause cannot be employed before the Nice the ECB's decisionmaking structure. Therefore provid- Treaty enters into force, this is not a reason for postpon- ing clear indications that the ECB's numbers problem ing the discussion and study of reform options, and much will be solved is important. less a reason for keeping such preparations secret. Rati- fication might not come before June 2002, and this is too Even though ECB reform was not on the Nice agenda, long to wait, not only because ECB reform might become European Union (EU) leaders at the Nice summit rec- entangled with the eastern enlargement process, but TRANSI I ]ON, October-November-December 2001 The World Bank/The William Davidson Institute ) 2001 also because admitting the existence of a problem requires the ECB to act unanimously in making its rec- but failing to initiate a solution is a sign of weak gov- ommendation, but national central bank governors are ernance. unlikely to reach unanimous agreement about any of the solutions outlined here (rotation, representation, and del- There are three leading contenders for reforming the egation to a committee). As in the case of the composi- Governing Council's decisionmaking rules: rotation, tion of the European Commission, many national central representation, and delegation. Both rotation and rep- bank governors will balk at giving up their vote in the coun- resentation have shortcomings: neither of them is cil, even temporarily, as they would have to do in a rota- likely to lead to appropriate monetary policy deci- tion system. Representation along International Monetary sions. Best practice in central banking strongly ar- Fund lines is also likely to run into political problems. The gues in favor of delegation to an independent current members might agree on the proposal to group committee. the new entrants (though none of the current members) in a couple of constituencies carrying one vote each, The EU has clear supranational executive power in but designing a rule that gives a permanent vote to only two areas: competition policy and monetary Ireland, but not to Hungary, is impossible. In any case, policy. In the case of competition policy, the power is this would not avoid swelling the composition of the delegated to a committee-the European Commis- Governing Council, and at the same time it would break sion-and decisions are made without formal consul- the rule whereby governors vote as individuals, not as tation with either the Council of Ministers or EU representatives of a member central bank. The ECB is members in general. Delegating interest rate decisions thus likely to experience deadlock for any reform pro- to a committee is thus consistent with both best prac- posal, with big-member versus small-member schisms tice in central banking and current EU practice. at the forefront. The committee in charge of monetary policy deci- Fortunately, the Nice Treaty allows the European Com- sions should include the six members of the Execu- mission to propose a reform, and we encourage the tive Board plus a few non-Executive Board members. Commission to do so. The Commission decides by a Our preferred membership of such a committee is simple majority, so it will find it easier to come to a 11: 6 Executive Board members and 5 nonmembers. decision. Moreover, the commissioners oversee the in- terests of all EU institutions, including the ECB, and However, removing national central bank governors the nature of ECB reform will surely have implications from the Governing Council has a cost. National cen- for other EU institutions. EU leaders entrusted the Com- tral bank governors have credibility in the eyes of mission with the responsibility of making sure that a their fellow citizens. They are typically viewed as recommendation reaches the Council "in the shortest eminent citizens in touch with national sensitivities. possible delay." This implies that the Commission may Cutting them out of the ECB process entirely might find itself in the position of having to put its own pro- seriously weaken its accountability and political ac- posal on the table. We recommend that the Commis- ceptability. To redress this, and to ensure that the sion prepare for such a possibility. full range of monetary conditions has a voice, we suggest that the views of central bank governors could Richard E. Baldwin is a professor of intemational eco- still enter the process, but only as information that nomics at the Graduate Institute of International Stud- committee members use to reach their decision. The ies, Geneva; Erik Berglof is the director of SITE, governors would continue to be part of the Governing Stockholm School of Economics; Francesco Giavazzi Council, but as far as monetary policy decisions are is a professor of political economy at Bocconi Univer- concerned, this would become a consultative body sity, Milan; and Mika Widgr6n is a professor of eco- that ensures that the governors can continue to func- nomics at the Turku School of Economics and Business tion in the role of national listening posts. Administration. All four are associated with the Centre for Economic Policy Research. For more information Proposal Should Come from the Commission visit http.//wwwcepr.org/. This article is an edited ver- sion of the executive summary of "Preparing the ECB If ECB reform is an urgent matter, who has the right in- for Enlargement," Policy Paper no. 6 of the Centre for centives to put a proposal on the table? The Nice Treaty Economic Policy Research, London. C 2001 The World Bank/The William Davidson Institute TRANSITION, October-November-December 2001 Monetary Transmission Mechanisms: A Look J at the Baltic Economies By Rudolfs Bems Over the last decade the three Baltic countries have been regarded as notable examples of successful macroeco- nomic stabilization programs and the subsequent exercise of monetary policy. Three separate studies presented in Baltic Economic Trends (2001, no. 2) look at the goals and instruments of monetary policy in Estonia, Latvia, and Lithuania and investigate the importance of different monetary transmission mechanisms. Currency board arrangements, introduced in Estonia in highly concentrated and that the level of competition 1992 and in Lithuania in 1997, have a major influence on among banks is low. Also, until the second quarter of monetary policy. Latvia has pegged its exchange rate to 2000 the future of the currency board in Lithuania was the SDR currency basket since 1994. As of mid-2001 uncertain, which added a considerable risk premium the main goal of Estonia's monetary policy has been to to local interest rates. maintain the stability of the national currency, while in * The credit channel was found to be important in Latvia and Lithuania the goal is price stability. As Estonia and Latvia, but not in Lithuania. The study of Lithuania operates under a currency board, one might Latvia finds that monetary shocks affect a variety of credit expect that the Bank of Lithuania would have a similar aggregates. In the case of Estonia, the study concludes goal to its Estonian counterpart and regard stability of that a credit channel probably exists, because banks the national currency as its main objective. However, as are the basic financial intermediaries and the empirical the Lithuania study points out, Lithuanian policymakers evidence is in favor of credit rationing. The study of are eager to exercise active monetary policy, which ex- Lithuania is less explicit about the reasons why the credit plains their concern about price stability. channel proved less important. * The exchange rate channel was found to be impor- Because of their currency boards the only monetary tant in Lithuania, insignificant in Latvia (the Estonian study policy instrument that is actively applied in Estonia and did not consider this channel). A possible explanation Lithuania is the reserve requirement. This implies that could be the differences in anchor currencies and trade most monetary policy effects come through the exchange partners across the three countries. In Lithuania, the use rate window, which affects base money. In contrast, the of the dollar as the anchor currency together with the Bank of Latvia is not constrained by a currency board, relatively high importance of trade with Russia implies and therefore achieves its objective of price stability by that export and import prices are more affected by swings intervening in the foreign exchange market and setting in the value of the Russian ruble and the dollar/euro ex- interest rates. change rate. By contrast, in Estonia a larger proportion of trade is settled in the anchor currency (formerly the As their main contribution, the studies identify the chan- deutschmark, but the euro as of January 1, 2001), and nels of monetary policy transmission and assess the therefore the exchange rate channel is less important. importance of different channels in Estonia, Latvia, and Lithuania. The authors use different methodologies to The Latvia and Estonia studies also point out that the achieve this goal and make the following observations: effects of existing transmission channels on the real 0 The direct interest rate channel, as expected, economy are small and short-lived. This is in line with was found to be present in all three countries. In Latvia findings for other emerging markets around the world. interest rates set by the central bank have a direct impact on interest rates for domestic credit. Similarly, Most important, the studies raise new questions about in Estonia changes in European Central Bank rates monetary policy in the Baltic states that may stimulate have a direct effect on local interest rates. In Lithuania further work on this topic. A closer look is needed to this channel is present, but the impact of European confirm and expand upon the findings of these studies. Central Bank rate changes on local interest rates is Also, the three studies do not formally consider the ef- weak. The study of Lithuania explains this difference fects of asset price channels and expectations, although by pointing out that the country's banking sector is the Lithuania study does provide some discussion of TRANSITION, October-November-December 2001 The World Bank/The William Davidson Institute ©) 2001 the effect of expectations. Future research could aim at The authors of the original three studies summarized filling this gap. here were Raoul Lattema and Rasmus Pikkani of the c Bank of Estonia; Veronica Babich of the Intemational Finally, when evaluating and interpreting these studies Graduate Program, Stockholm School of Econcmics: c one should keep in mind the challenges that such stud- and Igor Vetlov of the Bank of Lithuania. Baltic Eco- ies face in the Baltic states. First, even in industrial nomic Trends is a publication of SITE and the Baltic countries economists do not agree about the methods International Centre for Economic Policy Studies iBI- to use when examining their monetary transmission CEPS), a new Riga-based policy and research center mechanisms. Second, the short history of monetary launched by SITE last spring (see www.biceps.org) policy in the transition economies and the enormous Rudolfs Bems, a PhD candidate at the Stockholm structural changes these economies have experienced School of Economics, is a research associate of SITE make identifying potential monetary policy shocks and and BICEPS. He can be reached by email at their long-run effects particularly difficult. rudolfs.bems@hhs.se Latvia's New Super-Regulators Have a Mission By Alf Vanags Two new "super-regulators" created in 2001 have radically changed Latvia's institutional landscape. On July 1 the Financial and Capital Market Commission (FCMC) started its activities under the chairmanship of Uldis Cerps, and three months later the Public Utilities Commission (PUC) led by Inna Steinbuka kicked off. The PUC has taken over regulatory functions previously cies are quite large: the FCMC has more than 90 staff performed by separate energy and telecommunications and the PUC has 70. Their size will enable the new agen- councils and by the Ministry of Transport. The FCMC has cies to take advantage of economies of scale and scope. taken over responsibility for supervising credit institutions For example, in the case of the FCMC, the authorities from the Bank of Latvia, as well as responsibilities for- believe that a unified agency will be better placed to regu- merly held by the Deposit Insurance Guarantee Adminis- late financial conglomerates, while the PUC is working tration, the State Insurance Supervisory Inspectorate, and on a unified tariff mechanism for public utilities. The agen- the Securities Market Commission (see also pg. 54). cies' larger scale and size (and the accompanying pres- tige) also help to maintain their political independence These developments have brought to the fore a new style and protect them from the danger of regulatory capture. of leadership for public agencies. Inna Steinbuka comes to the PUC after a two-year stint at the International The FCMC is modeled on lines similar to the British Monetary Fund in Washington, D.C., where she was Financial Services Authority, which assumed its powers advisor to the executive director. (See her article in the and responsibilities as the single regulator of the finan- February/March 2001 issue of Transition: "Latvia's Di- cial services sector on December 1, 2001. Thus Latvia lemma: Financing Accession Costs While Maintaining is actually a leader in this area. As with the United Fiscal Constraint.") She is committed to developing an Kingdom's Financial Services Authority, the FCMC has institution based on transparency and accountability. assumed wider responsibilities than those it inherited FCMC chairman Uldis Cerps represents the new gen- from the agencies of the previous system. Thus the eration of Latvian professionals. Educated in Sweden FCMC's strategic goals are to promote stability and de- as well as in Latvia, he was appointed to the PUC after velopment in the financial and capital market and to sup- a career at the Riga Stock Exchange, where as presi- port the interests of investors, depositors, and the dent of the exchange he helped make it a leader in pro- insured. In addition to normal prudential supervision, the moting transparency in Latvian commercial life. FCMC is expected to strengthen overall trust in the Latvian financial system, which appears to be weaker What motivated the creation of such super-regulators? than in, for example, the European Union (EU). The A key practical factor was the need to concentrate scarce FCMC is also charged with fighting money laundering, resources. The authorities felt that a critical mass was promoting competition, promoting public awareness of needed to attract the best people. Thus the new agen- financial services and products, and a host of other tasks. © 2001 The World Bank/The William Davidson Institute TRANSITION, October-November-December 2001 All this is coupled with a tough schedule to re-approve regu- for access to and pricing of common facilities (for example, latory legislation (five separate laws) in line with EU direc- cable) or for the constraints on cross-subsidization by in- tives by January 1, 2003, the deadline for completing the cumbent providers. harmonization process. Both the FCMC and the PUC are politically and finan- In contrast to the FCMC, which unified different regula- cially independent institutions. Each is govemed by a tors within a single sector, the multisectoral model of regu- council of five members, including the chair, appointed by lation adopted for the PUC had no precedent in Western the Latvian parliament for five years. Financial independence Europe. As a consequence, despite support from the is guaranteed by mandatory levies on the regulated sectors World Bank the super-regulator model encountered op- (except for some transitory Bank of Latvia finance for the position in Latvia; however, after much debate, it prevailed. FCMC), so that funding is independent of the state budget. The PUC oversees energy, telecommunications, and the Technically, for constitutional reasons, the PUC is an arm of s postal and railway sectors. These are important branches the Ministry of Economy, but in practice it will be politically of the economy-in 2000 the energy sector accounted independent. The FCMC has no supreme authority. for 3.5 percent of GDP and transport and communica- tions together accounted for 14.2 percent-and they in- Independence is necessary, because tough times may lie clude some of Latvia's most powerful enterprises. ahead. Balancing the interests of customers and industry Latvenergo, the electricity utility, is Latvia's largest and can be tricky. For the FCMC further concentration of finan- most profitable enterprise, closely followed in size by cial services in the hands of a few, mainly foreign-owned, Lattelekom, the recipient of the largest amount of foreign financial institutions could cause problems. For its part the direct investment, and Latvian Railways, Latvia's biggest PUC will have to implement EU directives on the liberaliza- employer. tion of the energy and telecommunications sectors. Latvia's monopoly providers are not too enthusiastic about these The PUC's strategic goals are to protect consumer activities. At the same time spending on public utilities interests and to promote both competition and looms large in the budgets of Latvia's poorest residents, investment-driven development. A major task of the who will most likely blame the high-visibility regulators for PUC is to approve tariff-structures, and expectations are tariff increases, however necessary those may be to meet that it will go for a uniform tariff setting mechanism in all the the country's overall goals. sectors under its supervision. The PUC is expected to apply the price-capping principle in the form of the retail price in- Creating new super-regulators is no panacea for develop- dex minus X rule, where X is the rate of cost reduction ex- ment. However, it demonstrates the authorities' aware- pected by the regulator. This method is widely used ness that a market economy needs a structure, preferably throughout Europe and creates strong incentives to improve a stable structure, in which rules are clear and transpar- efficiency. Moreover, it is relatively simple to implement and ent and in which surprises are minimized. This is what is relatively easy for the general public to understand. the new agencies are aiming to deliver. PUC chair Inna gteinbuka strongly believes that because AIf Vanags is director of the Baltic International Centre regulated sectors share common network features, this for Economic Policy Studies (BICEPS). For more infor- willfacilitatethedevelopmentofcommontariffmechanisms. mation go to www.biceps.org or email the author at Nevertheless, detailed implementation of the price cap in alf@biceps.org. each sector for the first time will be no easy task for the commission, especially as much of the information it needs SITE announces two new Stockholm Reports has to come from inside the regulated enterprises. The Czech Republic: Awaiting Elections and a Fiscal Re- Of course, the PUC will do much more than regulate tar- form by Stepan Jurajda, CERGE-EI, Prague; and The Pol- iffs. It will issue licenses for utility providers; work to en- ish Economy: Budget Crisis and Beyond by Tomasz sure service quality; design detailed procedures for Mickiewicz, SSEES, University College London. regulatory accounting; develop a regime for providing non- competitive services, such as rural postal services; and, Both reports can be downloaded from our website at: most important for the long-run, determine rules and http://www.hhs.se/site/Publications/Otherpubl.htm mechanisms that promote competition, such as the rules #Stockholm Report. TRANSITION, October-November-December 2001 The World Bank/The William Davidson Institute © 2001 Articles provided by: L ocal Governmnent C G J dand Public Service Open So..et Institute - / 0K Reform Initiativ- Accession Negotiations Surged Ahead under Swedish Presidency By Claus Schultze At the June European Union (EU) summit meeting in Gdteborg, Sweden, Central and East European leaders praised the Swedish EU presidency for its achievements in advancing EU enlargement. Not only did Sweden sitck to the deadlines of the timetable for enlargement negotiations adopted at the Nice Summit in November 2000, b)ut r it also pushed the enlargement agenda forward on a number of contentious issues. A Ithough politely called negotiations, the talks are Visegrad five, that is, the Czech Republic, Hungary about changing laws and institutions to conform Poland, Slovakia, and Slovenia; and the three Baltic Si"kwith EU legislation as set down in the acquis countries, namely, Estonia, Latvia, and Lithuania). BiLj- communitaire, a huge collection of EU norms, standards, garia and Romania would join later. In addition to open- and guidelines the accession countries must adopt. For ing new chapters, a large number of chapters were the sake of the negotiations, the acquis has been di- temporarily closed. vided into 31 chapters. The more chapters are closed during accession negotiations, the closer a country is The catching up strategy has clearly worked. The race to membership. Nothing is finally agreed until everything to membership has drawn closer, with two Baltic coun- has been negotiated. All chapter closures are therefore tries, Latvia and Lithuania, closing the gap with frcnt- provisional prior to a final round of negotiations. Even if runner Estonia. Most observers recognize that the the leaders of the candidate countries like to portray Swedish-Baltic connection has contributed strongly to their dealings with the EU as tough negotiation, in real- this success. The final negotiation meeting under the ity there is little room for bargaining. Swedish presidency was held on June 27, 2001. It es tablished the following ranking: Cyprus and Hungary were Sweden upheld the principle of differentiation, recogniz- leading the pack, with each having provisionally closed ing that each accession country should be measured 22 of the 31 negotiation chapters. Slovenia followed with on its own merits, and when ready, accepted to the EU. 20; the Czech Republic, Estonia, and Slovakia with 19 This contrasts with the approach that bundles countries Lithuania with 18; Malta and Poland with 17; Latvia vitih and lets them join together, like the first wave Luxem- 16; Bulgaria with 10; and Romania with 6. Since tnat bourg group or the second wave Helsinki group. Swe- time Belgium, which took over the presidency from Swe- den also upheld the catching up negotiation principle, den, has been able to close several more chapters wilh that is, the possibility for those who started negotia- individual countries. tions later to catch up with other candidates. Even though it was psychologically important for coun- As part of the catching up strategy, the Swedish presi- tries such as Latvia and Lithuania to catch up and affirm dency aimed at putting as many new chapters on the that they could make it to the finishing line together with negotiation agenda as possible. By the end of June, all the first wave countries, not all want to consider the chapters had been opened with 10 countries, 8 of which negotiations for EU membership as a competition. For are likely to join the EU in the immediate future (the example, Latvian Foreign Minister Andris Berzins noted t) 2001 The World Bank/The WVilliam Davidson Institute TRANSITION, October-November-December 2i , ii cE that "it is easy to close chapters if you just give in on all from their trade unions, aligning with this position-the the demands of the EU and request no special deals Swedish presidency managed to broker a compromise ' > and transition periods." This is also a reason why coun- that will enable the EU to impose a two-year restriction e tries such as Poland are quite relaxed about lagging on the free movement of workers from candidate coun- behind the faster, but much smaller, front-runner coun- tries. Individual countries may extend this period by up o ~ tries. "Closing quickly is not always the best tactic," to seven years, but only if their labor markets are head- said Polish chief negotiator Jan Kulakowski in a recent ing toward serious disruptions. Consequently, the issue C j° interview with the Financial Times. He maintained that of transitional rules for the free movement of workers holding a hard line on sensitive issues could be a way to was agreed on with Cyprus, Hungary, Latvia, Malta, and put pressure on and extricate concessions from the Slovakia. Countries such as the Czech Republic or Po- member countries. The assumption is that the EU is land that have publicly claimed they would never accept genuinely worried that excessively long negotiations any transition rules on the free movement of labor will * could further undermine public support for enlargement, most likely ultimately accept this deal. both within the EU and in the candidate countries. Transition periods were also granted for the free move- The Swedish presidency was the first to tackle such ment of capital. One of the thorniest issues is the free difficult chapters as the free movement of goods and sale of real estate, which is still extremely cheap in services, capital, and labor, as well as the environment. the new member states compared with EU price lev- A first breakthrough occurred when the environment chap- els. The EU proposed a five-year transition period for ter was closed with Slovenia in March, and subsequently vacation (secondary) properties (a similar arrangement in June with the Czech Republic, Estonia, Hungary, and was agreed on during the 1995 enlargement round that Lithuania. brought in Austria, Finland, and Sweden), and a seven- year transition for agricultural properties. The Czech Perhaps the trickiest issue Sweden had to deal with Republic and Hungary approved this arrangement. was to find a compromise on the free movement of la- Cyprus, Estonia, Latvia, Lithuania, and Slovenia-which bor. Whereas in May at an informal meeting of EU min- did not request a transition-have also closed this chap- isters for foreign affairs tempers on this sensitive issue ter. Clearly there was a tradeoff between the demand were still running high-with the Austrians and Germans for moratoriums on land purchases in the capital chap- demanding a seven-year transition period for the free ter and the request by some EU countries for transi- movement of workers, and the Finns, under pressure tion periods for the free movement of workers, which The Roadmap In November 2000 the European Commission adopted to welcome new member states from the end of 2002. an enlargement strategy paper that incorporates a 0 Helsinki group: Bulgaria, Latvia, Lithuania, roadmap or timetable for the negotiation procedure. Malta, Romania, and Slovakia. The European Com- The main elements of this roadmap can be summa- mission endorses the principle of differentiation and rized as follows: welcomes the opportunity for each candidate country, particularly those within this group, to catch up in the * Luxembourg group: Cyprus, the Czech Repub- negotiations. It recommends that the countries within lic, Estonia, Hungary, Poland, and Slovenia. Ac- the Helsinki group prepare their position papers on those cording to the timetable, revised EU positions on chapters where they consider themselves prepared for agriculture should have been achieved during the sec- negotiation, taking into account their state of prepara- ond half of 2001. These revised positions are not in- tion and the timetable proposed. It is on this basis that tended to address important and sensitive questions the Commission will assess whether it can recommend such as direct payments or quotas that have a major the opening of these chapters to negotiation. impact on the EU's budget, which are likely to be ad- dressed during the first half of 2002. The EU should be According to the roadmap, the EU will need to define in a position to close the negotiations with the most common positions on a last group of chapters during advanced countries, that is, those fulfilling all criteria the first part of 2002: agriculture, regional policy, finan- for membership, during 2002, thereby enabling the EU cial and budgetary provisions, institutions and "other." TRANSITION, October-November-December 2001 The World Bank/The William Davidson Institute D 2001 demonstrates how individual issues in separate chap- dates for accession. It managed to broker a compro- ters are often connected. mise formula that states that the enlargement pro- cess is irreversible, and those candidate countries The Swedish presidency was also successful in overcom- that are ready can complete negotiations in 2002. ing the attempt by the coalition of southem member states, While the European Council meeting in Nice had led by Spain (the others are Greece, Ireland, and Portugal), cautiously expressed the hope that the new mem- to demand continued payments from the EU's Structural ber states would be able to take part in the next - and Cohesion Funds to their backward regions, in exchange European Parliament election in 2004, the document for supporting the enlargement, that is, for not vetoing it. approved in Goteborg called for participation by the Thissparkedfuriousreactionsfromtheothermemberstates. new members in much stronger terms, "even if the As a result Spain dropped the demand for a formal agree- accession treaties were not formally ratified." This ment, but successfully lobbied for a "verbal understanding" was an encouraging signal to the candidate coun- thatpromisedcontinuedEUsupporttothesecountries. Ironi- tries. As the enlargement negotiations progress, the E cally, Spain is taking over the presidency in the first half of EU is getting ready to calculate the cost of enlarge- 2002, when negotiations on the difficult regional policy chapter ment and to negotiate the remaining financial issues, are scheduled with the candidate countries. scheduled for early 2002. Finally, Sweden has shown a great deal of support The author is PhD Researcher, Free University Brus- for the candidate countries' wish to get clear target sels (VUB). Debating Baltic Identity The outcome of World War II was primarily responsible for the Baltic states' current perceptions of their identity. The iron curtain cut the Baltic Sea in two, effectively sealing off Estonia, Latvia, and Lithuania from the Nordic countries, and making any kind of regional cooperation impossible. The foundation of the Nordic Council in 1952 implied formal acknowledgment of the Nordic countries (Denmark, Finland, Iceland, Norway and Sweden ) as a region with the will and a clear agenda for cooperation. In 1991 the Baltic states regained their independence, thereby creating the possibility for stronger mutual cooperation among all the Baltic nations. While Nordic coop- eration is widely regarded as a success and has contributed to the building of a strong and positive Nordic identity cooperation between the Baltic states has been riddled with difficulties. Consequently, the Baltic states perceive "Baltic identity" as a somewhat ambiguous concept. Nevertheless, such cooperation may be able to fulfill its potential on a wider regional scale. For many citizens in the Baltic states, the word "Bal- lack of solidarity seem to dominate the relationships tic" has negative connotations, reminding them of the between the three countries. 1939 Molotov-Ribentropp pact that sealed their desti- nies for the next 50 years. What unites the Baltic Even though the intensity of Nordic cooperation had in- countries today, apart from their common history and spired the Baltic states to establish similar cooperative the trauma of the Soviet occupation, is their ambition structures, namely, the Baltic Assembly and the Baltic to become members of the European Union (EU) and Council of Ministers, to date considerable disagreement NATO. The governments of the three countries aim to between the three countries has weakened this ap- anchor their national identities and reestablish their proach. At the Seventh Baltic Council Meeting, recently sovereignty within a bloc of countries, which seems held in Riga, Estonia criticized Latvia about tax issues to be the best option for guaranteeing peace, secu- and accused both Latvia and Lithuania of being inactive rity, and their citizens' welfare and for providing a frame- in trilateral cooperation. The old Latvian-Lithuanian terri- work that will guide their economic and political torial dispute did not go unmentioned. transformation. Beyond this shared ambition and a long list of shared problems, including relations with Estonia and Lithuania publicly protest being classified Russia and the treatment of Russian minorities, the as Baltic states. Lithuania's government considers the three Baltic states have little in common, let alone a country to be part of Central Europe, and would prefer to common Baltic identity. Instead, competition and a develop strong links to Poland and other Visegrad coun- © 2001 The World Bank/The William Davidson Institute TRANSITION, October-November-December 2001 tries. Estonia wants to see itself as a Nordic country, they get to EU integration, the less relevant a group and consequently looks to the Finns, who according to image might appear to the three states. Estonian Foreign Minister Toomas Hendrik lives, suc- cessfully "turned themselves into Scandinavians." Other By contrast, growing prosperity in the Baltic countries may senior officials in Estonia do not share this view. They allow for stronger domestic welfare policies in the future, contend that the Baltic states need to develop closer and thus a stronger convergence of the Baltic and Nordic relations with each other to attract investment, believe images, driven by the EU and its regulatory framework, in- * r that the label Baltic could promote each country as part cluding its social and economic cohesion policies. Conver- of a wider dynamic region, and have visions of becoming gence might also be accelerated by enhanced cooperation one of the "three Baltic tigers." This would be easier to on a wider Baltic Sea regional level, and by more coopera- accomplish now than a few years ago, as Latvia and tion between the Nordic and the Baltic countries bilaterally Lithuania have caught up in EU accession negotiations as well as multilaterally. Such activities are already taking and now appear more likely to join the EU around the place, and might eventually help the Baltic states reconcile same time as front-runner Estonia. However, the closer themselves to the Baltic label and each other. Integrating Russians in the Baltic Societies The demography of the Baltic states changed signifi- As of January 2001 visa requirements for those traveling cantly following World War II, as the former Soviet Union to Russia were extended to noncitizens of Estonia (and (FSU) encouraged Russians to migrate to its western Latvia). This will probably speed up noncitizens' adoption borders. By 1991 only half of Latvia's population con- of either Russian or Estonian citizenship, as like Latvia, sisted of ethnic Latvians as large numbers of Russians Estonia prohibits dual nationality. The authorities assume and others settled in the country. In Estonia the propor- that about half of the 300,000 holders of Estonian "aliens tion of non-Estonians tripled from 1934 to 1989, when it passports" will apply for citizenship. For the remainder reached 38 percent. When they regained their indepen- this would complicate travel to Russia, with which most dence in 1991, Estonia and Latvia sought to reverse this of them have personal or business ties. trend. Both governments decided to limit citizenship to those who had been citizens prior to 1940, the year the The number of noncitizens in Latvia fell from around 700,000 FSU had occupied Estonia, and to their spouses and in 1991 to 570,000 in early 2001. Naturalization procedures descendants. were included in the requirements for citizenship and were subsequently amended throughout the 1990s in an effort to The citizenship legislation is not based on ethnicity. In integrate noncitizens. Noncitizens cannot run or vote in lo- Estonia it enfranchised some 80,000 non-Estonians and cal or national elections, and initially were not permitted to disenfranchised many ethnic Estonians who had lived work for the civil service (a restriction that was later reversed in the FSU in the period between the wars. Neverthe- on the condition that they become naturalized within a year). less, most Soviet-era settlers, most of whom are Rus- Naturalization requires proficiency in the local language. A sian-speakers, became noncitizens. Thus of the total 1999 language law confirmed Latvian as the only state lan- population of 1.4 million people, about 300,000 do not guage and encouraged its use; a controversial move be- hold Estonian citizenship. Resident noncitizens cannot cause Russian-speakers are heavily engaged in business vote in general elections, but are allowed to vote in mu- activities. Nevertheless, naturalizations have been slow. In- nicipal elections. This has resulted in the formation of ternational observers estimate that around 300,000 nonciti- Russian-speaking political parties that can articulate and zens, or nearly half the total, mainly the elderly and those defend the interests of the Russian community. who cannot speak Latvian, will never apply for citizenship. Throughout the 1990s, Western countries criticized Both Baltic countries have to acknowledge that even in the Estonia's legislation in connection with noncitizens' long term, a large portion of their populations will be resident rights. In 1999 the European Union recommended that noncitizens. This underscores the importance of efforts to Estonia amend a controversial 1995 language law that achieve broader integration of noncitizens into their respec- mandated the use of Estonian as the country's official tive societies to promote ethnic harmony and cohesion and language. for the sake of state security and economic efficiency. TRANSII [ON, October-November-December 2001 The World Bank/The William Davidson Institute Co 2001 Kaliningrad: Uncertain Future of Russia's Enclave in the Baltics Among the many challenges the Baltic countries currently face is a redefinition of their relationship with Russia. Not only do they all share a common border with Russia, but the Russian enclave of Kaliningrad is squeezed between Lithuania's western border and Poland's eastern border. On the one hand, with the forthcoming European Union (EU) enlargement, the Russian oblast of Kaliningrad threatens to become an isolated island of poverty in the EU, a bizarre prospect that has caused many headaches in the international community. On the other hand, its presence is handy for Russia, because its location compels the EU to pay more attention to Kaliningrad and to relations with Russia. Indeed, the EU is keen to invest heavily in the enclave to make it a pilot for EU-Russian cooperation. E Despite Kaliningrad's apparently advantageous position member states are applied in the region. Currently some on the Baltic coast, its agricultural and industrial poten- 1 million Kaliningrad Russians enjoy visa-free access to tial, and its status as a special economic zone, the Lithuania, but notfor long. By2003 atthe latest, Lithuania vision of turning Kaliningrad into a Baltic Hong Kong has will introduce a special visa regime for the residents of so far largely failed. According to EU entrepreneurs, the Kaliningrad. seemingly arbitrary nature of Russian law has deterred foreign investors from taking advantage of Kaliningrad 's Luckily for the city, Kaliningrad has recently become the position. Even though foreign direct investment in linchpin of the new ambitions to deepen EU-Russian co- Kaliningrad is higher than in Russia as a whole, it is still operation, which offers some hope of improving the situ- much lower than in the neighboring Baltic countries. In ation. Discussions on Kaliningrad's future have already addition, problems abound in the Russian enclave. Resi- taken place in various multilateral settings and arenas, dents of Kaliningrad are 65 times poorer than EU citi- including the high-level EU-Russia summit held in Mos- zens, and also considerably poorer than people living cow in May 2001. The document "The European elsewhere in Russia. Almost one-third of the population Commission's Communication to the [European] Coun- lives below the subsistence level. Poverty is aggravated cil-the EU and Kaliningrad," issued in Brussels in early by economic isolation and one of the highest AIDS and 2001, outlines some of the most urgent issues as well tuberculosis rates in Russia. In addition, Kaliningrad is as the corresponding proposals (see http://europa.eu.intl a center of organized crime, smuggling, drug trafficking, search/s97.vts). In addition, the agreements with Po- and prostitution. Massive environmental pollution is an- land and Lithuania have taken up these issues, which other endemic feature of the enclave. After St. Peters- were also partly addressed by the EU's new Northern burg, Kaliningrad is the biggest single polluter of the Dimension Action Plan. The following suggestions were Baltic Sea, because of its high levels of nuclear waste put on the table: and water and air pollution. Instead of improving, the situation seems to be deteriorating because of endemic * Having Russia and the EU examine the postenlargement corruption and political stalemate. trade impact on Kaliningrad * Arranging for the EU, Lithuania, Poland, and Russia With major parts of the Russian Baltic Fleet still based to discuss ways to improve border management and there, Kaliningrad will also become a Russian military accelerate border crossing procedures outpost completely surrounded by EU and NATO terri- 0 Facilitating visa issuance, border traffic, and transit tory if Lithuania is invited to join the defense pact at the procedures Prague summit in 2002, as is widely expected. * Designing a multimodal transport strategy and fund- ing transport projects With the future EU accession of Lithuania and Poland, 0 Identifying key investment requirements to modern- Kaliningrad's long list of problems will also become EU ize regional transport infrastructure problems, given the obvious cross-border implications * Assessing possible scenarios for Kaliningrad's fu- of crime, pollution, and health issues. The EU is ex- ture energy supply tremely concerned about migration flows once the rules 0 Reviewing the consequences of enlargement on fish- regarding free cross-border movement of citizens in ing access © 2001 The World Bank/The William Davidson Institute TRANSITION, October-November-December 2001 * Dealing with key issues of Kaliningrad's environmen- ment. Current and future EU member states are also tal concerns. providing support, mainly in areas such as administra- tive and health reform and environmental protection. The Kaliningrad issue certainly upgraded Lithuania's This comes on top of bilateral funds from the Nordic position in relation to Russia, but also in relation to the countries. The new EU focus is symbolized by the EU, not only because Lithuania provides infrastructure opening of a TACIS office in Kaliningrad and the prepa- and energy links between Kaliningrad and Russia, but ration of a TACIS study on the energy needs of the also because out of all the Baltic countries, it has the region, to be launched during 2001. Nevertheless, the best relations with Russia. (Unlike Estonia and Latvia, EU will need to find ways of providing Kaliningrad with it did not inherit a large Russian-speaking population.) development aid beyond the fairly limited ambit of TACIS. To date Kaliningrad has received E15 million of TACIS * assistance, with another E15 million in the pipeline. A recent analysis by a prominent research institute (The EU's TACIS program provides assistance for the concludes that the enclave's relative isolation in recent newly independent states and Mongolia.) Planned years complicated its problems, and if Kaliningrad projects include improving Kaliningrad 's border cross- wants a proper share in the future development of the ing, waste management, and health service; develop- Baltic region, a "model project" of EU-Russian coop- ing its port facilities; supporting innovative small and eration, strong leadership, and a vision of the future medium enterprises; and promoting trade and invest- need to be coupled with local initiatives. Public Utilities Need Skills to Navigate between Regulation and Competition By Tamis M. Horvath and Gabor Peteri One of the basic functions of local governments is to Slovak municipalities are not responsible for schools provide public utilities and community services. The or hospitals. proportion of funds allocated to these activities in local government budgets in Central and Eastern Europe The primary reason for the lack of specific information varies between 16 percent in Latvia, 18 percent in Hun- on urban services is their mixed character. Despite the gary, 29 percent in Poland, and 44 percent in Slovakia. public functions of these services, the private sector is Despite the importance of urban services, their share deeply involved in their provision. In CEE countries, where in public expenditures cannot be measured exactly. the relationship between the public and private sectors is slowly developing, information systems cannot keep Unreliable Statistics up with these changes. Thus the low level of public ex- penditure on urban services might be because these The fiscal statistics on local government expenditures services have been privatized and outsourced and pub- often aggregate various "economic" or "environmental" lic expenditure data do not reflect the flow of funds. services, and data are not presented in a consolidated format. Their share also depends on local governments' Urban utility and community services can be grouped involvement in providing human services. For instance, into three categories: Stages Of Transformation In Public Utility And Communal Services Stage Public utilities Community services (natural monopolies) (mixed goods and services) Restructuring Modest breakup of state-owned monopolies Rationalization (devolution of assets) Establishment of competitive environment Modest unbundling Establishment of independent regulatory authority Privatization Privatization of competitive assets Management of public shares Development of regulatory function Privatization TRANSITION, October-November-December 2001 The World Bank/The William Davidson Institute © 2001 * Pure public goods, such as street lighting The restructuring and privatization stages should be * Natural monopoly services, for example, water supplies supplemented by the development of regulatory mecha- * Mixed services, for instance, waste management. nisms. Regulation should include the rules governing market entry and define what functions and responsibili- The public nature of services depends on three basic con- ties remain with local governments and the financial ditions. Ownership matters, but the method of financing environment the service organizations operate in. is also important, namely, whether services are financed through national and local taxes or user charges. Regu- Proposed Policy Actions lations also have a strong impact on service provision. We propose the following policy actions for success- Stages of Transformation in Urban Services fully managing the transformation of public utilities: * All the major elements of a new model of local public Most CEE countries implemented changes in the lo- service management should be put in place. The roles E cal utility sector in two major steps (see the table). and functions of public clients, service producers (con- During the first stage, restructuring, they transferred tractors), and consumers should be established and state-owned property to local governments, combined clearly separated. it with some unbundling of natural monopolies, and 0 Regulatory institutions should be developed and en- transformed budgetary organizations into arms-length dowed with clear-cut functions and autonomy from the corporate entities operating under company law. The government. Their progress must be monitored, with new next stage was privatization, during which the coun- institutions set up as necessary and procedures revised tries attempted to gain access to foreign or domestic regularly (including the rules for public procurement). capital through various schemes, including outsourcing, * Anticorruption measures should be introduced in ap- concessions, or the BOT (build, operate, transfer) propriate areas. The area of state purchases is the least method. transparent field of the public sector. * European Union laws of transformation should be Transformation Varies from Countryto Country given priority during the legal harmonization process. However, simply following European Union requirements The speed and character of these processes varied is not enough. While the transformation of public ser- not only by country, but also by service. In the water vices must include measures that lead to effectiveness sector, Hungary and Poland created several hundred and efficiency, government policies should also reflect service organizations through the extensive fragmen- other concerns, including consumer protection. tation of formerly state-owned water companies, un- * The process of designing policies for the local provi- like in Slovakia, which did not adopt this kind of sion of public utilities and community services needs "municipalization." Similarly, most countries transferred improvement and all those affected should be involved in solid waste management to local government owner- decisionmaking. ship, but Poland preferred privatization, attracting ex- ternal capital to assist with this. Romania, meanwhile, This article is based on a report that summarizes the created special semipublic service organizations to major findings of a policy research project on regulation provide community services. and competition in the local utility sector in Central and Eastem Europe (CEE). Tamas M. Horvath is research This diversity is partly explained by differences in director at the Hungarian Institute of Public Administra- policymakers' motives. In the early 1990s the CEE coun- tion. You can email him on h13275hor@ella.hu. Gabor tries believed strongly that market-based mechanisms P6teri is research director of the LGI. His email address were superior to the old rules of service delivery in the is gpeteri@osi.hu. The regional research project was public sector. At this time traditional public service orga- financed by the British Department for Intemational nizations were transformed into local, market-oriented Development and the OSI-Budapest Local Govern- entities to increase efficiency and improve the quality ment Initiative, under the Local Government Policy of local public utility services. This view has changed Partnership program. The complete summary report, recently, with political and public debates on local pub- which includes six country case studies, was pub- lic utilities turning toward issues of equity and lished as part of the LGI Books series in November affordability that came to light following privatization. 2001. © 2001 The World Bank/The William Davidson Institute TRANSIT ION, October-November-December 2001 Risks of Outsourcing in Slovakia By Juraj Nemec Outsourcing is one of the tools of public sector reform; however, because of a number of problems, it is not proving wholly successful in the industrial countries, and its impact on transition countries in Central and Eastern Europe (CEE) might be limited. The market supply of effective bids is limited in transi- The development of outsourcing should be based on high- tion countries, and the argument of possible unit costs quality legislation and regulations, which are currently savings is far more controversial than in the industrial not available in the transition countries. The only legis- countries. Private producers in monopoly industries will lation related to outsourcing is public procurement laws, not behave as suggested by standard theories of com- which simply define the procedure for awarding contracts. petitive markets, but will instead focus on realizing large No special legislation defines the other steps involved in profits in the short term. outsourcing. Under these circumstances, public sector institutions have to rely on limited individual knowledge The public administration systems in CEE are still in and experience. The legal aspect of the business envi- the early stages of development. The most important ronment is also weak, and attempts to enforce the law problems in working out successful outsourcing strate- face significant problems, for example, the average length gies are as follows: of litigation of a business-related case in the Slovak courts * Old-fashioned auditing. Current systems for pub- is almost two years. lic sector control and auditing in most, if not all, the CEE countries rely on an old-fashioned, administrative The impact on local governments of outsourcing may best type of control. Effective mechanisms to assess the ef- be illustrated by taking two randomly selected Slovak ficiency and effectiveness of public sector institutions cities, Eadca and Turzovka, as examples, and focusing and processes are lacking. on major community services, such as maintaining local * Lackofprofessionalism.Thoseresponsibleforpub- roads, public lighting, and public parks and managing lic sector control and auditing are not always profes- cemeteries and waste collection and disposal. In both sionals in the field and often cannot tackle all the issues cities the municipality does not carry out these services involved. in the traditional way. The variety of solutions ranges from * Lack of modern financial management. The fi- municipal enterprises not directly connected to the mu- nancial management schemes of most public sector nicipal budget (these are, in principle, independent insti- organizations are based on antiquated budgetary rules tutions that bill the municipality for services rendered) to that create incentives to spend and not to save. Modern fully private, outsourcing solutions. Outsourcing at the cost-centered, outcomes-based financial management municipal level is frequently used in Slovakia. is rare or nonexistent, as are capital budgeting and ac- crual accounting methods. Without calculating depre- The outsourcing of selected public services to private sector ciation, as is the case in most CEE state administration firms in both cities provides examples of the low quality of systems, calculating the real costs of the provision of implementation. The following are the main problems: any service is impossible. 0 Selection of private service delivery firm. The * Lack of motivation. The dominant values in CEE principles of public procurement are murky, and the best public administration systems are bureaucrats' security bid is not the main selection criterion. and individual benefits. This explains the lack of incen- 0 Quality of contract preparation. Contracts do not tives to seek new management solutions, and in some include basic data about volume, periodicity, quality, cases motivates the channeling of public resources. supervision, and so on. * Limited role of the media. Citizens are either unable 0 Quality of contract management. No effective in- or unwilling to control their country's political processes. stitutional arrangements are in place to assure good- The media and the nonprofit sector have just started to quality contract management. exercise their crucial role in supporting democratic pro- * Outcomes ofoutsourcing. Expected outcomes are cesses in transition countries. Compared with Western not defined, no indicators of success or failure are in countries, their current role is extremely limited. place, and as a result the real outcomes of contracts TRANSITION, October-November-December 2001 The World Bank/The William Davidson Institute (C 2001 are not regularly evaluated. The result is that citizens agement, and high-quality guidelines for evaluating pos- receive lower quality, but more expensive services than sibilities for outsourcing and preparing tender documents. under prior arrangements. The author is Vice-dean, Faculty of Economics, Matej The current situation does not mean that CEE countries Bel University Banska Bystrica, Slovakia, Website: should not use outsourcing. These findings are simply a www.econ.umb.sk. He can be reached by email at nemec call for more transparency, better quality contract man- @ef.umb.sk. Local Governance Networks in Central Asia At a meeting that took place on July 30-August 3 this accountability as preconditions for more efficient public year, LGI, the United Nations Development Programme, administration. The training included interactive case and the World Bank Institute launched a two-year pro- studies on water, education, and local financial man- gram to develop policy proposals and action plans for agement, as well as overviews of the decentralization local government reform in Central Asia. The project, processes ongoing in the Czech Republic, Poland, and designed under the Fiscal Decentralization Initiative, a Slovakia. joint undertaking of the LGI, the United Nations Devel- opment Programme, the World Bank Institute, the During the second part of the workshop the participants Organisation for Economic Co-operation and Develop- had the floor. They were asked to prepare analyses of ment, the Council of Europe, the U.S. Agency for Inter- decentralization in their respective countries, working in national Development, the Danish Ministry of Interior, their country teams. Following the presentations of indi- and the Czech Ministry of Foreign Affairs, with the sec- vidual country teams and moderated discussion, the retariat based in the LGI, started with an initial training participants agreed on the following four topics for their and brainstorming workshop in Bratislava. policy research and the follow-up workshops: The main objective of the project, which combines train- * Legal status, responsibilities, and functions of local ing and policy research, is to help build local expertise governments to design intergovernmental relations and develop local * Options for the financial viability of local governments government capacities in the four Central Asian coun- * Capacity building of local government officials and tries: Kazakhstan, the Kyrgyz Republic, Turkmenistan, civil servants and Uzbekistan. During the course of the project the 26 0 Citizen participation and information technology at participants-high-ranking public administrators and in- the local level. dependent nongovernmental experts-will work in four separate country groups to prepare policy proposals and Each country team will prepare its own policy docu- action plans for improving local governance in their coun- ment on each of the topics. Each country team will also tries. Advisors from the Czech Republic, Poland, and take the lead on one of the topics and prepare a wider Slovakia will assist individual groups by providing feed- regional policy document, summarizing the main points back and expertise through an online network. The groups and policy recommendations presented in the individual will also take part in regular workshops that will be orga- country studies. nized in Central Asia. The first follow-up workshop where country teams pre- The Bratislava workshop was divided into two parts. sented and discussed studies dealing with the legal sta- During the first part the participants familiarized them- tus and functions of local governments in the Central selves with the program, met their advisors from Cen- Asian countries took place at Issyk-Kul Lake, Kyrgyz tral Europe, and took part in two-and-a-half days of Republic, on December 2-4. training. Delivered by experts from Croatia, the Czech Republic, France, Hungary, Poland, Slovakia, and the For more information about this project and other United States, the training focused on the legal frame- LGI or Fiscal Decentralization Initiative activities in work for decentralization and on such fiscal issues as Central Asia, please contact Ondrej Simek at expenditure and revenue assignment, transparency, and osimek@osi.hu. C) 2001 The World Bank/The William Davidson Institute TRANSITION, October-November-December 2001 Articles provided by: --~~- -_ THE WILLIAM DAVIDSON INSTITUTE AT THE UNIVERSrrY OF MICHIGAN BUSINESS SCHOOL Banking Crises and Bank Rescues: The Effect of Reputation By Jenny Corbett and Janet Mitchell In the 1980s and 1990s banking sector problems that frequently escalated to crisis level became common. The countries in which these crises occurred were not all developing and emerging market economies. Despite the frequency with which banking crises occur, investigators have undertaken relatively few formal analyses of regula- tory responses to crises. This article focuses on bank rescue packages and on the behavior of troubled banks In response to rescue offers. Much of the literature on bank regulatory policy sug- anecdotal evidence suggests that some recapital- gests that bank rescues are inefficient and can ization programs failed because the conditions im- worsen banking sector problems. The whole tenor of posed on the banks were too stringent, other prompt corrective action regulation is to avoid having anecdotal evidence suggests that this is not the only to bail out inadequately capitalized banks; however, source of reluctance to accept recapitalizations. Our s- in many cases it is already too late for this type of explanation involves the banks' reputational con- j_ policy response. If many banks become insolvent, cerns. z policymakers are forced to recapitalize banking sys- tems to avoid credit crunches and premature liqui- This article investigates banks' behavior during bank- dations of both performing and nonperforming loans. ing crises when asymmetric information exists be- This is the main reason that the International Mon- tween banks and outsiders regarding the extent of , etary Fund frequently mandates restructuring pack- bad loans on the banks' balance sheets. We show ages that involve an element of bank recapitalization. that asymmetric information creates an incentive for Om," banks to roll over their nonperforming loans in an A puzzling fact is that in many cases policy authori- attempt to disguise their true financial situation. Even ties make offers of bank rescue plans, yet banks are though a regulator may be able to combat this in- reluctant to accept these offers. In recent years, pri- centive by offering a "soft" rescue package, bankers' < 3 vate banks in both Japan and Thailand have been reputational concerns may cause them to reject res- unenthusiastic about government offers of recapital- cue offers and to continue with loan rollovers. PAS ization. The failure to convince banks to recapitalize and to restructure and write off nonperforming loans To induce banks to accept rescue plans and to ad- eN has contributed to the poor performance of the real dress their problem loans, regulators may be forced _ economy in both countries. By contrast, the Repub- to offer recapitalization in amounts that significantly lic of Korea, Norway, and Sweden provide examples exceed those necessary to restore banks to sol- of relatively swift recapitalization. This article offers vency. These additional funds serve to compensate an explanation for these international variations that bankers for the reputational harm caused by the rev- differs from those previously suggested in the litera- elation of bad loans that accompanies their accep- ture. tance of a rescue offer. If regulators are constrained in the amount of recapitalization they can offer, they _ The current literature does not explain why too few, may be unable to induce banks to accept rescue rather than too many, banks come forward to accept plans and to reveal their bad loans. Alternatively, they government recapitalization offers. Although some may have to wait until the banking crisis becomes TRANSITION, October-November-December 2001 The World Bank/The William Davidson Institute O 2001 severe and more banks become distressed before ers' reputational concerns in designing a rescue of- the banks are willing to accept rescue offers. fer, rejection of the rescue offer may occur in equilib- rium. For example, the possibility exists that the high In addition to offering a potential explanation for sev- costs of recapitalization may result in an optimal plan eral observed cases in which banks have refused of- whereby the regulator offers an amount of recapital- D fers of rescue during banking crises, our approach ization that will only be accepted by banks if the yields some insight into the link between bank su- crisis is severe enough, but if the crisis is less se- pervisory institutions that are in place ex ante and vere, banks will reject the offer. the policy options that are available to regulators ex post, once a crisis has occurred. In countries with Thus far our discussion and analysis have ignored strong supervisory systems, regulators can induce depositor behavior. Like the market, depositors do banks to accept rescue plans with lower amounts of not observe the state of the world or the bank's type. recapitalization than if the supervisory system were When a bank rejects a rescue plan in period 1 and weak. This suggests the possibility of a vicious circle succeeds, depositors are unaware of the bank's true arising in countries with weak supervisory institu- financial state. However, we can reasonably assume tions, namely: weak banking supervision increases that depositors do observe the bank's true financial the probability of occurrence of a banking crisis, but state in period 2. Therefore, even if a bank with loan once a banking crisis has developed, banks are un- defaults has succeeded in hiding those defaults in willing to reveal their bad loans unless offered a large period 1, depositors will observe the bank's true net amount of recapitalization. worth in period 2 and can decide to exit the bank. This would impose an additional cost on the bank A novel policy implication of our analysis is that the that rolled over its defaulting loans in period 1. Thus optimal rescue plan imposes a cost on banks that the more sensitive depositors are to banks' solvency, reject rescue offers and then exhibit poor perfor- the greater the costs to banks of rolling over mance. By committing to punishing banks that re- nonperforming loans. ject rescue offers and are then discovered to be in poor financial shape, the regulator can induce Similar observations apply to the cost the regulator troubled banks to accept rescue offers with less re- imposes on troubled banks that have rejected res- capitalization than in the absence of such a commit- cue plans, but are subsequently discovered by the ment. If the cost of the punishment is high enough, regulator. In this case depositors also immediately the regulator can induce banks to accept rescue plans discover not only the existence of the bank's de- with only negligible recapitalization. faulting loans, but also the bank's attempt to de- ceive outsiders by hiding these loans. Depositors This result points to the informational role that bank may react to this deception by immediately with- rescue offers serve. A rescue offer forces a bank to drawing their funds. The likelihood of such a response take an explicit stand with respect to the presence would increase banks' willingness to accept rescue of bad loans on its balance sheets. The bank's ac- plans. Thus in countries where depositors exercise ceptance or rejection of a rescue offer conveys infor- strong enough discipline, banks may be willing to mation to bank outsiders-which they would not accept rescue plans with only small amounts of re- otherwise receive-about the severity of the banking capitalization. The discipline exercised by deposi- crisis, the bank's type, and the bank's treatment of tors complements the discipline exercised by the nonperforming loans. This creates the possibility of regulatory system. punishing banks that are discovered to be trying to hide their nonperforming loans. The ultimate effect Janet Mitchell is a professor of economics at of increased information generated by the offer of a Facultes universitaires Saint-Louis in Brussels. Jenny rescue plan is to induce banks to reveal their de- Corbett is a reader at Oxford University, U.K., and a faulting loans more often than in the absence of res- research fellow at the William Davidson Institute. This cue offers. article is a summary of the authors' study, published as William Davidson Institute Working Paper no. Yet banks may still decide to reject rescue offers. 290. Even when the regulator takes into account bank- D 2001 The World Bank/The William Davidson Institute TRANSITION, October-November-December 2001 Who's Afraid of Political Instability? By Nauro F. Campos and Jeffrey B. Nugent The analysis of the consequences of sociopolitical instability (SPI) has been a central theme in recent macroeco- nomic research in general, and in the economic growth literature in particular. Investigators have two completely different views on the relationship between SPI and its effects on growth. This article investigates the existence and direction of a causal relationship between SPI and economic growth. Some investigators submit that SPI disrupts production the numbers of political assassinations per million and increases uncertainty in the economy. By doing so, people, revolutions, and coups d'etat. The first of these it undermines the incentives for accumulating physical is particularly important, because it captures a dimen- capital and reduces the rate of economic growth. By sion of magnitude that is largely missing from the other contrast, others argue that economic growth leads to measures. either higher SPI because growth entails substantial structural changes that undo political coalitions and in- For the measure of moderate or lower-bound SPI we duces painful readjustments in the balance of power use indicators that include the regulation of political par- among different interest groups, or to lower SPI because ticipation and the openness of executive recruitment. it reduces social and political tensions. Even though the Because political actors and processes are subject to existence of a negative relationship between SPI and systematic regulation, this set of indicators can capture economic growth has been elevated to "stylized fact" the extent of even subtle changes in both legal and ac- status, the empirical studies on which this purported tual practice. The less regulated actors and processes relationship is based have been heavily criticized fortheir are, the greater the potential for social and political ad hoc selection of explanatory or control variables, their change, and the higher the value of this SPI index. excessively narrow definitions of SPI, their insufficient sensitivity analysis, and their failure to investigate the As both indexes measure SPI, but capture quite differ- direction of causality. Even though we do not agree with ent aspects of it, one would expect them to be posi- all these criticisms, we do believe that this negative re- tively, but not highly, correlated. In general, this lationship should not be elevated to stylized fact status expectation is fulfilled except for the Middle East and without demonstrating that causality exists, and that it North Africa. For all other regions the correlation be- runs from SPI to growth rather than in the opposite tween the respective pairs of SPI indexes is positive direction. and statistically significant. The literature seems to contain two rather different un- Next we turn to the rate of real GDP growth and to the derstandings of SPI, one stressing regular and irregular time periods chosen. We collected measures of GDP governmenttransfers, theotherfocusing on much harsher growth for nonoverlapping five-year periods from 1960 aspects of SPI. The fact that these overlap does little to through 1995 for an unbalanced panel of 98 developing diminish the different intensities that each attaches to countries: 14 countries in Asia, 21 in Latin America, 17 "instability." While the former interpretation constrains it in the Middle East and North Africa, and 46 in Sub- to relatively tame phenomena, the latter places it closer Saharan Africa. We found that a significant negative to social chaos. To recognize both views, we construct relationship exists both for the pure cross-section re- two measures of SPI: one captures the more severe lating to growth over the whole period as well as for the forms of SPI, while the other captures the less severe individual five-year intervals. forms of SPI. While we could have used many other variants, our justification is that the ones we use can be We find that the evidence supporting the hypothesis that considered the bounds of the realistic range of such high levels of SPI cause lower rates of economic growth measures, permitting a more complete depiction of the is much weaker than generally believed, and we find no causality between SPI and growth. traces of a long-run causal relationship. How can we reconcile these conclusions with the differing results of Our measure of severe or upper-bound SPI follows the other similar studies? Our sensitivity analysis shows existing literature in using the following three indicators: that the Sub-Saharan Africa sample constitutes a large TRANSITION, October-November-December 2001 The World Bank/The William Davidson Institute © 2001 part of the explanation. Not only is the Sub-Saharan variability. Third, investigators should readily be able to sample much larger than those for other regions, but identify additional omitted variables, especially those of also its SPI seems to take a more structural form. Our an institutional nature, that might be related to both SPI findings support the explanation that, once one controls and growth. Numerous institutional variables may be rel- for institutional development or for the terms of trade, evant, like the fairness and effectiveness of the judicial the causality results vanish. Hence we suspect that if system and the stability of property rights. Fourth, given other studies were to excludeAfrican countries from their the difficulties in constructing a lower-bound measure of samples, the existing results of a negative relationship SPI, exploratory research of this sort with other SPI between SPI and growth would disappear. measures should be encouraged. Finally, in light of the wide variety of other consequences that investigators Given the prominence recent macroeconomic research have ascribed to SPI, an examination of causal relation- has attached to SPI, we offer a number of suggestions ships between SPI and these other variables should be for further research. First, in light of the inconsistency seriously considered. In particular, seeing whether the M between the existing understanding that a negative rela- Sub-Saharan Africa sample would again play such a tionship exists between SPI and economic growth and determinant role would be interesting. our findings of the lack of a causal negative relationship between SPI and growth, one should ask at what fre- Nauro Campos is a professor of economics at CERGE- quencies and lag lengths the relationship changes from El, Charles University, and a research fellow of the Wil- noncausal to causal. A second direction for future re- liam Davidson Institute. Jeffrey Nugent is a professor of search would be to investigate whether a causal nega- economics at the University of Southern California. This tive relationship emerges between economic growth and article is a summary of the authors' study, published as other important sources of instability, for instance, policy William Davidson Institute Working Paper no. 326. The Evolution of Market Integration in Russia By Daniel Berkowitz and David N. DeJong The economic refonms Russia initiated in the early 1990s were designed in part to help establish strong internal market linkages across its far-flung and diverse regions. However, recent evidence suggests that the Russian economy more closely resembles a collection of fragmented internal markets, with fiefdoms controlled by regional politicians. Several regions have erected various official trade barriers, while others have established border controls and begun issuing ration coupons to residents in an attempt to limit exports of consumer goods to other regions. While examples of regional trade barriers can be found gration and international trade, the widespread dis- within Russia, the pervasiveness and persistence of connectedness observed between 1996 and 1997 co- such barriers is unclear. We investigate this issue by incides with a period when Russia exhibited strong analyzing the extent to which regional borders and export performance and attracted a large amount of distance account for observed differences in commod- international portfolio investment. A possible interpre- ity prices across 74 regions in Russia. The results tation is that the unusually high trade to GDP ratio indicate substantial variation across time: an initial could signal weakening inter-regional trade relations period of widespread integration gradually gave way in Russia. to a period of disconnectedness during 1995 through 1997, which had apparently subsided by May 1998. A growing literature has attempted to measure and explain market integration in transition economies Next we analyze how these temporal fluctuations in using a variety of different approaches. Several stud- market integration relate to temporal fluctuations in ies have noted a high degree of inter-regional price inflation volatility, internal transport costs, international dispersion, leading the authors to be pessimistic about trade, public discontent, and standards of living. With the opportunities for market integration in Russia. Our the exception of inflation volatility, we find that these goal in studying temporal changes in market integra- variables exhibit strong statistical relationships with tion is to begin to understand the causes of these integration. Regarding the relationship between inte- changes in Russia. C) 2001 The World Bank/The William Davidson Institute TRANSITION, October-November-December 2001 Measuring Integration location. In contrast, Yeltsin's platform called for fur- G ther price liberalization, a cutback in price subsidies, In integrated market economies, arbitrageurs and trad- and a deepening of the privatization process. We found ers can quickly move tradable goods from regions in that this difference in platforms was an important pre- W E which sales prices are low to regions in which prices dictor of differences in policies between the Red Belt D _ are high, so long as transport costs are not prohibi- and the rest of Russia. tive. This implies that within a group of integrated re- Z C gional markets, price differentials for similar tradable Specifically, we observed significantly more retail price goods sold in different regions will increase in propor- regulation, budgetary and agricultural price subsidi- tion to the distance separating the regions. zation, and less entrepreneurial activity (as measured by the number of legally registered small private firms Our goal is to measure temporal movements in inter- per capita) in the Red Belt during 1995-96. A possible X regional price dispersion. We pursue this goal using explanation of this pattern might be that regional gov- a regional dataset that consists of two commodity ernments that use subsidies and price controls to keep price indexes: an index that measures the cost of a basic consumer goods cheap have an incentive to uniform basket of basic food goods and a regional erect borders to limit the outflow of their cheap goods consumer price index that includes a basket of food via exports or consumption by nonresidents. The pres- goods, nonfood goods, and services. The food basket ence of price restrictions and border controls is likely data span the period April 1994 through November to result in an economic environment that is not con- 1999; the regional consumer price index data span ducive to entrepreneurial activity. the period January 1994 through November 1999. The dataset includes observations collected monthly from To expand on our earlier findings, we begin our analy- 74 Russian cities: Moscow, St. Petersburg, and capi- sis here by studying whether regional reformist voting tal cities in 72 other regions. patterns correspond with the evolving pattern of inte- gration reported above. In the June 1994 subperiod, The more comprehensive picture of integration we ob- 57 percent of the proreformist voting regions were in- tain is, as before, roughly U-shaped: an initially high tegrated according to our measure, while 43 percent level of integration existed until June 1995, it then fell of the nonreformist regions were integrated. markedly and remained relatively low until approximately June 1997, and then climbed fairly steadily through the In the June 1995 subperiod the integration percent- remainder of the sample period. An interesting finding ages were 24 and 8 percent, respectively. We also was that the financial crisis of August 1998 had no no- find a significant difference in integration percentages ticeable impact on integration dynamics. for the June 1998 subperiod (66 versus 46 percent). However, this is not the case for the remaining Market Integration and the Aggregate Economy subperiods: integration percentages were nearly iden- tical across classifications in the June 1996 and 1997 Our interest in relation to market integration and the subperiods, and in the May 1999 subperiod the inte- aggregate economy is in analyzing how the temporal gration percentage was actually lower in the fluctuations in regional market integration correspond proreformist regions (73 versus 86 percent). Thus our to related economic and political variables. In earlier findings regarding integration and political attitudes studies we showed that voting patterns in the June toward economic reform are mixed: the clear positive 1996 presidential elections were important in explain- correspondence observed early in the sample does ing the regional isolation observed between 1994 and not hold in the later part of the sample. 1996. Daniel Berkowitz is an associate professor of eco- Specifically, we classified Russian regions into two nomics at the University of Pittsburg and a research categories: those that supported the Communist Party fellow at the William Davidson Institute. David DeJong candidate Zyuganov in the final round of elections is a professor of economics at the University of (termed Red Belt regions), and those that supported Pittsburg. This article is a summary of the authors' Yeltsin. Zyuganov's platform emphasized price con- study published as William Davidson Institute Work- trols, price subsidies, and administered resource al- ing Paper no. 334. TRANSITION, October-November-December 2001 The World Bank/The William Davidson Institute © 2001 Recent Working Papers of the William Davidson Institute Working papers (WPs) can be downloaded from www.wdi.bus.umich.edu at no charge. Bris, Arturo, Yrjo Koskinen, and Vicente Pons, Corpo- Mandler, Michael, Accessible Pareto-Improvements: rate Financial Policies and Performance Prior to Using Market Information to Reform Inefficiencies, Currency Crises, WP 386, June 2001. WP 398, May 2001. Dobrinsky, Rumen, Boyko Nikolov, and Nikolay Markov, Schmukler, Sergio, and Esteban Vesperoni, Globaliza- Mark-Up Pricing in Bulgarian Manufacturing, WP tion and Firms' Financing Choices: Evidence from 389, June 2001. Emerging Economies, WP 388, May 2001. Fan, Joseph P. H., and T. J. Wong, Do External Audi- Tian, Lihui, Government Shareholding and the Value tors Perform a Corporate Governance Role in of China's Modern Firms, WP 395, April 2001. Emerging Markets? Evidence from East Asia, WP 400, October 2001. Zhou, Wubiao, The Making of an Integrated National Grain Market in China, WP 397, October 2001. Friedman, Jed, and James Levinsohn. The Distribu- tional Impacts of Indonesia's Financial Crisis on Household Welfare: A "Rapid Response" Method- WDI Conference ology, WP387, September 2001. Second IZA-WDI International Conference on La- Hainz, Christa, Effects of Bank Insolvency and Stra- bor Markets in Emerging Economies tegic Uncertainty on Corporate Restructuring in San Jose, Costa Rica, April 1-6, 2002 Transition Economies, WP 390, August 2001. Organizers: Hartmut Lehmann, IZA, and Katherine Jackson, John E., Jacek Klich, and Krystyna Poznaniska, Terrell, WDI. Economic Transition and Elections in Poland, WP 391, June 2001. Part l: Labor Market Dynamics and Public Policy in a Com- Konings, Jozef, and Hartmut Lehmann, Marshall and parative Perspective: Latin America and Eastern Labour Demand in Russia: Going Back to Basics, Europe (April 1-3): This part of the conference will WP 392, August 2001. focus on microeconomic analysis of labor markets and public policy in these two regions of the world. Koumakhov, Rouslan, and Boris Najman, Labor Hoard- ing in Russia: Where Does it Come From? WP 394, Part II: June 2000. Job Flows in Transition Economies (April 5-6): The analysis of job creation and job destruction in the old Lemmons, Michael, and Karl Lins, Ownership Structure, and new sectors is important for understanding the tran- Corporate Governance, and Firm Value: Evidence from sition from the socialist to a market economy. The pa- the East Asian Financial Crisis, WP 393, April 2001. pers selected for this workshop will be published in a symposium issue of the Economics of Transition, guest Li, Wei, Corruption and Resource Allocation: Evi- edited by John Haltiwanger and Hartmut Lehmann. dence from China, WP 396, June 2001. Information: Erica Bush (ebush@ umich.edu), WDI, Lizal, Lubomir, and Jan Svejnar, Financial Conditions University of Michigan, Ann Arbor, Ml 48109, te/.: (734) and Investment during the Transition: Evidence 936-0041, fax: (734) 763-5850, Internet: http:// from Czech Firms, WP 399, October 2001. www.iza.org. © 2001 The World Bank/The William Davidson Institute TRANSITION, October-November-December 2001 Foreign Investment Boom in Transition Economies Will Withstand Global Slowdown New Report by the Economist Intelligence Unit According to a new Economist Intelligence Unit report, East European Investment Prospects, on foreign direct invest- ment (FDI) in 27 transition economies, FDI inflows into the transition economies will remain strong over the medium tern, driven by improving business environments across the region. Projections indicate that total FDI inflows into all 27 countries in 2001-05 will reach $162 billion, 36 percent more than the 1996-2000 total of $119 billion. The projections are based on the and future trends in business envi- of the overall business environment, M Economist Intelligence Unit's ronmentsandreflectsthemaindriv- wage costs, natural resource en- model of business environment ers of FDI. The model shows that dowments, privatization methods, rankings, which captures current differences in market size, quality and market access explain almost Table 1. Foreign Direct Investment Inflows, Selected Transition Economies, 1996-2005 ($ millions, annual averages) 1996-2000 2001-05 Percentage of Percentage of Country Total of GDP $ per head Total of GDP $ per head CEE 12,955 4.4 195 16,120 4.0 243 Czech Republic 3,463 6.4 337 4,960 6.9 486 Hungary 2,029 4.4 201 2,030 3.0 205 Poland 6,528 4.3 169 6,900 3.2 178 Slovakia 699 3.5 129 1,640 6.9 303 Slovenia 236 1.3 119 590 2.4 296 .-, Balkans 3,023 3.2 55 4,530 3.8 81 Albania 73 2.4 19 180 3.7 44 Bosnia & Herzegovina67 1.5 18 340 5.7 82 Bulgaria 594 5.1 74 950 5.6 121 + X Croatia 882 4.4 196 940 3.6 194 Macedonia 70 2.1 35 180 4.8 90 Romania 1,115 3.0 50 1,350 2.9 60 Yugoslavia, FR 222 1.3 21 580 3.7 54 -. Baltics 1,173 5.5 154 1,270 4.1 169 Estonia 310 6.3 214 350 4.7 243 Latvia 403 6.7 164 470 5.5 198 ~t Lithuania 460 4.4 124 450 3.1 121 -' CIS 6,699 1.7 24 10,540 2.1 37 L. f Armenia 112 6.1 30 130 6.0 34 .- - Azerbaijan 681 17.5 86 450 7.4 55 Belarus 239 1.8 24 210 1.6 21 Georgia 152 3.0 28 160 2.7 29 Kazakhstan 1,289 6.7 86 1,300 5.2 88 Kyrgyz Republic 59 3.7 13 90 5.0 18 Moldova 72 4.9 17 120 6.8 28 Russia 3,246 1.1 22 6,600 1.7 46 Tajikistan 25 2.3 4 30 2.2 5 Turkmenistan 94 3.1 20 130 2.2 26 Ukraine 596 1.5 12 1,060 2.1 21 Uzbekistan 135 0.9 6 250 2.2 10 Total 23,851 3.0 57 32,460 3.1 78 Source: Economist Intelligence Unit. TRANSITION, October-November-December 2001 The World Bank/The William Davidson Institute @ 2001 the entire intercountry variation in a politically-driven positive impact of About half of all inflows into the re- FDI receipts in the region in 1996- recent events on FDI prospects for gion in 2001-05 will go to the coun- 2000. Russia and Central Asia, large sales of tries of East Central Europe (table state assets, and increased cost-cut- 1). Inflows into Russia are projected Lower growth in countries of the ting pressures on Western companies to average $6.6 billion per year in Organisation for Economic Co-opera- that will enhance the attractiveness of 2001-05, more than double the tion and Development and increased relocating operations to Eastern Eu- modest $3.2 billion annual average risk perceptions will dampen FDI in- rope. Thus even though global eco- recorded in 1996-2000. FDI will be flows into the transition economies nomic activity is not expected to pick a significant share of GDP in many in the near term. However, this will up until the second half of 2002, FDI countries of the region, up to 7 per- be offset by the increased relative at- inflows into the region are forecast to cent in the Czech Republic, tractiveness of the region compared reach almost $32 billion in 2002, which Slovakia, and some countries of the with most other emerging markets, will represent a new record total. Commonwealth of Independent E Table 2. Business Environment Scores and Ranks 2001-05 1996-2000 Total Regional Total Regional 2001-0511996-2000 Country score rank score rank Change in score Change in rank Estonia 7.40 1 6.86 1 0.54 0 Hungary 7.26 2 6.42 2 0.83 0 Poland 7.07 3 6.22 3 0.85 0 Czech Republic 7.01 4 6.18 4 0.83 0 Slovenia 6.96 5 6.08 5 0.87 0 Lithuania 6.95 6 5.74 7 1.21 1 Latvia 6.88 7 5.87 6 1.01 -1 Slovakia 6.57 8 5.46 8 1.11 0 Croatia 6.33 9 5.23 9 1.10 0 Bulgaria 5.94 10 4.03 17 1.91 7 Kazakhstan 5.59 11 4.30 13 1.29 2 Russia 5.49 12 4.12 14 1.36 2 Armenia 5.34 13 4.50 10 0.84 -3 Azerbaijan 5.28 14 4.35 12 0.92 -2 Romania 5.24 15 4.10 15 1.14 0 Yugoslavia, FR 5.23 16 2.79 27 2.44 11 Macedonia 5.21 17 4.47 11 0.73 -6 Albania 5.09 18 4.01 19 1.07 1 Ukraine 4.95 19 3.27 23 1.69 4 Georgia 4.87 20 4.01 18 0.86 -2 Moldova 4.78 21 4.04 16 0.74 -5 Kyrgyz Republic 4.77 22 3.75 22 1.02 0 Bosnia & Herzegovina4.66 23 3.98 20 0.68 -3 Belarus 4.16 24 3.91 21 0.25 -3 Tajikistan 3.55 25 2.81 25 0.74 0 Turkmenistan 3.46 26 3.05 24 0.41 -2 Uzbekistan 3.18 27 2.80 26 0.38 -1 Note: Since the late 1990s the Economist Intelligence Unit has provided a quantitative representation of global trends in its international business environment rankings. The framework covers 60 of the world's leading econo- mies that are analyzed regularly in the Country Forecasts publications. The model seeks to measure the quality or attractiveness of the business environment and its key components by using quantitative data, business sur- veys and expert assessments. The quantitative assessment of the business environment-the opportunities for business-enables a country to be ranked on its overall position and in each of ten categories, on both a global and regional basis. The rankings model is extended and applied to the 27 transition economies. Source: Economist Intelligence Unit. © 2001 The World Bank/The William Davidson Institute TRANSITION, October-November-December 2001 States. As privatization opportuni- percent per year should be sustain- the bottom spot to 16th place (table ties wind down, new greenfield in- able over the medium term, driven 2). Macedonia is expected to suffer vestment and follow-on investment by the returns to earlier reform, the the sharpest decline in rank, by six by established investors will play effect on productivity of rising im- places, between the two periods. an increasingly important role. ports of capital goods and technol- ogy, and the improvements in Even though the implementation of The region's real GDP grew by 6 per- infrastructure. reforms will remain a serious prob- cent in 2000, by far its best perfor- lem, Russia is nevertheless ex- mance since the start of the Improved business environmentswill pected to substantially improve its transition. Average growth is pro- be the main spur to FDI inflows, es- business environment in the medium jected to slow to a still respectable pecially as privatization opportuni- term. The refashioning of Russia's 4.5 percent in 2001 and 3.8 percent ties wind down in the region's more political relations with the West in in 2002. However, strong investment advanced economies. Productivity the aftermath of the September 11 growth, rapid structural change, and growth will tend to offset the nega- terrorist attacks could have a major dramatic improvements in competi- tive impact of rising wage costs on impact on FDI by facilitating Russia's tiveness (driven mainly by FDI) in FDI. Estonia is expected to retain integration into the global economy recent years have put most Central the best business environment in (including through World Trade Or- and Eastern European economies the region in 2001-05. The Federal ganization membership), by altering in a strong position to withstand the Republic of Yugoslavia is expected perceptions of Russia in the West, short-term slump in demand in the to record the greatest absolute and and by eroding hostility toward for- European Union. Growth of 4 to 5 relative improvements, jumping from eign capital in Russia. Articles provided by: 4;,Bank of Finland '-:>" Institute for Economies in Transition Financial Supervision in the Baltic Countries By Jaana Rantama ___ The banking structures in Estonia, Latvia, and Lithuania the Estonian government will cover some of the costs of were only established in the 1990s, following their inde- setting up the agency. The hope is that the combined r v pendence from the former Soviet Union, and are still in supervisory authority will bring about overall improvement the early stages of development. The initial years of bank- in supervisory standards, particularly for capital markets. ing sector operations were characterized by both robust growth and crises. Banks were forced to learn how to Latvian financial supervision commenced in July operate in a market-led environment and had to estab- 2001. In 1997, with the support of the World Bank and the lish supervisory frameworks. Over the last decade, the Swedish government, Latvia worked out a combined su- three Baltic nations have built their supervisory and bank- pervisory authority framework. Legislation in relation to __ ing regulation systems virtually from scratch. this combined financial supervisory authority was passed in June 2000, and the new body began its operations, as Financial supervision in Estonia is to be renewed scheduled, in July 2001. The mandate of the Financial _ by the end of 2002 and is currently undergoing com- and Capital Market Commission is to supervise the bank- plete restructuring. About three years ago, the Estonian ing, securities, insurance, and pension fund sectors, as authorities decided to combine supervisory functions for well as to administer deposit insurance funds. The the banking, insurance, and securities sectors. This in- commission's objective is to promote the interests of in- tegrated "super-agency" will launch its operations in early vestors, depositors, and insurance policyholders. 2002, and is to be staffed by some 50 to 60 people. The agency will be financed by contributions from partici- Lithuanian financial supervision is shared among pants, but initially, until 2004, the Bank of Estonia and three separate authorities. The Bank of Lithuania's TRANSITION, October-November-December 2001 The World Bank/The William Davidson Institute © 2001 68-person supervisory division is responsible for over- an agreement facilitating the the coordination and ex- seeing credit institutions, that is, banks, banking groups, change of data. This cooperative agreement is particu- and credit companies. The Securities Commission, es- larly important, because unlike Estonia and Latvia. tablished in 1992 through a Ministry of Finance initia- Lithuania has not contemplated combining the functions tive, oversees securities dealers. Its status was altered of the supervisory authorities within a single organization E X in 1996, when it was reestablished as an independent authority directly responsible to parliament. Finally, the The author is a senior banking supervisor in the Finan- State Insurance Supervisory Authority operates under cial Supervision Authority in Finland. This is a shorter the auspices of the Ministry of Finance. In December version of an article published in the November issue of 2000 the Bank of Lithuania, the Securities Commission, Baltic Economies-The Quarter in Review, available on and the State Insurance Supervisory Authority signed http://www.bof.fi/bofit. Russian Banking Sector Reform in 2004? By Vesa Korhonen Russia's banking sector is burdened by a dual legacy of shrinks when the deposit insurance scheme is extended large, state-owned banks inherited from the Soviet era to most banks. and a plethora of banks of various sizes with diverse ownership structures that sprang up during the economic Weak public trust in banks, along with tendencies transition of the 1990s. Together with slow institution toward tax avoidance and established payment tradi- building processes, this situation means that Russia tions, has kept bank deposits small, at 11 percent of faces an abundance of banking reform issues. The Cen- GDP, and reliance on ruble cash (7 percent) and for- tral Bank of Russia and the government only recently eign currency (some 10 to 15 percent) high. To re- moved toward implementing more comprehensive bank dress the situation, the bank reform strategy spells reform. out the formation of a general deposit insurance scheme (with a deposit ceiling). The scheme is ini- The state holds majority stakes in more than 20 banks tially voluntary, but will become compulsory, and deposit- that represent a third of the banking sector's total as- taking rights will be available only to sound banks. sets. The state also holds minority stakes in a few hun- Sberbank is unwilling to switch to the scheme until it dred other banks. According to the banking reform becomes compulsory. strategy, the state plans to exit from some banks, in- cluding two large banks, Vneshtorgbank in 2002, and In another area of bank funding, the Central Bank of Vnesheconombank, which will be split into a state debt Russia initiated most of the major recapitalizations in agency and a commercial bank. Russia's banking sector since the 1998 crisis. The aim of the banking reform strategy is to motivate private own- Sberbank, the national savings bank, in which the Cen- ers to make their banks more sound through higher capi- tral Bank of Russia holds the majority stake, controls tal adequacy requirements. However, the concept of a more than a fifth of the banking sector's total assets, minimum capital requirement is deemed controversial, including a third of credits to corporations and three- because an increase in this requirement could wipe out quarters of household deposits. Public ownership does half of all Russian banks, even though these represent not necessarily have to mean less competition, but many only a small fraction of the sector's assets. As for for- market participants and public observers note that eign capital, the process of acceptance gradually con- Sberbank, which also enjoys government deposit insur- tinues as the capital requirements for foreign banks are ance, can undercut loans from other banks by offering to be lowered and profit repatriation is to be freed up. better terms. The banking reform strategy does not hold out the prospect of privatizing Sberbank, as its domi- The author is an economist at BOFIT This is a shorter nance is anticipated to complicate privatization. Instead, version of an article published in the December issue of the aim is to strengthen the competition. Sberbank's Russian Economy-The Month in Review, available on privatization will only be addressed if its market share http://www.bof.fi/bofit. C) 2001 The World Bank/The William Davidson Institute TRANSITION, October-November-December 2001 World Bank\IMF\EBRD Agenda Continued from page 16 gone to the private sector, which the were successfully met: the collec- bank considers to be its priority. Over tion of cash from enterprises for the the international community that has the last 10 years only nine loans with use of electricity (denied for years) to help pick up the pieces," said sovereign guarantees, totaling $710 went ahead, the obstacles to the Krueger. As the Financial Times put million, have been approved. With the next round of privatization of 12 re- it, Krueger's comments mark a ma- new approach the government is tak- gional power supply and distribution jor departure for the IMF, which has ing, the proportion of private sector companies were removed, the price looked doubtfully at such ideas and loans will decrease significantly, of electricity was adjusted, and the has generally dealt with financial cri- which means a new phase in EBRD action plans for improved financial E ses by providing massive loans to the activity in Russia. The EBRD expects accountability and public procure- afflicted countries. The new scheme to invest more in infrastructure. With ment were approved. would stop bondholders from taking the absence of a fully functioning fi- countries to court during the stand- nancial system and the reluctance Strong GDP growth of 5.8 percent in still. Debtor countries would be per- of Russian banks to finance large 2000 was followed by even stronger mitted to impose temporary capital infrastructure projects, the EBRD growth of 9.3 percent during the first controls to prevent capital flight. seems ready to fill this gap. It has three quarters of 2001, and may recently announced a E100 million amount to more than 8 percent for Russia Expects $2 Billion Public loan to Unified Energy Systems to the whole of 2001. Economic growth Sector Loans from EBRD help restructure the national power has now expanded from traditional grid, and talks are under way for a industrial export goods to encom- The Russian government is seeking $200 million credit for various trans- pass agriculture, construction, and more than $2 billion over the next three portation projects. food processing. years from the European Bank for Re- construction and Development (EBRD), The private sector accounts for about During an October visit to Ukraine, the Moscow Times reported. The in- 70 percent of the EBRD's overall World Bank President James D. creased focus on public sector-as portfolio.Thefiguretendstobehigher Wolfensohn met Prime Minister opposed to private sector-borrowing in advanced countries and lower in Anatoly Kinakh to discuss the Bank's is expected to push the number of loans less developed countries, for in- program in Ukraine and the status of to Russia in the bank's total portfolio to stance, it is 53 percent in Uzbekistan economic reforms in the country. 30 percent in the coming years, with and 60 percent in Poland. The EBRD Wolfensohn underlined the need to l1 billion ($900 million) in new loans committed E1.24 billion in new loan translate Ukraine's strong growth per- approved annually. Economic Develop- and equity investments in 33 projects formance into better conditions for the ment and Trade Minister German Gref in Central and Eastern Europe and poor and congratulated the govern- has already said that Russia is expect- the Commonwealth of Independent ment on the recent adoption of a com- ing to receive $800 million from the States in the first six months of 2001, prehensive poverty reduction strategy. EBRD in 2002. "Of this amount, 40 compared with 27 projects worth percent will be spent for concrete E581 million in the first half of 2000. Balkan States Gain Funding Boost projects, covered by sovereign guaran- tees, and the remaining 60 percent will World Bank Releases $100 Million Donors participating at a conference go to the private sector," he predicted. for Ukraine of the Stability Pact for South-East- The government is readyto provide sov- ern Europe in Bucharest, Romania, ereignguaranteesforfiveprojectsworth On December 7 the World Bank ap- in late October, pledged E2.4 billion about E370 million. Three of those provedthereleaseof$100millionas ($2.14 billion) for 27 infrastructure projects-and the bulk of the money- the second tranche of the Ukraine projects to improve transport links are slated for St. Petersburg. ProgrammaticAdjustment Loan, hav- and to fund energy and environment ing released the first tranche of $150 investments, with the latter focused The EBRD has invested E4 billion in million last September. The Bank's on water and waste management, as the Russian economy since 1991, statement points out that conditions well as to deepen economic integra- more than 80 percent of which has for the release of the latest tranche tion among the nations of southeast- TRANSI1I0N, October-November-December 2001 The World Bank/The AWilliam Davidson Institute © 2001 ern Europe in a new support pack- the conditions that stimulate private crossings, schools and health cen- age for the Balkans. sector development. ters, irrigation and flood protection works, drinking water systems and About half the financing will take the World Bank Regional Office sanitation, and electricity), also in form of loans from the large multilat- Opened in Zagreb the mountainous poor regions, help- eral lending institutions, with the rest ing 2.4 million people. including soft loans and grants. Ro- The World Bank Regional Office for mania, with $535 million, and Bulgaria, South Central Europe became op- In another development, on Novem- with $400 million, both negotiating en- erational as of November 12. This ber 21 the IMF Board approved the try into the European Union, will be Zagreb-based office covers the disbursement of $52 million to Viet- among the biggest recipients. The Bank's assistance programs in Bul- nam, the second tranche of a $368 Republic of Yugoslavia will obtain an- garia, Croatia, and Romania. The re- million loan to assist the country's other $400 million. Croatia and location of the regional office from reform efforts. "Vietnam has made Bosnia-Herzegovina can expect Washington, D.C. to Zagreb is part exceptional progress in reducing about $300 million each, while Alba- of the Bank's decentralization policy. poverty over the last decade," said nia is expected to secure about $250 "The Zagreb-based regional office al- Shigemitsu Sugisaki, deputy man- million. (The Balkan Stability Pact lows us to be closer to our clients aging director and acting chairman was formed after the 1999 Kosovo and to be more cost-effective in our of the IMF during an earlier visit to war with the goal of delivering regional operations. Also, we will better sup- Vietnam, and he praised the govern- peace and prosperity.) port steps toward European Union ment for its "sound macroeconomic accession of all three countries as management, which has kept eco- World Bank-IMF Paper Assesses well as respond to the Stability Pact nomic growth relatively robust and Economic Policies in Southeast initiatives in Southeast Europe," inflation low even in a difficult exter- Europe pointed outAndrew N. Vorkink, coun- nal environment." The IMF will pro- try director and head of the regional vide additional technical assistance The World Bank and the IMF pre- office. The Bank's portfolio in Bul- to the country's tax reform efforts. sented a paper to the conference garia, Croatia, and Romania is al- entitled Building Peace in Southeast most $5.5 billion. The World Bank's IFC Examines Russian Investments Europe: Macroeconomic Policies local offices in the three capitals, and Structural Reforms since the Sofia, Zagreb, and Bucharest, will be Peter Woicke, executive vice president Kosovo Conflict. The paper paints a maintained and will now report to the of the International Finance Corporation guardedly optimistic picture of the regional office in Zagreb. (IFC), visited Russia in October to ex- region's economic prospects de- amine planned funding projects worth spite the global economic slow- Vietnam Receives Assistance $300 million and assess an already down, which is projected to have a from World Bank and IMF existing loan portfolio of $1 billion. Ed- relatively modest impact on the re- ward Nassim, head of IFC's Moscow gion, although there will be consid- On November 6 the World Bank ap- office, said that IFC was optimistic erable variation across countries. proved two IDA credits for Vietnam. about business opportunities in Rus- Continued growth is important in A $110 million credit will support a sia,andthatithopedtogetbacktothe tackling two stubborn problems: pov- new project aimed at reducing pov- same level of lending as before the 1998 erty and unemployment. Gover- erty in northern mountainous areas. financialcrisis.lFCloanedvariouscom- nance remains a major weakness It will help build infrastructure and panies operating in Russia some $300 that undermines the capacity to provide basic education and health million in 1997, but curtailed its activi- implement reforms and enforce the care for about 1 million people, 85 ties dramatically in the wake of the law, and contributes to high levels percent of whom are ethnic minori- August 1998 debt default and ruble of organized crime and corruption. ties, in six northern provinces, the devaluation. IFC's net investments in- The paper warns that the record of poorest region of Vietnam. Another creased more than 14 percent to $2.73 attracting investment remains poor, $103 million will fund small grants to billion in the lastfiscal year, which ended which points to the need to further poor communities to replace old or June 30, 2001. Almost 40 percent of its improve the overall investment cli- build new infrastructure (including investments went to high-risk or low- mate and, more generally, to create roads, tracks, trails, bridges and ferry income countries. © 2001 The World Bank/The William Davidson Institute TRANSITION, October-November-December 2001 Conference Diary International Conference: Institu- the sometimes problematic consoli- economists from the Organisation for tional and Organizational Dy- dation of financial systems, and the Economic Co-operation and Devel- namics in the Post-Socialist restructuring of enterprises, former opment, the United Nations Univer- Transformation and new actors (nomenklatura, for- sity/World Institute for Development January 25-26, 2002, Amiens, eign investors, entrepreneurs, indus- Economics Research, the London France trial groups, banks, state agencies, Business School, the Russian and international organizations, employ- Hungarian Academy of Sciences, Organizers: Le Centre de recherche ees) participate in the redefinition and China's National Economic Re- sur l'industrie, les institutions et les sharing of power. They establish re- search Institute, and Poland's Leon * syst6mes economiques d'Amiens, lationships and devise organizational Kozminski Academy of Entrepre- the University of Picardie; and approaches that serve as laborato- neurship and Management. More in- Organisation et efficacite de la pro- ries for testing new rules and meth- formation about the conference, duction, University of Marne-la- ods of coordination. along with abstracts of the papers, Vallie, with the support of the is available on TIGER's web site at European Association of Compara- Analysis of the emergence, develop- http://www.tigeredu.pl. tive Economic Studies, the East- ment, and stabilization of the new West Network and the East-West organizational and institutional pat- Cultural Legacies of the Soviet Joumal of Economics and Business, terns can contribute to an under- Experience the Centre Interuniversitaire d'Etudes standing of the factors that influence April 26, 2002, Stanford University, Hongroises, and University La the growth pace of these economies, U.S.A. Sorbonne nouvelle. (Languages: En- their ability to create virtuous circles, glish some workshops in French.) their relationships with the advanced Sponsored by the Center for Russian Western economies (competitive- and East European Studies at Stanford Topics: Postsocialist transformation, ness, regional integration dynamics, University and the Institute of Slavic, including organizational, institutional, and the like), and their monetary and East European, and Eurasian Studies. and systemic approaches; the state financial strengths, along with the and the new social compromise; impediments to the transformation Information: University of California, monetary and financial institutional- process and the characteristics of Berkeley, Institute of Slavic, East Eu- ization; nature, boundaries of the firm, the late transition countries. ropean, and Eurasian Studies, 260 wJ0 and corporate governance; networks, Stephens Hall #2304, Berkeley Cali- b-Fr entrepreneurship, and industrial co- All papers accepted for presentation fomia 94720-2304, tel.: 510-642-3230, operation; institutional dynamics of will be published in a CD-ROM con- fax: 510-643-5045, email: iseees regional integration (European Union, ference proceedings. Selected pa- @uclink4.berkeley.edu, Internet: Far Eastern Asia); and organizational pers will be published in a special http://socrates.berkeleyedu/-iseees/ and institutional impact of foreign in- issue of the East-West Journal of vestment. Economics and Business. International Conference on Glo- balization and Catching Up in The transformation of former socialist Transformation, Integration, and Emerging Market Economies economies entailed new organiza- Globalization Economic Research May 16-17, 2002, Warsaw, Poland tional dynamics and the emergence March 14-15,2002, Warsaw, Poland of new institutions. Following the Members of TIGER's scientific advi- emergence of sometimes new, and The Transformation, Integration, and sory board from Chile, China, India, more or less stable, social forms, Globalization Economic Research Israel, Italy, Japan Hungary, Poland, these mechanisms of collective ac- (TIGER) economic think tank will hold Tanzania, Russia, and the United tion deeply influenced the specific di- the second round of an international States will discuss prospects, con- rection of the transition in different conference on the New Economy and ditions, and challenges for faster countries. After the redistribution of Old Problems: The Prospects for Fast economic growth of emerging mar- property rights, the implementation of Growth in Transition Economies. The ket economies. Douglas C. North, new legal and regulatoryframeworks, conference will feature almost 20 1993 Nobel Laureate in Economics, TRANSITION, October-November-December 2001 The World Bank/The William Davidson Institute © 2001 will deliver the conference's special Spatial inequality is a dimension of Information: Ravi Kanbur, Cornell lecture. More information about the overall inequality, but it has added University 309 Warren Hall, Ithaca, conference is available on http:// significance when spatial and re- NY 14853, U.S.A., fax: 607-255- www.tiger.edu.pl. gional divisions align with political 9984, email: sk145@cornell.edu. and ethnic tensions to undermine E CEPR/WDI Annual International social and political stability. Also 11th Conference of the Interna- Conference on Transition Eco- important in the policy debate is a tional Association for the Econom- i: nomics, Riga, June 27-30, 2002 perceived sense that increasing in- ics of Participation: Participation ternal spatial inequality is related to Worldwide Organizer: Baltic International Cen- greater openness of economies and July 4-6, 2002, Catholic University tre for Economic Policy Studies (BI- to globalization in general. of Brussels, Belgium CEPS). Despite these important popular and Conference themes: The biannual In- Call for Papers-Deadline Monday, policy concerns, remarkably little ternational Association for the Eco- February 25, 2002. systematic and coherent documen- nomics of Participation conferences tation of what has happened to spa- provide an international forum for pre- This call for papers invites you to tial and regional inequality over the senting and debating current re- submit a paper proposal for the An- past 10 to 20 years is available. Cor- search and scholarship on the nual International Conference on respondingly, understanding of the economics of participation. The ma- Transition Economics organized by determinants of internal spatial in- jor themes of the 2002 conference CEPR and WDI and hosted by SITE. equality in a globalizing world is in- will be the following: The Scientific Organizing Committee sufficient. for this conference consists of Erik 0 Development and combination of Berglof (SITE, Stockholm School of The conference seeks to attract con- forms of workers' participation around Economics, and CEPR), Gerard tributions that document and analyze the world Roland (ECARES, the Free Univer- within-country spatial inequality and sity of Brussels, CEPR, and WDI), its determinants, especially during 0 Theoretical and empirical studies and Jan Svejnar (William Davidson the increased globalization of the last on the economic and social effects Institute, University of Michigan, two decades. Itwilltakeabroadview of participation CERGE-EI, and CEPR). of inequality, covering the distribution of such variables as economic activ- * Workers' participation across bor- Request a submission and reply form ity, economic structure, population, ders, in a transnational and global from Jessica Mason at CEPR by email income, social indicators, infrastruc- context at jmason@cepr.org, or by fax on +44 ture, and public expenditure. While 20 7878 2999. All applications must the main focus is on the empirical 0 Employee participation and Eu- reach CEPR by Monday, February analysis of recent history, contribu- ropean Union enlargement 25, 2002. If you would like to submit a tions that conceptualize the mea- paper, please include a one-page ab- surement of spatial inequality or * Employee ownership in transition stract and copy of the paper with your analyze its evolution in a longer his- economies reply form. We will confirm your par- torical frame will also be considered. ticipation by the end of March 2002. 0 Workers' participation and social The papers presented at the confer- economy in developing countries Spatial Inequality and Develop- ence will be collected in a volume ment Conference edited by Professor Ravi Kanbur, 0 Workers' participation, social dia- June 27-29, 2002, London School Cornell University, and Professor logue, and civil society. of Economics, London, U.K. Tony Venables, London School of Economics, and published by a lead- Information Daniel Vaughan-White- Organizers: Cornell University, Lon- ing academic press. Decisions on head, Avenue du Pesage, 127, B- don School of Economics, and the papers accepted for presentation will 1050 Bruxelles, Belgium, email: World Institute for Development Eco- be communicated by the end of De- Daniel. Vaughan-Whitehead@cec. nomics Research. cember 2001. eu.int. c 2001 The World Bank/The William Davidson Institute TRANSITION, October-November-December 2001 New Books and Working Papers The Macroeconomics and Growth Group regrets that it is unable to provide the publications listed. Shahid Yusuf, Globalization and Roberto Rocha and Dimitri Vittas, Moscow oblast, St. Petersburg, and the Challenge for Developing Pension Reform in Hungary: A Leningrad oblast-that account for Countries, WPS 2618, June 2001, Preliminary Assessment, WPS only22percentofRussia'sGNPand 46 pp. 2631, July 2001, 29 pp. 13 percent of the population. Only To order: Shahid Yusuf, room MC3- To order: Lynn Gross, room H6-148, two of Russia's 85 other regions ac- 511, tel.: 202-458-2339, fax: 202-522- tel.: 202-473-7030, fax: 202-522- count for more than 2.5 percent of 1150, email: syusuf@worldbank.org. 0005, email: Igross@worldbank. the country's FDI, and most account for much less. Factors associated David Coady, Xinyi Dai, and Limin Hungary's pension reform package with market size, infrastructure de- Wang, Community Programs and has been largely successful, signifi- velopment, and the policy environ- Women's Participation: The Chi- cantly reducing imbalances in the ment seem to explain much of the nese Experience, WPS 2622, June pay-as-you-go system and the im- observed variation in FDI flows to dif- 2001, 37 pp. plicit pension debt while introducing a ferent regions in Russia. To order: Limin Wang, room MC5- mandatory, funded, privately-managed 208, tel.: 202-473-7596, fax: 202-522- pillar that seems to be operating fairly Harry G. Broadman and Francesca 1735, email: lwang1@worldbank.org. well despite initial problems in the Recanatini, Is Russia Restructur- payment and registration systems ing? New Evidence on Job Cre- Elena lanchovichina and Will Martin, and some regulatory weaknesses. ation and Destruction, WPS 2641, Trade Liberalization in China's Roughly half the labor force joined July 2001, 33 pp. Accession to the World Trade Or- the new system voluntarily. Most To order: Sandra Craig, room H4-166, ganization, WPS 2623, June 2001, who switched were younger than 40. tel.: 202-473-3160, fax: 202-522 35 pp. The voluntary switching strategy 2753, email: scraig@worldbank.org. To order: Lili Tabada, room MC3-333, achieves the same outcome as a tel.: 202-473-6896, fax: 202-522- forced switch based on an arbitrary Russia's labor market has taken few, 1159, email: Itabada@worldbank. cutoff age, while preventing legal limited steps toward becoming more problems and helping to reduce the flexible and competitive. Evidence Varun Gauri, Are Incentives Every- implicit pension debt. However, it from case studies-based on more thing? Payment Mechanisms for does leave a few individuals worse than 50 site visits in 2000-suggests Health Care Providers in Devel- off, a problem that a well-designed that jobs have been destroyed, but oping Countries, WPS 2624, June public information campaign could only to a limited degree in some sec- 2001, 20 pp. ease. tors and regions, largely because of To order: Hedy Sladovich, room MC2- institutional and incentive constraints 204, te/.: 202-473-7698, fax: 202-522- Harry G. Broadman and Francesca and a still widespread "socialist" cor- 1154, email: hsladovich@world Recanatini, Where Has All the For- porate culture. Jobs have been cre- bank.org. eign Investment Gone in Russia? ated-particularly in sectors where WPS 2640, July 2001, 29 pp. devaluation had the most pronounced George R. G. Clarke, Bridging the To order: Sandra Craig, room H4-166, effect on import substitution and ex- Digital Divide: How Enterprise tel.: 202-473-3160, fax: 202-522- port promotion-but only slowly, Ownership and Foreign Compe- 2753, email: scraig@worldbank.org. mostly because of the lack of skilled tition Affect Internet Access in workers and limited regional mobil- Eastern Europe and Central Asia, Not only has Russia had a poor ity. Labor turnover appears to be WPS 2629, July 2001, 27 pp. record of attracting foreign direct in- higher within regions than across To order: Paulina Sintim-Aboagye, vestment (FDI) since the advent of regions. Official data for 1996-99 room MC3-300, tel.: 202-473-7644, reform in the early 1990s, but close covering about 128,000 enterprises fa:x 202-522-1155, email: psintim to 60 percent of FDI goes to four nationwide indicate that the typical aboagye@worldbank.org. western regions-Moscow City, firm has experienced only modest TRANsirfoN, October-November-December 2001 The World Bank/The William Davidson Institute (0) 2001 downsizing in the number of employ- rapid and contributed significantly to Because of its worsening fiscal situ- ees: about 12 percent. Smaller firms growth and welfare. Considering ation, the Czech Republic has to have entered some sectors and China's need for an innovation-based undertake fiscal retrenchment, which larger, mature businesses have ex- knowledge economy, the recent de- would permit the expansion of pri- ited. Except for a lull in 1998, the clining rate of human capital accu- vate demand without putting undue rate of job creation has increased mulation is cause for concern, pressure on interest rates and/or on steadily and the rate of job destruc- Funding for basic education is un- the external current account. Adjust- tion has declined, dropping substan- evenly distributed and is insufficient ments should be made on the ex- tially in 1998-99. "Voluntary" worker in some poor regions. penditure side rather than on the separations remain the main-and revenue side. However, correcting growing-form of layoffs, and the pro- Shaohua Chen and Yan Wang, expenditure flows will present chal- portion of layoffs through redundan- China's Growth and Poverty Re- lenges in such areas as bank restruc- cies is shrinking, and now accounts duction: Trends between 1990 and turing, social protection, health, E for about 4 percent of total separa- 1999, WPS 2651, July 2001, 24 pp. education, transport, and housing. tions. To order: Agnes Datoloum, room J4- 259, tel.: 202-473-6334, fax: 202-676- Poland's Labor Market: The Chal- llkerDomag,KylePeters,andYevgeny 9810, email: adatoloum@world lenge of Job Creation, October Yuzefovich, Does the Exchange Rate bank.org. 2001, 96 pp. Regime Affect Macroeconomic Per- formance? Evidence from Transi- Graciela Kaminsky and Sergio World Bank Technical Papers tion Economies, WPS 2642, July Schmukler, Emerging Markets In- 2001, 65 pp. stability: Do Sovereign Ratings Carmela Martin, Francisco J. To order: Armanda Carcani, room H4- Affect Country Risk and Stock Velazquez, and Bernard Funck, Eu- 326, tel.: 202-473-0241, fax: 202-522- Returns? WPS 2678, September ropean Integration and Income 2755, email: acarcani@wortdbankorg. 2001, 34 pp. Convergence: Lessons for Cen- To order: Emily Khine, room MC3- tral and Eastern European Coun- Bartlomiej Kaminski and Beata K. 347, tel.: 202-473-7471, fax: 202-522- tries, Technical Paper 514, August Smarzynska, Foreign Direct In- 3518, email: kkhine@worldbank.org. 2001, 40 pp. vestment and Integration into Glo- bal Production and Distribution Paul Collier and Jan Dehn, Aid, Other World Bank Publications Networks: The Case of Poland, Shocks, and Growth, WPS 2688, WPS 2646, July 2001, 27 pp. October 2001, 21 pp. Yair Baranes and Ronald C. C. To order: Lili Tabada, room MC3- To order: Audrey Kitson-Walters, Cuming, The Albanian Collateral 333, tel.: 202-473-6896, fax: 202-522- room MC3-304, tel.: 202-473-3712, Law System Handbook, November 1159, email: Itabada@worldbank. fax: 202-522-1150, email: akitson 2001, 286 pp. walters@wortdbank. org. Yan Wang and Yudong Yao, Sources The Albanian economy clearly needs of China's Economic Growth, Jyotsna Jalan and Martin Ravallion, more access to development capital 1952-99: Incorporating Human Household Income Dynamics in if it is to progress and expand. Capital Accumulation, WPS 2650, Rural China, WPS 2706, Novem- Though international private and pub- July 2001, 24 pp. ber 2001, 28 pp. lic lenders can be of some assis- To order: Agnes Datoloum, room J4- To order: Catalina Cunanan, room tance, much of this capital must 259, tel.: 202-473-6334, fax: 202-676- MC3-542, tel.: 202-473-2301, fax: come from private domestic sources. 9810, email: adatoloum@world 202-522-1151, email: ccunanan However, those supplying it would bank.org. @worldbank.org. need some assurance that their loans or grants of credit would be Between 1978 and 1999, a period of World Bank Country Studies repaid. The state of the law is one of reform, the accumulation of human the most important factors in risk capital in China-as measured by Czech Republic: Enhancing the assessment and management. This average years of schooling for the Prospects for Growth with Fiscal book describes the Albanian col- population age 15 to 64-was quite Stability, October 2001, 120 pp. lateral law system and details,how ( 2001 The World Bank/The William Davidson Institute TRANS[TION, October-November-December 2001 recent changes in the law can facili- Zoltan Akos Kovacs, Saving, In- ity is essential for their economic 0 tate and encourage secured financ- vestment, and Growth: Catching- efficiency and growth rate. In con- ing in Albania. Up of Central and Eastern trast, the market transformation of European Countries to the EU, postsocialist economies and their E~ F. Carl J. Dahlman and Jean-Eric IR-01-040, September2001,64 pp. integration into the world economy :3 . Aubert, China and the Knowledge along capitalist lines is irreversible, ffi; Economy: Seizing the 21st Cen- TIGER (Warsaw, Poland) precisely because of globalization. C t tury, World Bank Institute Develop- Publications The transformation will soon be com- ment Study, October 2001, 200 pp. plete, unlike globalization, because Transformation, Integration, and Glo- the latter, as a dynamic, open-ended Merlinda Ingco and L. Alan Winters, balization Economic Research (TI- process, has no end, just as there (eds.), Agricultural Trade Liber- GER) is Poland's independent, is no end to socioeconomic devel- M alization in a New Trade Round: interdisciplinary economic think opment. Perspectives of Developing tank, founded in August 2000. TI- Countries and Transition Econo- GER is devoted to research of Stanislaw Flejterski, E-Finance and mies, World Bank Discussion Pa- postsocialist transformation in Cen- Macro-, Mezzo-, and Microeco- per 418, September 2001, 172 pp. tral and Eastem European countries, nomics: An Introduction to Costs the former Soviet Union, and Asia. and Benefits Analysis, WPS no. Jane Malme and Joan Youngman, Research topics also include Euro- 2, March 2001, 17 pp. (eds.), The Development of Prop- pean Union accession, as well as the erty Taxation in Economies in economic, social, and political ef- The phenomenon of "e-finance," just Transition: Case Studies from fects of globalization in emerging like the "new economy," "e-com- Central and Eastern Europe, Oc- market economies. merce," or "e-business," is at a na- tober 2001, 112 pp. scent stage. The current universal To order: Transformation, Integra- surge of globalization in the finan- Transition-The First Ten Years: tion, and Globalization of Economic cial sector has been sparked by a Analysis and Lessons for Eastern Research, ul. Jagiellonska 59, 03- combination of factors led by the Europe and the Former Soviet 301, Warsaw, Poland, tel.: 48-22- Americanization of the world sys- Union, November 2001, 150 pp. 519-2108, fax: 48-22-814-0870, tem. The process of e-finance is not email: tiger@tiger.edu.pl, Internet: a panacea in itself: it is a neces- World Development Report 2002: http://www.tiger.edu.pl. sary, but insufficient, mechanism Building Institutions for Markets, for development and growth. From a copublication of the World Bank Grzegorz W. Kolodko, Globaliza- the perspective of postcommunist and the Oxford University Press, tion and Transformation: Illusions countries, including Poland, the so- September 2001, 256 pp. and Reality, Working Paper Series called new economy, e-commerce, (WPS), no. 1, January 2001, 33 pp. e-business, e-finance, and so on International Institute for Ap- could pose a serious threat, del- plied Systems Analysis (IIASA) The globalization of economic rela- egating them to secondary, or even Publications tionships and the systemic transfor- marginal, status. However, under mation of postsocialist countries are certain circumstances they can To order: Schlossplatz 1, A-2361 inter-related processes and a char- also present tremendous opportu- Laxenburg, Austria, tel: +43 2236 807 acteristic of the turn of the century. nities. The Internet can become an 342, fax: +43 2236 71313, email: Globalization, that is, the institutional engine of economic growth in Po- publications@iiasa.ac.at, Internet: integration of national and regional land. The following are some of the http://www.iiasa.ac.at. markets into a single worldwide en- most important issues that coun- tity, is neither restricted to the last tries striving to lay the foundations Vladimir Benacek, The Generic few decades, nor is it, as yet, an ir- for a healthy e-economy should Private Sector in an Economy of reversible, let alone a complete, pro- consider: Transition: Developments and cess. Even in its most advanced form Impacts on the Czech Economy, it does not prevent nations from con- *Awareness and education-pro- IR-01-046, October 2001, 63 pp. ducting economic policy whose qual- moting high and ongoing interest in TRANSITION, October-November-December 2001 The World Bank/The William Davidson Institute v 2001 the Internet, as well as increased Laszl6 Csaba, Russia's Political Other Publications and growing computer literacy Economy 1, WPS no 11, June 2001, 11 pp. Paul Dax, J6zsef Fucks6, P6ter *Market economy-ensuring ethical Krajner, and Gabor Ungvari, Public competition, limited state intervention, Can Russia's recovery be sustainable? Grants and Private Investment in and the unobstructed transfer of If oil prices remain high, growth will Solid Waste Management-Alfold, goods and services across borders continue, albeit slowly. According to Hungary, Discussion Paper no. 19, United Nations statistics, Russia's Open Society Institute, 2001, 88 pp. OLegislative basics-introducing leg- GDP is still about two-thirds of its pre- To order: Open Society Institute, islation to eliminate limitations to 1989 level,thusthepotentialforquasi- Nador utca 11, H-1051 Budapest, Internet access and to regulate the automatic recovery is substantial. Slow Hungary, tel.: 361-327-3104, fax: 361- status of e-commerce and steady institutional improvements 327-3105, email: Igprog@osi.hu. are conceivable. A state dominated by *Telecommunications infrastruc- oligarchs may well be replaced by a The authors' research confirmed the ture-ensuring market competition system of oligarchs, nominated and hypothesis that, on the whole, gov- and transparent agreements regard- dominated by the state. Insider domi- ernment programs fostered inefficien- ing mutual access to networks nance continues to be an overriding cies in landfill development, both in characteristic of Russian capitalism. terms of cost effectiveness and loca- *Easy access to terminals-provid- tion pattern, and that the programs ing up-to-date technologies and If International Monetary Fund and have not been accompanied by over- cheaper and better consumer prod- World Bank involvement were the all modernization and enhancement ucts (new generation cell phones, dominant, or at least the most vis- of waste management services. The broadband services, and so on) ible, channels in the early 1990s, this government program, which favors period is clearly over. Russia is more small and poorer towns often in the *Suitable settlements systems- likely to be involved and included operating area of private landfills, ensuring the ready accessibly to and through such organizations as the cuts into the potential market of pri- safety of cash cards or e-wallets. Group of Eight, the Paris and Lon- vate operators and has inhibited the don Clubs, or KFOR. Membership regionalization of waste management. Witold Matecki, The Risk of Cur- in the World Trade Organization is rency Crisis in Poland, WPS no. an attainable target that may help Herman W. Hoen, (ed.), Good Gov- 3, March 2001, 20 pp. formalize reform measures, particu- ernance in Central and Eastern larly in the trade sector. Involvement Europe: The Puzzle of Capitalism Grzegorz Wojtowicz, Monetary in various organizations that define by Design, Edward Elgar Publish- Policy: Goals, Conditions, and good banking standards and fiscal, ing, September 2001, 168 pp. Limitations, WPS no. 4, April 2001, accounting, and disclosure practices To order: Edward Elgar Publishing 15 pp. may slowly, but steadily, help Rus- Inc., 136 West St., Suite 202, sian reformers to change the socio- Northampton, MA 01060-3711, tel.: Jan Woroniecki, New Economy: II- economic environment. 413-584-5551, fax: 413-584-9933, lusion or Reality? Doctrine, Prac- email: tgorvine@e-elgar.com. tice, and the OECD Perspective, Grzegorz W. Kolodko, 2025: Two WPS no 5, May 2001, 38 pp. Histories of Economic Growth, Kataryna Wolczuk, The Moulding WPS no. 12, September2001, 22 pp. of Ukraine-The Constitutional Marcin Piatkowski, Leveraged Politics of State Formation, Cen- Buyouts in Poland, WPS no. 7, Ewa Okon-Horodynska, Education tral European University Press, 2001, June 2001, 46 pp. and the Ability to Function in the 250 pp. Global System, WPS no. 13, Oc- To order: Plymbridge Distributors, Grzegorz W. Kolodko, The "New tober 2001, 19 pp. Ltd., Estover Road, Plymouth, Economy" and Old Problems: PL67PZ, United Kingdom, tel.: 44- Prospects for Fast Growth in Andrzej K. Kozminski, Masters and 1752-202301, fax: 44-1752-202333, Postsocialist Countries, WPS no. Craftsmen in Management, WPS email: orders@plymbridge.com, 9, June 2001, 19 pp. no. 14, November 2001, 18 pp. Internet:http://www.plymbridge.com. e 2001 The World Bank/The William Davidson Institute TRANSITION, October-November-December 2001 Subscribe to TRANSITION We appreciate the continuing T (ENGLISH VERSION) support of: T RANSITION If you are not currently on our sub- Bank of Finland Senior Editor: Richard Hirschler If oualist yourmay receiv . sb- InstaleforEconomiesinTransftion Room MC3-374 scription list you may receive TRAN- 4S eehn:224368 scription ~ ~ ~~~~~~'-'-' ~~~Telephone: 202-473-6982 SITION on a complimentary basis by Fax: 202-522-1152 writing to: RO. Box 160, FIN-0010 Helsinki Email: rhirschler@worldbank.org tel: 3589-183-2268, fax: 3589-183-2294 Production Manager: Jennifer Vito email: bofit@bof.fi Jennifer Vito The World Bank Internet: http:/Iwww.bof.filbofit Telephone: 202-473-7466 1818 H Street, N.W. 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The Website http:/www.icps.kiev.ua For Distribution Use Only opinions expressed are those of the W ebsite: hffp://www.lcps.kle For Distribution Use Only authorsandshould notbeattributed in any manner to the World Bank, to its Board of E::ecutive Directors, ortothe countries they represent. ©2001 The International Bank for If you would like to receive the Reconstruction and Development Chinese version of the Transition The World Bank Newsletter please write to: All rights reserved, Manufactured in the United States of America China Institute for Reform and Development (CIRD), Volume 12, Number 4 57 Renmin Rd., Haikou City, October-November-December 2001 Hainan, China Printed on recycled paper