Divergent Paths in Post-Communist Transformation

On 9 November 1989 the Berlin Wall fell, marking the end of the communist experiment and the beginning of the end of the Soviet Empire. This was widely considered as a momentous historical event, not only because it was so unexpected, but because it symbolized an end to the Cold War, the freeing of several hundred million individuals from an authoritarian state which had kept them closed off from the rest of the world, and a liberation of private economic initiatives from the constraints of the socialist central-planning regime. People around the world joined in welcoming citizens of the Socialist bloc, and euphoria would not be an exaggerated characterization of the latter’s emotional state. However, the immediate impact was not yet clear, as liberation from socialism would be implemented at varying speed for different countries over the next few years. In particular, for the individual Republics of the Soviet Union, the political independence they sought was by no means assured in November 1989. But the direction of change was assumed by all to be greater openness and freedom — personal, political and economic. The subject of this book is to review how far such changes have gone in 15 years, and to explain why some countries have progressed more, others less.

When the World Bank undertook what was perhaps the first retrospective review of the transition process in 1996, the economics literature on transition alone was enough to result in a ‘Selective Bibliography’ exceeding 700 items. Given the lead time for academic research it is not surprising that the subsequent years led to an explosion of writings; a June 2004 internet search under ‘post-communist transition’ produced an impossible 50,000 + items, and even a narrower academic works search at the University of Toronto library yielded over a hundred books, and thousands of journal articles. Anything approaching a comprehensive review has become nearly impossible, thus the aim of this chapter is much more modest but hopefully more usefully focused. On the basis of about 10 recent economic studies by recognized experts and institutions reviewing or assessing transition progress and performance, I will summarize briefly a few of the most important debates in the 1990s, and then draw attention to a handful of the most important issues looking forward. It turns out that how privatization was accomplished (regardless of how it was planned) provides an excellent link between past debates and future issues.

There is a broad consensus amongst experts that Central Europe and the Baltics have progressed much further towards a market economy than have countries of the Commonwealth of Independent States (CIS); and that of the latter, Belarus, Turkmenistan and, arguably, Uzbekistan have not changed much. Such a view is also widely held by the citizens of these countries. While such broad judgments are probably correct, for analytical purposes it is surely better to have a more rigorous, objective measure of transition progress. Unfortunately, there can be no single measure of a country’s progress along this path since transformation from a centrally-planned economy with state ownership to a market economy with private ownership involves more than changes in economic arrangements, and encompasses political, social and — as is increasingly recognized — institutional changes.

Experience in developing countries of adjustment to macroeconomic imbalances and price distortions showed that some short-run costs were inevitable before improvements came. This accords with the economic theory of market equilibrium, that before investors, producers and consumers can react optimally, they need to have equilibrium price signals, but these come only after some period of trial and error. During this period there may be severe welfare costs as restructuring and reduced government support result in job losses, cuts in social services and a widening of income distribution differences. This was expected, but what was not predictable in advance was the magnitude of these costs, their burden on different groups, and their duration. This chapter will present the best available information on such costs over the period 1989 to about 2003–04. The main findings are three. First, these costs occurred in all countries and their magnitude ranged from significant to enormous. Second, the evidence also shows that many early assessments overstated the costs, partially because they were done too soon, at the mid-1990s bottom of the transition recession, and partly because of data biases. Third, the evidence shows these costs varied considerably across countries, with the faster reformers experiencing much lower negative effects, and over time even with lagging reformers having generally bottomed out about 1995 and reversed direction.

When the Berlin Wall fell on 9 November 1989, the euphoria of the satellite countries was palpable, and the rejoicing at the opening of prison gates for millions of repressed people was shared by the population of the non-communist world, particularly in Europe. In the USA, to sympathy was added a strong dose of victorious pride, since Americans saw this as an act of capitulation to President Reagan’s challenge, ‘Mr. Gorbachev, tear down this wall!’ The citizens of the Soviet Union remained uncertain of their fate for another two years until the convulsive events of mid-August 1991 first brought the putsch of anti-Gorbachevites, then within a week of almost vaudevillian dynamics, its termination, ‘not in a bang but in a whimper’. Declarations of independence followed in a flood from all republics including de facto Russia, most of them preceding the formal dissolution of the USSR in mid-December 1991. The euphoria had now spread to the whole of the Soviet bloc, and was virtually universal save perhaps for some high-ranking members of the nomenklatura who faced an uncertain future.¹

All but a handful of the post-communist countries have experienced a substantial increase in the role of private-sector activity, which means a lot of new capitalists are now active in these economies, many with small enterprises, but a few owning and controlling vast amounts of industrial, financial and even agricultural assets. The term oligarch is now almost universally used to describe these few whose holdings are estimated to have values in the billions of dollars, and unsurprisingly they attract the greatest attention of popular and academic commentary. Popular interest in the notoriety surrounding oligarchs is not simply following the lives of ‘the rich and famous’. Taras in Sumy, Ukraine, reading complex accounts in Post-Postup of how 30-plus Rinat Akhmetov became a multi billionaire, is not to be equated with Arthur of Eau Claire, USA, absorbing all the juicy details in People magazine about Brad Pitt’s latest off-screen romance. Akhmetov’s past and future dealings doubtless have far greater impact on the well-being of Taras and his family than do Pitt’s twists and turns on Arthur’s life, and they both know this. Serious analysis of such oligarchs in the post-communist region has, in fact, great importance not only in understanding this episode in history, but also in countries where they have become politically powerful it is essential for a proper perspective into the future. The goal of this chapter is to elucidate the evolution of this new capitalist class, to understand what conditions during the transition nurtured the evolution of such great concentrations of ownership, to investigate who they are and who they were in the Soviet period, and finally to make clear why the term is more typically applied to countries in the CIS group and less so, if at all, in Central Europe.¹

The Community has taken the necessary decisions to strengthen its co-operation … with States which intend their founding principles to be democracy pluralism and the rule-of-law. It … will continue its examination of the appropriate forms of Association with the countries which are pursuing the path of economic and political reform. (Statement of the EU Strasbourg Summit, 12 December 1989)¹

Was the above an invitation to EU membership for the countries to the east of the Berlin Wall? Of course it was, albeit its terms were already a bit more guarded and constrained than earlier political statements welcoming these countries and calling for new initiatives to respond to their needs. Thus, for example, Chancellor Kohl insisted at the G-7 Summit in June 1990 on including a reference to East European integration and more concretely: ‘to ask the European Commission to take the necessary initiatives … and to associate … all interested countries’. The Commission’s first response was to establish the PHARE programme of economic assistance to Central Europe, but it then went further, preparing the Strasbourg Statement cited above. As a good bureaucracy with the duty of reining in the flourishes of politicians, the Commission enshrined in the Strasbourg Statement an initial cautionary principle: ‘the legal basis of forthcoming negotiations was to be Article 238 (Association); not Article 237 (Accesssion) as many East European governments had hoped’.²

The 27 post-communist countries have diverged considerably in their progress towards open markets and democracy, but the two dimensions which have perhaps the greatest implication for future prospects are the degree of oligarchic development and the potential for EU membership. These dimensions in fact overlap closely. One group in Central Europe, the Baltics and some of South-East Europe have either already achieved membership as of May 2004, or are in the process of negotiating accession in the near future. Most of them overcame strong rent-seeking and state-capture risks early on, while others like Bulgaria, Croatia and Romania are well on the way to reversing such effects. The transformation in these countries is for all practical purposes complete, any final refinements of market and democratic institutions being more or less assured as EU standards kick in. Their future economic problems are those of middle-income emerging-market economies, plus all that is associated with working in a new enlarged EU. The remaining countries in South-East Europe have been provided a conditional offer from the EU without a clear time-horizon, and while they face the challenge of continuing to move forward in their transformation reducing any remaining state-capture elements, they do this with a strong beacon to motivate the political consensus and the clear guidelines of the Acquis. For them the transformation is not over by any means, but the light at the end of the tunnel is strong and almost certain to grow stronger year by year.