Developing and strengthening institutions that engender vigorous inter-enterprise competition is essential to improving the investment climate and accelerating sustainable growth in South Eastern Europe (SEE). Along with key institutional reforms in three areas-greater financial transparency, accountability, and protection of property rights; more effective mechanisms to settle commercial disputes; and improved access of businesses to better quality and efficiently priced infrastructure services1-a more competitive business environment in SEE will help capitalize on the economic reform progress made to date and further enhance peace and stability in the region.
The European Union's trade-opening measures of 2001 have helped improve South Eastern European firms' access to Western European markets, and intraregional trade liberalization is also high on the policy agendas of South Eastern European authorities (World Bank 2003). However, in the absence of institutional reforms that propagate robust "behindthe-border" competition within and among countries in the region-by facilitating the entry of new firms, restructuring of noncompetitive businesses, and reorganizing or liquidating commercially nonviable firms that take up "economic space"-such trade opportunities will not be effectively realized.2
As discussed in chapter 1, most South Eastern European countries have chronically high rates of unemployment and low rates of job creation, which reflect and exacerbate the persistently high poverty rates in the region. The experience of many other transition economies is that institutional reforms that enhance enterprise competition-even reforms that provide opportunities for credible threats of entry by new competitors-discipline inefficient businesses to restructure and improve performance. Although there may be short-term social costs from greater enterprise competition and restructuring, particularly if social safety nets are inadequately developed,3Page 90 there is abundant evidence that, in the medium term, increased business rivalry and the presence of new entrants, including small and mediumsize enterprises (SMEs), are the main engines of job creation, growth, and prosperity.
This chapter assesses the incentives and constraints on competition in the eight South Eastern European countries (SEE8) that are the focus of this study and recommends policies for reform. In developing policy recommendations, the study relies on both at the aggregated level-through firm-level quantitative surveys (the two European Bank for Reconstruction and Development [EBRD]-World Bank Business Environment and Enterprise Performance Surveys, BEEPS1 of 1999 and BEEPS2 of 2002)-and at a disaggregated level-focusing on certain industry sectors through the 40 qualitative business case studies developed in the field. The chapter illuminates salient cross-country differences in the nature of competition across the eight economies and shows how South Eastern European firms both respond to and shape these differences. The chapter also highlights the evolution of cross-country changes in enterprise competition over time, focusing on changes between 1998/99 and 2002 (the two periods covered by BEEPS1 and BEEPS2). The aspirations of the South Eastern European authorities and investors (both domestic and foreign) necessitate progress beyond such narrow issues as administrative barriers to firm registration and licensing. To that end, the chapter focuses on the fundamental determinants of competition. A thorough diagnosis of basic market institutions and their effect on competition is essential for the design of "second generation" medium-term structural policy reforms.
In brief, our analysis concludes that many industrial firms in SEE are, in differing degrees, effectively immune to robust competitive market forces, not only because of administrative impediments, but also, more importantly, because of more entrenched institutional and structural ones. These impediments are especially found at the local level, where in many sectors horizontal and vertical market power is possessed by incumbent firms, some of which enjoy protection from both appreciable barriers to exit as well as high barriers to entry by new rivals. There is an apparent trend, however, that over the period under examination, competitive pressures within individual countries and the region as a whole are modestly increasing. The competition may be due to economywide structural reforms, including those in competition policy, and because of greater exposure of SEE8 firms to the international marketplace. Still, progress is considerably uneven among the countries, necessitating an extensive and ambitious set of reforms.
With respect to policy recommendations, we conclude that certain competition-enhancing reforms will apply to all the SEE8. However, given the economic (and political and social) heterogeneity of the SEE8, in some countries, where the transition is more complex, more fundamental institution-building and policy changes are required. A generalPage 91 policy theme that emerges from the contemporary history of these countries-where geographic boundaries are widely at variance with more natural economic boundaries-is the need to strike a balance, over the medium term, between policies that reduce anticompetitive structural conditions (such as through horizontal or vertical divestiture) and those that allow for sufficient economies of scale and scope.
Conversely, policies and institutions that impede entry of new private-sector competitors should be reformed in the short run. Indeed, even if excessive horizontal and vertical structural dominance remains, facilitating free entry and exit can help make such markets contestable and can provide strong pressures to compel competitive performance from incumbents. At the country level, it is equally important in the short run to fortify rules-based institutional frameworks for implementing and enforcing competition policy with a view to reducing discretion, increasing transparency and predictability, and enhancing incentives for accountability. In the medium term, a case may be made for coordination of competition policy across the region, a likely outcome of European Union (EU) accession.
This chapter is organized as follows. We first assess the prospects for interenterprise competition within and among the SEE8 by examining the extent of the development of private sector businesses in the region over the past decade as well as the attributes of that development. We then analyze the competitive nature of industry in the region by assessing the horizontal and vertical dimensions of South Eastern European markets. The next section concentrates on the nature and extent of barriers to entry and exit in the SEE8 and assesses both the structural and behavioral sources of such barriers. Finally, we examine the relationship between competition, firm growth, and performance of SEE8 businesses before concluding with policy recommendations.
International experience shows that in the transition economies the existence of a substantial private sector is generally a prerequisite for the operation of competitive market forces (see, for example, Djankov and Murrell 2002). The emergence of private sector businesses in the SEE8 economies has been one of the hallmarks of the countries' enterprise reform programs since the transition period began. Table 3.1 examines the pattern of the development of the private sector among the SEE8. As of 2002 (the latest year for which comparable data are available) most of the countries had private sectors whose output values contributed to at least 50 percent of national gross domestic product (GDP). For the region as a whole, the average share of GDP accounted for by the private sector was approximately 58 percent. There is, however, considerable variation across the countries: Albania and Bulgaria have private sectors shares of GDP ofPage 92 75 percent, while private sector businesses in Bosnia and Herzegovina and in Serbia and Montenegro contribute only 45 percent of GDP.
[SEE TABLE 3.1 AT THE END OF THE DOCUMENT]
The pattern of development of the private sector in SEE has also varied over time. Table 3.1 indicates that, although there was a substantial increase in private sector development in the early to mid-1990s, since 1998 the trend has slowed considerably.
Many of the current SEE8 private sector firms had their origins in the privatization of state-owned or "socially owned" enterprises. However, unlike the transition economies of the Russian Federation or the Czech Republic, which engaged in mass privatization early in transition, the scale and rapidity of privatization in SEE have generally been more modest. Thus, as the individual company case studies and the BEEPS data illustrate, a significant proportion of the number of private sector firms in SEE were established either de novo; as new private...