The Concept Of Transition Has Evolved, - EBRD
The concept of transition has evolved,with increasing emphasis on thequality of institutions and the roleof the state. All countries in thetransition region continue to facechallenges, but these vary widely innature and magnitude. Some countriescompare favourably with non-transitionemerging markets in terms of businessenvironment, competition andmanagerial practices, while others,typically further east, lag behind.
Chapter 5Transition: where doesit stand and whereshould it go?Featured96 Transition to where?97 Business environment101 Management practices102 Box 5.1 Management practices in eastern Europeand Central Asia105 Competition107 Remaining transition challenges: a sector approach112 Conclusion114 Annex 5.1 Management, Organisationand Innovation (MOI) survey 95
Chapters 3 and 4 have analysed the key problems of economicdevelopment in the transition region in the last decade –managing economic integration, particularly financial integration,and maximising the benefits of commodity resources. Followingthe initial wave of privatisation, liberalisation and opening upthat began the process of transition to market economies in thefirst half of the 1990s, development “models” based on thesepolicies have transformed the economic structures of countriesin the region.1 This prompts several questions. How differentis the transition region to other countries at comparable levelsof economic prosperity? Are there major differences withinthe transition region in this regard? In which countries andsectors does the transition agenda remain incomplete?Most importantly, what should be the main priorities forfuture reforms?An initial appraisal was given in Chapter 1, using the EBRDtransition indicators. This chapter provides a more completeanalysis in three particular respects. First, it takes a broadview of transition objectives that emphasises not only marketmechanisms and private sector development, but also theinteraction between the state and the private sectors and therole and quality of state institutions. Second, as far as thedata allow, the analysis focuses on comparisons with countriesoutside the transition region. Lastly, and most importantly,the chapter draws on several new data sources and studiesat the sector and firm levels.The analysis begins with a summary of how the concept oftransition has evolved since the mid-1990s and what thisimplies for transition measurement. It then reviews transitionthrough four perspectives:– the latest (2008/09) Business Environment and EnterprisePerformance Survey (BEEPS IV), which the EBRD and WorldBank jointly undertake every three to four years– a new EBRD/World Bank survey of management practices– a sector-level comparison of competition across countries– a comprehensive analysis of remaining transition challengesacross 13 specific sectors.The concluding section considers whether the transition regionis still different to other countries at comparable stages ofdevelopment and indicates priorities for future reform.Transition to where?Since the early 1990s, the word “transition” has been usedto describe the evolution from a planned economy to a wellfunctioning market economy. In the light of the overwhelmingrole of the state at the start of the process, the questions ofwhat exactly constitutes a well-functioning market economyand what part the state should play in it were initially givenless attention. The imperatives were to reduce state ownershipand direct state intervention and to build market mechanisms.However, as the transition process and economic thoughtevolved, it became increasingly clear that this approach wastoo simplistic – to the point where it could be misleading asa yardstick for reforms – for two reasons.96Transition Report 2009First, moving from central planning to an “optimal” role of thestate is not just a matter of reducing state interference andcontrol but also involves developing certain state activities.Transition is not just (and perhaps not even primarily) about thesize of the state’s “footprint” in the economy but also aboutwhere and how the state treads – that is, what the state doesto affect economic outcomes and how it attempts to do so.The consensus in the early 1990s was that it was not thebusiness of the state to set prices or directly control orinterfere with production and allocation decisions. That remainsthe overwhelming view. However, in order to function properly,the private sector needs market-supporting public institutionsand policies.2 These include: a functioning legal system toenforce contractual obligations; regulation to deal with externaleffects and incentive problems; safety nets to allay concernsabout social cohesion; physical and intellectual property rightsprotection; and competition policy.Second, the quality of institutions emerged as a criticaldimension of transition. State institutions with similarobjectives – for example, enforcing laws, collecting taxes orsupervising the financial sector – can have vastly differentimpacts in terms of their effectiveness (whether laws areactually enforced and taxes collected) and the burden thatstate activities impose on the private sector. The effectivenessof institutions depends on two factors: technical capacity,which is related to information and human capital, andincentives. The latter will depend not only on the designof economic institutions but also on the political structureand on complementary civil society institutions that promotetransparency and accountability.The quality dimension is also important with respect tonon-state institutions. Markets do not function well if theyare not competitive or there are barriers to entry. Corporationsdo not function well if corporate governance is poor andminority investors are not protected. In large part, thesequality differences are driven by the presence (or absence)and effectiveness of supporting state institutions, such aslegal frameworks and competition authorities. However, thefunctioning of market institutions may also depend on suchfactors as values, attitudes and practices. Unwritten rules –for example, on what constitutes acceptable behaviourwithin a firm or in the political arena by governmentofficials – may be as important in practice as explicit rules.Transition should therefore be about redefining the state asopposed to simply minimising it, and about improving thequality of state and private institutions and ensuring thatthey work well together. Defining transition in this way posessignificant challenges – or rather it makes challenges thatare hidden in simpler definitions of transition explicit.– If the objective is to redefine the role of the state ratherthan simply maximise the scope of private activity, theremust be a clear idea of what that role should be. Beyondsome general principles (identified previously), this is likelyto be possible mainly at the level of specific sectors.–E ven at the sector level, it will rarely be possible to definea uniquely “optimal” role of the state. This is due partly todifferences in political cultures and traditions. In addition,the desirable role of the state could depend on the qualityof state and market institutions. For example, poor stateperformance in the provision of certain public goodscould be an argument for a greater private sector input.Conversely, lack of competition or high barriers to entrycould justify a temporarily greater or more heavy-handedrole of the state in certain markets.
These challenges both confront a policy-maker who is weighingreforms and complicate any attempt to take stock of transition.The following analysis tries to address them in three ways: bycharacterising two critical dimensions of institutional quality –the business environment and the quality of managerialpractices – that cut across sectors; by taking the analysis tothe sector level, focusing on competition, market structure andinstitutions; and by accommodating a range of visions of whatthe sector-level goal of transition should be. Together, thesebuilding blocks give a reasonably complete and consistentpicture of the status of transition and the challenges ahead.In addition, owners or managers were given a list of 15different obstacles in the business environment and askedto identify the biggest one faced by their firm.Table 5.1 presents the average score for the 15 obstaclesfor the whole transition region, as well as for the subregions(including Russia and Turkey). It also shows the percentage offirms that considered a given obstacle as the “most serious”facing their operations (using the same regional breakdown).Three obstacles stand out for the region as a whole and acrossalmost all subregions. Tax rates is the only obstacle with anaverage score above 2.0, and also ranks highest among the“most serious” obstacles. While it is not surprising thatbusinesses complain about taxes being too high, it is strikingthat this outweighs any other obstacle in importance. Politicalinstability is the next highest ranked obstacle according toaverage score. Unsurprisingly, this features in countries suchas Bosnia and Herzegovina, Georgia, Serbia, Turkey andUkraine, but also in some less likely countries such asHungary and Lithuania. The subregion that emphasises politicalinstability the least is Central Asia, which perhaps reflects theauthoritarian nature of the prevailing regimes. Access to financeis also a significant obstacle, with almost 15 per cent of firmsidentifying it as their biggest problem – even though most firmswere surveyed before the full effects of the global financialcrisis were felt.Business environmentOne way in which the state can enable markets to functionproperly is by creating a favourable business environment.To understand how far the transition region has come in thisrespect, and where it stands compared to other countries, thissection presents the main results of the BEEPS IV – a surveyof perceptions and enterprise operations based on face-toface interviews with the owners or senior managers ofrandomly chosen companies.3 Comparisons are drawn withearlier rounds of the survey and with similar recent surveyscarried out elsewhere.Main obstaclesThe main purpose of the BEEPS is to identify problems thataffect the operations of enterprises. Many questions in thesurvey asked respondents to rate the severity of differentobstacles to doing business on a five-point scale – 0 (noobstacle), 1 (minor obstacle), 2 (moderate obstacle), 3 (majorobstacle) or 4 (very severe obstacle) – thereby allowing theconstruction of simple averages across firms for each obstacle.In other cases, there are larger differences in obstacle ratingsacross countries and subregions. For the transition region asa whole, corruption is viewed as fairly serious (1.8), but moreso in Russia (2.2) than in CEB (central Europe and the Balticstates – 1.4). Only in Russia did more than 10 per cent ofrespondents regard corruption as the “most serious” obstacle.4Table 5.1BEEPS IV (2008/09) summary results, by regionAverage obstacle scoreAll transitioncountriesCEBSEEEECAccess to finance1.51.31.6Access to land1.20.9Business licensing and permits1.3Corruption1.8Crime, theft and disorder1.41.3Customs and trade regulations0.90.6Per cent identifying constraint as “most serious”RussiaCentralAsiaTurkeyAll 72.01.91.12.93.51.62.12.06.73.0Functioning of the 2Inadequately educated .19.1Labour 2.0Political 3.017.5Practices of competitors(informal .7Tax 6.00.3Tax .21.1Source: BEEPS IV.Transition: where does it stand and where should it go? 97
In contrast, competition from the informal sector is viewed as arelatively minor problem in Russia but as more serious in mostother regions. An inadequately educated workforce is perceivedas a major problem in countries that have grown rapidly inrecent years, such as Estonia, Romania and Russia.5For most obstacles – access to finance, access to land,business licensing and permits, corruption, crime, theft anddisorder, electricity, functioning of the judiciary, workforceeducation and transport infrastructure – Russia, easternEurope and the Caucasus (EEC) and Central Asia tend to havehigher average obstacle scores than CEB and south-easternEurope (SEE). This finding is likely to reflect broad differencesin the quality of infrastructure and institutions rather thandifferences in the importance that firms attach to particularobstacles. This is confirmed by more objective measures ofbusiness obstacles, based on the BEEPS itself 6 and on theWorld Bank’s Doing Business survey (some of the indicatorsin which overlap conceptually with the BEEPS).7Comparison over timeHow have perceptions of obstacles to doing business changedover time? Chart 5.1 shows how responses to 11 businessenvironment elements have changed on average since 1999by plotting the percentage of firms in the latest and previousBEEPS rounds that reported a non-zero score for each obstacle– that is, those seeing the problem as being of at leastminor importance for their operations.8 Three interestingfindings emerge.First, there are several categories – access to finance,customs and trade regulations and tax administration –where there appears to be an improvement between 1999 andnow. Second, some obstacles such as corruption, functioningof the judiciary and labour regulations are still more or lessat the level of 1999. Lastly, perceived obstacles related toinfrastructure – transport, telecommunications and electricity –significantly increased in the latest round compared to theprevious two rounds.9The infrastructure findings may seem surprising, as the EBRDinfrastructure reform indicators suggest that there has beencontinued progress in these areas in recent years (see thetransition scores in the country assessments from page 130).However, a heightened perception of problems could be anChart 5.1Perceptions of selected business obstaclesindication of a growing economy where firms wishing to expandtheir operations have run into difficulties that were not bindingconstraints beforehand. Given the strong growth that thetransition region experienced between 2005 and early 2009,it is likely that the demands on infrastructure services grewmore rapidly than the supply (even when improving) could copewith.10 This demonstrates the need for continued investmentand upgrading of these services across the board.Comparison across countriesIn recent years the World Bank (sometimes in collaborationwith other international organisations) has sponsored a widerange of Enterprise Surveys around the world. These differ tosome extent from the BEEPS, and the timing also varies acrosscountries. However, there is sufficient overlap to allow somecomparison to be made about how perceptions of thebusiness climate differ between the transition regionand other emerging markets.Is the business environment worse in the transition region thanin other regions of similar gross domestic product (GDP) percapita? Indicators based on subjective perceptions are notwell suited to answer this question, as there may be systematicdifferences in the propensity of firms to report obstaclesacross countries.11 Nonetheless, it is possible to come up witha worldwide ranking by constructing an average obstacle scorefor each country. This suggests that the transition group isnot very different, on average, from non-transition developingcountries. However, the variation within the transition groupis very wide.12 If the transition countries are separated alonggeographical lines into CEB, SEE and Turkey on one hand andEEC, Russia and Central Asia (EEC R CA) on the other, it turnsout that there are statistically significant differences acrossthese two groups. On average, business obstacles in theformer are as low as, or lower than, in any other developingcountry region, while in the latter they are higher than in mostregions (see Table 5.2).Aside from the overall rankings, does the nature of perceivedbusiness obstacles still differ between the transition regionand non-transition countries? Charts 5.2a and 5.2b plotcountry mean obstacle scores against purchasing poweradjusted per capita income for eight selected obstaclecategories. Transition and non-transition countries are coloureddifferently and each group is fitted with a line which shows theTable 5.2BEEPS rankings and mean obstacle score,by country groupAccess to financeBusiness licence/permitsNumber ofcountriesMean rankCEB SEE Turkey17331.27EEC Russia Central Asia12491.50GroupCorruptionCustoms and trade regulationsElectricityFunctioning of the judiciaryLabour regulationsTax administrationLatin America14501.50Africa27331.29Other8441.47Tax age of firms reporting in 11 fields60708090 1999 2002 2005 2008/09Sources: BEEPS I, II, III and IV.Note: BEEPS I, which was administered in 1999, did not include separate questions on electricity,telecommunications and transport, but rather a single question on infrastructure as a businessobstacle. Sample average for firms reporting minor to major obstacles for infrastructure was60 per cent in this round of the survey.98Transition Report 2009Mean score100Source: BEEPS IV survey.Note: “Other” consists of a group of Asian and Middle Eastern countries.
Chart 5.2aBusiness obstacles: comparison between transition and non-transition countriesComparison with all transition countriesComparison with EEC R CA1. Tax ratesAverage obstacle3.5Average 05,000GDP/cap P/cap 00010,00012,00014,00016,00018,0002. Access to financeAverage obstacle3.5Average 05,000GDP/cap P/cap PPP3. Political instabilityAverage obstacle4.0Average 0GDP/cap PPP02,000GDP/cap PPP4. Competitors in the informal sectorAverage obstacle3.0Average GDP/cap PPP10,00015,00020,000 Non-transition countries Transition countries Linear (Non-transition countries) Linear (Transition countries)Sources: BEEPS IV and Enterprise Surveys.25,00030,00035,0000.002,000GDP/cap PPP Non-transition countries EEC R CA Linear (Non-transition countries) Linear (EEC R CA)Transition: where does it stand and where should it go? 99
Chart 5.2bBusiness obstacles: comparison between transition and non-transition countriesComparison with all transition countriesComparison with EEC R CA1. Functioning of the judiciaryAverage obstacle2.5Average p P/cap 00010,00012,00014,00016,0002. CrimeAverage obstacle2.5Average p P/cap PPP3. Business licences and permitsAverage obstacle2.5Average obstacle2.02.01.51.51.01.00.50.50.005,000GDP/cap 0GDP/cap PPP4. CorruptionAverage obstacle3.5Average 05,000GDP/cap PPP10,00015,00020,000 Non-transition countries Transition countries Linear (Non-transition countries) Linear (Transition countries)Sources: BEEPS IV and Enterprise Surveys.100Transition Report 200925,00030,00035,0000.002,000GDP/cap PPP Non-transition countries EEC R CA Linear (Non-transition countries) Linear (EEC R CA)18,000
relationship between the obstacle score and per capita income.If the obstacle plays a bigger role in the transition region, theline fitted to the transition group will be shifted up from thenon-transition line. In the light of the results in Tables 5.1 and5.2, comparisons with non-transition countries are shown forthe entire transition group in BEEPS IV – left-hand column –and for EEC R CA only – right-hand column.Two facts are worth noting at the outset. First, as expected,the dispersion within the transition economy group is generallyquite high – for the most part as high as, or higher than, thedispersion within the 45 non-transition developing countriesin the sample. Second, in the transition group as a whole theaverage obstacle scores are generally negatively correlatedwith per capita income, although this relationship is reversedin the EEC R CA group. Richer countries in this group tendto have higher perceived business obstacles. One possibleinterpretation for this is that the richer EEC R CA countriesare large commodity exporters, which tend to have weakerinstitutions (see Chapter 4).Chart 5.2a plots four categories of business obstaclesscores – tax rates, access to finance, political instability andcompetitors in the informal sector – for which there is nostatistically significant difference between the non-transitionand transition groups (either as a whole or just EEC R CA).(The same is true for the categories of transport, customsand trade regulations and tax administration, which are notshown in the chart.) This suggests that in some areas thatreflected high state interference – particularly tax rates, taxadministration and customs and trade regulations – thetransition region has indeed converged. Tax rates continueto receive a higher average obstacle score in the transitionregion, particularly in EEC R CA, but the difference is nolonger statistically significant.Chart 5.2b shows four categories for which there arestatistically significant differences with respect to nontransition countries. In the functioning of the judiciary andcrime categories this is true for the comparison with thetransition group as a whole, but the chart indicates thatthe differences are driven by higher obstacles in the poorertransition countries, and particularly in EEC R CA. (The samepattern arises for the telecommunications, access to land andworkforce education categories, which are not shown on thechart.) In the case of business licences and permits, only theEEC R CA group does significantly worse, on average, thannon-transition economies. Lastly, the transition region overallscores significantly better than the non-transition sample oncorruption but there is no statistical difference between thenon-transition group and EEC R CA. The same is true forelectricity as an obstacle (not shown on the chart).To conclude, for the transition region as a whole, the businessenvironment appears to be no worse than in other developingcountries. However, there is large heterogeneity withinthe region. CEB countries tend to have a better businessenvironment than other emerging market regions, while Russiaand countries in EEC and Central Asia tend to have weakerenvironments (despite their lower per capita incomes). In somecategories – such as access to land, some infrastructureconstraints and workforce education – comparatively highaverage obstacle scores are a new phenomenon and are likelyto reflect fast recent growth rather than the legacy of centralplanning. For the most part, however, the weaknesses are inareas in which the transition economies have traditionallylagged, and in which the EEC R CA countries continue to lag.Management practicesThe previous section has focused on the environment thatfirms face in their daily operations – but how well are firmsmanaged and organised in the transition region and howdo they compare in this respect to firms in non-transitioncountries? Recent research suggests that managementpractices are strongly associated with firm performance.A study of 7,000 medium-sized manufacturing firms acrossAsia, Europe, North and South America found that there arelarge differences in management practices across firms as wellas countries, and that these practices are strongly associatedwith firm-level productivity and other performance measuressuch as profitability and survival rates.13 The United Stateshad the best overall management practices, although Germany,Japan and Sweden did better in operations management.Multinational firms tended to be run well everywhere, even indeveloping countries. Importantly, differences in managementpractices were found to be larger between firms in the samecountry than across countries, suggesting that firm- andsector-specific factors are at least as important as the generalbusiness environment in shaping managerial performance.Differences in management practices were found to be relatedto competition, labour market flexibility, education and alsoownership structure (with dispersed ownership beingassociated with better performance than state- orfamily-run firms).This section reports on the results of a new Management,Organisation and Innovation (MOI) survey that applies this lineof research to transition economies for the first time. Thesurvey focused on practices in four core management areas –operations, monitoring, targets and incentives (see Annex 5.1)– conducting 1,669 face-to-face interviews with factorymanagers in 10 transition countries (Belarus, Bulgaria,Kazakhstan, Lithuania, Poland, Romania, Russia, Serbia,Ukraine and Uzbekistan) as well as Germany as an advancedcountry benchmark. It therefore covered a geographicallydiverse sample that includes the largest transition countries,with a wide variation in transition progress.Transition: where does it stand and where should it go? 101
Box 5.1Management practices in eastern Europe and Central AsiaTo estimate how firm management practices relate toperformance in the MOI survey sample, the followingfirm-level production function has been estimated:yitc αl litc αk kitc αn nitc βMi γZ itc uitcwhere y is the natural logarithm of sales, l the naturallogarithm of labour, k the natural logarithm of capital, and nthe natural logarithm of intermediate inputs (materials) of firmi in country c at time t. The Zs are a number of other controlsthat will affect productivity, such as workforce characteristics(employees with a completed university degree and theaverage weekly hours worked), firm characteristics (firmage and whether it is listed on the stock market), a setof three-digit industry dummies and country-year (or onlycountry) dummies.M is the variable of interest and represents averagemanagement quality. It is calculated based on a scoringof each of 13 individual management practices, averagedover the variables included in each of the four core areasof management practices, and finally averaged over thesefour areas (see Annex 5.1 for details).Table 5.1.1 summarises the findings. Column 1 reports anOLS specification with only labour, three-digit industry andcountry*time dummies as controls. The management scoreis strongly and statistically significantly associated withhigher labour productivity. The magnitude of the effect iscomparable with the one reported in previous research.14Adding further controls, such as workforce and firm andinterviewer characteristics, reduces the coefficient onlyslightly (column 2). Adding a measure of materials in column4 almost halves the management coefficient, along withreducing the sample size, but it remains statistically andeconomically significant. An improvement in an average firm’smanagement practices from the mid-point (or median) to thetop 10 per cent is associated with an increase in productivityof between 6.9 per cent (column 4) and 18.3 per cent(column 1).15Better management practices are also positively andsignificantly associated with the likelihood both of introducingnew products or services (column 6) and of incidence ofspending on research and development (R&D – column 7).Nonetheless, little or no evidence was found of a linkbetween management practices and either the percentage ofannual sales accounted for by new products and services, orthe amount of R&D spending (results not shown). This couldpossibly reflect greater measurement error in these variables,which are harder for the manager to estimate than incidence.Table 5.1.1Firm performance and management practices1234567Estimation AllAllAllDependent Ln(Y)SalesNew productsin lastthree years?Research anddevelopmentactivities in 2007?Management .0112)0.0709***(0.0123)Ln(L) 0.0236)YesNoNoLn(K) Capital0.4939***(0.0271)Ln(N) MaterialsCountry*time effectsYesYesYesCountry effectsNoNoNoNoNoYesYesIndustry effectsYesYesYesYesYesYesYesFirm 1,405Source: Estimations based on MOI survey.Note: *** - significant at 1 per cent level, ** - significant at 5 per cent level, * - significant at10 pe
outside the transition region. Lastly, and most importantly, the chapter draws on several new data sources and studies at the sector and firm levels. The analysis begins with a summary of how the concept of transition has evolved since the mid-1990s and what this implies for transition measurement. It then reviews transition
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