Building Market Institutions in South Eastern Europe - An Overview


Albania, Bosnia and Herzegovina, Bulgaria, Croatia, the former Yugoslav Republic of Macedonia, Moldova, Romania, and Serbia and Montenegro have emerged from the communist era to face the social and political challenges of making an economic transition, building market institutions, and enacting wide-ranging policy reforms to promote private sector development and investment. The eight countries of South Eastern Europe (SEE8) trail their Western European neighbors in income and in other measures of development, but the differences among the SEE8 are as striking as their similarities.

Already a functioning market economy in the eyes of the European Union (EU), Bulgaria has made progress in overcoming the legacy of inefficient socialist economic practices and has avoided tumultuous political revolutions. Romania's record of economic reform is somewhat weaker but not far behind. Both countries aspire to join the European Union in 2007. From the relative prosperity of Josip Broz Tito's time, Yugoslavia's economy was severely undermined in the 1990s by civil wars that split the country and disintegrated its industries and infrastructure. Bosnia and Herzegovina, Croatia, FYR Macedonia, and Serbia and Montenegro all bear the scars of war. Albania and Moldova, like most of the former Yugoslav republics, are challenged today by poor infrastructure, high rates of poverty, political fragility, and economic isolation-problems that also affect the rest of the SEE8 to varying degrees.

Building Market Institutions in South Eastern Europe examines how the countries of the region are developing, how well the good intentions and policy reforms of their governments have been translated into results, and where the process can be effectively improved. The book assesses the progress under way and offers recommendations on how best to retool production and commerce while improving the capacity of institutions to regulate markets and deliver public services.

This study is based in reality, integrating and analyzing data and perceptions from a set of 40 original enterprise-level business case studies, which were carried out in each of the eight countries in 2002, and from the two rounds of the European Bank for Reconstruction and Development (EBRD)-World Bank Business Environment and Enterprise Performance Survey conducted in 1999 (BEEPS1) and 2002 (BEEPS2), which covered approximately 1,600 firms in South Eastern Europe (SEE). The surveys complement traditional, official data from SEE8 governments, providing a deeper, qualitative assessment of the characteristics, trends, and relationships among economic and government institutions and the enterprise sector. They also provide results that challenge the conventional wisdom and assumptions.

This book starts from the premise that further development and reform of basic market institutions in SEE are the key to increasing domestic and foreign investment and, thus, to accelerating economic growth and reducing poverty. Although the economic recovery of the region has started, it will stall unless greater progress is made in the institutional environment for investment. Improving the investment environment also is essential to the integration of the SEE8 into the European structures. These two mutually reinforcing objectives-accelerating growth and reducing poverty, on the one hand, and integrating with Europe, on the other-are critical to achieving long-lasting peace and prosperity for all people of the region.

The objective of the study is to assess, empirically and in detail, the nature and extent of the institutional constraints to improving the environment for investment in the SEE8 and to develop policy recommendations to ease those constraints. The book focuses on four policy areas:

  1. Competition and economic barriers to business entry and exit

  2. Access to regulated utilities and services

  3. Corporate ownership, financial transparency, and access to finance

  4. Commercial dispute resolution

Institutional aspects of the South Eastern European economy and background on the scope and methodology of the study are presented in chapter 1. Institutional reform to date and remaining challenges are the topics of chapter 2. Chapter 3 deals with interenterprise competition and the conditions that hamper or promote it. Chapter 4 covers access to regulated infrastructure utilities and resources and their effect on enterprise development and better public service. Corporate ownership, financial transparency, and access to finance are the subjects of chapter 5, which also explores how those issues are linked to successful market development, investment, and business growth. Chapter 6 examines changes in courts and legal systems aimed at creating a healthy environment for effective business dispute resolution.

Seizing a Historic Opportunity for Growth

South Eastern Europe's dramatic transition from command economies to market structures is occurring alongside a similarly ambitious effort to restore peace and social stability in a region traumatized by ethnic strife. Success in both arenas depends on market institutions that encourage investment and growth by facilitating commerce, enhancing job creation and poverty reduction, and integrating the region's domestic markets with the world economy.

The 1990s were characterized by dramatic collapses of output in SEE. Economic stability, when achieved, was backed by subsidies to the state-owned industrial sector or by extensive borrowing from abroad. By 2001, the region had reached only 74 percent of its pretransition (1989) level of economic activity. In comparison, the five most developed Central European transition economies (the Czech Republic, Hungary, Poland, the Slovak Republic, and Slovenia) had increased their combined output to 115 percent of 1989 levels.

South Eastern Europe has now recovered from the recession of the 1990s. The region as a whole grew by 4.2 percent in 2002-faster than the 2.5 percent growth rate of the world economy-and by 3.5 percent in 2003. The region's economic rebound has been fueled primarily by private activity, which by 2001 was generating more than half of total output across the SEE8. In most countries in the region, privatization of small and medium-size enterprises has been completed. At the same time, the role of foreign aid and loans has declined even in the western Balkan states, where it constituted 7 percent of the five countries' gross domestic product (GDP) in 2002.

However, a quicker and more robust rebound of output and economic growth has been impeded by the slow pace of restructuring in industry, agriculture, and services-which is in turn caused in part by the absence of effective market-based institutions to protect property rights, fair competition, and financial discipline. In addition, low levels of domestic and foreign investment have hindered economic development in SEE. Abundant evidence-from anecdotal sources to more systematic diagnostic studies and surveys-suggested that the risks and costs of doing business in SEE were excessively high and, along with other problems common to state-run economies, were discouraging private investment. Recognizing this, the countries of SEE and their development partners began efforts to improve the investment framework in the region.

Those efforts are urgent. The European Union has greatly expanded trade access to the single European market not only for the accession countries (Bulgaria and Romania), but also for the western Balkan states (Albania, Bosnia and Herzegovina, Croatia, the federal Yugoslav Republic of Macedonia, and Serbia and Montenegro) and Moldova. Simultaneously, intraregional trade liberalization has found new momentum with the signing of the SEE8 Memorandum of Understanding on Trade Liberalization and Facilitation. The opportunities created by those developments will be realized only if investment increases substantially and counteracts the region's high unemployment, insufficient job creation, and stubborn poverty.

Chapter 1 conveys the message that a favorable institutional framework for domestic and foreign investments is essential to sustainable growth and poverty alleviation in the region. The chapter also presents the scope, methodology, and approach for understanding the role of the institutional environment that affects enterprise development and growth in SEE.

Institutional Reform in South Eastern Europe-Achievements and Challenges

The business environment in the SEE8 improved between 1999 and 2002, according to the BEEPS data and EBRD transition indicators...

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