Joost Platje Institutional Change and Poland's

Institutional Change and Poland’s Economic Performance since the 1970s incentives and transaction costs

Joost Platje


© Copyright by Joost Platje, 2004 All rights reserved. No part of this publication may be reproduced, stored in a retrieval system, or transmitted, in any form or by any means, electronic, mechanical, photocopying, recording, or otherwise, without the prior written permission of the proprietor. ISBN 83-915211-7-6

Publisher: CL Consulting i Logistyka, Oficyna Wydawnicza “Nasz Dom i Ogród”, Wroc∏aw, Poland

RIJKSUNIVERSITEIT GRONINGEN


Proefschrift ter verkrijging van het doctoraat in de letteren aan de Rijksuniversiteit Groningen op gezag van de Rector Magnificus, dr. F. Zwarts, in het openbaar te verdedigen op donderdag 30 september 2004 om 14:45 uur

door JOHANNES CASPARUS PLATJE geboren op 11 juli 1968 te Oosthuizen

Promotor: Copromotor:

Prof. dr. Herman W. Hoen Dr. Henk W. Plasmeijer

Beoordelingscommissie:

Prof. dr. Hans Renner Prof. dr. hab. Janusz S∏odczyk Prof. dr. Jörg Glombowski

v

CONTENTS List of Tables and Figures ........................................................................................................ viii Acknowledgements .................................................................................................................... xi Chapter 1 – Introduction ............................................................................................................ 3 1.1. 1.2. 1.3. 1.4.

Background of the problem ............................................................................................ 3 The core of the research: transaction costs and incentives in the Polish economy .... 4 Research outline .............................................................................................................. 6 Some final introductory remarks .................................................................................. 10

PART I NEW INSTITUTIONAL ECONOMICS AND TRANSACTION COST THEORY

Chapter 2 – New Institutional Economics as a Framework for Analysis of Transformation of Economic Systems ................................................................................................................ 15 2.1. 2.2. 2.3. 2.3.1. 2.3.2. 2.3.3. 2.3.4. 2.4.

Introduction .................................................................................................................... 15 Institutions and incentives ............................................................................................ 16 Transaction costs ............................................................................................................ 22 The use of transaction cost economics ........................................................................ 22 Transaction costs defined .............................................................................................. 23 Transaction costs and transport costs .......................................................................... 25 The Coase Theorem, the public domain and opportunistic behaviour .................... 27 Concluding remarks ...................................................................................................... 30

Chapter 3 – Transaction Costs, Institutions and Economic Performance .......................... 33 3.1. 3.2. 3.3. 3.4.

Introduction .................................................................................................................... 33 Transaction costs, institutions and economic performance ........................................ 34 Strong and weak economic systems ............................................................................ 36 Transaction costs in Soviet-Type Economies and Market-Type Economies: a comparison .................................................................................................................. 37 3.5. Factors that lower transaction costs ............................................................................ 40 3.5.1. Market competition and law of contract .................................................................... 40 3.5.2. Social capital .................................................................................................................. 41 3.5.3. Physical infrastructure, transport and logistics .......................................................... 44

vi

3.6. 3.7. 3.8.

Contents

Inefficient institutions.................................................................................................... 49 Phases of transformation – when is transition over?.................................................. 53 Concluding remarks ...................................................................................................... 56

PART II TRANSACTION COSTS, INCENTIVES AND THE PERFORMANCE OF THE POLISH ECONOMY

Chapter 4 – Transaction Costs and Incentives in the Polish Soviet-Type Economy – from classical to „decaying” socialism ............................................................................................ 61 4.1. 4.2. 4.3. 4.3.1. 4.3.2. 4.3.3. 4.4. 4.5.

Introduction .................................................................................................................... 61 The promises of socialism and a typology of prototypes of socialism ...................... 62 Problems of planning .................................................................................................... 64 Transaction costs .......................................................................................................... 64 Incentives, plan-bargaining and information ............................................................ 66 Opportunistic behaviour and knowledge .................................................................... 68 Poland 1971–1989 – Institutional weakening: from Classical Socialism to „Decaying Socialism” ................................................................................................ 70 Concluding remarks ...................................................................................................... 79

Chapter 5 – Transaction Costs and Incentives in the Construction of the Polish Market in the 1990s .................................................................................................................................... 81 5.1. 5.2. 5.3. 5.4. 5.4.1. 5.4.2. 5.4.3. 5.5. 5.5.1. 5.5.2. 5.5.3. 5.5.4. 5.5.5. 5.6. 5.7.

Introduction .................................................................................................................... 81 Transformation: the choice and the aims of the transformation strategy ................ 82 Economic performance ................................................................................................ 85 Causes of the decline in output – statistics, demand and supply .............................. 88 Statistics .......................................................................................................................... 89 Demand factors .............................................................................................................. 91 Supply factors ................................................................................................................ 92 Causes of the decline in output – a new-institutional explanation .......................... 94 Adverse incentives and high transaction costs due to weak and missing institutions .............................................................................................................. 95 Adverse incentives and high transaction costs in the process of transforming the property rights order .............................................................................................. 98 High market transaction costs for state-owned enterprises .................................... 103 Mental models and social capital .............................................................................. 106 Private economic activity counteracting the decline in output................................ 107 Institutional strengthening and recovery .................................................................. 109 Concluding remarks .................................................................................................... 113

Contents

vii

PART III A CLOSER LOOK AT TWO ASPECTS OF ECONOMIC PERFORMANCE UNDER DIFFERENT ECONOMIC SYSTEMS

Chapter 6 – The Transaction Costs of Queuing in a Soviet-Type Economy .................... 119 6.1. 6.2. 6.3. 6.3.1. 6.3.2. 6.3.3. 6.3.4. 6.3.5. 6.4.

Introduction .................................................................................................................. 119 Queuing and transaction costs .................................................................................... 120 Results and interpretation .......................................................................................... 124 Gender, age and party membership .......................................................................... 124 Who was queuing with whom, and what were they queuing for? ............................ 126 Costs and benefits of queuing .................................................................................... 128 People’s assessment of queuing activities .................................................................. 133 In what way is the time gained with the disappearance of queues being used? .... 135 Concluding remarks .................................................................................................... 137

Chapter 7 – Transaction Costs during Transition – logistic challenges ............................ 139 7.1. 7.2. 7.3. 7.4. 7.5.

Introduction .................................................................................................................. 139 The state of Polish infrastructure .............................................................................. 140 Development of logistics in Poland ............................................................................ 142 Integrated logistic centres .......................................................................................... 148 Concluding remarks .................................................................................................... 152

Chapter 8 – Summary and Conclusions .............................................................................. 155 8.1. 8.2.

Summary of main findings and conclusions .............................................................. 155 Some implications ........................................................................................................ 160

APPENDIX – A survey among firms – empirical indicators of the development of transaction costs during the 1990s ............................................................................................................ 165 A 1. A 2. A 3. A 4. A 5. A 6.

Introduction .................................................................................................................. 165 Description of the research ........................................................................................ 165 Business start-ups, development of employment and financial results .................. 167 Transaction costs .......................................................................................................... 170 Social capital ................................................................................................................ 184 Concluding remarks .................................................................................................... 189

Literature ................................................................................................................................ 193 Samenvatting (summary in Dutch) ...................................................................................... 213

viii

Contents

LIST OF TABLES Table 1.1. Table 1.2. Table 3.1. Table 3.2. Table 3.3. Table 3.4. Table 4.1. Table 5.1. Table 5.2. Table 5.3. Table 5.4. Table 5.5. Table 5.6. Table 6.1. Table 6.2. Table 6.3. Table 6.4. Table 6.5. Table 6.6. Table 6.7. Table 6.8. Table 6.9. Table 6.10. Table 6.11. Table 6.12. Table 6.13. Table 7.1. Table 7.2. Table 7.3. Table A1. Table A2. Table A3.

The likely effect of transaction costs and incentives on economic performance ........................................................................................................ 5 Transaction costs and incentives in different stages of the Polish economy ................................................................................................................ 9 A classification of economic systems .............................................................. 36 Three different types of trust .......................................................................... 42 An industrial column ........................................................................................ 46 Relationship levels between firms and means of communication ................ 48 Period of rule of the First Secretaries of the Polish Communist Party (PZPR) and the type of socialism .................................................................................. 70 The development of real GDP per capita in countries in transition (1989–1999) ........................................................................................................ 86 Inflation – percentage change in retail/consumer price level (1989–2000, annual average) .................................................................................................. 87 The share of different sectors in the creation of GDP (percentage) (1989–1994) ........................................................................................................ 87 The ratio of the product of the hidden economy to the official GDP. Household electricity approach (1989–1995) .................................................. 89 FDI (net flows recorded in the balance of payments, 1989–1999) ............ 111 Development of market structure in different countries in transformation .. 112 Gender and age .............................................................................................. 124 Comparison of the sample population with the actual population age distribution in the years 1985 and 1996 ........................................................ 125 Company in the queue. Division by gender and party membership .......... 126 Company in the queue. Division by age group ............................................ 127 Products people were queuing for ................................................................ 128 Opportunity costs of queuing ........................................................................ 129 Queuing during work ...................................................................................... 130 Benefits of queuing ........................................................................................ 131 Benefits of queuing. Division by gender ...................................................... 132 Assessment of activities while queuing ........................................................ 134 Assessment of queuing .................................................................................. 134 Benefits of the elimination of queues .......................................................... 135 A comparison between costs of queuing and benefits of the elimination of queues .......................................................................................................... 136 Three generations of logistic development .................................................. 143 Services offered by road forwarding and transport companies .................. 145 Possession of web-site, use of e-mail and/or fax in contacts with clients ...... 146 Speed of banking transactions within Poland ................................................170 Speed of international banking transactions ................................................ 171 Speed of payment by customers .................................................................... 172

Contents

Table A4. Table A5. Table A6. Table A7. Table A8. Table A9. Table A10. Table A11. Table A12. Table A13. Table A14. Table A15. Table A16. Table A17. Table A18. Table A19. Table A20.

ix

Speed of payment of bills by your own company .......................................... 173 Speed of customs clearance ............................................................................ 175 Speed of legal procedures enabling obtaining money from late payers .... 176 Development in different factors; comparing the periods 1989–1993, 1993–1997 and 1997–2000 – average ............................................................ 178 Professionalism of tax officers between 1989 and 2000 .............................. 178 Rank order of different periods – Professionalism of tax officers .............. 179 Rank order of different periods – Clearness of tax law .............................. 179 Rank order of different periods – Settlement of damages by insurance companies ........................................................................................................ 180 Rank order of different periods – Theft ........................................................ 181 Rank order of different periods – Corruption .............................................. 181 Rank order of different periods – Transport infrastructure in Poland ...... 182 Problems with late payment for the periods 1989–1993, 1993–1997 and 1997–2000 .................................................................................................. 183 Problems with late payment for the periods 1989–1993, 1993–1997 and 1997–2000 – mode, median and mean .................................................... 183 Who is trusted .................................................................................................. 185 Who is trusted – mode, median and mean .................................................... 185 Perceived co-operativeness of “institutional governance” and market participants ...................................................................................................... 188 Perceived co-operativeness of “institutional governance” and market participants – mode, median and mean ........................................................ 188 LIST OF FIGURES

Figure 2.1. Figure 2.2. Figure 3.1. Figure 3.2. Figure 6.1. Figure 6.2. Figure A1. Figure A2.

Factors influencing economic performance .................................................... 17 Causality between learning processes under uncertainty, mental models and institutions .................................................................................................. 19 Relationship between institutions, transaction costs and economic growth .... 35 Transaction costs in Soviet-Type Economies and Market-Type Economies .... 38 The effect of a maximum price ...................................................................... 120 The shopping process ...................................................................................... 122 Number of firms established yearly, 1981–2000 .......................................... 168 Number of firms established per 5 years, 1945–1999 .................................. 168

xi

ACKNOWLEDGEMENTS In the process of writing this thesis and conducting research many people have been helpful. First of all, I am very grateful to Henk Plasmeijer, who not only convinced me that I was capable of writing this thesis, but also provided me with invaluable advice on many theoretical matters. Hans-Jürgen Wagener made the importance of transaction costs and incentives in transformation processes clear. Henk Plasmeijer and Joop de Kort significantly reduced the transaction costs of finding a supervisor. Herman Hoen strengthened the incentives to continue the high transaction cost venture of writing a PhD and very skilfully directed the venture onto an efficient development path. I am also indebted to Wytze van der Gaast, Michael A. Giacomin, Remko Kampen, Adam Kokoszka, Renata Matuszkiewicz, Tammo Platje, Stephen Purdom, Julian Ross and David Ramsey for their useful comments on different parts of the research. The research on queuing presented in this thesis was greatly facilitated by the help of Szymon Horaczuk, the late Zdzis∏aw Juchimiuk and Marcin Winiarski. Special thanks go to students from Gdaƒsk University, Opole University and Wroc∏aw University, who were very helpful in carrying out the survey. For the survey among companies on transaction costs and trust Maarten Allers, Jerzy Dudek, Janusz Paw´ska, John Stepan and Tomasz Stepan were very valuable sources of information and reflection in the preparation phase. I am indebted to Daniel Ka∏asznik, Jacek Krzekotowski, Grzegorz Kubacki, Marcin Paw´ska, Magda Skorupa and Hanna Spychalska for their help with carrying out the survey. For comments on the interpretation of the results I would like to express my gratefulness to Dirk Akkermans, Jarl Kampen and Rafa∏ Kulik. Jacques Dehue and Tammo Platje proofread the summary in Dutch. David Ramsey deserves special thanks for proofreading the manuscript with regard to correct use of the English language. Of course, the remaining “Dutchisms”, as well as other mistakes remain the responsibility of the author. Professor Hans Renner, Professor Janusz S∏odczyk and Professor Jörg Glombowski are gratefully acknowledged for reading the manuscript and their useful comments. Finally, I would like to thank my family and friends for the support they have given me, and especially my mother and Julia, who provided me with the strongest incentive to finish this high transaction cost venture, and made clear that in such a case transaction costs may be absolutely unimportant for finishing the job.

INTRODUCTION

3

Chapter 1 INTRODUCTION

1.1. Background of the problem This study addresses economic performance of Poland since the 1970s. During the 1960s, when the economic reconstruction after World War II had been completed, the Polish economy started to face economic problems. One of the problems was that it could not shift the emphasis from heavy to light industry. Development of light industry, increasing the production of consumer goods, was needed in order to fulfil a promise of socialism, an increase in the standard of living. In the 1970s attempts were made to stimulate the economy by way of a policy of importled growth. An aim was to produce under licences from Western-Europe, thereby taking benefit of the relatively low production costs in Poland. Since much was imported on credit, increased exports should have made repayment possible. However, due to many co-ordination mistakes economic performance was worse than expected, and at the end of the 1970s Poland faced an economic crisis. Furthermore, the promise of an increasing standard of living had to be fulfilled. As a result less goods were available for export, and at the end of the 1970s Poland was not able to repay the foreign debt it had built up during this decade. The reforms during the 1970s led to one of the main pillars of the Soviet-Type Economy (STE)1 as existed in Poland – public or state property – starting to weaken. In the 1980s attempts were made to improve economic performance by half-hearted Hungarian style economic reforms. Some elements of a market were introduced, while de facto planning stopped existing, being replaced by a system of state purchases [Przeworski, 1993]. Planning did not function properly, while, although some market elements were introduced, no other co-ordination mechanism replaced it. As a result public property was weakened even more, as it became more unclear who in the planning hierarchy was responsible for what. The belief in the socialist system had also started to weaken as a result of, inter alia, disappointing economic performance. This process of hollowing out the belief in socialism speeded up in the 1980s, in particular as a result of Martial Law of December 13th 1981, which was aimed at breaking the increasing power of the independent non-communist labour union Solidarity. At the end of the 1980s in fact hardly anyone, not even most members of the Communist Party (PZPR), believed in the system anymore [Poznanski, 1996]. 1 Also called command economies, centrally directed economies, planned economies, socialist economies or communist economies. The term Soviet-Type Economy is used in the remainder of this study.

4

Chapter 1

Martial Law further undermined the Communist Party [Poznanski, 1996]. The PZPR was already unique, compared to their counterparts in other STEs. It never had such a broad popular basis as, for instance, the Czechoslovak Communist Party, while strong internal division clearly appeared in the 1970s. From 1981 onwards, attempts were made to loosen the traditional ties between the state and the Communist Party, although it is not clear whether this was intentional or not. At the end of the 1980s the economic system had been transformed to such an extent, that there was fertile soil for determined institutional change in Poland. An implication of the developments sketched above is that a change in the fundamental characteristics of the Polish STE, public property and the Communist Party, can be traced back to the 1970s, and even earlier [see Murell, 1995; Poznanski, 1996; Rosati, 1998]. An economic system is a dynamic entity that changes all the time, and for that reason it is difficult to establish the beginning of Poland’s economic transformation exactly. Therefore, it is important to look at the “legacy of the past” when analysing institutional explanations of economic performance. This is a focal point of New Institutional Economics (NIE) applied in this study. As described above, in the 1970s reforms took place which significantly influenced the institutional framework of the Polish economy. During this period attempts were made to solve economic problems by way of reforms. However, the reforms caused new economic problems. For this reason the 1970s have been chosen as the point of departure for this study. The main theme of this study is incentives and transaction costs in the Polish economy since the 1970s, their influence on economic performance and their importance in the transformation of a socialist economic system to a market-oriented economy. Different types of incentives and transaction costs during the period 1970–2000 and their influence on economic performance are described. The analysis of the 1970s and 1980s focuses on transaction costs of planning and the incentives given by the disintegrating system. In a planned economy prices were not used as an indicator for scarcity, leading to transaction costs of resource allocation specific to such an economic system. With the radical introduction of a market economy after 1989, prices became the most important scarcity indicator. Consequently, the transaction costs of planning disappeared. However, the use of the market leads to other transaction costs and influences incentives in a different way. Furthermore, the process of such institutional change creates specific incentives and transaction costs, which may negatively influence economic performance.

1.2. The core of the research: transaction costs and incentives in the Polish economy The core of this research is the influence of transaction costs and incentives on Poland’s economic performance since the 1970s. From a micro-perspective, transaction costs indicate how easy or difficult it is to make an exchange. From the point of view of an economic system, transaction costs are important for solving the allocation problem: which barriers and difficulties exist for factors of production and final goods to end up in the place where they are valued the highest. Standard neo-classical economics assumes transaction costs to be non-existent.

5

Introduction

Transactions would take place without friction due to complete information and institutions are taken as “allocationally neutral”. In such a situation a market economy using a price mechanism is theoretically as efficient in solving the problem of allocation of resources as a central planner [Furubotn and Richter, 1997, 9–10].2 Using such a theoretical framework, it is difficult to explain why Market-Type Economies have economically outperformed STEs. However, with the help of NIE in general, and transaction costs in particular, it is expected to be possible to explain it. With the help of transaction cost economics it can be explained why some forms of governance structures (co-ordination structures) used to solve the allocation problem are more efficient than other governance structures. Markets are supposed to face lower transaction costs than a bureaucracy or a planned economy. A reason for this is that monitoring costs and information costs are lower due to the working of the price mechanism in the non-hierarchical governance structure, which facilitates the solving of the allocation problem. Furthermore, markets tend to provide stronger incentives for economic activity and efficiency than hierarchies such as a bureaucracy, leading to increased economic activity [see Williamson, 1985; Pejovich, 1995]. In other words, lower marginal transaction costs, ceteris paribus, lead to more economic activity. Although high transaction costs tend to lower economic activity, this does not necessarily mean that an economy will stagnate. In addition to transaction costs, incentives are an important factor influencing economic activity. Incentives provided by the constraints under which economic actors undertake economic activity are an important factor when analysing the performance of an economic system. These constraints influence the expected benefits of such an activity. When transaction costs are high and incentives are strong, economic activity is undertaken when the expected (marginal) gains exceed the expected (marginal) costs. When transaction costs are high and incentives weak, economic stagnation is likely as the expected payoff of a transaction drastically declines. Table 1.1. presents a picture of the possible relationship between transaction costs, incentives and economic performance. A more detailed picture can only be obtained by a study of the different factors influencing transaction costs and incentives in particular situations. Table 1.1. The likely effect of transaction costs and incentives on economic performance.

Transaction Costs

Incentives

Economic Performance

High

Weak

Negative effect

High

Strong

Effect depends on which factor

Low

Weak

has the largest influence

Low

Strong

Positive effect

This study applies the tools of NIE to the transition of the Polish economic system from classical socialism to a market economy. The focus is on the influence of incentives and transaction costs on economic performance. These tools contribute to explaining the demise of the socialist system. Furthermore, in combination with other explanatory variables, they are 2 Enrico Barone had recognised this as early as 1908 in his article “The Ministry of Production in a Collectivist State” (published in Hayek [1935]). He developed a model in which there is collective ownership of factors of production except for labour. When production costs are minimised and prices are set by the planner (Ministry of Production) equal to production costs, resource allocation is as optimal as in the case of competitive markets.

6

Chapter 1

helpful in explaining the fall in output at the beginning of the 1990s. They also may explain why Poland quickly returned to a path of economic growth, and many other former STEs did not. NIE explains why institutional change is a rather slow process. Path-dependency is of crucial importance – where we come from is an important factor influencing where we are going to. A reason for this is that people’s mental models (e.g. values, ideology, mentality) change at a slower pace than the law can be changed, firms can be privatised, et cetera. Thus, when a market system is introduced but people’s mental models do not change at a similar pace, this can lead to individuals reacting adversely to incentives given by the market. With this in mind, a central question of this research is: To what extent have incentives and transaction costs changed in the Polish economy in the period 1970–2000 and influenced economic performance and how can these changes be explained with the help of New Institutional Economics?

1.3. Research outline The general research question stated above can be refined through a number of sub-questions, which focus on the different stages of the “Polish road to the market” and the use of NIE as an explanatory framework. The first question is to what extent can a change in transaction costs and incentives explain the demise of the socialist system, and have paved the way for transformation towards a market economy. The second question is related to the notion of path dependency. How did the situation that had come into being at the end of the 1980s influence the economic situation at the beginning of the 1990s and how did the process of institutional change towards a market economy proceed? In other words, to what extent did transaction costs and incentives change and in what way did they influence economic performance in the period of “market construction”? This book is divided into three parts. In part one (Chapter 2 and 3), the theoretical framework of NIE and the theory of transaction costs is presented. In part two (Chapter 4 and 5) the relation between transaction costs, incentives and the performance of the Polish economy is analysed. In part three a closer look is taken at two aspects of economic performance under different economic systems in Poland – the transaction costs of queuing (Chapter 6) and logistic challenges in creating a market economy (Chapter 7). In Chapter 2 the theoretical framework used for analysing changes in incentives and transaction costs in the Polish economy is developed. First the relationship between institutions, incentives and transaction costs is described. Institutions provide incentives for economic activity and influence the level of transaction costs. Then the importance of the notion of value in the public domain, where property rights are not completely enforced due to high transaction costs, and the relation to opportunistic behaviour and the concept of rent-seeking is discussed. An important point is that when there is large value in the public domain, wealth maximising individuals direct their efforts to redistributive rather than productive activities. In Chapter 3 the relation between transaction costs, institutions and economic development is analysed. This is important in discussing the demise of the socialist economy and

Introduction

7

prospects for economic growth in the process of constructing a market. Strong and weak economic systems are distinguished. Generally speaking, a system is strong when property rights are enforced, transaction costs are low and incentives strong, positively influencing economic activity. An economic system is weak when property rights are poorly enforced, leaving opportunities for rent-seeking, increasing transaction costs and weakening incentives. With the growth of an economy, transactions become more complex, creating the need for transaction cost lowering solutions and hence institutional change. When an economic system is not capable of doing this, and reforms are carried through halfway, then the economic system is expected to weaken. As a consequence, transaction costs increase and incentives weaken, which can lead to economic stagnation, as was the case in Poland in the 1970s and 1980s. The question as to what extent transaction costs and incentives created by institutions stimulate economic development is relevant for assessing the path of institutional change in Poland towards a market economy up to the present day. Afterwards, some factors that lower transaction costs such as markets and law of contract, social capital and physical infrastructure, transport and logistics, which are relevant to the analysis in the rest of this thesis, are presented. Then the following question is addressed: how is it possible that an inefficient economic system, as the socialist system was, existed for such a long time, although it was clear that it did not function efficiently? In other words, why can inefficient institutions continue to exist? Finally, the question “when is transformation over” is addressed. The theoretical framework developed in Chapter 2 and 3 is used for analysing the changes in transaction costs and incentives in the process of institutional change from a socialist system towards a market economy in Poland in subsequent chapters. In Chapter 4 the focus is on the collapse of the socialist system. Different factors contributing to the decline of the Polish STE are described. The emphasis is on increasing transaction costs and problems regarding a lack of incentives within the framework of Poznanski’s [1996] argument that the institutional fundaments making up the STE were slowly hollowed out. After World War II the system was relatively strong and characterised by low transaction costs and relatively strong incentives. The growth of the economy increased the transaction costs of solving the allocation problem by way of planning, creating the need for reforms. These reforms were rather unsuccessful, weakening the economic system. As a result, transaction costs rose even more and incentives weakened, which may explain the poor economic performance and paved the way for radical change at the beginning of the 1990s. Furthermore, some (imperfect) market-type institutions had been appearing through the years due to attempts to reform the Polish socialist economy, which may have facilitated the process of market construction that started in 1989. In Chapter 5 transaction costs and incentives since the introduction of the Balcerowicz plan at the beginning of the 1990s are elaborated. This plan, named after the then minister of finance, Leszek Balcerowicz, aimed at macroeconomic stabilisation and introduction of a market economy. Since this stabilisation program aimed at introducing a market economy in a short period of time, it is often referred to as “shock therapy”.3 The core of the chapter concerns a discussion of reasons for the decline in output at the beginning of the 1990s. In order to do this, aggregate demand and aggregate supply factors, as well as an institutional and transaction cost perspective are considered. The institutional 3 The term “shock therapy” in the context of the Polish stabilisation plan was first used by Jeffrey Sachs, a Harvard economist, who was a key advisor to the Polish government in the early 1990s.

8

Chapter 1

weakening of the socialist system is an important determinant of the fall in output, while the existence of some market institutions helps to explain why the recession in Poland was one of the shortest of all former STEs. The weak institutions inherited from socialism weakened even more in the process of fast change initiated in 1990. The old economic system did not function anymore, while a new system was not functioning yet. Thus, it was difficult to play according to the rules of the game, which hardly existed. Transaction costs of restructuring state-owned enterprises (SOEs), privatisation and institutional change were high, there was a lack of trust, and it was not clear in what direction the economic system would develop. As a result of large uncertainty many economic actors worked according to the old socialist rules of the game. Consequently, transaction costs are expected to have increased at the beginning of the 1990s, and incentives adversely influenced, contributing to the decline in output. On the other hand, the productivity enhancing effect of the introduction of more market incentives and the rise of small private enterprises in sectors such as distribution and food-processing were factors counteracting the recession and creating the basis for growth. In Chapters 6 and 7 two specific aspects of the socialist period and the period of market construction are discussed. The topic of Chapter 6 is the transaction costs of queuing in socialist Poland. Shortages were a crucial feature of classical socialism. However, these shortages increased with the “decay” of the socialist system, when more and more difficulties arose in solving the co-ordination problem. Shortages led to the phenomenon of queuing. This caused a different type of transaction costs than those discussed in Chapter 4, where increasing transaction costs and weakening incentives from the supply side are the main topic of interest. Time spent in a queue is a transaction cost from the demand side of obtaining a good or a service. The cost of time differs for different types of people such as housewives, unemployed, pensioners and people who work. Based on a survey carried out in Poland, the main question addressed is what people were doing while queuing, what they were likely to have done otherwise, and what they do with the time gained due to queues disappearing. Queues were not only a visual sign of transaction costs to the consumer, they also largely contributed to the general dissatisfaction of the population with the socialist system. In Chapter 7 some logistic challenges in the construction of a market economy are discussed. The use of logistic solutions and infrastructural improvements may not only lower transaction costs, strengthen incentives and positively influence economic performance. It also can stimulate rather evolutionary step-by-step institutional change. In this chapter the state of Polish infrastructure, the development of logistics in Poland and integrated logistic centres as a tool for stimulating the use of logistic solutions and giving incentives for institutional change towards a stronger economic system are elaborated. Based on analysis of the state of infrastructure and the development of logistics, it is concluded that Poland has not finished its economic transformation yet and that many opportunities remain for lowering transaction costs by infrastructural and logistic improvements. In Chapter 8 an attempt is made to answer the main question of this research. This amounts to filling in the transaction costs – incentives – performance matrix for Poland from a historical perspective. Table 1.2. gives a general overview of the different stages of the “Polish road to the market”, institutional change that has taken place, the expected development of transaction costs and incentives, and the expected influence on economic performance.

9

Introduction

Table 1.2. Transaction costs and incentives in different stages of the Polish economy.

What happened (Institutional Change)

Marginal transaction costs

Incentives

Influence on economic performance

Classical Socialism (until the end of 1960s)

• Building up after the destruction caused by the war. • Strong encompassing interest of the Central Committee of the Communist Party

Relatively low

Strong

Positive

Reform Socialism (1970s)

• Weakening of the planned economy. • De facto dispersion of property rights due to reforms and decentralisation. • Increasing planning problems. • Adaptive inefficiency. • Creation of a high level of expectation for the standard of living. • Growth of labour movement. • Weakening belief in the system.

Increasing

Weakening

Becoming more and more negative

“Decaying” Socialism (1980s)

• Hollowing out of institutional fundaments – can the system still be called socialist? • Weakening of the Communist Party after 1981. • Further weakening of public property rights. Stronger labour influence. After 1982 Hungarian-type reforms. • Weakening incentives due to more unclearly defined property rights. • Further weakening belief in socialism, also among party cadres. • Conscious introduction of some market-type institutions, speeding up at the end of the 1980s. • Rather indicative planning. • Shortages increased. High transaction costs for consumers. • Transaction costs faced by firms increased due to shortages (e.g. planning problems, stock procurement).

High

Weak

Negative

Market Construction (1990s)

• Shortages eliminated. Reduction in market transaction costs for the consumer. • Increasing uncertainty. • Lack of social capital. • Weak economic system – some old socialist institutions still existing, new institutions lacking, etc. • High transaction costs of restructuring SOEs and adapting to market rules of the game. • High transaction costs of privatisation and other institutional change. • Strong incentives and low transaction costs for small enterprises.

Initially high and increasing, especially for SOEs. Should decrease later when the economic system strengthens.

Strengthening, with initially strong incentives for small private business and adverse incentives in the state sector.

From negative towards more positive.

“PostTransformation” (not achieved yet)

• Evolutionary adaptation of institutions. • How did transaction costs and incentives change? What is the state of social capital? • Logistic solutions can decrease transaction costs.

Decreasing

Strengthening

Positive

10

Chapter 1

The first column shows the different periods taken into consideration. Classical socialism, reform socialism and “decaying” socialism are discussed in Chapter 4, while transaction costs for the consumer connected with shortages are the topic of Chapter 6. It will be argued that the economic system weakened (see column “what happened”) due to diffusion of characteristics of property rights among a larger group of people in the process of reforms, the weakening of the Communist Party and the hollowing out of belief in the system. This resulted in an increase in marginal transaction costs and weakening of incentives, negatively influencing economic performance. Although transaction costs and incentives are not the only determinants of economic activity, it is argued that in the 1970s this situation contributed to a worsening of economic performance. In the 1980s increasing transaction costs and weakening incentives contributed to economic stagnation. The period of market construction in the 1990s is the topic of Chapter 5. Initially transaction costs in the state sector involved in the privatisation process were high and companies in this sector faced adverse incentives due to, among other things, a lack of market institutions and increasing uncertainty. This contributed to the fall in output in 1990–1991. For small private newly established business transaction costs were low and incentives were strong, counteracting the fall in output. When the economic system starts to strengthen and transaction costs decline, this has a positive influence on economic activity. The question is to what extent this has happened. “Post-transformation”, a stage in which institutions adapt in an evolutionary way, should lead to strengthening incentives and lower transaction costs, positively influencing economic performance. In Chapter 7 some challenges and opportunities for Poland to enter this phase in the field of logistic development are addressed. In the Appendix a survey among 1,116 Polish companies is presented. The aim of this survey is to indicate the development of some transaction costs during the first 10 years after the introduction of the Balcerowicz plan and the state of social capital in the form of trust. The focus is on small enterprise, as the rise of small private business at the beginning of the 1990s largely contributed to a fast transformation and economic recovery. Social capital is an important determinant of transaction costs in trade and of the transaction costs of establishing new forms of governance. The higher the level of social capital, the more easily an economy can adapt to changes such as technological development. In other words, social capital is important for adaptive efficiency in an economic system.

1.4. Some final introductory remarks With respect to the change of the economic system towards a market economy, significant change has been taking place. In many fields institutional change proceeds step-by-step, but in many other fields a lot of work has yet to be done. Lessons learned from the process of institutional change up to the present day are helpful in facing challenges of institutional change in the future. In the case of Poland the process of joining the EU is such a challenge. Of course, the framework of analysis used in this thesis has a much broader application than analysing institutional change in economies in transformation. Many studies have been

Introduction

11

conducted on the importance of institutions for the economic development of a nation, of which North and Thomas’s [1973] pioneering study on the rise of the Western world was one of the first. Currently, new-institutional economic theories are applied in a wide range of areas, and have recently been used in studies on sustainable development, such as sustainable agriculture [Gatzweiler et al., 2002]. It may be one of the most important challenges in developing theories of NIE to create an institutional framework for sustainable development. The topic of this thesis is the influence of incentives and transaction costs on economic performance. Stronger incentives and lower transaction costs, ceteris paribus, lead to increased economic activity. However, it is important that such growth can be sustained. The socialist system was unsustainable in the sense that it did not create the desired growth and caused huge environmental problems. The introduction of a market economy should stimulate economic growth. However, although economic performance in developed market economies is very impressive, there are many problems. Economic theory indicates the existence of market failures. Can the price mechanism reflect environmental costs? How can long-term costs and benefits be taken into consideration when the market focuses rather on short-term gains? Will an alternative source and income base be available when non-renewable resources are depleted, as will be the case in the Legnica region in Lower Silesia in Poland in about 20 years? I hope that the framework developed and applied in this study will be a step in the direction of a new-institutional theory on sustainable development that is able to provide some answers to these and many other questions.

PART I NEW INSTITUTIONAL ECONOMICS AND TRANSACTION COST THEORY

15

Chapter 2 NEW INSTITUTIONAL ECONOMICS AS A FRAMEWORK FOR ANALYSIS OF TRANSFORMATION OF ECONOMIC SYSTEMS

2.1. Introduction Current mainstream neo-classical economics explains the reaction of perfectly rational buyers and sellers to changes in relative prices and is concerned with the functioning of prices and markets [Hazeu, 2000, 19]. Neo-classical economics views the firm as a “black box”, and it cannot explain why it comes into existence. The firm is treated as a production function, not as a trading device. Firms are often assumed to maximise profits under constraints. One of these constraints, institutions, is taken as given and complete information is assumed. However, in reality there is no perfect foresight, and transaction costs exist. For this reason institutions are a relevant factor influencing economic activity. Transaction costs consist of information and negotiation costs connected with the conclusion of a contract (e.g. the transfer of a property right) and control costs of enforcing such a contract. These costs exist because of heterogeneous goods with different features and quality characteristics, as well as opportunistic behaviour. The process of institutional change is of extreme importance for studying transformation towards a market economy. Private and public property rights provide different incentives for economic activity. The process of privatisation is not frictionless and gives specific incentives. Neo-classical economics is a poor tool for analysing transformation issues, as its theories assume a rather frictionless and static world. In this research, New Institutional Economics (NIE) is used as a toolbox for analysis, because of its emphasis on dynamic processes and its interdisciplinary (and sometimes eclectic) approach to economic analysis. It analyses the economic importance of sciences such as sociology, cultural studies, law and political sciences. Furthermore, it combines descriptive richness with analytical strength. One of the main fields of interest is the incentives provided by different types of property rights.

16

Chapter 2

This chapter provides a description and analysis of the toolbox used for the research presented in the following chapters. The notions of institutions, transaction costs and incentives are discussed within a framework of comparative economic systems, as co-ordination mechanisms are central in this thesis. In Section 2.2. the notions of institutions, the formal and informal “rules of the game”, and governance are discussed. The emphasis is on the influence of institutions on incentives for economic activity. The notion of transaction costs is dealt with in Section 2.3. After an attempt to define the notion of transaction costs, the difference between transaction costs and transport costs is discussed, as both of them are fundamental in facilitating or hampering economic activity. Then the significance of the Coase theorem and the importance of opportunistic behaviour and poorly delineated and/or enforced property rights during transformation is discussed.

2.2. Institutions and incentives In the 1980s, the emphasis of comparative economic systems was on co-ordination mechanisms, in particular different types of planned economies and market economies.1 The rapid changes in the former Soviet bloc at the end of the 1980s and the beginning of the 1990s have completely changed this subject. The Soviet-Type Economy (STE) has become history, except maybe in China, Cuba and North-Korea. The emphasis has shifted towards the “economics of transformation”, which focuses rather on the dynamics of a changing economic system than on a static comparison. In particular it concerns the change from a (planned) STE towards a market-oriented economy.2 An economic system can be defined as “a set of mechanisms and institutions for decision making and for the implementation of decisions concerning production, income, and consumption within a given geographic area” [Wagener, 1988, 21–2].3 Property rights (e.g. private versus public) and the co-ordination mechanism (e.g. market versus plan) are essential features in comparing economic systems. From this perspective, an aim of economic transformation is to change the property-rights order by way of privatisation or the setting up of private companies and to develop market institutions. The task of every economic system is to solve the allocation problem. Whatever co-ordination mechanism is chosen, choices have to be made due to the existence of scarcity [see Wagener, 1988]. Gregory and Stuart [1994, 16–22; see also Wagener, 1992] argue that economic systems are multidimensional, and consist of many characteristics. This means that an economic system consists of a theoretically infinite number of attributes or characteristics. One characteristic, like property rights, does not define an economic system. There are many forms of decision-making processes (e.g. centralised versus decentralised) and co-ordination mechanisms possible. This implies that we can imagine many different forms of economic systems. 1 Plan and market are not the only co-ordination mechanisms. Other types of co-ordination mechanisms can be distinguished, such as self-governing co-ordination, ethical co-ordination and family co-ordination [see Kornai, 1992, 103–8]. 2 The term STE is not only used in order to indicate the general similarities between the economic systems of the different countries in the former Communist world based on the economic system of the Soviet Union, but also to emphasise the national differences. 3 Wagener [1988, 21–2] distinguishes between an economic system and a political system. Important concerns of the political system are formulating collective goals, regulating constraints and value statements. This means making value-laden (normative) decisions about how to organise the economic system. The state plays a very important role in this field. One should not forget that the state is an overlap between the economic and the political system. The state is, besides a political institution, also a market participant.

New Institutional Economics as a Framework for Analysis of Transformation…

17

Economic Performance

Governance (play of the game)

“Institutional Governance” (judge and enforcer of the game)

Formal and Informal Institutions (rules of the game) Hardware (“tools of the game”)

Figure 2.1. Factors influencing economic performance.

Figure 2.1. gives an overview of the theoretical framework of NIE used in this thesis. In terms of NIE, an economic system consists of institutions (institutional environment), structures of governance (institutional arrangements) and “institutional governance”. The emphasis of NIE is on the economic effects of institutions and the way in which institutions are shaped under the influence of economic behaviour. Institutions, “the rules of the game”, provide incentives for economic activity (economic performance) by influencing constraints on economic transactions. Transactions take place at the level of governance, “the play of the game”. “Institutional governance” by way of enforcing (or not enforcing) the rules of the game has a similar effect on economic performance as institutions by way of influencing incentives. However, the efficiency of “institutional governance” is also an important factor influencing the level of transaction costs by facilitating contract enforcement. Physical capital and infrastructure are important components of hardware, “the tools of the game”. It is obvious that information systems can create new opportunities for governance structures, while a proper infrastructure is important for the functioning of markets. Transaction costs can be found at the level of governance. The level of transaction costs influences the level of economic activity. North [1990, 3] defines institutions as the rules of the game in a society. These rules of the game are devised by human beings and shape human interactions. Consequently, institutions structure incentives in human exchange. They define and constrain choice sets of individuals, and influence the performance of an economy. A distinction can be made between formal and informal rules of the game. Examples of formal rules are the system of property rights, government regulations and laws. An important formal institution is the property rights order. The property rights order determines the possible governance structures, and thus, besides providing incentives, influences transaction costs.

18

Chapter 2

First, the notion of property in economics, which differs from its legal definition4, has to be explained. Property can be seen as norms that arrange the relationship between people with regard to scarce means.5 In other words, property can be regarded as a contract between individuals with respect to an economic good. It makes clear who owns a good, who has the use of or control over a good, and who does not. A property right is in fact a “wealth title”. If someone has property, such as a factory, he can obtain income out of it. This implies that property determines the wealth of individuals. If the system of property rights changes, as during the transformation from a planned to a market-oriented economy by way of privatisation, this implies that also the wealth of individuals changes. A good has several valuable attributes, and can be defined as a bundle of characteristics (or property rights). Commonly, the owner of a good does not always have the possession of the whole bundle of property rights. There are many regulations. For instance, the owner of a car needs a driving licence to drive the car, there are limits to maximum speed and he is not allowed to set the car on fire. As Bajt [1993, 87] argues, property rights can be constrained by public law, the failure of civil law to adapt to technological changes, stealing, and sheer coercion (e.g. confiscation).6 According to Roman law, three broad types of ownership can be distinguished: the right to utilisation (usus), the right to use the product and/or services generated (usus fructus) and the disposition of the object in question (usus abusus). In principle, each of the three types of ownership can be defined for each characteristic of a good. In general, private, public and common ownership can be distinguished. Each type of property rights creates its own specific incentives and transaction costs, which in turn “have specific and predictable effects on human behaviour” [Pejovich, 1995, 65]. Private property gives stronger incentives for economic activity than public property, as in general people care more about their own property, because they face the direct results of their actions. Pejovich [1995, 101] argues that although economic analysis cannot tell whether private property is always or sometimes efficient, together with contractual freedom it gives individuals incentives to exchange more and more.7 This economic freedom creates incentives to “negotiate contractual agreements that move resources to their higher-valued uses, … spontaneously … seek new opportunities for exchange and production, and … spontaneously … seek ways to reduce transaction costs”. The essence of property rights economics is to formulate such a “contract” that creates an interest (incentive) for all parties to achieve a common goal, and prevents shirking or free-riding. In other words, we talk about incentive-compatibility [Hazeu, 2000, 71]. 4 “In the legal sense, the owner of a thing-good is the one to whom the law assigns maximum authority over its use, in the sense of including entitlements to all allowed uses and of excluding interference with these by all other persons, provided he acquired it lawfully (through production, exchange, inheritance, gift, etc.)” [Bajt, 1993, 85]. 5 Property rights have to be considered in the broadest sense, they not only concern material resources but also immaterial resources such as intellectual property rights and human rights. 6 Bajt [1993, 90, 92] argues that traditionally public law was neglected by the property rights school. However, public law is important in property rights economics, because it contributes to the “creation, protection, and enforcement of property rights” by way of anti-monopoly regulations, competition laws, etc., and stimulates efficient resource allocation by contributing to secure property rights. 7 Although private property in general provides strong incentives for economic activity and efficiency, there can be cases where private property provides adverse incentives. In the case of woods, it can be in the interest of the private owner to cut down all the trees, which may lead to the erosion and degradation of land. An extreme example of adverse effects of privatisation is a story I once heard about a former state-farm in Russia. Each of the Kolchoz workers obtained a part of the farm. Thus, someone could be the owner of a wall of a barn. The owner of a wall considered it to be profitable to sell the stones of this wall. However, without this wall the rest of the barn was useless. Property rights economics argues that clearly defined property rights are expected to give the strongest incentives for economic efficiency. However, what type of property rights order provides the strongest incentives for achieving efficiency depends on other institutions and transaction costs [see Li, 1996; Sarkar and Sarkar, 1998].


19

Informal rules include culture, values, conventions and norms of behaviour. The importance of making a distinction between formal and informal institutions becomes clear when looking at institutional change. In theory, formal constraints can be changed overnight by political/legal decisions. However, implementation and interpretation of new rules takes time. Differences in interpretation can be material for court cases. Informal rules such as culture, something that has developed through the ages, change less quickly, slowing down the speed of institutional change. Another reason why informal rules change less quickly than formal rules is connected with the fact that it takes time before people get to know the new rules and the rules can be enforced. When people get to know the new rules, which also depends on the effectiveness of dissemination of information by the government, it takes time before they start to accept these new rules. Improper information flows can lead to situations where old and new rules are applied together for a long time, so hardly anyone knows what rules are in force. Besides the fact that people defending their own interest can hamper the implementation of new rules, people’s value system also has a large influence on the speed of implementation of new formal institutions. Suppose, a majority of society considers capitalism to be bad for religious reasons. This can be a huge brake on the development of a market economy. In other words, because informal institutions change more slowly than formal institutions, the values, ideologies, mentality and culture (“mental models”) developed under the older system will influence the working of formal institutions under the new system (path-dependency). Institutional change from plan to market in former STEs is accompanied by uncertainty. When decisions are taken under uncertainty, “mental models”, in the sense of subjective perceptions and explanatory models determined by experiences and learning processes by individuals with similar experiences, play an important role in decision making [see Denzau and North, 1994; Groenewegen et al., 1997]. Thus, due to different mental models, the same formal institutions can have different outcomes. When there is large uncertainty in transformation processes, economic subjects tend to fall back on mental models that took shape under the socialist system. This increases difficulties with the introduction of efficient institutions. The causality between learning processes under uncertainty, mental models and institutions is shown in Figure 2.2.

learning processes in situations of uncertainty

fi

mental models and ideologies

fi

institutions

Figure 2.2. Causality between learning processes under uncertainty, mental models and institutions.

According to North [1990, 6], the most important role of institutions is to reduce uncertainty by establishing a stable (not necessarily efficient) structure for human interaction.

20

Chapter 2

Pejovich [1995, 30] emphasises that the most important function of institutions “is to enhance the predictability of human behaviour”. A stable legal framework that protects property and enhances contract enforcement is likely to stimulate entrepreneurship and economic activity. When the formal system does not work properly, informal mechanisms often come into being. Suppose the legal system does not facilitate contract enforcement. This can be an incentive to choose “private enforcement”, i.e. using Mafia practices. When institutions like laws and regulations change very often, this increases uncertainty in the economy, and makes it almost impossible to keep up with all the changes. As a consequence economic subjects have less reliable information, which negatively influences economic activity in turn. An interesting question is whether institutions decrease distrust or are actually an indication of it. It seems that some institutions come into being because of distrust, like contractual arrangements made in order to prevent cheating. Other institutions can be a sign of trust. Without trust the use of money in its current form or the functioning of the banking system would be difficult. An essential point is that transactions (exchange of goods and/or services) are not without cost. As mentioned, an important role of institutions is reducing uncertainty. There are three fundamental reasons for uncertainty [Van de Mortel, 2000, 14–5]. First, the transaction costs of obtaining all the possible information are too high. This leads to incomplete information, creating uncertainty. Second, human calculative abilities are limited. The more complex the institutional environment and the more limited human calculative abilities, the larger the probability of making the wrong decisions. This makes the use of “mental models”, rules of thumb, conventions and routines more attractive [see Heiner, 1983]. The third reason for uncertainty is the impossibility to predict the future outcome of an action, e.g. in cases where some information will only become available in the future. This is a situation of “Knightean uncertainty” [see Knight, 1921; Van de Mortel, 2000], where, in contrast to the two cases mentioned above, it is not possible to calculate the probability of the possible outcomes. Thus, “mental models” help decision making under “Knightean uncertainty”. Limited cognitive abilities and “Knightean uncertainty” can be used to explain the existence of inefficient institutions and development paths. Governance can be considered as “the play of the game“. Here transaction costs come into play. It is the level at which transactions and the production of goods and services take place and concerns the organisation of decision making arrangements. Williamson [1975] distinguishes between markets and hierarchies as different forms of governance at any given level. According to Williamson [1985], organising production and concluding transactions in a hierarchical organisation, such as a firm, may be preferable to a market in the presence of opportunistic behaviour. This happens when lying and cheating lead to the transaction costs of using the market exceeding the transaction costs of organising production within a firm. When people are honest, and the rules of the game are enforced, the market becomes more attractive, because of a decrease in market transaction costs [see also Hazeu, 2000, 75]. Using the market becomes more costly in the case of the existence of asset specificity (transaction-specific investments), such as specific-purpose technology [Williamson, 1998, 38].


21

This creates a mutual dependency between different parties involved in a transaction. The threat of opportunistic behaviour, as in the case of a firm who is dependent on one supplier who may change the contractual conditions, makes safeguards necessary. When the transaction costs of such safeguards are too high, it is advantageous to internalise activity within the firm. Some forms of asset specificity are: physical assets, human capital, location and brand name [Williamson, 1998, 36]. Examples are place-related investments, investments in specific skills (e.g. use of special computer programs), acquisition of special machines, and relation specific provisions – such as when we expect a new customer will buy much for a long period [see Hendrikse, 1998]. Incentives differ in markets and firms [Williamson, 1998, 37]. First of all, markets provide high-powered incentives due to competition, while incentives in firms are low-powered due to the lack of competition. Furthermore, firms use many administrative rules and procedures. Third, markets, in general, adapt faster to changes in relative prices. Firms have an advantage when co-operative solutions, for which trust is important, are needed. Finally, market disputes are often settled in court, while disputes within firms are often settled by the firm itself. When there are no transaction-specific investments, as is the case when general purpose technology is used, the means of production can easily be transferred. In this case the market would be the most efficient form of governance. Transaction-specific investments make transfer of means of production more difficult. In such circumstances safeguards against opportunistic behaviour may be needed, in which case a more hierarchical governance structure becomes more attractive. According to this reasoning, central planning and/or production by the state is an option when market institutions fail or are not developed – when market transaction costs are too high. Following this type of reasoning, the rationalisation for strong state intervention in Western Europe after World War II might have been the lack of properly functioning market institutions in many sectors and the huge cost of using the market. “Institutional governance” is a trickier concept to define than institutions or governance. This concerns organisations that interpret and enforce the rules of the game such as the judiciary, police and government. In other words, the referee/arbitrator, facilitating enforcement of the rules of the game, can be found at this level. “Institutional governance” could be included in institutions as it strongly influences incentives in the way the rules of the game are enforced (or not enforced), while some parts are involved in the creation of formal rules of the game (e.g. government). However, the referee function implies a governance structure and transaction costs are faced when carrying out this function. “Institutional governance” is distinguished separately in order to emphasise the importance of enforcement of the rules of the game, which of course in reality poses difficulties. “Institutional governance” influences the level of transaction costs. In this way it determines, together with institutions and hardware (“tools of the game”), which type of governance structure is most efficient. But it also influences incentives for economic activity, by influencing the expected transaction costs of a venture. It should be obvious that when bribery is the rule, major disincentives for small business enterprises exist, as in general they lack the resources for influencing decisions of “institutional governance”.

22

Chapter 2

2.3. Transaction costs In this section first the predictive and explanatory power of transaction cost economics is discussed (Section 2.3.1.), and an attempt is made to come to a definition of transaction costs (Section 2.3.2.). Then, the difference between transaction costs and transport costs is discussed (Section 2.3.3.). Afterwards, the importance of the Coase Theorem for transformation towards a market economy is elaborated as well as the concept of the public domain in relation to opportunistic behaviour (Section 2.3.4.). 2.3.1. The use of transaction cost economics Transaction cost economics, which concerns the functioning of governance structures, connected with property rights theory, is a powerful tool for explanation. Although it is used here mainly for explanation, it is possible to make transaction cost economics operational for predictive purposes as well. The frequency of transactions, the uncertainty involved in transactions and transaction specific investments (asset specificity) are important for the predictive value of transaction cost economics. Asset specificity creates bilateral dependency between economic actors. An initial competitive situation can change into a bilateral monopoly/monopsony after a contract has been concluded. When a contract has been concluded, the party that has made the most transaction specific investment is in the most disadvantageous position. Due to the specific purpose of the investment, this party has less possibilities to “walk away” and sell the asset to another party, because often such an asset is useless outside the contractual arrangement. The party that has made the least transaction-specific investment can engage in post-contractual opportunistic behaviour (also called moral hazard 8) by trying to renegotiate the contract to his own advantage. When connecting transaction cost economics with the institutional environment, it is possible to explain and predict why in general institutional change proceeds slowly. Under socialism state-owned enterprises (SOEs) and individuals had made “system-specific” investments (e.g. behaviour, contacts, skills), which lose value when transforming to market economy. This can lead to behaviour protecting old institutions and governance structures, slowing down system transformation. However, also new system specific investments have to be made, such as obtaining new skills, knowledge of markets and changing mentality and behaviour. Of the transaction costs related to institutional change, probably investment in human capital is the most costly. As was argued in Section 2.2., mental models developed under the old system is a source of reference for economic actors, especially in case of high uncertainty. In such a case the old informal institutions and new formal institutions may not reinforce each other, which is called an “institutional disequilibrium” [see Furubotn and Richter, 1997, 23–4]. This can lead to higher transaction costs within the new governance structure. This is reinforced by the fact that it also takes time before the new formal institutions are established and function properly. 8 “Moral hazard is a problem of “post-contractual opportunism”, in that the presence of some unobservable (or unverifiable) action provides people with an opportunity to cheat after the deal is signed.” It is the existence of private information that creates possibilities for opportunistic behaviour [Molho, 1997, 8].


23

Thus, at the beginning of a transformation it can be expected that market transaction costs increase, also due to the fact that individual behaviour and organisational behaviour adapt slowly.9 Furthermore, the creation of new institutions requires large fixed transaction costs, which cannot be used for alternative purposes. As a result economic activity can be expected to decline. However, one difficulty in analysing transformation processes is that in the case of increasing economic freedom, due to change in formal institutions, incentives can be created for increased productivity and new economic activity, counteracting the decline in economic activity due to factors such as the high transaction costs resulting from fast institutional change. 2.3.2. Transaction costs defined Following Furubotn and Richter [1997, 43], three different types of transaction costs10 can be distinguished: market transaction costs, managerial transaction costs and political transaction costs. Transaction costs arise because information is never complete. Furthermore, people have limited cognitive and calculative abilities, and they make mistakes. Barzel [1989, 2] defines transaction costs as “the costs associated with the transfer, capture, and protection of rights”. Hazeu [2000, 9] defines a transaction as a transfer of property rights. Thus, when an object has different characteristics for which property rights can be defined, a transaction can also be the transfer of one or more characteristics of a good. Generally speaking, a transaction concerns a contract between two parties. According to Furubotn and Richter [1997, 43] “[t]ransaction costs embrace… the costs of establishing, maintaining, or changing a system’s basic institutional framework”. Each of the three types of transaction costs distinguished by these authors can be subdivided into “fixed” and “variable” transaction costs. “Fixed” transaction costs are “the specific investments made in setting up institutional arrangements” (governance structures) and are connected with the need for market safeguards against opportunistic behaviour. “Variable” transaction costs are the costs “that depend on the number or volume of transactions”. “Variable” transaction costs are the costs of “running an organisation” which can be divided into (i) information costs and (ii) what Williamson [1985, 1] calls “costs associated with the physical transfer of goods and services across a separable interface”. In fact, transaction costs are the costs of solving the co-ordination problem, which takes place at the level of governance. Market transaction costs are related to friction in using the market, and like any type of transaction costs consist of search, negotiation, and control costs. Search costs are the costs 9 In Poland many formal rules were changed overnight on 1 January 1990 by the so-called Balcerowicz plan. Prices were liberalised, legal institutions for creating a market economy were established, a lot of private companies came into existence. However, habits of people changed less quickly. Imagine someone who had worked for twenty years in a state-shop. Due to shortages, customer power was quite low and shop assistants could be quite rude to customers, because customers had little possibility of buying anywhere else. In a developed market economy suppliers have to compete for customers, while in the socialist shortage economy customers had to compete with each other in order to buy something. Habits developed under such a system are quite difficult to change. 10 Measuring transaction costs is quite difficult. Wallis and North [1986], in an attempt to measure the level of transaction costs in the American economy, describe specialised transaction resources that are bought or hired. They distinguish wholesale and retail trade (not transportation), finance, insurance and real estate as private-sector industries providing transaction services. Besides this non-government occupations for facilitation, co-ordination and monitoring exchange were distinguished: owners, managers and proprietors for co-ordination, clerical workers for processing of information, foremen and inspectors for co-ordination and monitoring of labour inputs, and police and guards for protection of property. However, various transaction costs borne by individuals should also be included, such as queuing and resources used for search in the factor or commodity market.

24

Chapter 2

of obtaining information.11 Examples are: searching for buyers and sellers; information about their culture and behaviour; existence, interpretation and means of enforcement of laws and regulations; and what is written in a contract and what is meant by it (e.g. hidden clauses, meaning of language, small print). An important problem is asymmetric information. This means that not all information is public. Private information exists, creating possibilities for opportunistic behaviour. In this case transaction costs are the costs of obtaining information about a trading partner (e.g. reliability) or product (e.g. quality). These costs can be significant in terms of time and money. Poznanski [1996, xvii] argues that private information cannot become completely public “because of different experiences and perceptions of actors and the conditions under which information was accumulated by an actor”. In other words, due to what Sen [1992] calls differing personal characteristics, communication of information is hampered. As Poznanski goes on, the “best” conditions for communicating information are trust and repeated interaction. However, achieving such a situation again involves high transaction costs. Negotiation costs are the costs involved in concluding a contract. Suppose a representative of a firm wants to conclude a contract with another firm. He has to negotiate with this other firm, as well as with the people responsible within his own firm. Besides, the necessary bureaucracy and paperwork are also included in these costs. Pejovich [1995, 84] argues that negotiation costs can be substantial when exchange partners do not know each other. These costs increase when not all the relevant information about goods and services is available. They also increase when goods and services are heterogeneous, i.e. when they have many valuable characteristics and measurement of these characteristics is expensive. Measurement of all characteristics would go together with high transaction costs, reducing the amount of transactions. Furthermore, when both parties try to negotiate safeguards against any future consequence of uncertainty resulting from high measurement costs and the impossibility of calculating the probability of certain events happening, negotiation costs are prohibitive. Thus, contracts are always incomplete due to high information and negotiation costs. Finally, control costs involve monitoring and enforcing the fulfilment of the contract. Suppose a firm sells some goods and ships them using a transport company. There are costs involved in activities such as checking whether the transport company does its job properly, whether the customer pays, checking whether there are damages due to non-fulfilment of the contract, obtaining the compensation of those damages and protection against theft. Consultants, a developed market structure with self-enforcing rules and a developed legal system are institutions that can lower those transaction costs. With respect to an STE (centrally planned economy), the main transaction costs are costs of planning. These costs mainly consist of information costs, which contain the costs of decision-making (e.g. collecting and processing information), negotiation costs (e.g. plan bargaining), the control costs of monitoring the execution of orders, agency costs and the costs of information management. An STE can be considered as one big company. According to such reasoning transaction costs in an STE are a kind of managerial transaction costs. Furthermore, following Williamson, the strength of incentives in the hierarchical governance structures of an STE is lower than in a market economy. 11 As Heyne [1994, 175] puts it, information is a scarce good. In order to obtain information a price has to be paid, including all the opportunity costs of postponing action. Saving on information collection increases uncertainty and may reduce the expected payoff of an economic activity.


25

However, there are some significant differences in the institutional environment and the incentive structure of an STE when compared with a large capitalist company. Although both use bureaucratic co-ordination to solve the allocation problem – as opposed to market co-ordination – in a capitalist firm the owner (owners), to whom managers are responsible and whose earnings are directly influenced by the manager’s behaviour, can be pointed out. Furthermore, a capitalist company operates within a more or less competitive market environment. In a socialist bureaucracy there is no direct owner whose earnings are influenced directly by the manager’s behaviour, while each bureaucratic “head has another head over him or her”. The motivation of the ultimate leader for decision-making are political rather than monetary [Kornai, 1992, 124]. Transaction costs in an STE are discussed in more detail in Chapter 4. 2.3.3. Transaction costs and transport costs In this section the difference between transaction costs and transport costs is discussed, as one part of the research in this thesis deals with the importance of transport and logistics, which is closely linked to transport, in transformation processes (Chapter 7). Both transport costs and transaction costs are important in the development of markets. Some authors define transport costs as a part of transaction costs [Gowland and Paterson, 1993, 37; see also Boehme et al., 1998, 5–6]. However, transaction costs and transport costs should be conceptually separated, as they focus on different aspects of an exchange of property rights. Transaction costs focus rather on friction in the working of markets connected with information and negotiation problems, as well as with opportunistic behaviour. Transport is more concerned with the movement of goods and services between different locations. In practice there are difficulties in distinguishing between transport costs and transaction costs [Furubotn and Richter, 1997, 40–1]. Property rights (on characteristics of goods and services) come into being because of interactions between two or more people. Thus, there must be an exchange between two parties. Robinson Crusoe alone on his island faces no transaction costs – there are no other parties [Cheung, 1998; see also Wagener, 1988]. When Robinson Crusoe transports a tree, this is a cost of production. When Robinson Crusoe travels over the whole island in order to search for peanuts, this is a cost of production. When Robinson just goes for a walk, this is transport for consumptive use. In the case there is a transaction with a second person, according to such reasoning, transport can be either a production, consumption or transaction cost, or all three together. In other words, it becomes more difficult to distinguish between transport costs and transaction costs. This problem increases with the introduction of logistic solutions. The difference between transport and transaction costs can be discussed with help of Furubotn and Richter’s definition of transaction costs presented in Section 2.3.2., which is partly an interpretation of Williamson’s definition of a transaction. “A transaction occurs when a good or service is transferred across a technologically separable interface [1985, 1].” In Furubotn and Richter’s definition, managerial transaction costs also consist of costs involved in intra-firm transport. But how should the following be interpreted? Suppose steel factory

26

Chapter 2

X buys coal from firm Y, located close to firm X. The transport of coal is a productive activity that adds value, so the costs can be considered to be transport costs as a result of an exchange between two market parties. However, if the two firms merge, according to Furubotn and Richter’s definition, the costs of changing the location of the coal would become variable managerial transaction costs (intra-firm transport). Especially in more advanced logistic systems (or in hybrid forms of property rights and/or co-operation within networks) the distinction between transaction and transport costs becomes less clear, due to the interrelationship between information systems and transport and production activities. The difficulty of making a distinction between transport costs and transaction costs can be illustrated by using three functions of transport for analysis. Transport has a consumptive function, a productive function and an integration function [Rydzkowski and Wojewódzka, 1997, 20–1]. An example of the consumptive function is demand for transport by tourists. In the case of sight-seeing tours, the transport is part of the product offered, thus in this case the transport costs are rather costs of production. The division becomes less clear in the case of a holiday-offer in Paris, to which the tourist first has to be transported by train, plane, bus or car. The productive function is connected with bringing factors of production there where they are valued the highest. In the case of shipping coal from the Upper-Silesian mines to an electricity plant somewhere else in the country, transport costs can be counted as a cost of production, although there are transaction costs involved in transport. An example is information. Transfer of information seems to clearly consist of transaction costs. An efficient flow of information, in an optimal situation, reduces the problems of incomplete and asymmetric information, while at the same time reducing search/information costs. Thus, expenditure on information systems or the Internet are transaction costs. However, information systems have become an integrated component of transport. Examples are information about routes, tracing and tracking, protection of loads against theft and insurance. Thus, transaction costs may make up an important part of transport costs. Transaction costs often also include transport costs. Suppose a sales representative uses a company car to visit potential customers. The costs incurred are transaction costs. However, during this trip the car can also be used to purchase and/or distribute goods (transport costs). In general, people tend to lower the opportunity costs of an action. The car can also be used privately. In this case its use by the representative is part of labour income. Business trips for a company can be combined with a holiday trip (or the other way round), lowering the opportunity costs of one of the two activities or both. This complicates the distinction between transaction costs and transport costs. In the case of reducing the cost and time of transport by improving infrastructure, more economic activity can be undertaken, and here, of course, it does not make any difference whether we define transport costs as transaction costs or not. The integration function of transport – the integration of the state and society through transport services – in fact influences social capital, and as an extension of and in combination with the transport infrastructure (in fact a multiple-use capital good) leads to lower transaction costs. Integrating Poland into the European transport network not only facilitates trade, but also facilitates contacts. This in turn facilitates the acquisition of knowledge


27

of other languages, lowering transaction costs of communication in activities such as international trade and transfer of know-how. Getting to know the culture of other countries reduces transaction costs in trade due to a lower probability of cultural misunderstanding, such as insulting someone because you do not know what the local, regional or national habits are. To conclude, a conceptual distinction between transaction costs and transport costs is useful for analytical purposes. In reality it is difficult to distinguish between them. Much depends on a strict definition. Even if it were theoretically possible, it may be not very useful to completely solve matters of definition. The reason for this is that the most important aim of making a distinction is to analyse friction in co-ordination in the form of transaction costs and to analyse transport as a factor of production which is reflected in transport costs. Both types of costs also go “hand-in-hand”. Cheaper transport, or an extension and improvement of the transport infrastructure, stimulates the extension of markets and increasing division of labour, which, ceteris paribus, increases transaction and transport costs. On the other hand, information systems are of crucial importance, in order to optimise transport and the logistic chain and to lower information costs. 2.3.4. The Coase Theorem, the public domain and opportunistic behaviour In this section the importance of the Coase Theorem for transformation of economic systems is discussed. This theorem, commonly used in environmental economics, is based on Ronald Coase’s article “The Problem of Social Cost” [1960]. The central point is that when transaction costs are zero, property rights are perfectly delineated and there is freedom of contract, in a decentralised economic system resources will end up in the place where they are valued the highest, independent of the initial distribution of property rights. Rational economic agents will always take all costs and benefits into account [Eggertsson, 1990, 19]. In the planned economy, there was no contractual freedom. It was almost impossible to transfer property rights. As a result, when opportunities for more efficient use of resources appeared, these opportunities were often left unused. With the introduction of contractual freedom in the process of transformation from a planned economy to a market economy, more efficient governance structures should be established by way of privatisation. In reality economic agents can be assumed to be boundedly rational, transaction costs are positive and property rights are not perfectly delineated. Bounded rationality means that behaviour is intentionally rational within the limits of incomplete and asymmetric information, human characteristics (e.g. limited calculative abilities) and limited time available to take decisions [Simon, 1957; Williamson, 1998; Hazeu, 2000]. Thus, people make choices that satisfy them, but these choices are not necessarily optimal from a theoretical point of view. As a result, inefficient institutions and governance structures may be the outcome of transformation processes. When transaction costs are positive, it is quite possible that resources are not transferred to the most efficient user [Eggertsson, 1990, 102], and an inefficient property rights order may be the result. When transaction costs exist, institutions and governance structures become important factors influencing economic outcomes. As will be elaborated in Chapter 3,

28

Chapter 2

a more decentralised system of economic organisation, such as a market, leads to lower transaction costs compared to a more centralised economic system such as central planning. Unclearly defined property rights lead to inefficiencies, which are mainly the result of the fact that marginal social costs are not equated with marginal social benefits. On the other hand, this leads to the shaping of institutions. When a property right is unclearly defined or enforced, individuals often try to obtain this property right. An example is interest groups, which try to influence legislation to their own advantage, while this legislation is inefficient from a social point of view. The pivotal point is that property rights can never be complete. A property right consists of different attributes. This implies that several property rights are in force, which have to be maintained. Control costs (e.g. preventing theft and unwanted use by others) are involved in maintaining property rights. There is a possibility that someone does not want to, or cannot, maintain property rights, leading to not completely delineated and enforced property rights, especially when: 1. The characteristic is not scarce, so it has no value and is of no (economic) interest. 2. The control costs of enforcement are too high. If children steal apples from apple trees, it can be too costly to protect the apple tree day and night. Time can be used for higher valued alternatives. A weak state and an inefficient “institutional governance” increase control costs. 3. Incomplete and asymmetric information exist, implying high transaction costs of measuring characteristics of property rights. 4. It is forbidden to let full property rights to be in force on some characteristic of a good. Regulations are an example of this. In other words, “when transaction costs are positive, rights to assets cannot be properly delineated”. Because property rights cannot be properly delineated, transaction costs exist in the process of exchange of assets. Reasons for this are that exchange partners try to establish the value of characteristics of property rights (information costs) and try to obtain value out of the public domain [Barzel, 1989, 3]. If someone does not want to, or cannot, protect a property right, characteristics of this property right are accessible to others. Because property rights can be seen as wealth titles, there is a possibility of obtaining income. It is also possible that no property rights are defined with respect to a scarce good (common property). In both cases there is value (attributes of a property right) in the public domain. As goods possess many attributes, the measurement of these attributes is too costly to be comprehensive or entirely accurate [Barzel, 1989, 114]. It is very difficult (rather impossible) to obtain full information about a property right, a problem also related to the existence of asymmetric information. Costs of measuring valuable attributes tend to be especially high in a period of rapid economic change. A struggle over the distribution of wealth worsens this problem [Eggertsson, 1990, 102]. The higher the measurement costs and costs involved in a “distributive struggle”, the less control an owner has over his property, creating opportunities for rent-seeking. This has significant consequences for changing the property rights order in former socialist countries by way of privatisation. Suppose someone wants to buy a factory in Poland and does not possess information about the government regulations,


29

about the correctness of the financial situation as written in the books or about the existence of an “environmental heritage”. In such a case it is possible that privatisation will not take place as a result of high transaction costs. Another option is that insiders such as managers of SOEs buy such a factory. As it is impossible to delineate property rights fully because goods have so many characteristics, there is a possibility for wealth-capture in every exchange. In every exchange some wealth spills over into the public domain, and individuals spend resources to capture it. Whereas people expect to gain from exchange and are believed to maximise their (expected) net gains, the revenues of exchange as conventionally perceived minus the cost of effecting exchange, they always spend resources on capture [Barzel, 1989, 3]. The argument that asymmetric information makes it impossible to specify complete and completely enforceable contracts, is connected with control costs. Asymmetric information means that private information exists. Private information, as opposed to public information, is unobservable to outsiders. The existence of private information and/or unobservable action that exists because of high control costs creates room for opportunistic behaviour [Molho, 1997].12, 13 A distinction can be made between pre-contractual and post-contractual opportunistic behaviour. Pre-contractual opportunistic behaviour concerns problems of adverse selection (or lying) due to asymmetric information. This is well known in insurance. An insurer has less information about the state of health of a potential client than the potential client himself. When there is a flat rate insurance premium, the insurer can expect to attract mostly high-risk cases (e.g. old people, people already ill). Or a potential employee applying for a job has more information about his qualities than an employer [see Akerlof, 1970]. Institutions like diplomas can lower the information problem by way of their signalling function. Post-contractual opportunistic behaviour, also called moral hazard or cheating, involves hidden action, and happens after the contract has been concluded. Although the notion of moral hazard is often used in insurance theory, it can be applied more generally. The fundamental idea of opportunistic behaviour is that people are inclined to use and/or find opportunities for increasing their income. This rent-seeking behaviour is stimulated by the existence of poorly defined and/or not specified property rights on characteristics of goods. For analytic purposes it does not make any difference whether wealth-capture happens in an honest or dishonest way. However, opportunistic behaviour and rent-seeking are often cases which involve what can be called “negative” co-operation between economic actors for redistributive purposes, as opposed to “positive” co-operation for productive purposes. As argued earlier, there can be no 100% public information (abstracting from future information). The moment that there is no 100% public information, e.g. private property rights are established and enforced on certain information, leading to informational asymmetry, “market failures” come into being. Private information gives an incentive to lie. However, if all information became public immediately, the incentive to innovate or to introduce new management or distribution techniques would be weaker. Thus, a perfectly working market gives weak incentives for innovation, because information is publicly owned. However, it is not a public good in a dynamic world, because when someone uses the information about a new invention, the information can still be used, but its utility declines. As Heyne [1994, 183] puts it, “the most serious objection to any full disclosure requirement is that requiring people to reveal everything they know prior to any transaction would destroy much of the incentive to acquire costly but socially valuable information” (e.g. writers, inventors). Thus, it can be argued that when an institution is created that discloses information immediately, transaction costs are lower, while at the same time it gives disincentives to search for new information. In other words, private information to a certain extent stimulates economic activity. 13 In the case of honesty there is no opportunistic behaviour. However, there still exists a motivation problem as well as transaction costs due to the co-ordination problem and limited human capacities (like bounded rationality) and human fallibility. In the case of honesty there will also be information, negotiation and control costs, but they will become lower because the problem is more technical than psychological/sociological. 12

30

Chapter 2

When there is value in the public domain, institutions and governance structures come into being, in order to redistribute this value. The lower the transaction costs of obtaining value out of the public domain, the larger such an institution or governance structure becomes (this argument returns in Chapter 6 on queuing). When “institutional governance” is inefficient and strong regulations exist, this can stimulate incentives for illegal activities. When the causes of this rent-seeking are gone, criminal structures (e.g. gangs) are likely to survive and to discover new opportunities of obtaining value out of the public domain. In general, the higher the transaction costs, the larger the value in the public domain. Consequently, there are more opportunities for rent-seeking, stronger incentives for redistributive activity and weaker incentives for productive activity.

2.4. Concluding remarks In this chapter the tools of NIE, in particular transaction costs, incentives and institutions, were discussed within a framework of comparative economics. The notions of transaction costs and incentives will be used and applied in the rest of this thesis on institutional change in Poland’s economic system since the 1970s. Formal and informal institutions provide incentives for economic activity, which takes place in governance structures. Transaction costs determine which type of governance structure is most efficient to solve the co-ordination problem. “Institutional governance” is needed to enforce the rules of the game. An important role of institutions is to create a stable framework for economic activity and to reduce uncertainty. However, uncertainty, mental models and limited cognitive abilities help to explain the existence of inefficient institutions, a topic to be elaborated more deeply in the next chapter. Furthermore, even when more efficient formal institutions are introduced, the effect of informal institutions acts as a brake on the transformation process. Values and other informal institutions are important when studying the decline of the STE (see Chapter 4) and the economic transformation of these economies to a Market-Type Economy (see Chapter 5). As will be argued, in the case of Poland the informal institutions supporting the socialist economic system were slowly hollowed out. The loss of belief in the system and the ruling party led to increased opportunistic behaviour which resulted in higher transaction costs, while incentives for productive activity weakened. However, the system also led to, or “strengthened”, a low-trust society with a low propensity to co-operate and values, mentality and behaviour not fit for a market economy. This caused higher market transaction costs and difficulties with organisational adaptation and the creation of new governance structures during the transformation to a market-oriented economy. When transformation proceeds slowly, and there is great uncertainty about the future development of institutions accompanied by a long economic recession, this can adversely influence the already “deformed” values from the socialist times, enforcing an institutional disequilibrium. As was argued, economic actors fall back on their mental models when uncertainty exists. This in turn negatively influences economic activity, due to higher transaction costs and adverse reactions to new market institutions.


31

In the privatisation process the value in the public domain is very likely to increase. Not only because many property rights are unspecified or unclearly defined, but also because during exchange some attributes of property are always accessible to rent-seekers. The problem of rent-seeking is likely to increase also due to high enforcement costs, as many legal institutions and “institutional governance” are not fully established yet. More wealth-maximising behaviour will be directed towards redistributive activity, less to productive activity. Thus, weakening property rights under socialism contributed to economic stagnation, and weakened even more due to the privatisation process and the uncertainty accompanying this process. This can (partly) explain the fall in output at the beginning of the 1990s. The moment property rights (and other institutions) strengthen, the value in the public domain decreases, which lowers incentives for rent-seeking and directs incentives towards productive economic activity.

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Chapter 3 TRANSACTION COSTS, INSTITUTIONS AND ECONOMIC PERFORMANCE

3.1. Introduction In this chapter the theoretical framework of New Institutional Economics (NIE) as presented in Chapter 2 is further developed and deepened towards a more specific theoretical framework for analysing processes of economic transformation from a socialist to a market economy in Poland within the context of the influence of transaction costs and incentives on economic performance. First, the importance of institutions and transaction costs for economic performance is elaborated (Section 3.2.). Then incentives and transaction costs in strong and weak economic systems are discussed (Section 3.3.). This distinction is important for comparing the performance of different economic systems (Section 3.4.). Afterwards, three factors that lower transaction costs are discussed – market competition and law of contract, social capital and physical infrastructure, transport and logistics (Section 3.5). Then the question of why inefficient institutions may survive for a long time and why it is difficult to create efficient institutions is addressed (Section 3.6.). In other words, why is history not a story of “increasing wealth of nations?” Why can societies also become impoverished or stagnate? In the next section the question of when transformation is over is addressed (Section 3.7.). Finally, some theoretical implications for the process of institutional change in Poland are summarised (Section 3.8.). An important finding is that the development of institutions determines the level of transaction costs. The level of transaction costs in turn determines which form of governance is most efficient for solving the allocation problem. In the process of rapid institutional change towards a market economy it is likely that transaction costs increase. However, on the one hand, incentives for economic activity are likely to strengthen as a result of economic liberalisation. On the other hand, incentives are adversely influenced by, among other things, uncertainty, mentality developed under the old system and high transaction costs.

34

Chapter 3

3.2. Transaction costs, institutions and economic performance 1 Douglas North [1990, 1994] (following Adam Smith) considers an efficient solution of the co-ordination problem, the way in which a society’s wishes are reconciled with scarce resources, as the most important factor of growth of welfare. The process can be described as follows. • In the long-run the advantage of further division of labour, gains from trade, and technical innovation leads to increasing returns to scale. • When the scale of production increases (as well as the scope of the market2) the number of complex transactions also increases, leading to increasing transaction costs and greater individual uncertainty. • When production is organised in a technically efficient way, a large part of wealth-maximising behaviour is used for improvement of production techniques and minimisation of transaction costs. Pejovich [1995, 88–90] gives three major reasons why transaction costs in a growing economy increase: the replacement of personal exchange (repeated dealings) by impersonal exchange; capital intensive production techniques stimulate growth in the size of firms, leading to increasing managerial transaction costs; and gains from trade can lead to conflicting interpretations about the rules of the game, the institutional arrangement, and the distribution of income leading to increased spending on “defining and enforcing the rules of the game”. The first reason concerns the changes connected with economic growth that go together with an expanding market. Suppose that in a traditional society people only trade with other people they have known for a long time. In such a case the costs of searching for clients are quite low, and so are negotiation and control costs. In the case of repeated transactions in a traditional society, the consequences of cheating can be major, e.g. the cost of not paying can be becoming an outcast for the rest of your life, or losing your good name. With an expanding market, due to division of labour and gains from trade, this repeated trading is replaced by impersonal exchange. The more the market expands, the longer the chain of unknown exchange partners. The increase in the working of such an expanding market’s invisible hand is not a free ride. Search costs in the form of searching for clients and new markets increases. As exchange becomes impersonal, negotiation costs and control costs also increase. Control costs increase because, inter alia, if you do not know someone, it is more difficult to foresee whether he will cheat or not. For the contract partner the incentive to cheat is bigger when he does not know you and the exchange is not repeated. The importance of transaction costs in economic growth is described in Figure 3.1. A stable institutional framework is important for reducing market transaction costs and uncertainty. A market reduces the costs of searching for clients, a reputation reduces control costs, an efficient legal system reduces enforcement costs. However, with increasing trade, the level of transaction costs increases, as existing institutions and governance structures can handle efficiently only a certain number of transactions. Institutions may be suitable for a certain production- and allocation structure. At a certain moment a limit is reached where This section is partly based on Platje [2001]. In an STE the task of the planner would increase. When the planner cannot solve the co-ordination problem efficiently, the size of the “informal market” is likely to increase. 1 2

35

Transaction Costs, Institutions and Economic Performance

the rules of the game that first stimulated the making of transactions now hamper the process, such as legal rules that do not take into account new technological developments, or institutional arrangements that do not suit such new developments. More friction comes into the system, making institutional change necessary in order to facilitate trade and economic growth. If this does not happen, transaction costs can become so high that economic stagnation takes place. As discussed later in this chapter, institutional change is costly and is very often not in the interest of all the parties in the economy. Inefficient institutions, which are difficult to change, can be the consequence.

Institutional framework facilitating economic growth

Economic growth

More transactions

Higher (marginal) transaction costs

Existing institutions and governance only fit to deal efficiently with a certain number of transactions

Change in institutions and governance structures needed to lower (marginal) transaction costs

Figure 3.1. Relationship between institutions, transaction costs and economic growth.

Following North, the relationship between institutions, transaction costs and economic performance can be put in slightly different words. A two-sided problem can be distinguished: 1. The problem of a technically efficient set-up of production (static and dynamic efficiency). This directs the searching behaviour of individuals in such a way that they really aim for technical efficiency. 2. The problem of a socially efficient set-up of production. When transaction costs decrease, technical economies of scale are obtainable. The idea is that the social organisation is set up in such a way, that approximations to static and dynamic efficiency are achieved. Of course there will be space for strategic or opportunistic behaviour. The main factor is not the transaction costs, but the cost of loss of technical efficiency. North [1994, 359] argues that when economic actors aim for technical efficiency, even when they initially use wrong models, they will change these models due to competition of the market. Another question is what incentives exist under different governance structures in order to lower transaction costs. The more competition, the stronger the incentives to lower transaction costs. In a shortage economy customers will come anyway, while the market transaction costs for firms/planner are low. This provides weak incentives to lower the transaction costs of allocation. Also, under market competition there is an incentive for a firm to reduce costs, because gains are felt directly. In other words, which institutional environment reduces transaction costs? It is possible to imagine an organisation where everyone aims at improving

36

Chapter 3

technical efficiency, but where the advantages immediately leak away in transaction costs.3 In other words, striving for lower transaction costs can lead to a design of efficient institutions, while high transaction costs can lead to inefficient institutions and inefficient governance structures for concluding transactions [Groenewegen et al., 1997, 67].

3.3. Strong and weak economic systems Traditionally, the property rights order (public vs. private property) and the co-ordination mechanism (plan vs. market) are considered to be the two most important elements of economic systems. Table 3.1. presents a classification of economic systems. State socialism is characterised by planning and public property, while the market and private property are characteristics of capitalism.4 Table 3.1. A classification of economic systems.

Private property

Public property

Market

Capitalism

Market socialism

Plan

Excessively regulated “mixed economy”

State socialism

Source: Poznanski, 2000, 209.

Poznanski [2000] argues that some connections are “natural” and some are not. Kornai argues that market and private property, as well as plan and state property have “strong” connections, while in market socialism and the excessively regulated „mixed economy” the connections are “weak”. This is important when analysing the decline of state socialism and transaction costs and incentives in processes of institutional change. Poznanski [1996] broadens the simple typology given above. He argues that each co-ordination mechanism and property rights order can take two forms: “normal” or “pathological”. When considering public property, this takes the „normal” or „strong” form when it is enforced, and the “pathological” or “weak” form when there is large value in the public domain, leaving much room for rent-seeking. Thus, according to this view, a market with private property is not necessarily a “strong” economic system when the enforcement mechanism fails and control costs are high. As each of the property rights order and co-ordination mechanism has its “weak” and “strong” form, not four but 16 types of economic systems can be distinguished. 3 It can be argued that this was more or less the case with slavery. Suppose the owners of the slaves aim at technical efficiency, and appropriate value by paying the slave only a fraction of his marginal product (in order to survive). The slave has a weaker incentive to produce efficiently than when he earns the entire marginal product. The relative advantage of slavery is reduced due to the existence of transaction costs, mainly as a result of different agency problems and specific problems connected with slavery. This concerns costs of controlling consumption behaviour that collides with productivity aims (e.g. alcoholism), costs of controlling whether a slave is really ill and that he does not injure himself on purpose, costs of preventing the damage of productive assets on purpose, and control costs of with preventing an uprising. Although pain incentives may increase the productivity of slave labour, control costs can wipe out any of these productive gains [Eggerstsson, 1990, 204–5; 208–9]. 4 Of course in every economy there are more types of property rights than private and public (such as co-operatives, and hybrid forms) and there are other co-ordination mechanisms at work like tradition and the family (which are still important in developing countries). However, in former STEs and in Market-Type Economies (MTEs) the first of the mentioned property right orders and co-ordination mechanisms are the basic forms and make comparison and analysis of change possible.


37

Generally speaking, when market institutions are developed and enforced, this leads to lower market transaction costs. In this case the market becomes more attractive compared with planning. As markets are supposed to provide stronger incentives for economic activity and efficiency than hierarchies, capitalism provides the strongest incentives. Regulation weakens incentives and creates more opportunities for rent-seeking. Incentives in market socialism are weaker than in capitalism, as public property is supposed to provide weaker incentives than private property. Incentives in the planned economy can be strong when there is a small group with a strong interest in good economic performance (Olson’s “encompassing interest” [Olson, 1992], discussed in Chapter 4). Each economic system has its own rules of the game under which it (theoretically) functions. In a “normal” system enforcement of those rules is not much of a problem. The acceptation of the system is important in relation to the way the system functions, which in turn reinforces acceptation. Thus, in capitalism an adequate and accepted property rights order is indispensable. Enforcement and protection of this property rights order facilitates enterprise. As was shown in Table 1.1. (Chapter 1), strong incentives and a low level of transaction costs positively influence economic performance. However, when dirty tricks with bookkeeping is possible, like in the case of the American company Enron that went bankrupt in 2002, the average investor cannot trust the information that is provided anymore. Then we may come close to the “pathological” case. Here uncertainty and transaction costs increase due to, among other things, informational problems, the demand for more safeguards to insure against opportunistic behaviour and enforcement problems. In the case that incentives remain strong but transaction costs increase, the effect on economic performance becomes unclear. However, acceptation of the existing system can fall, leading to an institutional disequilibrium. When there is large value in the public domain in such a situation, wealth maximising individuals aim their efforts at redistributive activities (rent-seeking) rather than at productive activity, weakening the incentives for economic activity. Such a situation of weak incentives and high transaction costs negatively influence economic performance.

3.4. Transaction costs in Soviet-Type Economies and Market-Type Economies: a comparison 5 In this section an attempt is made to compare transaction costs in Soviet-Type Economies (STEs) and Market-Type Economies (MTEs).6 Although the market mechanism fails on several points, which is an argument for the case of planning or government intervention, one of its strengths is the price mechanism that lowers transaction costs. Figure 3.2. illustrates the increasing transaction costs in a growing economy and the typically higher transaction costs in an STE (due to inherent inflexibility and adaptive inefficiency) compared to a MTE. The MPC (marginal production costs) curve is downward sloping due to economies of scale. The MTC (marginal transaction costs) curve is upward sloping because with increasing production more complex transactions take place leading to diseconomies of scale.7 First the MC This section is partly based on Platje [2001]. The factors behind the development of transaction costs in MTEs are not discussed in detail here. For transaction cost lowering institutions in MTEs please refer to Section 3.5. 7 It is argued here that transaction costs show diseconomies of scale. However, it can also be argued that up to a certain level of output economies of scale exist, while after that point diseconomies of scale set in. 5 6

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Chapter 3

(marginal costs = MPC + MTC) curve shows a declining trend. However, at a certain point exchange becomes so complex, that the economies of scale in production are more than offset by the increasing transaction costs. While the economy was growing, institutional change took place in MTEs, causing MTC to shift to the right to MTC’ and MC to shift downwards to MC’. As a consequence output increased from Q to Q’. STEs did not show such adaptive efficiency, causing the marginal transaction costs to increase, leading to lower output and less possibilities of taking advantage of economies of scale in the production process compared with MTEs. Neal and Barbezat [1998, 56] argue that “[t]he primary factor in the growth of European production and trade has been technological progress, which has created new goods not even imagined in 1958, reduced the cost of producing other goods that were available in the United States but not yet in Europe, and reduced the business transaction costs, including the shipping charges, and costs of inventory control and marketing.” Economic integration and an increase in international trade were important factors stimulating economies of scale, due to specialisation and the spread of innovations throughout MTEs. An interesting argument is given by Hazeu [2000, 47–8]. The development of market institutions reduces market transaction costs, making market-type solutions with respect to governance more attractive. He mentions fast technological development in information and communication technology as examples of sources of reduction of market transaction costs, because these new technologies reduce the transaction costs of measuring external effects, in turn reducing the problem of market failure. Furthermore, this technological development makes markets more transparent, reducing information costs.8, 9

Figure 3.2. Transaction costs in Soviet-Type Economies and Market-Type Economies. 10 This is connected with logistics. Hazeu [2000, 49] gives an example of the barcode, which lowers transaction costs for consumer and producer. When a product is sold quickly, new supplies can be arranged fast so that consumers do not have to buy a second-best product, which would lead to lower utility. Furthermore, the company can manage stocks more efficiently and lower costs. In general, the development of information and communication technology makes new logistic solutions possible, leading to a reduction in (marginal) market transaction costs. 9 Although transaction costs and institutions are important determinants of economic performance, they are surely not the only ones. North and Thomas [1973] argue that efficient institutions stimulating entrepreneurship and protecting private property are the most important explanatory variables of the “economic miracle” in the Netherlands in the 17th century. However, other factors like natural resources (e.g. water, peat), human and physical capital, external factors (e.g. war with Spain, Treaty of Westphalen), infrastructure, geography and level of urbanisation are also important [see de Vries, 1997]. 10 This figure is based on Henk W. Plasmeijer’s lecture synopsis for the course “An Introduction to Institutional Economics” given at Groningen University during the academic year 1994–95. 8


39

While the (marginal) market transaction costs declined due to the integration process in Europe and the development of market institutions (shift to the right of the MTC curve), in STEs planning transaction costs increased due to “failed” reforms and an increase in the scale of the planning problem, as well as the principal-agent problem. Although there were economies of scale in STEs, innovation, integration and specialisation (trade) lagged behind. This is discussed in more detail in Chapter 4. When the economy was rather undeveloped, the institutions of STEs were effective for fast development of productive forces. Because the scale of production did not cause many complexities, economies of scale could be obtained.11 The institutional structure and the property rights order brought the “structural production possibility frontier” (the set of possible organisations that shape the structure of property rights minimising costs and maximising output) close to the “technical production possibility frontier” (the stock of knowledge and endowments that determine the upper limits of productivity and output) and caused the latter to expand. Solving the co-ordination problem by way of planning became more difficult as a result of an increasing scale of production and the use of more advanced technology. Due to increased problems of planning, the transaction costs of using technology increased. An example is the huge barriers created by high transaction costs and disincentives that existed for applying new technology developed for military purposes in the consumption and distribution sector. MTEs were more innovative in a technological sense, making the “technological gap” compared to STEs bigger. The technological development in MTEs, stimulated by the institutional environment, made institutional change necessary. This was more successful than in STEs, of which the distribution sector is a good example. Although technological change in STEs proceeded at a lower pace and the hierarchical governance structures provided weaker incentives for finding transaction cost lowering solutions compared to the more horizontal governance structures in MTEs, institutional change took place by way of reforms. However, these reforms were hampered by internal factors. The most important obstacle may have been the monopoly of the Communist Party on power [Lavigne, 1999 (b)]. As a consequence of these failed reforms, transaction costs increased. The existing shortages and the consequent growth of the parallel economy undermined the effectiveness of planning 12 and led to higher transaction costs in the distribution sector.13 Changing the rules of the game, with the structure of property rights as the most important one, was necessary to allow the “structural production possibility frontier” and the Planning can be quite effective in generating investment and fast growth in key sectors (e.g. heavy industry) that are the basis of further economic development. In Western Europe just after World War II, where the market had a bad name and market institutions were not well developed, government planning and intervention had a large impact. “There was no functioning private sector to which to turn in order to mobilize the investment, capital goods, and skills necessary for reconstruction and recovery; international trade and payments had been disrupted. Governments would have to fill the vacuum and take charge. They would be the organizers and champions of recovery. There was nothing else” [Yergin and Stanislaw, 1998, 21]. 12 Pejovich [1995, 112] argues that a planner in fact has an interest in keeping shortages. If shortages disappear, and the co-ordination mechanism works without many problems, a planner loses his distribution function, a function which gives him economic power. An implication for transformation is that a bureaucrat (planner) loses economic power, and in order to facilitate institutional change he can be given an interest in the new system. This might already have happened under the old system, where many of them had started their own business. 13 Paradoxically, the informal economy was on the one hand a “lubricant” of the planned economy, stepping in where there were planning failures. On the other hand, it undermined the system of central planning. The institutional environment was hostile with respect to markets (in most cases markets were illegal) and there was a lack of institutions that facilitated market transactions (e.g. no legal system to enforce market contracts). However, trade existed because of substantial gains from trade and the fact that some forms of trade, in particular trade “that can be consummated on the spot”, were self-enforcing, because the gains of the parties involved was large enough to let transactions take place, despite high transaction costs [Olson, 1992, 62]. 11

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Chapter 3

“technical production possibility frontier” to expand simultaneously and to lower transaction costs. The co-ordination problem of equilibrating demand and supply increased. In Poland, shortages intensified at the end of the 1970s, becoming a bigger problem in the 1980s, being very intensive in 1981, and staying, until at least 1987, at a far greater level than in the 1970s [Hockuba, 1995, 30]. The incentive structure was negatively influenced. There was too little innovation due to the structure of property rights, labour morale declined and control costs increased (e.g. army, police, the bureaucratic apparatus). Thus, following the classification of Table 1.1., a situation came into being where incentives were weak and transaction costs high. This negatively influenced economic performance. In many MTEs incentives were stronger and transaction costs lower. This helps to explain the better economic performance of MTEs. It can be concluded that when the number of transactions increases and transactions become more complex, marginal transaction costs in a hierarchical governance structure increase rapidly. As a consequence a planned economy, other things equal, faces higher transaction costs compared to a more decentralised economic system such as a market economy, and is likely to show worse economic performance in the long-run.

3.5. Factors that lower transaction costs Many factors exist that lower transaction costs such as competitive markets and well-defined property rights, social capital, signalling, economic freedom, “hardware” in the form of the physical infrastructure and information systems, improvements at the level of governance (e.g. logistics and organisational improvement) and efficient “institutional governance” in the form of an efficiently functioning judicial system and properly functioning public administration. This section discusses some factors that lower transaction costs, and in this way stimulate economic activity, which are applied in the rest of this thesis. First, the formal institution of market competition and law of contract is discussed. Then the informal institutions of social capital, and finally physical infrastructure, transport and logistics are elaborated. 3.5.1. Market competition and law of contract The joint functioning of market competition and law of contract reduces transaction costs [Pejovich, 1995, 85–6]. First of all, standardised contracts reduce negotiation costs. With repeated exchange, the conditions for exchange do not always have to be re-negotiated. Furthermore, under conditions of competition, suppliers have a strong incentive to offer contractual terms that satisfy consumer preferences (at least for the average consumer). Secondly, the information costs connected with the problem of asymmetric information can be reduced by way of, inter alia, warranties, guarantees and cash-refund in cases of bad quality [see Akerlof, 1970]. In addition to this, a law of contract that can be easily enforced (efficient “institutional governance”) lowers negotiation and control costs, because contract partners are expected to keep their promises rather than to engage in opportunistic behaviour. Thirdly, in most cases, law of contract can enhance efficiency by providing the contract


41

partners with the opportunity of fulfilling the contract or compensating for damages due to non-fulfilment of the contract. When transaction costs of using the market are lower, ceteris paribus, trade is likely to increase, and resources are likely to be allocated to the highest valued use. A properly functioning market stimulates competition. Competition ensures that repeated failure to fulfil contractual obligations means losing business to competitors. Thus, competition provides incentives to do what is promised and to lower control costs. A good reputation gives a competitive advantage in the sense that it lowers information costs because consumers tend to trust that the quality of the product or service is good. Reputation also lowers negotiation costs and control costs. People trust that the seller will not engage in opportunistic behaviour and keep his contractual obligation. This is related to the notion of social capital, discussed below. However, building a reputation is costly. Besides, in the process of selecting traders with a good reputation, resources have to be spent on providing safeguards against opportunistic behaviour (e.g. credit bureaux and security deposits). The law of contract facilitates the selection of reputable traders, and thus in this sense also reduces transaction costs. Another transaction-cost lowering feature of the market is that private property, competition and economic freedom facilitate the creation of new exchange opportunities, while there is a learning-effect of repeated dealing. Pejovich argues that private property is also a transaction-cost reducing institution, by creating incentives for economic actors (buyers and sellers) who perceive benefit to reduce transaction costs. Furthermore, competition in the market is knowledge creating. It stimulates innovation, which besides new products, new ingredients and new production methods, also means transaction cost decreasing devices and methods. The profit motive is important for transaction cost decreasing innovations. Bar codes, computer systems and logistic information systems lower the cost of obtaining information about consumer preferences.14 The fundamental advantage of markets is that they lower transaction costs by putting a value on goods/services, while prices provide valuable information. 3.5.2. Social capital Social capital is an informal institution that lowers transaction costs. It consists of a set of rules, which in sociological literature is typified as “norms and values”. In this section the importance of social capital in the form of trust for economic performance is discussed [see Casson, 1993; Putnam, 1993]. Trust can be defined at the individual and the social level. At the individual level, trust is important in an economic transaction as it concerns the “mutual confidence among parties to an economic transaction” [Raiser, 1999, 3; see also Paldom and Tinggaard Svendsen, 2000, 342]. At the social level trust has been defined as “social capital facilitating the provision of collective goods” [Raiser, 1999, 3]. In other words, it is “the capability that arises from the prevalence of trust in a society or in certain parts of it” [Fukuyama, 1996, 26]. From this point of view, trust lowers problems with the introduction of formal institutions, which have features of a public good. This is discussed later in this chapter. Zucker [1986, see also Raiser, 1999, 4–5 and Raiser et al., 2001, 2–3] distinguishes three types of trust – ascribed trust, process-based trust and extended (generalised) trust. 14 Although such information systems lower transaction costs, the danger exists that they will be abused. They not only lower the transaction costs of trade, but also the transaction costs of criminal transactions.

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Chapter 3

These types of trust and their influence on transaction costs and adaptive efficiency, the ability to change governance structures when (relative) transaction costs change as a consequence of technological and/or institutional development, are presented in Table 3.2. Following Raiser, social capital in the form of trust can be formal and informal. Informal social capital consists of ascribed trust and process-based trust. Ascribed trust concerns transactions between individuals having family ties or being close friends. Process-based trust is trust which is built-up in repeated transactions, and is a form of transaction-specific investment. Trust helps to build up a reputation, which has a signalling function. Informal social capital is rather a private good, but also has features of a public good. It is a private good in the sense that it is an investment in social networks by individuals [Bourdieu, 1993]. When trust exists, information, negotiation and control costs are lower. As the characteristics of the contract partner are known, information costs are very low, and know-how transfer is easier. Furthermore, when there is trust that the partner will not lie or cheat, no special contractual safeguards are required. Monitoring costs are low, as contracts are rather “self-enforcing”, because of the fear of loss of reputation, which is a business-asset. Trust in workers can be motivation enhancing, while an organisation can be organised more flexibly and responsibilities can be transferred to lower levels, due to the reduction of the agency problem. Table 3.2. Three different types of trust.

Type of trust

Definition

Influence on transaction costs and adaptive efficiency

Informal social capital – Ascribed trust.

Trust with private and public good characteristics. Between family members (kinship), close friends.

Lowers costs of transactions between individuals.

Informal social capital – Process-based trust.

Formal social capital – Generalised or extended trust; confidence and trust in formal institutions and “institutional governance”.

Trust with private and public good characteristics. Between individuals who have repeatedly concluded transactions with each other, not being loyal to a specific group. Trust as a public good, facilitating transactions with unknown or little known individuals or organisations. This type of trust can be strengthened by common religious values, belonging to the same social/cultural group, etc.

Relational capital – inefficient when restricting outside options, hampering innovation and change in governance structures. Can lead to corruption, etc. Unclear effect on economic performance.

Extended trust facilitates efficient third-party enforcement. Lowers transaction costs. Efficient third-party enforcement stimulates extended trust. Supports institutional equilibrium. Positive effect on adaptive efficiency and economic performance.

Source: adapted from Raiser [1999] and Raiser et al. [2001].


43

A lack of trust creates barriers to co-operation. This has an influence at all levels of social and economic life. Not only market transaction costs increase and adaptive efficiency deteriorates, but within organisations agency problems increase (increasing managerial transaction costs) and political coalitions become more difficult (increasing political transaction costs). This makes it more difficult for the government to step in where market transaction costs are high. However, ascribed and process-based trust can lead to exclusion of individuals who are not a “member of the club”, in other words, a low propensity to co-operate. This hampers innovation, adaptive efficiency and expansion of governance structures. Also, family firms are likely to be closed to non-family members. As a consequence, small firms are likely to prevail. In other words, there is a lack of spontaneous sociability, “the capacity to form new associations and to cooperate with them within the terms of reference they establish” [Fukuyama, 1996, 27]. In former STEs many people relied on family and close friends, as participating in broader networks was risky because of the suppressive system. At the “top of society” there was the closed nomenklatura network. These networks were not open to outsiders, while often being non-transparent. As Raiser et al. [2001] argue, when a certain group or certain people have “connections” with public officials, this can lead to corruption and clientelism, and undermine trust in public institutions. “Otherwise admirable norms of behaviour can, under some conditions, prove costly for economic efficiency and development” [Rose-Ackerman, 1998, 303]. This may also lead to situations where people in certain positions assign positions to people they trust (e.g. friends). Trust is important here, because people tend to cover each other in connection with corrupt deals [Rose Ackerman, 1998, 305]. Informal social capital also has public good features. At the local level it facilitates collective action and the provision of public goods in small communities [Coleman, 1998]. All in all, informal social capital can have positive and negative effects on economic performance, making the total effect uncertain. Formal social capital concerns extended trust and confidence and trust in formal institutions and “institutional governance”. This type of trust supports an institutional equilibrium, hence reduces uncertainty and leads to acceptance of formal rules of the game, reducing the transaction costs from court cases. In other words, social capital can make up for weak or missing formal institutions, such as missing property rights, and lessen problems with incomplete contracts and rent-seeking. When there is a strong value of mine and thine, people do not have to care so much about leaving the door of their house or car open. Furthermore, when equity is promoted, this stimulates social cohesion and reduction of the cost of social antagonism. Extended trust lowers control costs, as it facilitates the enforcement task of “institutional governance”. Only relying on formal procedures for contract enforcement can be very costly. On the other hand, as Raiser et al. [2001] argue, efficient “institutional governance” supports the building of extended trust. Process-based trust is a necessary, but not a sufficient condition for extended trust to develop. Experience with “institutional governance” is in fact also a process, thus the creation of trust in public institutions is to a certain extent “process-based”. When “institutional governance” is efficient and credible, this lowers the incentives for opportunistic behaviour and reduces transaction costs. Extended trust and propensity

44

Chapter 3

to co-operate can improve adaptive efficiency, as networks are more open to outsiders. Governance structures can react faster to technological and institutional changes, and the introduction of new transaction cost minimising solutions is facilitated. Overall, formal social capital positively influences economic performance. 3.5.3. Physical infrastructure, transport and logistics Transport and physical infrastructure are important factors stimulating economic activity. An efficient institutional environment, i.e. a proper economic and legal infrastructure, will not improve economic performance without spatial and physical infrastructure. Infrastructure includes not only roads, railways and telecommunication, but also, inter alia, warehouses, gasoline stations, repair shops, public utilities, fire-brigades and hospitals. Transport can be seen as a process of or system for “carrying passengers or goods from one place to another” [Longman, 1995, 1538]. As Adam Smith already recognised in Chapter 3 of his Wealth of Nations [1776], transport and infrastructure make the spatial distribution of economic activity possible, increase potential output in an economy by lowering factor costs, increase factor mobility, and enable division of labour and obtaining gains from trade. Transport and a developed physical infrastructure stimulate competition by expanding markets and indirectly stimulate the search for transaction cost lowering solutions. Furthermore, they strengthen incentives for inefficient firms to restructure and look for new markets or to leave the market [see Boehme et al., 1998, 17; Aghion and Schankerman, 1999]. Investment in infrastructure can lead to lower transaction costs. Investment in telecommunication lowers the cost of transferring information. The rapid development of computer hardware and software makes, besides faster communication, large cost savings possible on information processing. This may also lead to lower transportation costs, as in the case of a pizza deliverer using a computerised system for planning the most efficient route for delivering pizzas. The development of physical infrastructure also increases the distribution range of information, like newspapers and books. However, these effects are stronger in the case of the Internet and the increased possibilities of information transfer created by telecommunication, electricity grids and cable networks.15 Transport and infrastructure stimulate regional development, and can have positive spill-over effects on other regions and other sectors. When transport and infrastructure are well developed in one region, this may attract industries, which in turn increases the demand for specialist transport services and infrastructure. This is rather an example of external economies of scale. However, it is possible that some regions remain behind. An obvious example is the city-countryside contradiction. The development of physical infrastructure, information technology and information systems enhance economic activity and lower marginal transaction costs. But when a region or country “misses the boat”, due to their comparative disadvantage, they lag even more behind – increasing the difference between rich and poor within and between countries.16 In this case, a kind of path-dependency exists, as it is difficult and costly to change infrastructure. 15 Although this physical infrastructure increases the availability and quality of information, there are problems with selecting and finding the necessary information in the enormous load of information available and problems with the reliability of information. 16 This argument is developed by Castells [1996] with respect to the rapid development of information technology, where the danger exists that large parts of the population within countries, as well as whole countries (e.g. in Africa) will lag behind economically, while due to a stronger division within society “social exclusion” of a large group is quite possible.


45

Logistics takes place at the level of governance, and is strongly related to transaction cost economics. Although in literature many definitions of logistics exist emphasising the importance of different details, only a broad definition is used here to emphasise the importance of logistics in lowering transaction costs. Logistics is a broader concept than pure transport of goods from one place to another. It consists of many activities auxiliary to the production and flow of goods and services in the logistic chain – from the supplier of raw materials to the consumer of final products. Logistics heavily relies on hardware (see Figure 2.1., Chapter 2) in the form of physical infrastructure such as roads, railroads, reloading stations, warehouses, information systems and telecommunication systems. Logistics concerns “… the process of planning, co-ordination and control of flows of (raw) materials, activities connected with their storage, activities connected with the handling of goods, packaging, warehousing and the flow of final goods and the information connected with them from the point of production to the final consumer – with the aim of lowering total costs, while keeping a sufficient level of consumer service” [Rydzkowski and Wojewódzka, 1997, 296].17 Although transaction costs play a significant role in logistics, also transport costs, production costs and expenditure on fixed capital are important. A conceptual separation between transaction costs and transport costs is useful for analytical purposes because transaction costs concern costs of exchange of goods and services, while transport costs are involved in the movement of goods and services from one place to another. It was mentioned in Chapter 2 that a sharp distinction between the two is impossible and even unnecessary, as such a “definition struggle” confuses important matters. An example is internal transport that can be counted as managerial transaction costs, while when it concerns a transaction between two separate firms, we talk about transport costs. When an aim of logistics is to lower costs while keeping consumer services at a sufficient level, all costs are taken into consideration. Suppose a firm considers outsourcing. This is attractive when the cost of buying a good or service via the market is smaller that producing it within the firm. In other words, when the costs of production plus the managerial transaction costs are smaller than the sum of the market price of the product, transport costs and market transaction costs. The importance of logistics for lowering transaction costs is discussed here by way of analysing the logistic chain. The logistic chain can be divided into physical supply, production logistics and physical distribution (distribution logistics) [Van Goor et al., 1998, 5–6]. Physical supply includes the flow of raw materials and intermediate products from supplier to producer. This part of the logistic chain mainly involves market transaction costs. Production logistics embraces all activities involved in “the effective and efficient flow of raw materials and intermediate goods through the production process, as well as activities connected with an optimal utilisation of the production apparatus” [Van Goor et al., 1998, 6]. As production logistics takes place within the firm, activities such as storing, internal transport, purchase, stock management, production planning and handling of materials [Van Goor et al., 1998, 6] can be counted as managerial transaction costs. When the final product has been produced, physical distribution, the management and control of the flow of final products from the end of the production process to the final consumer, comes into play. This process, to a large degree, consists of market transaction costs. 17 Rydzkowski and Wojewódzka’s definition of logistics is based on the definition given by by the Council of Logistic Management, Oakbrook, USA, 1985.

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Chapter 3

In order to obtain a more detailed picture of the relation between transaction costs and logistics, a model of an industrial column as presented in Table 3.3. is analysed. Three different flows can be distinguished: a flow of goods, a flow of information and a flow of money. The flow of information certainly consists of transaction costs – information costs. The flow of money consists of money and monetary institutions and governance structures facilitating trade by lowering the transaction costs of barter trade. In both flows transaction costs that arise as a result of spending resources on safeguards because of opportunistic behaviour can be found. The flow of goods contains production costs, transport costs and transaction costs. Production costs are normally significant from the raw material producer to the final product. Transport costs concern the moving of goods between firms. Transaction costs are incurred at the level of the firm (managerial transaction costs) and when transactions take place between firms (market transaction costs). Factors such as trust and propensity to co-operate are factors lowering transaction costs in all three flows, while facilitating the creation of new governance structures. In principle, the use of logistics lowers marginal transaction costs. But also more information may be necessary (higher transaction costs) for faster and/or cheaper transport (lower transport costs). This pays off, as long as the increase in (marginal) transaction costs is smaller than the decrease in (marginal) transport costs. Table 3.3. An industrial column.

Supplier

Flow of goods

(Raw materials and intermediate products) Producer

(Intermediate products)

(Final products) Central warehouse

Wholesaler

Retail trader

Consumer Source: van Goor et al., 1998, 7.

Flow of information

Flow of money


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Distribution from a central warehouse to the final consumer mainly involves transaction costs. Wholesalers and retail traders are institutions that lower transaction costs by storing and distributing goods in the sense that the consumer does not have to walk or ride around so much to find the product he wants. On the other hand, this leads to an increase in the cost of storage. From a logistic viewpoint, such wholesalers and retail traders create value added by transformation/production of form, place and time [Van Goor et al., 1998, 8]. In general, whether we talk about transport, production or transaction costs often depends on the product and on the stage in the logistic chain. Transformation of place involves transport costs as it is connected with transport and the relocation of goods. Transformation of time involves the storage of goods until they are fit for consumption (e.g. wine, whiskey, cheese) or until there is consumer demand (e.g. Christmas presents, Christmas trees). In the first case storage involves production costs. In the second case it involves transaction costs that reduce the transaction costs of reacting to/predicting demand or when the transaction costs of buying via the market are high (e.g. unreliable supply). In this case storage pays off until marginal managerial transaction costs are equal to marginal market transaction costs. The effect of developing efficient logistic solutions is similar to the effect of an efficient institutional framework, as presented in Figure 3.1. (Section 3.2.). Logistic solutions that lower transaction costs, ceteris paribus, lead to an increase in economic transactions. This, in turn, leads to higher marginal transaction costs. At such a moment more advanced logistics solutions are needed in order to lower these transaction costs. This involves the introduction of new hardware such as Automatic Equipment Identification (AEI), Global Positioning Systems (GPS), Intelligent Transport Systems (ITS), Electronic Data Interchange (EDI) and telecommunication equipment. Such hardware not only lowers transaction costs, but also creates the need for and facilitates the creation of new governance structures. With the development of logistic solutions and co-operation within networks, flows of goods and flows of information become more and more interconnected. Especially when many organisations and many modes of transport are involved, new ways of co-ordination are required. Three major directions can be distinguished [OECD, 1996, 10]. The first direction is lowering information costs and improving the quality of information, in order to improve operational and management efficiency. This can be achieved by the use of source data acquisition systems such as AEI, GPS or specific components of ITS for tracking or tracing vehicles and/or shipments. The second direction concerns the standardisation of data processing and collection, which reduces problems of asymmetric information and high information costs when co-ordinating logistic processes between firms. This involves the creation of networks and the use of EDI, “the inter-organisational, computer-to-computer exchange of business information through some standard machine-processable format” [OECD, 1996, 93]. Suppose a firm, say a large supermarket, feels the need to reduce the costs of storage, stock management and purchase when turnover increases. With the help of barcodes, sales and stocks are registered in an information system. When stocks fall below a certain level, a signal is automatically sent to the producer, in order to deliver new supplies. Such a system reduces transaction costs, as storage space is minimised and labour costs of monitoring stocks and ordering decline.

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Chapter 3

However, monitoring is needed to a certain extent, because in the case of opportunistic behaviour (e.g. stealing), the firm may be out of stock while computer data show something else. In such a case the system is not only likely to fail to save on transaction costs, but can even lead to an increase in these costs. The third direction is the use of information technology for stimulating and facilitating co-operation and collaboration between people. A trend in the West has been to introduce information technology and telecommunications techniques that facilitate communication at a horizontal level, and reduce the influence of hierarchical structures, often depending on inflexible central units [OECD, 1996, 11]. Innovations in information technology and telecommunication have considerably lowered the costs of obtaining and transferring information. Thus, lower transaction costs have created opportunities to increase the number of transactions, and have, in such a way, contributed to an expansion of the economy in Western countries. The following positive effects have been distinguished [OECD, 1996, 51]: increasing efficiency reducing labour costs; lowering the probability of human error by increasing the accuracy of processing, lowering monitoring costs at the same time; increasing the speed of processing; facilitating co-operation and communication with other units in the hierarchy, as well as other organisations; obtaining information that in the past was technically unobtainable. Table 3.4. Relationship levels between firms and means of communication.

Relationship levels

Means Traditional

Present and/or future

Informal

Discussion

phone, informal meeting fax, E-mail

Semi-formal

Bargain negotiation

strict meeting

electronic bulletin boards electronic conferences

Formal

Transaction, process

letter, telex

EDI message

Source: OECD, 1996, 92.

Table 3.4. summarises different relationship levels between firms, and presents traditional and current/future means of communication. At the informal level, telephone and informal meetings are more and more often replaced by fax and e-mail. The use of fax and e-mail makes transactions over longer distances cheaper, and stimulates the extension of markets and division of labour. However, when low trust prevails, this way of communication is less likely to be used with potential new trading partners, but rather in contacts with established trading relations. A meeting or telephone call will still rather be the most important means of communication when obtaining information about a product or trading partner. This increases information costs on the one hand, but experience teaches that many firms and people do not react to e-mails. Semi-formal communication methods often concern negotiation costs, and most of the time they take place in a traditional way (e.g. strict meeting). Formal means of communication are useful for reducing the risk of post-contractual opportunistic behaviour.


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Furthermore, it makes the contractual arrangement clearer, because misunderstandings in interpretation can be reduced. EDI is more and more often replacing the traditional formal means of communication like letters and telex in logistic networks. The main advantage is that EDI lowers information costs, which can make internal organisation more efficient and make it possible to satisfy consumer demands better by anticipating instead of reacting. EDI works best when it “is completely integrated in the information system of the firm and its partner’s firms, and if information message exchanges are significant” [OECD, 1996, 94]. Thus, here trust and co-operation are very important, as well as repeated dealing. Repeated dealing makes it attractive not to provide services via the market, but to provide them within a firm or within a governance structure of co-operation. So here, it is beneficial when whether firms have regular/big customers and are willing to co-operate and the moral hazard problem can be reduced.

3.6. Inefficient institutions An important question is how institutions come into being. In NIE the individual is the carrier of institutional change [Poznanski, 1996, xix; Pejovich, 1995, 37]. In many cases institutions develop step-by-step in an evolutionary way (endogenous change). When institutions develop spontaneously, there is in fact a “market” for institutions. Values, in particular, seem to develop in an evolutionary way. Rules of the game often develop by “trial-and-error”. In this trial-and-error process, in which repeated dealing is important, the contractual arrangements that provide the highest expected benefit will survive. Individuals accept rules because they are advantageous for them [Pejovich, 1995, 41]. However, inefficient institutions exist, and revolutionary change may be desirable. This requires “institutional engineering”, also called institutional design or exogenous change. An advantage of evolutionary institutional change (supposing a non-polarised society), is that formal rules are often supported by informal rules. This creates an institutional equilibrium where informal institutions reinforce formal institutions, which lowers the cost of enforcing rules. Furthermore, a large proportion of society is informed about changes in formal rules and knows what they imply due to their gradual development. Political freedom stimulates the development of efficient institutions, and in turn contribute to an improvement in economic performance [Colombatto and Macey, 1999; see also Gwartney et al., 1999]. According to Colombatto and Macey [1999], political freedom lowers the information part of political transaction costs – it is easier to figure out whether leaders are performing well. This facilitates replacement of a failing political leadership, providing an incentive for them to satisfy the population’s desires and expectations. As Rapaczynski [1996] argues, in former STEs market transactions were relatively simple after the fall of the socialist system. For this reason, institutions could develop in an evolutionary way along with an increasing amount of transactions. However, this underestimates the importance of “institutional governance” for such a complex venture such as privatisation in a situation where many property rights were unclearly defined. “Auxiliary” institutions such as banking, a financial market, a stock market and efficient public administration

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were needed for facilitating the transfer of property rights. These institutions had to be created rather by design, because the costs of evolutionary development would be too high. With “institutional engineering” there is a larger danger of institutional disequilibrium, which increases control costs. Outcomes of institutional change may be different to those expected. Furthermore, society must get to know the new rules (information costs) and a “learning-by-doing” process has to take place. In practice one has to find out what the implications of the new rules are [see Pejovich, 1995; Poznanski, 1996; Van de Mortel, 2000]. In addition, transferring information is a process for which knowledge is required, as well as the capability to “translate”, while the other party must have incentives to absorb the information. How can a Dutchman explain economic experience in capitalist countries to people in former STEs, who have a distorted view of the reality in capitalist countries? On the other hand, there are problems for this Dutchman with communicating this experience when he does not know the cultural background of the people in former STEs. These problems imply significant difficulties for creating institutions by design. There is another problem. Economic systems are multidimensional, they consist of many characteristics. Revolutionary change or evolutionary change depends on what institution we are talking about. The situation in Poland in 1989 was one where many institutions had been changing, while many other institutions had still to be changed. Even in the case of revolutionary change, in practice such changes take place slowly. This complicates the discussion regarding evolution versus revolution/design. The case becomes even more complicated when we introduce informal institutions into the discussion. Formal institutions can be changed relatively revolutionary, but the informal part always remains slow and almost impossible to design (except maybe when using crude indoctrination techniques). In reality inefficient institutions survive, and difficulties exist with the introduction of more efficient institutions. This finds its explanation in the notion of path-dependency, transaction costs and differing bargaining strength of different parties. The first two reasons are related with “Knightean uncertainty”, the impossibility of calculating the probability of future events. Another important factor explaining why inefficient institutions survive is the free-rider problem of creating efficient institutions. The free-rider problem is of importance, because the creation of market institutions has features of creating a public good due to non-excludability and non-rivalry in use. Who has an incentive to create an institution, when it becomes accessible to everyone at zero market price? 18 [Douglas North, 1981, 1990; see also Groenewegen et al., 1997, 67, and Van de Mortel, 2000, 17–8] The first reason for why inefficient institutions survive is the existence of path-dependency. When people live in an inefficient institutional environment for a long time, they adopt values/mental models in accordance with this institutional environment. Thus, a learning effect may reinforce an institutional equilibrium. When people do not know another situation than the one in which they are oppressed and exploited, this strongly hampers eventual institutional change. There is a “lock-in”. The higher the genuine uncertainty, the less likely it is that inefficient institutions will disappear, even in the presence of competition. A well-known example of an informal institution that is difficult to change is the QWERTY keyboard [see David, 1985]. When developing the typewriter, the inventor put the letters in such an order that the type-hammers would 18 Of course transaction costs may be sacrificed when using “institutional governance” (e.g. the judicial system) for enforcement, which weakens the public good argument.


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not collide. With a computer keyboard there is no such technical need. However, like many people I am so used to the system, that changing the system would go together with very high uncertainty about success. In other words, informal institutions are the reason for why path dependency exists, and make institutional change more difficult or impossible due to high fixed transaction costs. Path-dependency implies that institutional change is costly. Pejovich [1995, 38] argues that change in informal rules is less costly than change in formal rules. Such a cost includes losing some contacts or offending friends, and a long-run problem can come into being. However, the cost of changing values differs according to the institutional setting. In some religious groups breaking informal rules has the consequence of becoming an outcast, implying expulsion from your family and the surrounding social environment. In an atomistic society this problem is likely to be smaller, but in smaller, more family and network orientated societies the cost can be considerable. More important, from a transformation perspective it can lead to an institutional disequilibrium, with all its adverse effects on economic activity. Besides path-dependency, high transaction costs is another reason for why inefficient institutions are not replaced by more efficient institutions. In an ideal situation, people will learn from their mistakes and do not repeat them. However, in the case of high uncertainty, information that a mistake has been made does not have to become public [Charemza, 1992; Van de Mortel, 2000]. As a result, efficiency improving changes are not made because of deficient feedback. This effect was very strong in former STEs, where mistakes were often covered, greatly reducing the possible learning effect. Covering mistakes or lying or telling half truths is common in any organisation, but institutions like freedom of press and freedom of speech reduce this information problem. High political transaction costs may prevent the replacement of badly performing leaders. Such leaders have an incentive to protect their power by limiting civil liberties and creating institutional barriers that limit growth. Examples are restricted access to education, which increases information costs, and limited organisational freedom, which reduces the risk of an opposition coming into being [Colombatto and Macey, 1999]. As a result high political transaction costs hamper institutional change – it could produce an institutional environment and governance structures that show very little adaptive efficiency. The third reason for inefficient institutions surviving is that different groups have different bargaining power. The more bargaining power, the more likely a group is to influence institutions to their benefit, at the cost of total economic performance. When a powerful group has a large enough advantage, it is likely to block any efficiency improving change. An example is interest groups lobbying for protection in international trade, where the gain for the protected industry (and, eventually, the state) is smaller than the loss of wealth for consumers. A problem with introducing efficient market institutions in former STEs is that they can have characteristics of a public good. Market institutions such as freedom of contract, competition and legal enforcement can be used by an economic actor without lowering the possibility of use by another actor (non-rivalry in consumption), and it is difficult to exclude someone from using these institutions (non-excludability). Furthermore, market institutions show positive externalities and there are large economies of scale on the use of the market

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due to the large fixed transaction costs of creating its institutions. Who wants to pay the price for developing such institutions in the face of incurring costs, while the benefits are distributed among a large group of free-riders? Thus, there may be a role for the government to provide society with market institutions. Ovin [1998] argues that the state was able to do this, because the knowledge about institutions and their efficiency was in advance of the existing institutional environments in former STEs. However, the question remains as to whose knowledge. Politicians and decisionmakers can have a distorted view of a market and lack economic and political education. Furthermore, the state, which was a factor of decline in the STE, was in transformation itself. An implication of the factors hampering the introduction of efficient institutions is that transformation from an inefficient economic system (e.g. plan) to a more efficient system (e.g. market) is cumbersome, while there are many threats of entering a wrong path towards even more inefficient institutions. In reality efficient institutions, stimulating economic activity, co-exist with inefficient institutions in any economic system. However, the proportion of inefficient institutions in an economic system vary, while adaptive efficiency, the ability to replace inefficient by efficient institutions, is essential. Thus, in practice institutions are often a mix of exogenous and spontaneously developed rules. One problem is that the difference between these two is often difficult to see. When analysing the economic transformation in former STEs, it is important to note that this institutional change is accompanied by uncertainty, high transaction costs and path-dependency. As Van de Mortel [2000] and Poznanski [1996] argue, old institutions are gone, and new institutions are not in place yet or developing in a primitive form. The bigger the gap, the bigger the institutional disequilibrium, as well as the problems accompanying “framework uncertainty” [Van de Mortel] or “institutional vacuum” [Poznanski]. Larger uncertainty leads to higher transaction costs of economic exchange. Consequently, economic actors are more likely to be careful about undertaking economic transactions, resulting in lower economic activity. Van de Mortel [2000, 16] defines framework uncertainty as “the kind of uncertainty following from the collapse of the formal institutional framework”. Economies in transformation often faced a collapse of formal and informal institutions, accompanied by many unknowns about future institutional development. Furthermore, history matters, as institutions and governance structures inherited from the old system influence the level of institutional disequilibrium and the transaction costs involved with institutional change. For instance, the social capital destroyed under the old system increases the transaction costs of institutional change and hampers restructuring and the creation of new governance structures. It is difficult to predict which way institutional change will go. This fact is, according to Van de Mortel, strongly connected with framework uncertainty. She argues that the existence of uncertainty about future institutional development makes the concept of bounded rationality, that people take rational decisions based on the available information, less useful. The expected results of an action cannot be predicted, because the future is unpredictable. This does not mean that people make irrational decisions, but that they often make use of mental models to facilitate decision-making and reduce uncertainty [see North, 1994]. The greater the uncertainty, the greater the reliance on mental models, the greater the path-dependency.


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In such a situation a learning-by-doing process is hampered, as it becomes more difficult to evaluate information, and much information on mistakes may not become public. Another problem is that feedback of information is difficult, because there are no formalised decision-making models. Feed-back has little effect, especially when mental models, which are “hard-wired”, are used for making decisions, because there is little to refer to. Thus, as Simon [1986, 133] and Van de Mortel [2000] argue, learning concerns the process of searching for good solutions rather than for the best solutions. In other words, when aiming at introducing more efficient institutions, this may lead to the introduction of satisfactory, but not the most efficient institutions. In conclusion, there are significant difficulties with introducing efficient institutions. However, the existence of an influential group with strong process-regarding preferences (e.g. ideology [see Ben-Ner and Putterman, 1998, 6–7]) reduces the free-rider problem. Furthermore, when political transaction costs are lowered by way of freedom of speech and a properly functioning democratic system, inefficient leaders hampering institutional change can be replaced more easily. Finally, examples of efficient institutions somewhere else, which in the case of Poland is relevant within the context of the aspirations to join the EU, is another factor stimulating the introduction of efficient institutions.

3.7. Phases of transformation – when is transition over? A question is when has economic transformation, a complete change in fundamental characteristics of an economic system such as the system of property rights and the co-ordination mechanism, ended. In other words, “when is transition over?” Van de Mortel [2000] discusses phases of transformation within a new-institutional context. Independently of how the transition started, it ends when people accept the new system. In other words, when an institutional equilibrium has been reached. Thus, besides change in formal institutions, behavioural changes are important. She distinguishes three stages of transition [2000, 22–3]. These stages can overlap, and there may be reversals in the direction of institutional change. There can be a development of “pathological” institutions. Countries start institutional change, the first stage of transition, when they have the freedom and the will to change, or when they are forced to do so. In the first case this stage is rather short, while in the second case many difficulties can be expected with the formulation of a general transition strategy. Reforms of formal institutions make up the second stage of transition. This stage is reached when structural change in the property rights order begins, together with the decentralisation of economic decision-making. In Chapter 4 arguments will be presented to show that Poland entered this stage as early as the 1970s. The first stage had not been entered, because there was no will nor freedom to reform to a market economy. A question is whether Stage 1 is a necessary condition for entering Stage 2 – should transition be conscious? An argument in favour of the statement that Poland entered Stage 2 in the 1970s, while only entering Stage 1 in 1989, is connected with the argument that property rights can be viewed as a bundle of characteristics, as discussed in Chapter 2.

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Although formally property remained public, characteristics in the form of the right to utilisation (usus) and the right to use a product generated (usus fructus) came into the hands of managers, interest groups and in the 1980s into the hands of workers. This was the result of decentralisation of decision-making through reforms. When talking about what I would call “privatisation of usus abusus”, the transfer of the right of disposition of state-owned property to private economic actors, it can be argued that Poland only started slowly entering Stage 2 in the 1980s by way of a developing private sector and “spontaneous” privatisation, discussed in more detail in Chapter 5. When considering large scale privatisation, Stage 2 was entered in the 1990s. However, when talking about “privatisation of usus and usus fructus”, this stage had already started in the 1970s. As Van de Mortel argues, during the second stage informal institutions also change, but only slowly. Thus, the different patterns of change in formal and informal institutions lead to an institutional disequilibrium, where framework uncertainty exists. It can be argued that the more “pathological” the formal and informal institutions, the larger the framework uncertainty. The uncertainty people face makes them fall back on their mental models in decision making. These mental models differ according to country, for which reason the outcomes resulting from similar changes in formal institutions are likely to be different. The third stage starts when formal institutional change is more or less complete, and a rather evolutionary change begins. During this stage the emphasis is on the behaviour of economic agents and acceptance of the formal rules. In other words, the aim is to achieve harmony between formal and informal institutions and to reduce framework uncertainty. Informal institutions supporting formal institutions are needed, because otherwise regression is likely, with a return to the previous stage and the development of “pathological” institutions, or in the case of “pathological” institutions to extraordinarily “pathological” institutions. When looking at transformation from the point of view of institutional design, it is easier to distinguish different phases of transition than when transformation is viewed as a rather evolutionary process. In the second case the division of the process into different stages is complicated, because of the continuity in the process of change. Which characteristics of the economic system are taken into consideration is also important. There is a process of “learning-by-doing” at any stage of institutional change. As time goes on, people perceive the loopholes and imperfections in a system. Aims and expectations are important. When expectations with respect to changes in the (performance of the) economic system are not fulfilled, informal institutions reinforce formal institutions less and less, which ultimately leads to an institutional disequilibrium. This phenomenon is closely connected with the notion of cognitive dissonance. Cognitive dissonance is a notion used in social psychology on which an extensive literature exists. This notion finds its origin on the work of Festinger [1957, Festinger and Carlsmith, 1959]. A synonym for cognitive dissonance may be “disturbed observation and perception”. It is possible, as Anderson [1973] argues, that satisfaction will be adjusted to the perceived gap between expectations and perception. This can occur by perceiving the system in a different way (e.g. increasing dissatisfaction with the system), or changing expectations. When an individual did not have any expectations in advance, the assessment of the outcome (in general) will be more positive, because there is no frame of reference.


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However, when the outcome is far below the expected results, which certainly seemed to be the case in the socialist system, due to the promise of socialism and the function of the West as a model, dissatisfaction is likely greatly to increase. Of course, it is possible that people see what they want to see, as is the case with smokers taking the risk of cancer from smoking less seriously than non-smokers, or with communists who had a strong ideological belief in the system and neglected problems or interpreted them as being temporary. When there is a discrepancy between the results and expectations, this does not have to lead to significant dissatisfaction. What the effect will be, assimilation or a contrast reaction, is important in the process of institutional change. Whether there will be a contrast reaction depends on whether there is a threshold of discrepancy where dissatisfaction is the result [Stipak, 1979]. Another important question is whether this dissatisfaction results in action. In general, this threshold differs according to an individual. When thresholds are exceeded, dissatisfaction leads to a weakening of informal institutions. In other words, return to a “pathological” variant of an earlier stage of transition is possible. For the answer to the question as to when transition is over, Brown [1999, 10] argues that transition is over when the rather revolutionary change in governance structures connected with the production structure has been transformed to a situation where institutions adapt to changes in the economy in a rather evolutionary way. Thus, applying this to Van de Mortel’s framework this would mean that transformation is over when entering the third stage of transition. Criteria for assessing the end of transition that have been brought forward are: • a successful stabilisation and liberalisation policy [Lavigne, 1999 (a)]; • establishment of conditions for sustainable growth [Poznanski, 1996; Lavigne, 1999 (a)] and reduce rent-seeking to “normal” levels [Åslund, 1999]; • the degree of integration into the world economy (e.g. EU accession) [Ellman, 1997; Lavigne, 1999 (a)]; • change from a bureaucratic to a market co-ordination mechanism [Ellman, 1997; ˇSvejnar, 1999; Kornai, 1999]; • emergence of a modern capitalist enterprise sector (regarding ownership, financing and behaviour) [Ellman, 1997; Kornai, 1999] and eliminating the monopoly of the Communist Party; • achieving the pre-transformation GDP level [Ellman, 1997]; • achieving a point where institutional change is irreversible [Ellman, 1997]; • reaching an institutional equilibrium. Using EU accession as a criterion for the end of the transition would exclude most of the former Soviet republics [Gelb, 1999]. It seems that the emergence of a modern capitalist sector and the market as the main co-ordination mechanism can be used as a good indicator by measuring the share of the private sector in GDP or employment, but this does not evaluate the functioning of markets and market institutions. A similar argument is valid for reaching pre-transformation GDP levels. A combination of criteria to assess whether transformation is over may be used. The share of the private sector in the economy and the rate of GDP growth are good indicators as to whether the economy is going in the direction of a strong economic system. Besides this, economic transformation should be a path from a “pathological”/weak socialist economic system to a “normal”/strong market economy.

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Adapting Van de Mortel’s, Poznanski’s, and Åslund’s ideas, transformation is over when a strong economic system has developed with, which is implicit, little value in the public domain, few opportunities for rent-seeking, efficient “institutional governance” and values and mental models (informal institutions) reinforcing the formal institutions. In general, it can be argued that transformation is over when radical changes and shocks in institutional changes make way for rather evolutionary, step-by-step adaptation. This does not mean that in market economies radical change never takes place. The following are important for finishing transformation: strengthening of the system, the reduction of framework uncertainty and achievement of institutional equilibrium, less uncertainty about institutional development and informal institutions generally supporting the new system. This is a long and complex path full of booby-traps.

3.8. Concluding remarks In this chapter the theory discussed in Chapter 2 has been developed further in order to create a more specific theoretical framework that can be applied in the rest of this thesis. The main findings are summarised below. Formal and informal institutions, together with transaction costs, are important determinants of what type of property rights give the strongest incentives for achieving efficiency. In the case of a lack of market institutions, a planned economy with public property can be quite efficient in developing an undeveloped economy. However, as the economy grows, the size and the amount of planning variables increase. This may, inter alia, lead to an agency problem of increasing complexity, problems with plan elaboration and enforcement as well as higher information costs of solving the co-ordination problem. As a result marginal transaction costs increase and incentives weaken. This development is described and analysed in more detail in Chapter 4. As an economy develops, planning shows diseconomies of scale with respect to the transaction costs of solving the coordination problem. In such a case, a more decentralised system, like a market, lowers marginal transaction costs as they are spread among more economic units, stimulating economic activity. Since transaction costs increased and incentives weakened in STEs, an implicit aim of introducing a market economy is to introduce institutions, “institutional governance” and governance structures that lead to lower transaction costs and stronger incentives, in order to improve economic performance. This has to be accompanied by the development of spatial and physical infrastructure, without which the effects of an efficient institutional environment will be limited and the development of markets hampered. In this chapter many theoretical arguments have been presented that transaction costs are likely to increase when transforming an STE towards a market economy. On the other hand, incentives for economic activity strengthen, while old mental models can lead to adverse incentives. This is elaborated in Chapter 5. Economic freedom (liberalisation) at the beginning of the 1990s significantly lowered the transaction costs of setting up a business, and created strong incentives for economic activity.


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On the other hand, the fixed transaction costs of creating new institutions are high. Furthermore, companies and individuals had made “system-specific” investments under the old system, which lose their value under the new system. This could have slowed down the transformation, as many individuals had an interest in protecting old institutions or governance structures. This may have led to a prolonged co-existence of old “degenerating” institutions with new developing institutions, accompanied by a lack of institutions (institutional vacuum). Because the path of institutional change is difficult to predict, a high level of uncertainty is likely to exist. In such a situation, people tend to fall back on their “mental models”, the way they used to act under the old system. Thus, old “socialist” values are used to act in a situation where market institutions have to be constructed. This leads to an institutional disequilibrium. In such a situation not only market and managerial transaction costs increase, but economic actors are also more likely to react adversely to market incentives. As a consequence, output/economic activity is expected to decline in sectors, which were strong under the old system (e.g. state industry). This loss has to be weighed against an increase in the economic activity in sectors traditionally strong in developed market economies, such as the service sector. Due to a learning process, transaction costs are likely to decrease at a later stadium, of course under the condition that stable market institutions develop. Although an aim of transformation is the introduction of efficient institutions, inefficient institutions may be introduced or survive due to the influence of mental models, uncertainty, among other things hampering information on mistakes becoming public and in turn complicating a learning-by-doing process, and interest groups with strong bargaining power. A problem with the creation of efficient institutions is that they possess features of a public good, creating a free-rider problem. Thus, when evolutionary change is not feasible, the question is who is willing to pay a positive market price for the creation of institutions. In such a situation interest groups have an incentive to push for institutional change, which can be disadvantageous for society as a whole. In order to prevent this, there is a role for the government in developing institutions, a problem being that the government itself is in transformation. The general goal of transformation is to create market institutions and governance structures in order to improve the poor economic performance of the socialist period. Transformation is over when the economic system is strong, with little value in the public domain, an efficient “institutional governance” and an institutional equilibrium. This implies low transaction costs, strong incentives for economic activity and a change from a path of radical reforms to a path of evolutionary step-by-step change.

PART II TRANSACTION COSTS, INCENTIVES AND THE PERFORMANCE OF THE POLISH ECONOMY

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Chapter 4 TRANSACTION COSTS AND INCENTIVES IN THE POLISH SOVIET-TYPE ECONOMY – from classical to “decaying” socialism

4.1. Introduction The change which has been taking place in the economic system of the former Soviet-Type Economies (STEs) in general, and Poland in particular, is of main interest in this chapter. Nowadays it seems to be clear that Soviet-type planning has been outperformed by Western style capitalism. As early as in the 1920s and 1930s Austrian economists, notably Mises and Hayek, had strong arguments against Soviet style planning. However, Oscar Lange argued, using neo-classical assumptions, that market socialism could be as efficient as a market economy. After World War II, for many economists the question was not whether, but when the Soviet Union would economically overtake the West. In the aftermath of the Great Depression of the 1930s and the Second World War, the belief in properly working market institutions was very low. During the 1970s and 1980s the economic performance of STEs deteriorated, while the western Market-Type Economies (MTEs) were able to recover from economic problems. In analysing these phenomena, the importance of institutions like property rights for incentives and economic activity were emphasised more and more, as well as the importance of transaction costs in an economic system. The tools of New Institutional Economics developed in Chapter 2 and 3, especially the notions of transaction costs and incentives, will be applied in this chapter, in order to analyse the decline of the socialist system in Poland. Emphasis is on the influence of weakening incentives and increasing transaction costs. The picture of the “Polish road to capitalism” sketched in this chapter helps to understand the economic difficulties faced at the beginning of the 1990s when a conscious process of market construction started. Along the lines of Kornai, in Section 4.2. a typology of prototypes of socialism is given, which is used later to describe the development of the Polish economic system from classical socialism to “decaying” socialism. Also the promises of socialism are briefly discussed,

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for the reason that the inability of the socialist system to fulfil its promises undermined its credibility. In Section 4.3. problems of planning are analysed in the context of transaction costs and incentives. First, the development (increase) of transaction costs under planning is discussed. Then, problems with incentives, plan bargaining and information are elaborated, as well as moral hazard problems and problems with knowledge in the Hayekian sense. The process of institutional weakening in the Polish STE that started in the 1970s is elaborated in Section 4.4. The two crucial formal institutions of the planned economy, the Communist Party and public property, became weaker and weaker due to reforms which were aimed at reducing the increasing transaction costs of solving the allocation problem. Informal institutions, such as the belief in the system, were hollowed out due to continuing shortages, non-satisfaction of demands from labour and the functioning of the West as a role model – media and travellers to the West provided information on the higher living standard in the enemy countries. As STEs were adaptively inefficient, transaction costs increased, inter alia, as a result of increasing problems with opportunistic behaviour and information. Furthermore, weakening institutions weakened incentives for economic activity. Increasing transaction costs and weakening incentives, due to institutional weakening, led to deteriorating economic performance, paving the way for institutional change. The “Polish road to capitalism” is presented as a development of the Polish STE from classical socialism in the 1960s, via reform socialism in the 1970s to “decaying” socialism in the 1980s. In hindsight the reasons for change can be relatively easily explained, while in advance few people thought that STEs would collapse. As discussed in Chapter 3, North argues that inefficient institutions can survive when there is a party with strong bargaining power interested in this system (e.g. the Communist Party [see Murrell and Olson, 1991; Lavigne, 1999 (b)]) and the political transaction costs of output-increasing reforms are high.1 In this chapter arguments are given which may explain why this problem was overcome, although institutional change does not necessarily mean turning to a path of economic growth, as the economic malaise in many former Soviet republics shows.

4.2. The promises of socialism and a typology of prototypes of socialism The development of the socialist system has to be put in the light of some of the promises of socialism – economic efficiency and higher welfare than in capitalist economies. Socialist economic theory assumes that people can organise the economy in a rational and efficient manner, which can only be realised in a socialistic organised society. Socialism claims that it can outperform its predecessor, capitalism, in economic rationality. Planning is supposed to be rational, while the market would lead to chaos. The existing potential for economic production will be completely utilised, which implies, among other things, full employment. Resource allocation will be efficient and resources will be uti1 Eggertsson [1990, 61] argues that the communist party was conscious of the fact that a change in the structure of property rights would lead to an increase in the net output, but the “agency problem” was a hampering factor. Most of the reform proposals considered decentralisation of economic power, which meant more power for agents of the state or, in other words, diffusion of characteristics of property rights. There was a fear of increasing “agency costs” (control costs of monitoring agents) and a loss of control. Because of the self-interest of the ruling elite, the inefficient system of property rights remained and a more advanced system of rules was not introduced. High transaction costs caused the failure of reforms aimed at stimulating economic activity.

Transaction Costs and Incentives in the Polish Soviet-Type Economy

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lised as efficiently as possible. Thus, socialism is presupposed to be allocative efficient and x-efficient. In theory transaction costs under socialism would be lower than under capitalism. This idea is based on a mix of the classical assumption of complete information, and that capitalism (the market) cannot deliver efficiency due to high transaction costs and disincentives, because of exploitation of labour. This is a “metaphor” used to place the promise of the efficiency of socialism in a transaction costs framework and to connect this with increasing transaction costs in STEs. An idea, that can be found amongst (early) socialist thinkers, is that when people are lifted out of alienating material poverty and exploitative production relations, they can work for their self-fulfilment and their efforts are aimed at production for the social good. Thus, in other words, the transaction costs of opportunistic behaviour would be eliminated, while the social property of factors of production would give incentives for economic activity. An important criterion in socialist ideology is the question of whether human nature can be changed and a “better man” will result. In reality, as emphasised by property rights economics, socialised factors of production provide weak incentives for efficiency. The promise of socialism is important for understanding the continuous efforts to reform STEs. It contributed to the disillusion that grew over the years when socialism did not perform economically better than capitalism, while many capitalist countries increased the already existing difference in the level of welfare and economic achievement. People’s disillusionment, both of party members and non-party members, due to the disappointing economic achievements, hollowed out the belief in the system. This helped to pave the way for system transformation. Furthermore, the existence of a planner/party that directed the economy made it easy to point at them as the cause of failure. Kornai [1992, 19–20] distinguishes three prototypes of the socialist system: the revolutionary-transitional system, the transition from capitalism to socialism; the classical system, or classical socialism; and the reform system, or reform socialism. With respect to the development of the Polish planned economy, one type is added here. The following phases in the development of the types of socialism in Poland are distinguished. Firstly, classical socialism, which in Poland existed in its strong form until the end of the 1960s/beginning of the 1970s and started to weaken under the Gierek administration. Secondly, reform socialism, which, as will be argued in Section 4.4., started in the 1970s. Finally, “decaying” socialism, which started in the 1980s and became especially visible towards the end of this decade, when unsuccessful reforms in the Polish planned economy in fact led to a state of disintegration. There are no clear borderlines, different stages overlap. The difference made in this research between reform socialism and „decaying” socialism is a subtle one. “Decaying” socialism is, in the Polish case, the last phase of reform socialism, where the institutional fundaments of the socialist system were hollowed out so much that the system could not even be called socialist anymore. Important formal institutions that were hollowed out were the leading role of the Communist Party and public property, while the will to govern by those in power and the loss of belief in the system are examples of hollowed out informal institutions.

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4.3. Problems of planning 2 In this section some problems of planning are dealt with. First, transaction costs in STEs are discussed (Section 4.3.1.). Then, incentives, the process of plan-bargaining and informational problems are elaborated (Section 4.3.2.). Finally, opportunistic behaviour and the problem of knowledge are analysed (Section 4.3.3.). A more detailed description of the development of transaction costs and incentives in the Polish STE is given in the next section (4.4.). 4.3.1. Transaction costs Transaction costs in STEs can be thought of as the managerial transaction costs of running a bureaucracy. Here transaction costs are the costs of running the economic system. Transaction costs concern the elaboration and implementation of plans by way of commands and administrative procedures, and intervention from the top of the bureaucracy in the production process, the allocation process and the running of subordinate organisations [Kornai, 1992, 117]. The lack of freely established prices increases the information costs of planning, as prices provide information about real scarcity. Transaction costs, in fact, comprise all costs involved in solving the allocation problem – answering the questions of what, how, how much, where, when and for whom to produce, as well as who produces it. This, among other things, involves plan preparation, control of information quality flowing through the hierarchy, monitoring and motivating agents, plan enforcement, maintenance and protection of the institutional environment (e.g. army, police and secret service) and costs of preventing subjects lower in the hierarchy (e.g. managers and workers) falsifying information. In STEs market transaction costs were very low for firms, due to the existence of shortages. Due to these shortages, there was demand for almost whatever was produced. This, on the other hand, led to high transaction costs for consumers, who had to queue. Shortages also created an informal (black) market, which is connected with high transaction costs (especially search costs). As opposed to this so-called shortage economy, where demand is not constrained by the budget of consumers and producers but by supply, MTEs are rather demand-constrained economies, in which the budgets of the consumers and producers determine how most of the goods are allocated. In MTEs suppliers have to compete for customers and thus bear search costs. An example of the influence of different institutional environments on transaction costs is the struggle for customers that in MTEs led to institutional arrangements, such as providing credit and loans, coming into existence. In Poland during the 1970s some goods like cars were delivered on a pre-payment basis. Such a system lowers the possibility of post-contractual opportunistic behaviour (e.g. cheating by not paying). The system of selling with payments made afterwards increases the amount of transactions, but also increases the possibilities for opportunistic behaviour, which leads to an increase in transaction costs (control costs). Total transaction costs may increase, but marginal and average transaction costs per unit of product sold are likely to decrease when opportunistic behaviour only appears on a smaller scale than the increase in the amount of transactions. The level of the marginal 2

This section is partly based on Platje [2001].


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transaction costs, and in turn the influence on economic activity, depends on the extent to which there are institutions and “institutional governance” that lower incentives for opportunistic behaviour and facilitate the enforcement of contracts. The shortages had significant consequences for economic efficiency and for consumers and firms [see Kornai, 1980, 1992; Poznanski, 2000]. When maximum prices exist, price is not a good indicator of scarcity. This in contrast to a free market setting without maximum prices, where the price mechanism would lead to an equilibrium. A maximum price leads to excess demand. As a consequence, consumer welfare declines because of queuing and forced substitution. When consumers could not buy their desired product, they had to buy a less desired product. Another phenomenon in the shortage economy reducing welfare was forced saving. When there was nothing to buy, consumers had to save their money. Besides such de-motivating aspects, firms, due to lack of competition, could almost sell everything they wanted and faced very weak incentives for innovation and quality control. Furthermore, as firms also faced shortages, they could not benefit from logistic processes which lower transaction costs, and may have had to choose sub-optimal technologies and lower quality inputs as a consequence of forced substitution. This, for sure, lowered their dynamic efficiency. The already weak incentives to innovate were weakened by shortages of high quality inputs and machines and uncertainty as to when these goods would be available and whether there would not be a shortage in the future. The organisational structure of STEs started to become dysfunctional, because the scale of the agency problem grew and changes in the technological environment led to increases in transaction costs. Firstly, there was the cumulative effect of an incentive structure that did not stimulate minimisation of costs in the production sector, but emphasised meeting (volume or value) output quotas. The main cause was the existence of soft-budget constraints [Kornai, 1980]. Basically, the losses of a firm were paid by the state, while profits went to the state-treasury. Under a hard budget constraint a company can keep profits and is responsible for losses, facing bankruptcy, so it has an incentive to produce more efficiently. Doing more than was specifically required very often did not pay off. In the long-run this had disastrous consequences, like higher resource intensity (e.g. energy) per unit output [see Cole, 1995]. While in Western industrialised countries resource intensity decreased through time, STEs did not show such a trend. Economic growth was rather extensive, i.e. increasing output by using more inputs. Eggertsson [1990, 335] gives as possible reasons for this the lack of specialisation due to the aim of national self-sufficiency and a self-contained industrial base without regard for economies of scale and comparative advantage. International trade was under-utilised, because of high transaction costs in this sector, mainly due to restrictions on trade and high measurement costs as a result of a non-convertible currency. As a consequence a kind of barter trade came into existence, as was the case with a Dutch firm exchanging computers for jam with a Soviet-company. Within the country trade was difficult due to the lack of scarcity-prices, which made international trade even more difficult. Secondly, transaction costs went up, because of changes in the technological environment. Due to more division of labour and technological change, qualitative attributes of commodities tend to grow more complex, which leads to higher measurement costs, as well as more difficulties in monitoring agents. As Eggertsson [1990, 336] argues, the hierarchical

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management structure of STEs works best when final outputs have relatively few quality dimensions (low measurement costs), a horizontal production structure exists, substantial economies of scale at the level of an enterprise can be achieved (thus, no external economies of scale) and such technology is used so that each unit is both supplier and purchaser of inputs, so horizontal connections between enterprises are not required. Technical development worked against the central management structure. The world trend in industries like steel, cement and bulk chemicals was horizontal integration, where two firms are both each other’s buyers and sellers of inputs and outputs [Winiecki, 1986, 328]. When measurement costs rise, competition is likely to work towards new contractual arrangements that lower these measurement costs. However, hardly any competition existed in STEs. As a consequence, transaction costs were high and incentives weak for changing governance structures needed for increasing efficiency. All the factors mentioned contributed to economic stagnation. 4.3.2. Incentives, plan-bargaining and information Increasing transaction costs, weak incentives and low adaptive efficiency in STEs will be first discussed with the help of problems that Kornai [1992, 117–129] points out with respect to the centrally planned economy. He argues that direct bureaucratic control (planning) of an economy is viable in the sense that it solves the allocation problem in many important fields. However, the adaptive efficiency in the sense of institutions able to adapt to changes through time, and institutions giving incentives for gaining knowledge, introducing innovations, and solving problems and bottlenecks in society through time [North, 1990, 80] is very low. Following North’s explanation of adaptive efficiency, a system of direct bureaucratic control adapts very slowly to technological change, while technological development is slow due to a lack of incentives for initiative, entrepreneurship, and innovation. In the former centrally planned economies technological change was rather exogenous (planned). The previously mentioned disincentives for individuals and firms and high transaction costs of adapting or changing the plan to the introduction of new technologies were huge barriers to endogenous technological development. There was a high risk associated with taking initiative, being creative, and criticising superiors within the bureaucracy, implying high transaction costs for correcting mistakes and improving distorted information. “The character-forming and training effect, and the selection criteria of bureaucratic control, reinforce each other: servility and a heads-down mentality prevail”3 [Kornai, 1992, 121]. Part of adaptive efficiency is learning from mistakes [North, 1990, 81], which was a very weak point of STEs because many mistakes were hidden. The main problems of STEs were the incentive structure, conflicts in interests between different strata of the economy, and a huge information problem (distortions in collection and utilisation). Negotiation costs in the vertical bargaining process were high and increasing.4 Although there were more players, for simplicity it is assumed that there is a branch minister, a branch director, and a manager of a state-owned enterprise (SOE). The minister provides the branch director with the annual plan, who on this basis assigns targets for firms concerning production, material allocation, and manpower. This is a classic example of a problem with asymmetric 3 An implication for the transition period of this informal institution that developed during socialism is that entrepreneurship as a mentality/culture is something that has to be developed. Formal rules change much faster than informal rules. However, how fast a culture of initiative and self-responsibility is created depends on the incentives given by the changing formal rules and how strong ideology/culture enhances or hampers such development. 4 In markets bargaining between buyers and sellers takes place on a horizontal basis, in hierarchies bargaining takes place on a vertical basis.


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information (as explained in the general “principal-agent framework”), where the person at the lowest level possesses most of the information, giving incentives for opportunistic behaviour. The information problem lies in the firm’s production capacities and its production function. An easy life is in the interest of the manager, giving him an interest in easy production plans and the availability of as much material and labour as possible. This is a case of moral hazard where the manager distorts information by reporting a lower capacity and a greater need for materials and labour than is the case in reality. It pays off to bargain for a looser plan than the one proposed by the branch director. The drafter of the plan has two lines of defence: draft a more ambitious plan than in “normal” cases and “plan in” the level of input and output achieved the year before (“ratchet effect”). This gives the manager an extra incentive to hold back performance and exactly achieve the plan, as underachievement would be punished. The branch director, interested in higher production and lower use of materials by the SOE, faces a similar role as the manager when bargaining with the ministry. It is in his interest to keep some “capacity reserve” and bargain for a looser plan. This makes the bargaining position of the branch director with the manager weaker, because the manager is his “natural partner” when dealing with the highest level of the bureaucracy. Consequently, the stream of information from the bottom to the top is methodically distorted. This means that when the bargaining process in an STE took definite shape, planners had to deal with distorted information, leading to having to guess more and more. Plans based on estimates rather than reliable information are more likely to cause distortions. The moment there are more products to be planned and the bargaining chain becomes longer, other things equal, the chance of distortion also becomes higher. Improvisation rather than planning is likely to become practice. The major objective of the leading institute of an STE, the Communist Party, was rapid economic growth with an emphasis on quantity. This had a negative effect on product quality and product range. The rather politically motivated “quantity drive” led to inner insecurity in leaders, such as managers and branch directors. The cause of this was a conflict of motives. On the one hand the political task of a leader was to raise output. On the other hand, as mentioned above, he had an interest in underreporting actual output, but an increase in costs or a fall in quality could get him into trouble one day. Furthermore, the “politicisation” of the economic management process, rather than making decisions based on economic or technical arguments, often contributed “to a distortion of information over and above the distortions” [Kornai, 1992, 127] described above. The planning process itself leads to a huge information problem, which increases when the amount of transactions to be planned increases. The tasks of assembling and processing the incredible amount of information and the co-ordination of decisions based on this information are too great for one central body. This, together with the low level of computerisation of STEs, led to an increasing problem of dealing with information. While the development of information technology was slower than in MTEs, STEs had greater need for information processing for solving the allocation problem. The mathematical problems had to be solved by trial-and-error, while there was a lack of time for working out the plan. This trial-and-error process and lack of time led to a plan full of inconsistencies, which revealed themselves during implementation. Modifying the plan was a cumbersome process, because a change in one part causes a change in other parts.

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Simplification of the planning task is a way to circumvent the huge transaction costs of full planning by emphasising the main tasks in order of importance. But this can leave holes in the plan, distorting resource allocation and giving incentives for opportunistic behaviour. The bureaucracy did not particularly like this, and could introduce new regulations rather than fixing the holes. Calls for simpler planning were counteracted by the tendency to be “complete, comprehensive, and watertight” [Kornai, 1992, 129], leading to a further increase in bureaucracy, which went together with managerial diseconomies of scale. In total, an increasing amount of transactions called for more planning variables to be calculated, which, when simpler methods were applied, left more loopholes. In other words, there was more value in the public domain. As a result, there were more opportunities for opportunistic behaviour, which increased transaction costs and weakened incentives for productive activity. 4.3.3. Opportunistic behaviour and knowledge As discussed in Chapter 3, North relates the technical and social set-up of production in a vision of the cause of the wealth of nations. Some countries may face relatively low transaction costs, but lack incentives for dynamic efficiency (e.g. in the case of state monopolies). Other countries can have strong incentives for technical efficiency, but face high transaction costs (e.g. the “Asian way”). When discussing transaction costs and incentives in the planned economy, the question of the technical feasibility of planning is not the main problem, although there are diseconomies of scale in planning. Incentives given by the institutional environment for opportunistic behaviour are important in weakening incentives for productive activity. Furthermore, the transaction costs of obtaining knowledge on consumer preferences are almost prohibitive in the planned economy. Increasing costs of transaction in the organisation of a centrally planned economy are related to the Leninist principle “trust is good, control is better”. At the beginning of the 20th century in Russia, when the Communist Party operated underground and faced a strong enemy, this principle was understandable. In the long-run, however, this principle is disastrous for an organisation. As was argued in Chapter 3, social capital in the form of trust lowers transaction costs. Permanent control implies higher transaction costs, which increase over time when existing social capital is destroyed. It can be said that Stalin carried through the principle that “control is better” to the extreme. The moment that controlling a fellow human being becomes an important element of the economic system (or organisation), control costs increase (monitoring, enforcement), and the incentive to manipulate information from below becomes greater, which causes the information costs for the planner to increase. On the other hand, information provision and processing was in fact monopolised by the planner. As a consequence, decisions at lower levels were taken more often based on wrong/less complete/manipulated information. Competition in the field of provision and distribution of information (e.g. by way of freedom of speech) can lead to “better information”.5 More trust leads to a lesser necessity of control (complete control is impossible due to high control costs). Because of technological development (e.g. cameras and telecommunication) control becomes relatively easier, 5 However, this is not necessarily the case under conditions of “market power”. Private information has value (e.g. inside information, information on production processes and knowledge useful for one’s own career) and thus hampers the spread of information. Furthermore, limited human calculative/information processing capabilities and transaction costs make selection necessary – also hampering the diffusion of information.


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but this can lead to a greater extent of opportunistic behaviour. In other words, the moment that the government loses the trust of the population (or the other way round), it will be more difficult to implement a policy, because the lower levels have incentives to manipulate information and to show opportunistic behaviour. As discussed in Section 4.3.2., one problem is that the system of central planning is a system of directives that stimulates opportunistic behaviour. It is impossible to give perfect directives, therefore individuals can basically do what they want. The idea is simple: a command or contract can never be complete, due to high transaction costs connected with “[t]he presence of private information and/or unobservability of behaviour” [Molho, 1997, 12]. The more one aims at completeness, the more the possibility of control decreases, increasing the possibilities for opportunistic behaviour, leading to high transaction costs that cause efficiency losses.6 Molho [1997, 18] argues that, ceteris paribus, when the planner defines a product broadly and/or poorly defines quality requirements, there will be value in the public domain [see also Barzel, 1989]. In this case an agent of the state such as a farmer has a strong incentive to deliver the minimum amount of products of a minimum quality, keeping the rest of his output for his own consumption or for selling on the black market. Thus, the value in the public domain leads to a process of adverse selection, where good quality is driven out of the legal market by worse quality. Molho argues that the process is similar to Akerlof’s [1970] “market for lemons”. The market price plays two roles: equilibrating the market and determining the average quality of a good. Prices in STEs showed large deviations from equilibrium prices. Many prices were below equilibrium levels, leading to shortages, leaving an agent having a distribution function with an incentive to distribute the lower quality goods (which would be sold anyway) and acquiring the higher quality goods himself. Furthermore, this gave a weak incentive to improve quality of industrial goods while quality improvement did not have the highest priority in the plan. There were also incentives for aiming at easier fulfilment of the plan. When lying about the fulfilment of the plan (under- or over-reporting), there was an opportunity to confiscate value (e.g. by way of stealing or selling on the black market). This process stimulated the tendency to export better quality goods for hard currency. Hayek [1935, 1937] posed another problem with planning. Even if the planner knows all the production techniques (which is not very likely), it is still impossible to estimate the preferences of individuals. Hayek’s point is that it is not the information problem but the knowledge problem that is crucial. It is an important fact that in order to increase their welfare individuals have to appropriate it privately. Preferences of individuals only take a definite shape when they start searching for a product. To make the idea intuitively clear, would you be interested in all the details of a car that you cannot afford? Probably not. You start looking at what types of cars there are only when you have the money available, and you might not like the cars produced according to the plan. Hayek’s knowledge problem is at least two-sided. The planner needs to have knowledge available to him that consumers of a product often do not have themselves. The planner cannot look into the future, so he cannot start with product innovations. The only solution to this is, according to Hayek, trial-and-error, something a planner cannot do, but a market can. 6 A good example is a tax declaration form. The more items that have to be reported, the more difficult (costly) it is to control the truth of the reported items.

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4.4. Poland 1971–1989 – Institutional weakening: from Classical Socialism to „Decaying Socialism” As Kornai [1992] argues, different countries have gone through different stages of socialism. Czechoslovakia was on its way to a kind of reform socialism when the “Prague Spring” started in January 1968. However, this reform was ended in August of that year by the military intervention of the Warsaw Pact. Thus, it can be argued that classical socialism existed until the “Velvet Revolution” of 1989. On the other hand, it can also be argued that the invasion of other members of the Warsaw Pact in August 1968 utterly destroyed a fundament of the informal institutions – the belief of a large part of society in the system. According to Kornai [1992, 393], the transformation in Hungary that started in 1989 was a continuation of the reforms started in 1963, while Poland “bypassed” reforms. It will be argued here that Poland did not “bypass” reforms, and that Poland’s transformation after 1989 is, to a certain extent, a continuation of reforms that started in the 1970s and 1980s. Reform socialism in Poland started as early as 1971 with the introduction of new economic reform plans, when Edward Gierek had replaced Stanis∏aw Gomu∏ka as First Secretary [Poznanski, 1996; see also Murrell, 1995; Rosati, 1998] after the political problems of 1968 and the December protests of 1970 in Gdaƒsk, where labourers were killed in riots. The periods of rule of First Secretaries of the Polish Communist Party are presented in Table 4.1. The period of their rule runs more or less parallel to changes in the type of socialism. Although the preconditions for change in the type of socialism had their roots in the preceding period, the beginning of “decaying” socialism can be found in the very early 1980s, when Wojciech Jaruzelski became First Secretary. Some features of this stage were the emergence of a large civil movement (Solidarity), the loosening of the connections between the strongly internally divided Communist Party and the state apparatus, the abandonment of already weakened central planning, the ongoing loss of belief in the system (many people left the Communist Party after Martial Law was introduced on 13 December 1981) and the exceptional economic problems compared to other socialist countries. Three (unsuccessful) attempts at reform in 1982, 1985 and 1987 speeded up the decay, especially after the market style reforms proposed in 1987. Table 4.1. Period of rule of the First Secretaries of the Polish Communist Party (PZPR) and the type of socialism. 7

Period

First Secretary

Type of socialism

December 1944 – March 1956

Boles∏aw Bierut

Classical socialism

March 1956 – October 1956

Edward Ochab

Preconditions for reform socialism

October 1956 – December 1970

Stanis∏aw Gomu∏ka

developed

December 1970 – September 1980

Edward Gierek

Reform socialism

September 1980 – October 1981

Stanis∏aw Kania

“Decaying” socialism

October 1981 – January 1990

Wojciech Jaruzelski

Source: Encyklopedia Powszechna PWN, 1975, 629–33; Pankowicz, 1990, 223–77; Rosati, 1998, 31. 7 The Polish Communist Party (PZPR – Polish United Workers Party) was established in December 1948 and dissolved itself in January 1990.


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Why could a system that had so many internal weaknesses, exist for so long? An important reason is the influence of the Soviet Union, making a third way between planning and market rather infeasible. Furthermore, the Communist Party with its strong ideology provided huge barriers to entry into the political process, and controlled the flow of information. This made the transaction costs for obtaining information about the real state of the economy, as well as the transaction costs of engaging in political opposition such as (the risk of) imprisonment and career problems, very high. Individuals had the choice of trying to change the system from within (e.g. reform) or opting for rivalry with the state by forming an opposition. However, the bargaining power of the opposition was weak. One basic means they had was “exit”. An example is “voting with your feet”, which 2 million Poles, as well as many citizens from the German Democratic Republic (GDR), did before 1990. Another option for achieving their goals was “voice”. The Solidarity movement in Poland and “sabotage” in the form of un-co-operative behaviour are examples of this. As a result of the high political transaction costs, the ruling elite was able to obtain privileges and other advantages from the fact that they managed state property. This gave them an interest in keeping the status quo. However, when looking at the economic performance and difficulties of STEs, after World War II the situation looked good and systemic problems became more and more visible and aggravated only with the development of the economy and the political scene. Murrell and Olson [1991] argue that during the period 1950–1965, the average performance of plan and market economies did not significantly differ. In both camps there were good and poor performers. In the socialist camp GDR and Bulgaria performed at their potential, while the performance of Poland and Czechoslovakia was disappointing [Murrell and Olson, 1991, 249–50]. The authors argue that high rates of investment and savings may have compensated for system weaknesses. Furthermore, there was the stimulating effect of rebuilding the economy after the destruction from the war and, as Eggertsson [1990, 338–9] argues, an STE like Poland in the 1960s still had resources for extensive growth, as many natural resources were available in the USSR. An explanation of the fast growth of STEs in the 1950s is based on Olson’s [1992, 55–6] notion of encompassing interest. “If an individual, or an organization with enough coherence and discipline to act with rational self-interest, obtains a substantial proportion of any increase in the output of a society and bears a large proportion of any drop in this social output, then this individual or organization has an encompassing interest in that society.” In such a case the incentives for this individual or organisation with an encompassing interest to care about productivity and increasing output are strong, as this would improve their own situation. In the case of “narrow interest”, where an increase or decrease in society’s output influences the income of an individual or organisation only to a very small extent, the incentives to increase society’s output are likely to be very weak. In such a situation economic actors face stronger incentives to try to increase their income by way of rent-seeking at the cost of the rest of society. Using an argument from Olson [1992, 56–8], it can be said that in the USSR transaction costs increased after the death of Stalin. Olson argues that Stalin as a “dictator” and de facto owner of the USSR had an “encompassing interest”, which furthered economic growth.

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A similar situation may have existed in Poland until the beginning of the 1970s, when the classical socialist system started to reform. Until that time the economy was directed by a small group concentrated in the Politburo. The Politburo was small and membership often stable, which helped to overcome problems of collective action. They had an encompassing interest in stimulating economic growth, because this strengthened their position. In the Polish case, the unpopular communists had to prove that they were the right group to govern the country, although internally divided.8 A period of relatively good economic performance was the period of classical socialism, which lasted until the end of the 1960s. The classical socialist system was not capable “of a renewal that could free its dysfunctional features, while retaining the sole rule of the Communist Party and the dominance of the state sector” [Kornai, 1992, 377].9 The internal strength of the system was its internal weakness at the same time [Kornai, 1992, 383]. In other words, the system was not adaptively efficient. A system is adaptively efficient when changes in one or other part comprising the system do not negatively affect the working of the system itself. Parameters of the components of the system can change within a relatively large margin, while the influence on the system as a whole stays small. The socialist system was rigid. It looked like a solid building, in which there is no flexibility of movement. An incident or change in a small part works through the whole building, which as a result significantly changes and often collapses. The stage of classical socialism in Poland was in fact the period of the “strong” economic system of central planning under Gomu∏ka. The planner had control over the economy, and orders were carried out relatively obediently. However, an accumulation of internal problems created the need for reform.10 Kornai [1992, 383–6] mentions some symptoms. Firstly, there was an accumulation of economic difficulties such as shortages, waste, lagging technological development and neglect of consumption. Furthermore, although ideology and the belief in state property was relatively strong and informal institutions supported the system [Poznanski, 1996], public dissatisfaction increased as a result of economic problems, lack of civil liberties and bureaucratic arbitrariness. In the period 1965–1980, according to Murrell and Olson [1991], the market economies performed as well as in the period before, when considering their growth potential. However, the planned economies experienced a slowdown of growth. An explanation is a shift from “encompassing interest” to “narrow interest”, leading to higher transaction costs and weakening incentives. The power that at the beginning was largely in the hands of the “dictator” “was diffused throughout a “new class” of apparatchiks (bureaucracy), and sometimes even to groups of workers in individual establishments”. In Poland this process of institutional weakening proceeded because of reforms. These reforms were not very successful, but turned out to undermine the system by weakening the property 8 “Despite the affection of monolithic solidarity, the Polish communist movement differed from the Soviets on many essential issues, and was deeply divided against itself. … The end result, when Stalin was left ruling Poland through his reserve team of faceless puppets, was much as a failure for him as for the Polish communists themselves” [Davies, 1981, 576]. 9 “…property is not the only sphere of phenomena in which the classical system is unable to cohabit lastingly with institutions, customs, attitudes, and norms alien to it. The mature classical system cannot tolerate contrary political opinions, self-governing institutions, and organizations independent of the political institutions organized from above; cultures and world views other than the official ones; or free-market exchange between autonomous economic entities. All these phenomena, though they may recur time after time, are confined into an ever narrowing area. Individual behaviour is deeply imbued with conformism: spontaneous use of the ideas and working abilities deriving from a spirit of enterprise is virtually ruled out, as are independent critical opinions and rebellion against superior organizations” [Kornai, 1992, 367]. 10 It may be argued that classical socialism was in fact a sort of “decaying” socialism, because of its inherent internal contradictions.


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rights order and governance structures, which was accompanied by increasing transaction costs.11 The process of institutional weakening can be explained as follows. In Chapter 2 a good was described as having many characteristics, on which property rights can be delineated. In the classical “strong” socialist system most of the characteristics of public property were under the control of the Communist Party, in particular the Politburo. Due to the reforms aimed at improving economic performance, de facto property rights or characteristics of property rights were transferred to lower levels in the hierarchy, such as regional authorities, branch ministries and industrial lobbies [Poznanski, 1996]. The reforms in Poland in the 1970s led to a similar problem as in other reforming STEs. The dispersion of (characteristics of) property rights as a result of loosening financial discipline and decentralisation of power by, for instance, administrative reforms led to a weaker form of state property and a situation where it became less and less clear who in fact was the “owner”. The reforms caused the disintegration of the centre and a competence struggle between branch ministries, weakening the central planning system. Another consequence was that the principal-agent problem became more complex, because it became less clear who was the principal. As Czekaj [1993, 81] argues, in practice the function of the principal was realised by different structures of the political and administrative apparatus with unclear decision-making power and economic interests. In relations with agents their competence was not only limited to defining contract conditions. Also, free intervention in a decision made by the agent was allowed, which made it impossible to specify unambiguously responsibility for the decision. Thus, solving the motivation problem became more difficult. Furthermore, information flows in the process of plan-bargaining, as discussed in Section 4.3., became even more unreliable. The economic system weakened and changed from a “normal” to a more “pathological” form [Poznanski, 1996]. System weakening is related to what Poznanski calls “growth fatigue”. This is “a combination of economic stagnation and internal instability (manifested in shortages and/or open inflation) resulting from a serious decline in economic institutions, i.e., incentive structures and information quality” [Poznanski, 1996, xi]. In other words, incentives weakened and transaction costs increased. However, informal institutions still supported the formal institutions of property rights and the Communist Party. The party/state was still viewed, as far as was possible for Polish circumstances, as the guardian of Polish interests. The Gierek administration wanted to stimulate the economy at the beginning of the 1970s with a South-Korean style economic policy [Przeworski, 1993]. The change in Poland towards the world market is also an indication that the country had entered the phase of reform socialism. The government borrowed money from abroad, in order to build up an export-oriented industry, while trying to keep wages low by way of repression. The production increase between 1971 and 1975 was largely the result of investment. One important problem was difficulties with the continuation of investment, due to the lack of spare parts, of which most had to be imported. Foreign debt increased steadily, and in 1976 investment was downsized. 11 Grosfeld [2000, 176–8] argues that improvement of the centrally planned economies in the 1960s and 1970s was rather on an ad hoc basis when conflicts and contradictions appeared, and not a conscious choice of an institutional order in accordance to economic analysis. Ideologically the institutions of public property and the Communist Party were rather untouchable. She argues that reforms failed, because the lower levels in the hierarchy only obtained specific characteristics of property rights (e.g. control and income – part of usus and usus fructus), but not the usus abusus. Thus, reforms failed to create incentive structures and information structures for efficient use of resources (e.g. by giving property rights to those who possess more information). However, these reforms fundamentally changed the economic system, and once away from the strong classical economic system, a way back was impossible.

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The economy fell into a crisis between 1979 and 1982. Foreign debt servicing was an important factor in the 1979–1982 recession, but domestic factors seem to be more important, because other STEs with a similar foreign debt did not face such a deep economic crisis. Misuse of imported capital, due to weak incentives, may have contributed to the economic crisis. However, Poznanski argues that imported capital was not so much misused as often assumed as there were incentives not to completely waste imported technology. The imported technology was superior and wasted, but western assistance, pressure from the central administration to pay for the new technology by exports, and ambitious and strongly dedicated managers were the reason that there was still a productive advantage from this technology. On the other hand, often production under licence granted by foreign companies did not lead to extra export of the goods produced, while costs were incurred. The agreement with Fiat to produce under licence only led at a later stage to the production of cars that could be exported, but by that time the model was already out of fashion in the West. High transaction costs could be an answer to the question as to why there was such a long interval of time between the acquirement of the licence and factual production. The influence of external shocks in the form of huge increases in the oil price in 1973 and 1979 on economic performance should not be underestimated. These price increases led to a recession in many Western countries, which in turn lowered their propensity to import. A factor inherent in STEs was the state monopoly on foreign trade, making this process more cumbersome (higher transaction costs). In the 1980s Poland’s export performance did not improve. Also, the increase in the real interest rate at the end of the 1970s had a negative effect, in the sense that foreign debt servicing became more expensive. The problems with debt servicing had negative consequences for investment. Although the Gierek administration intended to keep wages low, there was continuous pressure for real wages to increase caused by, among others, the strong labour movement [Poznanski, 1996]. This process had already started in the early Gierek years, when real wages increased faster than production. This increased domestic demand for consumer goods, diverting part of production away from potential export. In 1976 real wages decreased, but this was not enough to stimulate exports. When the government tried to lower real wages by way of price increases, this led to mass strikes, especially in 1980 and 1981, reducing Poland’s export capacity (e.g. of coal). To satisfy domestic demand, export suffered, worsening the problems of foreign debt repayment. Although Martial Law in 1981 created the possibility of enforcing price increases (on average more than 100% in 1982 [Milewski, 1999, 416]) and real wage reduction, which led to a substantial reduction in consumption, the trade surplus of 1982 (the first in many years) could not be sustained, due to increasing upward pressure on wages because of the strong labour movement. In fact, social peace was bought by giving in to wage demands, which resulted in a reduction of investment rather than of consumption, which in turn resulted in the deterioration of productive capital built up in the 1970s, negatively influencing long-term growth. The 1980s can be called a period of “decaying” socialism. In Poland the decay appeared earlier than in many other “Soviet bloc” countries, not only because of the reforms, but mainly because of the weakening of the Communist Party and the rise of Solidarity. In 1982,


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after the Martial Law of 13 December 1981, Poland started Hungarian style economic reforms under the leadership of the then First Secretary, Wojciech Jaruzelski. Examples are partial price liberalisation, auction sale of currency, more entitlements for international trade and an increasing role of the private sector [Murrell, 1995]. As a result, public property weakened. It has been argued that reforms in the 1980s changed the system on the surface as only symptoms were touched, while problems remained and became more manifest [Balcerowicz, 1997, 349–50]. However, de facto, planning was for a large part replaced by state purchases. Although on the surface many features remained, such as lack of competition between suppliers and shortages, Poland had left the path of central planning without introducing a market mechanism [see Herer and Sadowski, 1993, 5; Fallenbuchl, 2000, 167]. The superficial liberalisation of the economy had inflation as a consequence or, when inflation was repressed by way of price controls, increasing shortages, and thus longer queues. Overall, economic growth was disappointing. Due to the weak co-ordination mechanism, the transaction costs of solving the allocation problem increased. For the small private sector there were many mechanisms giving disincentives to undertake economic activity. An example of increasing transaction costs is plan bargaining, which changed into a more intricate system of regulation bargaining [Hoen, 1992, 185]. After an initial drawback during Martial Law, labour represented by Solidarity regained power rather quickly12, and Poland started to show features of a labour-managed economy. Formally the state had the usus abusus of public property, but there was no one to sell to, and closing down was out of the question. Branch managers and workers in fact now shared part of the usus and usus fructus. The further weakening of property rights led to more value in the public domain, giving stronger incentives for rent-seeking and weaker incentives for economic activity. An example of this is labour which managed to increase wages at the expense of profits and investment. The other pillar of the socialist system, the Communist Party, weakened strongly after 1981. As Poznanski argues, during the 1970s the party became more and more internally divided, which facilitated the rise of interest groups and Solidarity. The policy of the Jaruzelski administration after Martial Law was rather one of survival of the party in the face of a powerful labour movement, while the state apparatus in the form of bureaucrats gained power at the expense of the party. Putting it crudely, the government policy of the 1980s can be described as “keeping the boat from sinking”. The process of the weakening of the party was strengthened by rent-seeking behaviour. Due to the dispersion of characteristics of property rights, a property right being a title on wealth, individuals high in the political and economic hierarchy tried to increase their wealth. Examples of this are tolerating black market transactions in return for favours and concluding deals with foreign companies because of the perspective of foreign trips. This not only undermined the party structure, but also the management structure of SOEs. The payoff of collective power decreased. For party members, many of them being a member because of the economic advantages, it became more attractive to maximise their own welfare, which unintentionally led to the party’s demise. Bureaucrats could earn by tolerating the black market, thus they had an interest in maintaining shortages. But these shortages increased 12

About one million members of the Communist Party had joined the Solidarity labour union [Davies, 1981].

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planning problems, and the growing illegal sector (state corruption included) undermined the moral values and the credibility of the people in power.13 The decay of the party made control more difficult (increasing control costs), which strengthened incentives for activities in the private domain, theft, “sabotage”, and activities in the informal economy. The increasing level of activities in the private sector by members of the nomenklatura created an interest in a market economy, while the troubles with governing the country decreased the payoff of being in power. Martial Law from 13 December 1981 increased the dissatisfaction among the population, while many people left the Communist Party [Taras, 1986, 38], a sign that at least the lower cadres did not believe so much anymore in the centrally planned economy. Public support and belief in socialism creates “internal incentives”. When this acceptation/ideology withered away, a process that was already visible in the 1970s, “external incentives” had to be given by reshaping institutions, which had increasing transaction costs as a consequence. Furthermore, the use of rules of the game is a “knowledge-creating process” [Pejovich, 1995, 91]. This means that when a system establishes itself, people find holes and weaknesses in the system and make use of this knowledge. This “institutionalisation of opportunistic behaviour” became a bigger problem when the belief in the system (of the leaders and the average citizens) withered away due to the reasons mentioned above and the example of MTEs performing better than STEs. From 1985 on, the number of private enterprises increased by way of new enterprises being set up by citizens. This was in fact another change in the property rights order, diminishing the power of the centre. Incentives for setting up a private business were provided by simplifying rules and accounting procedures. In other words, transaction costs of setting up and running a business decreased. Furthermore, it was now possible to freely contract with the state sector. Also, the status of foreign investors improved. The leasing out of certain state enterprises continued in the service sector (e.g. restaurants, hotels, retail shops, newsstands and car repair). The competition between these firms, together with a hardening of the budget constraint, was expected to improve efficiency in the state sector. However, in reality this did not happen. The weakening of the socialist system accelerated at the end of the 1980s, with other features of a market economy introduced by the Rakowski government. Agricultural and consumer food prices were liberalised, while leaving the old system of agricultural product procurement intact. Negotiable subsidies and job guarantees for industrial enterprises were abolished, and internal convertibility (excluding capital accounts) of foreign currency was created, increasing the importance of the private sector in this field. Another stimulus for the private sector was that it had financial advantages compared to the state sector in the form of lower wage taxes, more liberty in price setting and exclusion from the so-called dividends based on the value of capital assets. The higher wages in the private sector attracted workers from the state sector. Private non-agricultural sector employment as a percentage of total employment increased from 5.3% in 1985, to 5.6% in 1986, 6.2% in 1987, 7.0% 13 Castells [1998, 20] argues that what started as a pragmatic way of circumventing shortages by doing each other favours, institutionalised as a system of informal exchange based on barter or monetary payments. Besides the fact that such an informal market goes together with high transaction costs, it takes time before such informal institutions establish. Tolerance and help from bureaucrats was needed for the informal market to work on a larger scale. The informal market was helpful in reducing shortages, but the bureaucracy also became more and more involved, making the informal market a permanent feature of the STE. This deeply transformed the social structure, disorganised the planned economy and increased the planning transaction costs, because bureaucrats were interested in gaining from informal market transactions rather than in obtaining bonuses for plan fulfilment.


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in 1988, and 10.1% in 1989. Even the share of the non-agricultural private sector in industrial employment increased from 3.2% in 1985 to 4.8% in 1989 [Poznanski, 1996, 102–114]. The first major steps towards privatisation were taken in 1988–89 by two changes in legislation, bringing the socialist economic system to its weakest form. These changes created the possibility of transforming failing SOEs into joint stock companies, to be owned by other SOEs or holdings. Furthermore, privatisation took place mostly in the form of selling parts of SOEs to “nomenklatura” managers. The scope of this phenomenon is difficult to estimate, due to its spontaneous nature. This concerned, according to Poznanski, more than 2000 firms before 1990. While the bulk of the stocks of these SOEs were owned by the state or by other SOEs by way of inter-firm purchasing, state appointed “nomenklatura” managers, or in some cases workers, bought the remaining (“spontaneous privatisation”). Another change set into motion in 1988 by the Law on Corporate Associations, was that SOEs could now form joint-stock companies, while limited liability companies could be established in the private sector. Also setting up partnerships with foreign companies was made easier. Control over real wages by the centre was almost completely lost due to the power of labour unions, together with monetary financing of the budget deficit leading to a wage-price spiral and inflation.14 The unpredictability (uncertainty) accompanying high inflation on nominal input prices and wages created liquidity problems for many firms.15 This caused a kind of chain reaction where many firms started to lack cash, and as a consequence they reduced output. Other factors depressing production in 1989 were a fall in output in the coal industry and disruptions in Soviet supplies (e.g. coal and gas). After 5.3% growth in 1988, the economy was again in recession in 1989. Besides institutional weakening, leading to higher transaction costs and weaker incentives, the international environment was an important factor in the demise of the Polish STE [Ellman, 1993, 2]. The fast economic, technological and social progress in MTEs forced leaders of STEs to reform, but the system inherent problems only increased in scale. The failure of increasing the standard of living (e.g. shortages and lack of consumption goods due to emphasis on heavy industry) and changes in the political field in the Soviet Union made change possible, but this is not a sufficient explanation as to why change could happen in the face of high political transaction costs. However, the “showroom effect” of the West undermined the legitimacy of STE regimes, which provided a strong incentive to change. This is similar to what North [1990, 137] argues: if there are relatively productive institutions somewhere in the world and low costs of acquiring the performance characteristics of such institutions, this gives a strong incentive for economies with bad performance characteristics to change. Ellman also mentions the importance of defence expenditure that could not be used for civic purposes. Although officially estimated as 2.5 % of national income in the USSR, he estimates the level of real expenditure to have been about 25 % [Ellman, 1993, 23]. Political factors in Poland, which significantly differed from other STEs, contributed significantly to the continuing economic problems. In a planned economy, there is direct state control over the economy, thus a weakening of the state will lead to a weakening of the 14 The lowest level of inflation in the 1980s was in 1984 – 14.8%. Afterwards inflation increased from 15% in 1985 to 17.5% in 1986, 25.3% in 1987, 61.3% in 1988 and more than 250% in 1989 [Milewski, 1999, 416]. 15 Poznanski argues that an important factor behind the disappointing growth results in the late Gierek period, under Jaruzelski, as well as under Rakowski, was the fact that real wages increased faster than output. This had important consequences for the stabilisation plan that went into force on 1 January 1990. The growth in real wages had to be brought down, but during the roundtable industrial workers were promised price indexation, pensioners were promised full indexation, and workers in the budgetary sector would receive the same rate of wage increase as workers in the industrial sector. This made reduction of the wage-price spiral more difficult.

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economic system. As Poznanski [1996, 73–8] argues, policy and plans were difficult to work out at the central level (problem of collective action) due to political weakness, and with such a divided background it was difficult to face the hostile labour movement. Besides that, transaction costs of new policy and reforms were higher and uncertainty about success was larger. The inferiority of such a system reduced the possibilities of adapting to the problems created by the debt crisis and the economic crisis of 1979–1982. Furthermore, the elites became more aware of the disadvantages of governing such a rather ungovernable country, while the labour movement became aware of the economic advantages of power. The development in Poland follows Kotz’s [1992] argument describing the factors behind the collapse of the USSR. Due to decentralisation, the dominant group interested in protecting the socialist system weakened. The ideological weakening that had already started in Poland in the 1970s, speeded up especially after 1985 due to perestroika and glasnost. The dispersion of de facto property rights created different interests in the economic system. The ruling class became more interested in capitalism due to economic advantages, while the protesting working class kept an interest in the socialist system (even though they protested). Kotz argues along Poznanski’s line of reasoning that attempts at reform, which in Poland failed due to the lack of political legitimacy of the Communist Party [Biessen, 1993, 39]16, created a class with an interest in a capitalist system. This class consisted of the people working in the expanding legal, semi-legal and illegal small scale private sector, the largest part of the intelligentsia (especially after obtaining more freedom of speech due to glasnost), and the nomenklatura. The nomenklatura in Poland was faced with a rather ungovernable country and less economic benefits than the Western elites. This argument, in fact, implies that the changes after 1989 were the consequence of a “revolution from above”. The huge political and economic problems made the communists start talks on power sharing with the opposition in February–April 1989. This almost led to the self-liquidation of the Communist Party, while in August 1989, after semi-free elections, the first non-communist government after World War II was formed under premier Tadeusz Mazowiecki. At the moment of the power transfer to the non-communists the economic system had changed significantly. Many firms could determine their own production, secure the necessary inputs and determine many prices and wages. Besides the weakening of public property, the main pillar of the STE, central planning, was gone. Due to reforms in the 1980s, elements from a market mechanism were already functioning at the end of this decade (“creeping capitalism” [Poznanski, 1996]). This may be an important factor explaining why the transformation in Poland has been more successful than in many other former STEs [see also Ko∏odko and Nuti, 1997]. However, the lack of market institutions in the face of abandoned and still functioning socialist institutions created an “institutional vacuum” as Poznanski calls it, meaning that many old rules of the game had disappeared, while new rules were not in place yet. This led to a situation where “weak” state co-ordination co-existed with “weak” public property and “weak” market institutions. This situation created uncertainty, high transaction costs and adverse incentives, and many property rights were de facto in the public domain. On the other hand, the liberalisation of the economy created strong incentives for small private business to develop. The influence of these factors on economic performance at the beginning of the 1990s is discussed in Chapter 5. 16 Also Sachs [1993, 35] mentions that the process of dismantling the planned economy resulted from the partial economic reforms through the years, while emphasising the political weakness of the regime as a factor behind the failure of reforms.


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4.5. Concluding remarks Due to the growth of the economy in the Polish STE, as well in other STEs, the amount of transactions increased, making the co-ordination problem more complex and increasing transaction costs. Institutional change was necessary in lowering transaction costs, but due to low adaptive efficiency this did not happen. Although the socialist system was able to survive for some time, the increased transaction costs and other contradictions within the system (e.g. social and political factors) created the basis for radical change (change in the qualitative features of the system), which was made possible by an evolutionary weakening of the old system. It is never possible to point out one unique reason that is the cause of institutional change. However, when an economy comes to the boundaries of its production possibilities within a certain institutional framework, the rules of the game and the play of the game have to change to shift the production potential outwards. The problem of the Polish STE was that the rules and play of the game could only be changed within the limits of the dogmas of public property, the leadership of the Communist Party and the influence of the Soviet Union. Although the system seemed difficult to be reformed, the communists were continuously reforming. These reforms very often failed, but institutions fundamentally changed. Due to de-centralisation de facto property rights (usus and usus fructus) diffused through a larger group. This weakened the incentives for caring about economic outcomes at the national level. More rent-seeking behaviour of individuals and interest groups due to a change from encompassing to narrow interest weakened incentives even more. With the reforms, the institution of public property weakened. Another fundament of the Polish STE, the Communist Party, was weak from the start. During the 1970s the internal division increased, while during the 1980s, after the Martial Law of December 1981, the party weakened even more. Besides the taking over of party functions by the state apparatus in the 1980s, there was a loss of trust and belief in the party and the socialist system. After 1981 many party members resigned, and the economic troubles increased dissatisfaction. An institutional disequilibrium became more and more visible. Besides the lack of belief in the party, the lower cadres in the party itself also lost belief in the system. In this respect the influence of the Catholic Church, to which more than 90% of the Poles belong, and the nationalist feelings against the Soviet Union should not be underestimated. To party elites it became more unattractive to lead what I would call a sinking ship, while a significant proportion of them became economically interested in a new market-based system. The weakening of formal and informal institutions coincided with increasing transaction costs at the governance level, such as the increased problems connected with plan bargaining and in a later stage regulation bargaining, due to economic decentralisation. Weak incentives and high transaction costs may explain the continuing economic stagnation in the 1980s. All the problems discussed in this chapter helped to hollow out the system, and created the conditions for rapid change without bloodshed.

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The discussion above is important in the light of changes in the Polish economy after 1989. Did the transformation to a market economy start in 1990 with the introduction of the Balcerowicz plan? Looking from a wide perspective, in fact the transformation from a planned to a market economy (unintentionally) started more than 30 years ago by fundamentally changing and weakening the main characteristics of the economic system through reforms. It turned out that the reforms changed the classical socialist system into “decaying” socialism with features of market institutions developing, thus the system had been fundamentally transformed. In this chapter an attempt has been made to analyse the “Polish road to transformation” in general within the framework of changing institutions (institutional decay/weakening), weakening incentives and increasing transaction costs. Generally speaking, the Polish STE evolved from a kind of classical socialism, where transaction costs were relatively low and incentives strong, that lasted until the end of the 1960s via reform socialism (1970s), featuring increasing transaction costs and weakening incentives, to “decaying” socialism (1980s), characterised by high transaction costs and weak incentives. This development negatively influenced economic performance and created the pre-conditions for a relatively rapid economic transformation towards a market-type economy in the 1990s. Institutional change proceeded rather endogenously. Two of the most important formal institutions, public property and the Communist Party, were weak. Central planning did not exist in its original form anymore. The informal institutions (e.g. belief in the system) did not support the weak existing formal institutions, leading to an institutional disequilibrium, and economic performance was poor. However, this does not completely explain the fall of the socialist system and the peaceful transfer of power in Poland. Not underestimating the role of the Solidarity movement, the economic interest of the political elites in a new system is of crucial importance, lowering the transaction costs of institutional change. Furthermore, the loss of interest of the USSR in affairs in Poland, due to Gorbachev’s perestroika and glasnost policy and their own economic and political problems, made change possible without intervention from this side. Thus, although fundamental characteristics of the economic system had weakened, creating the conditions for further change towards a market oriented system, which existed in its “embryonic” form, the final blow seems to have been a kind of “revolution from above” by the loss of interest of Polish and Soviet elites in keeping the old system in Poland. The weak incentives and high transaction costs in the Polish economy at the end of the 1980s were the result of a process of institutional weakening that had been proceeding for at least two decades. This situation is important for analysing and understanding the process of institutional change and its influence on economic performance during the first years of the 1990s, which is the topic of the next chapter.

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Chapter 5 TRANSACTION COSTS AND INCENTIVES IN THE CONSTRUCTION OF THE POLISH MARKET IN THE 1990S

5.1. Introduction In Chapter 4, it was argued that transaction costs increased and incentives weakened in the Polish economy during the development from classical to “decaying” socialism. Economic stagnation seemed to have become a permanent feature of the system. Serious problems with shortages and queues were a sign of a disfunctioning economic system. The economic problems were good reasons for applying a “cold turkey” approach for achieving structural change and stabilising the economy. As a result of the radical changes that started at the beginning of 1990 shortages and queues disappeared. However, between 1989 and mid-1992 the Gross Domestic Product (GDP) declined as a result of the transformation. The main question addressed in this chapter is as to what extent transaction costs increased or decreased and whether incentives weakened or strengthened during the first years of the 1990s, and whether this can help to explain the decline in output until mid-1992 and the economic recovery afterwards. The main argument of this chapter is that initially transaction costs increased for enterprises in the state sector, while at the same time changes in the institutional environment created adverse incentives. This negatively influenced economic activity. Small, newly established companies faced low transaction costs and strong incentives created by economic liberalisation and an absorptive market. This in turn stimulated economic activity. The first effect seems to have been stronger until 1992. It will be shown that the type of transaction costs in existence after 1989 differed significantly from previous transaction costs. In the socialist system transaction costs mainly concerned the costs of planning or the costs of solving the allocation problem in a situation where planning had disappeared, while a market had not yet been established. Prices were not used as a scarcity indicator under planning. After 1989 market prices became the most important scarcity indicator. As a result, plan-related transaction costs were eliminated. However, the use of the market and the price mechanism lead to other transaction costs.

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Transaction costs were high as the market developed in a situation where the institutional remnants of the old socialist order still existed and many market institutions were missing. In Section 5.2. the aims of transformation are discussed, and the question of why the particular transformation strategy used was chosen is addressed. In Section 5.3. the economic performance during the first years of the 1990s is presented. In Section 5.4. causes for the decline in output between 1989 and 1992 are elaborated from the perspective of statistics, aggregate demand and aggregate supply. In Section 5.5. a new-institutional explanation of the decline in output is presented. The focus is on adverse incentives and increasing transaction costs in the process of institutional change. The factors causing output to decline have to be weighed against incentives for improvements in productive efficiency at the level of a firm due to liberalisation and competition, as well as an increase in output resulting from incentives for new business. Institutional strengthening and its contribution to improved economic performance is the topic of Section 5.6.

5.2. Transformation: the choice and the aims of the transformation strategy After a period of institutional weakening, in which formal institutions of the socialist system like public property and the Communist Party, as well as informal institutions were hollowed out, and the socialist system was in a state of disintegration (“decaying” socialism), radical steps towards a market economy were taken. Only some market institutions existed in an embryonic, sometimes “pathological”, form, while many socialist institutions had disappeared. Mentality and mental models formed under the influence of the socialist system remained. Although there was an evolutionary road towards the market, Poland’s transformation in the 1990s reveals elements of both evolution and design. The situation, in which the reform program of the Mazowiecki non-communist government had to be prepared, was very difficult. First of all, the plans had to remain secret in order to prevent speculation. Secondly, there was a strong distrust towards economists connected with the old system, which made verification of the plans difficult, increasing the probability of making mistakes. Thirdly, the country faced a dual transformation [Bartlett, 1997], meaning transformation in the economic and political field. Fourthly, hardly anybody had predicted the collapse of the socialist system and many had not even questioned the feasibility of socialism. Fifthly, there were hardly any concepts available for dealing with the transformation, and basically nobody knew how to deal with the problems. There were some theories available which were hardly considered, such as New Institutional Economics and the German Ordnungstheorie [Rosati, 1998], probably due to the ideological commitment of the reformers to neo-classical theories. The commonly used mainstream economic theories did not provide much help, for they considered institutions to be constant. Finally, institutional change is path dependent. The features of old systems do not disappear so fast, especially informal institutions, not only influencing incentives from the newly developing market institutions, but also influencing the formation of new institutions. History matters.

Transaction Costs and Incentives in the Construction of the Polish Market in the 1990s

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The political capital of the reformers was high at the time when the radical transformation plan went into force, overcoming problems that could have been posed by a low-trust society. In the Polish situation initially the free rider problem in the creation of market institutions was overcome by a strong group that wanted to draw a line under the past, and the ideological commitment (process-regarding preferences) of the reformers to a liberal market economy. Stakeholders like the EU, IMF and World Bank may also have been important for providing incentives for the direction of institutional change.1 What were the main aims of transformation? The most important elements are a change in the property rights order, the establishment of market institutions and the reduction of the role of the state in solving the co-ordination problem. Just to mention a few aspects of transformation: establishing a legitimate, elected government with all the institutions and governance structures needed; creating private business; developing wholesale trade; making the currency convertible and liberalising foreign trade; making the market the most important co-ordination and price-determining mechanism; creating a capital market and commercial banks; creating a tax system fit for a market economy; making public administration more efficient and professional; reforming health care and the education system; de-monopolising markets and increasing the role of small and medium-sized enterprises; stimulating x-efficiency; changing the environmentally unfriendly ways of production and transport; increasing the share of services in GDP; reforming agriculture; building social capital; eliminating black markets and nomenklatura; eliminating shortages; changing mentality; making people conscious of their responsibility for their own actions; stimulating and developing entrepreneurship [see, among others, Ellman, 1993, 16–7]. When creating market institutions and governance structures, market imperfections have to be taken into consideration [Ellman, 1993] and in the complicated transformation process different incentives should be used in different cases [Kierzkowski and Alsopp, 2000], because of differing practical situations. Besides economic liberalisation and the building of market institutions, retraining of cadres and changing the way of thinking are important. Creating and using market institutions and finding out best practice is a learning process, which due to the necessary changes in mental models takes time [see Fallenbuchl, 2000]. Besides creating market institutions that provide incentives for economic activity and efficient resource allocation, new institutions, together with governance structures, should be created in such a way that they are adaptively efficient. Thus, the aim is to find and generate information for facilitating rapid and effective adaptation to a continuously changing environment and to create institutions which support search into technological and organisational innovation [Grosfeld, 2000, 178]. At the beginning of the 1990s there was much discussion on the advantages and disadvantages of gradual transformation versus so-called “shock therapy”. From a perspective of transformation of many characteristics of the socialist economic system, when comparing the strategies in countries using a gradual approach with countries facing shock therapy, it turns out that radical changes take place in some characteristics, and gradual changes in others. For instance, privatisation in Poland, where shock therapy was applied, was slower than in other Central European countries. As Lavigne [1999 (a), 19] states, “the choice between the “big bang” (or “shock therapy”) model and the “gradualist” model was largely artificial. 1 Piazolo argues that the prospects of EU accession facilitate reforms and transformation towards a market-oriented economy. He estimates the potential gain from more efficient institutions due to EU accession as “a “static” bonus in GDP of 12% (not accounting for induced capital accumulation) and an additional “dynamic” bonus up to 24%” [1999, 325]. Hoen [2001(a)] emphasises the importance of incentives from aspirations for EU accession for “good governance”.

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Stabilisation and liberalisation had to be conducted quickly (otherwise there could be no reform). Transformation had to take time, and what mattered was to announce what would be done and establish credibility.” In fact the general labels “shock” therapy and gradual transformation are inappropriate. It depends on what is focused upon – stabilisation policy or changes in different fundamental characteristics of the economic system – whether the label “shock” or “gradual” applies. However, it is relevant to discuss why Poland chose a radical approach – why was the intention to strive for radical institutional change and to implement a radical stabilisation policy? The weakening of the socialist system, the disintegration of the Communist Party and dissatisfaction with the economic situation are arguments in favour of a radical approach to economic transformation [see Brzeski, 2000, 129]. In fact, the approach towards institutional change was a political act – to draw once and for all a line between the old and the new system, to create an irreversible situation [see also Przeworski, 1993]. Furthermore, the ideological strength of the Communist Party had disappeared, so nobody could take up the reform of socialism. A gradual approach in Poland was infeasible, because it implied a large role for the state. The state was weak and in transformation itself. Furthermore, public feeling in Poland was anti-statist [Przeworski, 1993]. Reform of socialism, besides the incapability of the Communist Party and its loss of the will to govern, was only supported by little more than a quarter of society in 1989, according to social studies quoted by Przeworski. He suspects that the radical strategy won, because it was the only coherent plan around. A problem was that Solidarity, the labour movement that led the government, lacked human capital to fill all the important positions in the state apparatus and lacked control in ministries. Political factors may have radicalised the stabilisation plan, leading to rapid liberalisation in those fields where the communists had influence in the coalition government [Sachs, 1993, 43]. Ko∏odko and Nuti [1997, 43] argue that price liberalisation in Poland had to be rapid, because there were no budget resources for long-term subsidies. The large budget deficit was also an incentive to aim for quicker privatisation. The share in the government budget in the form of subsidies to state-owned enterprises (SOEs) was expected to decline and the government would have less influence on the effectiveness of enterprises. Another aim was rapid integration into the world economy, for which swift exchange rate liberalisation would be a stimulus. The opening of the market to international trade by lifting trade barriers would stimulate the creation of conditions for competition and attract foreign direct investment. The Balcerowicz plan2 that came into force on 1 January 1990 was an important instrument of economic transformation [see Przeworski, 1993]. It contained many elements mentioned above. The main aim was to create a “normal” and “rational” economy without large disequilibria and shortages. The plan was of a rather “constructive” nature, and its key terms were efficiency, competition and privatisation. The consumer industry would have to develop at the cost of over-developed, inefficient heavy industry. Social aspects were not really considered. The transformation strategy can be distinguished into stabilisation policy and structural change. Stabilisation concerned price liberalisation, which would eliminate shortages, 2

Named after the main architect of the transformation strategy and Minister of Finance at that time, Leszek Balcerowicz.


85

and reduce inflation by way of real wage and income restriction, a restrictive monetary policy and reduction of the government budget deficit. Structural change in enterprise behaviour should increase efficiency. This is strongly related to the creation of market institutions and the working of the market mechanism. Price setting by the market, also an aim of price liberalisation, and a competitive market environment provide incentives for lower prices, lower costs, and higher quality. The most important steps of structural change to be carried out in the course of two or three years were: • Privatising SOEs, supporting business start-ups and lifting restrictions on the sale and size of private farms; • Making SOEs face hard budget constraints in order to improve efficiency; • Increasing competition by way of anti-monopoly policies; • Creating a capital and labour market; • Creating a banking system fit for a market economy, by making commercial banks independent from the central bank, and creating the conditions for an efficient monetary and credit policy; • Reforming the tax system by, among other things, introducing Value Added Tax, personal and corporate taxes.

5.3. Economic performance In 1990, the year when the Balcerowicz plan came into force, price liberalisation had a huge influence on inflation, reaching almost 600%. Many prices immediately increased by 60%, and meat even by 80%. As a result shortages and queues were eliminated. This, as research presented in Chapter 6 shows, was a clear welfare improvement. After an initial jump, inflation decreased. Exchange rate liberalisation built confidence in the Polish z∏oty, which was good for exports, and people started selling dollars for z∏oty [Przeworski, 1993]. Table 5.1. shows the growth in real GDP per capita in countries in transition. Poland faced a recession, a decline in GDP for more than two consecutive quarters, in 1990 and 1991. While GDP increased in 1989 by 0.2%, it decreased by 11.6% in 1990 and 7.0% in 1991. In mid-1992 GDP started to increase again, and showed a total increase of 2.6% in 1992. The main sources of GDP decline in 1990 were industry (-24.2%), construction (-14.5%) and gross fixed investment (-10.0%). The decline in output in 1991 was mainly caused by a decline in industrial output (-11.9%) and gross fixed investment (-4.5%). In both years agricultural output declined by about 2%. The construction sector had already started to grow in 1991 (6.7%), while industrial output in 1992 increased by 3.9%. In 1992 a decrease in agricultural output of almost 12% hampered the economic growth of that year [GUS, various issues]. The decline in non-agricultural production was basically limited to the state sector, while the private sector expanded. Although the rate of expansion of the private sector is difficult to estimate due to underreporting for tax reasons, this expansion did not compensate for the fall in output in state industry [Poznanski, 1996, 180].

86

Chapter 5

Table 5.1. The development of real GDP per capita in countries in transition (1989–1999).

1989 1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 GDP 1999 (1989=100) Bulgaria

0.5

-9.1 -11.7

-7.3

-1.5

1.8

2.1 -10.9

-6.9

3.5

2.4

67

Czech Republic

1.4

-1.2 -11.6

-0.5

0.1

2.2

5.9

4.8

-1.0

-2.2

-0.2

95

Estonia

8.1

-6.5 -13.6 -14.2

-9.0

-2.0

4.3

3.9

10.6

4.7

-1.1

77

Hungary

0.7

-3.5 -11.9

-0.6

2.9

1.5

1.3

4.6

4.9

4.5

99

Latvia

6.8

2.9 -10.4 -34.9 -14.9

0.6

-0.8

3.3

8.6

3.9

0.1

60

-9.8

3.3

4.7

7.3

5.1

-4.2

62

Lithuania Poland Romania Slovak Republic

11.5

-5.0

0.2

-11.6

-3.1

-5.7 -21.3 -16.2 -7.0

2.6

3.8

5.2

7.0

6.1

6.9

4.8

4.1

122

-5.8

-5.6 -12.9

-8.8

1.5

3.9

7.1

3.9

-6.1

-5.4

-3.2

76

1.4

-2.5 -14.6

-6.5

-3.7

4.9

6.7

6.2

6.2

4.1

1.9

100

2.8

5.3

4.1

3.5

4.6

3.8

4.9

109

-7.6 -12.6 -10.4

2.8

11.4

8.3

3.4

80

Slovenia

-1.8

-4.7

-8.9

-5.5

Belarus

8.0

-3.0

-1.2

-9.5

Russia

0.0

-4.0

-5.0 -14.5

-3.5

0.8

-4.6

3.2

57

Ukraine

4.0

-3.4 -11.6 -13.7 -14.2 -23.0 -12.2 -10.0

-3.0

-1.9

-0.4

36

CEE + Baltics3

-0.1

-6.6 -10.7

-3.2

-8.7 -12.7

0.3

-4.1

3.7

5.4

4.1

3.6

2.6

2.1

97

CIS4

0.6

-3.7

-6.0 -14.1

-9.3 -13.8

-5.2

-3.5

0.9

-3.5

2.8

55

CEE + Baltics + CIS

0.3

-5.0

-8.1

-5.1

-0.5

-0.2

2.0

-1.1

2.5

68

-9.3

-6.0

Source: EBRD [2000, 65] (data for 1989-1998 from the most recent official estimates from national authorities, IMF, World bank, OECD. For 1999 preliminary data).

Compared with the other countries in the table, Poland performed relatively well. First of all, the recession lasted shorter than in all other countries (only two years), while, when comparing 1999 with 1989, Slovenia was the only other country that had achieved a higher GDP per capita. However, the fast growth between 1994 and 1997 slowed down to 4.1% in 1999. After an initial shock in 1990, the rate of inflation in Poland declined steadily. The inflation rates in chosen former Soviet-Type Economies (STEs) between 1989 and 2000 are presented in Table 5.2. Although in 2000 the level of inflation increased to above 10%, it declined in 2001, reaching a level below 6% [GUS, 2002(a)]. Together with Slovenia and the Baltic States, Poland shows a healthy declining trend in inflation. The unemployment rate increased until the end of 1993 to a level of 16.4%, after which it declined to a level just above 10% in 1997. Afterwards the unemployment level increased again to almost 16% in 2001 and more than 18% in March 2002 [GUS, 2002(b)]. 3 Estimates for real GDP represents weighted averages for Bulgaria, the Czech Republic, Estonia, Hungary, Latvia, Lithuania, Poland, Romania, the Slovak Republic and Slovenia. The weights used for the growth rates were EBRD estimates of nominal $ GDP lagged by one year; those used for the index in the last column were EBRD estimates of GDP converted at PPP USD exchange rates in 1989. 4 Estimates for real GDP represents weighted averages for countries from the Commonwealth of Independent States. The weights used for the growth rates were EBRD estimates of nominal $ GDP lagged by one year; those used for the index in the last column were EBRD estimates of GDP converted at PPP USD exchange rates in 1989.

87


Table 5.2. Inflation – percentage change in retail/consumer price level (1989–2000, annual average).

Slove- Poland Hung. Czech Slovak Bulg. nia

Rep.

Rep.

Bela-

Ukr.

rus

Ro-

Russia Lithua- Latvia Estonia

mania

nia

1989 1306.0 251.0

17.0

1.4

2.3

6.4

1.7

2.2

1.1

2.0

2.1

4.0

6.1

1990

550.0 586.0

28.9

9.7

10.8

26.3

4.7

4.2

5.1

5.6

8.4

10.5

23.1

1991

118.0

70.3

35.0

52.0

61.2

334.0

94.1

91.0 170.0

92.7

225.0 172.0

211.0

1992

207.0

43.0

23.0

11.1

10.0

82.0

1993

32.9

35.3

22.5

20.8

23.2

73.0 1190.0 4735.0 256.0

875.0

1994

21.0

32.2

18.8

10.0

13.4

96.3 2221.0

891.0 137.0

311.0

72.1

35.9

47.7

1995

13.5

27.8

26.2

9.1

9.9

62.0

709.0

377.0

32.3

198.0

39.6

25.0

29.0

1996

9.9

19.9

23.6

8.8

5.8

123.0

52.7

80.0

38.8

47.8

24.6

17.6

23.1

1997

8.4

14.9

18.3

8.5

6.1

1082.0

63.8

15.9 154.0

14.7

8.9

8.4

11.2

1998

8.0

11.9

14.3

10.7

6.7

22.2

73.2

10.6

59.1

27.6

5.1

4.7

8.2

1999

6.0

7.4

10.0

2.0

11.0

2.0

294.0

—

46.0

56.0

1.0

—

—

2000

9.0

10.4

10.0

4.0

12.0

10.0

169.0

—

46.0

21.0

1.0

—

—

971.0 1210.0 210.0 1526.0 1021.0 951.0 1076.0 410.0 109.0

89.8

Source: EBRD [2000, 67] (data for 1989-1998 from the most recent official estimates from national authorities, IMF, World bank, OECD). For 1999 and 2000 – GUS [2001].

Large structural changes took place at the beginning of the 1990s. Table 5.3. shows the development of different sectors of the economy during the first half of the 1990s. After an initial increase, the share of industry in GDP fell from 41% in 1989 to 33% in 1994. Construction, after an upward trend in 1991 and 1992, which could have contributed to the economic recovery starting in mid-1992, declined from 11.2% in 1992 to 5% in 1994. Also, agriculture showed a declining trend, while employment in this sector did not decrease so much, implying an impoverishment of people working in this sector. The growth of “other”, which basically concerns services, from 37.2% of total GDP in 1989 to 56% of total GDP is worth noting. A factor behind this is the emphasis under socialism on (heavy) industry, while the service sector stayed behind. The economic liberalisation gave a strong impetus to the development of this sector. Table 5.3. The share of different sectors in the creation of GDP (percentage) (1989–1994).

1989

1990

1991

1992

1993

1994

41.0

43.6

39.2

39.6

33.4

33.0

9.6

9.5

10.9

11.2

6.6

5.0

Agriculture and forestry

12.2

7.3

8.4

7.3

6.6

6.0

Other (e.g. services)

37.2

39.6

41.5

41.9

53.3

56.0

Industry Construction

Source: Gorzelak [1996, 17], based on different issues of GUS Rocznik Statyczny (statistical yearbook).

88

Chapter 5

Moreover, the strong development of the private service sector can be shown with the help of employment data (other data are presented later in this chapter when discussing factors of the fall in output and recovery). Total employment in domestic trade increased in 1990 by 0.7%. Private sector employment in domestic trade increased by 13.9%, while the decline in the public sector amounted to 34.3%. Total employment in domestic trade increased by 16% in 1991, while all other branches faced decreasing employment. The public part of domestic trade reduced employment by 24.5%, while the already much larger private part saw an increase of 24.9%. In 1992 the total increase was 16.8%, made up of a decrease in public employment by 53.1% and an increase in private employment by 42.3%. The fall in employment in the public sector can partly be explained by the privatisation of many small SOEs in this sector, which explains part of the increase in employment in the private sector. However, the increase in private employment was also based to a large degree on the setting up of many new small enterprises, while, as discussed later in this chapter, increasing transaction costs and adverse incentives provided by a change in the rules of the game in the economic system contributed to the worse performance of the state sector.

5.4. Causes of the decline in output – statistics, demand and supply In all of the former STEs in transformation in Central and Eastern Europe and the former Soviet Union, the initial phase of transformation was accompanied by a decline in output. The Polish recession was the shortest. The country resumed economic growth relatively fast, among other things, due to initial institutional conditions (“creeping capitalism”), system strengthening, incentives for small private business and geographical closeness to the EU. However, there is a price-index problem. As was shown in Table 5.1., in 1989 the Polish economy grew by 0.2%, while the Baltic states, Belarus and Ukraine showed a much higher growth rate. Thus, for Poland it was easier to achieve the GDP level from 1989. However, this argument does not count in relation to Slovenia, which faced a negative growth rate of – 1.8%. Concerning explanations for the fall in output at the beginning of the 1990s, Hoen [2001(b), 22–3] distinguishes three basic views: 1. the fall in output was serious, but exaggerated; 2. the fall in output was serious, but inevitable; 3. the fall in output was serious, and unnecessarily deep. The first view is related to statistical over-estimation and incentives existing under central planning to over-report production, in order to obtain bonuses for plan fulfilment – Winiecki [1993] speaks of “output that was not”. The second view concerns “output that was, but should not”. Under socialism many products were produced, for which there would be no demand in a market economy. Due to forced substitution under conditions of shortages people bought these products, while many products were of low quality. The third view embraces “output that was and should be”, and relates the crisis to the transformation strategy. All three views have their merits, and probably all three mechanisms have been at work. Furthermore, there were factors causing underestimation of the recession. The question remains as to which view is likely to be the most valid and which factors have had the strongest influence.


89

The fall in output at the beginning of the 1990s is discussed by way of official statistics that overestimate the scale of recession (5.4.1.), demand factors (5.4.2.) and supply factors (5.4.3.). A new-institutional explanation of the fall in output is presented in Section 5.5. 5.4.1. Statistics It can be argued that the fall in output was serious, but overestimated. This explanation of the fall in output is based on the argument that output in STEs was overestimated. Overestimation may have taken place in order to show the superiority of the socialist system. Furthermore, under socialism enterprises had an incentive to over-report their performance, in order to achieve the plan. This concerns “output that was not”. However, as Rosati [1998, 106] argues, practices of over-reporting had not existed anymore in the more decentralised planned economies like Poland since 1982 and Hungary since 1968.5 Furthermore, while there was an incentive for firms under central planning to over-report output in order to achieve the plan, there also was an incentive to under-report output in case of over-fulfilment of the plan, due to the fear of planning-in the extra output the following year. This often led to an “automatic” fulfilment of the plan [see Kornai, 1992]. A grey sector already existed before 1989, implying that the initial level of output was underestimated. In Poland many illegal or semi-legal activities became legal at the start of the system transformation, increasing official output. This can be used as an argument for the statement that the recession was serious, and underestimated. Table 5.4. The ratio of the product of the hidden economy to the official GDP. Household electricity approach (1989–1995).

1989

1990

1991

1992

1993

1994

1995

Czech Rep.

21.7

24.3

31.7

31.8

27.1

24.5

21.8

Hungary

24.6

26.6

31.1

33.3

33.6

31.4

29.6

Poland

22.9

31.6

32.5

31.7

31.1

27.9

23.9

Romania

17.3

24.4

36.9

39.0

37.5

34.2

28.3

Slovakia

21.7

24.3

32.0

32.0

34.1

32.0

28.4

Ukraine

28.1

37.4

47.0

54.6

52.8

Belarus

21.2

33.7

40.3

44.3

46.4

Source: Lackó [2000, 135].

However, a study conducted by Lackó [2000] on the development of the grey economy provides arguments for the statement that the decline in output was overestimated. In the STE, the informal economy mainly existed in order to relieve shortages. In a market economy tax evasion, or evasion of legal prohibition, is often a reason for the existence of an informal economy [Lackó, 2000, 118]. During the transformation the incentives in the informal economy changed. Many activities were now allowed, legalising a large part of the grey economy. 5 This implies that this argument may have some validity for other economies in transformation, which did not undergo such far reaching reforms under socialism.

90

Chapter 5

However, the lack of a well developed tax system and tax enforcement system provided new incentives for hiding economic activities. The estimated ratio of the product from the grey economy to the official GDP between 1989 and 1995 in various countries in transformation is presented in Table 5.4. What can be observed in Lackó’s estimate is that the share of the informal economy increased at the beginning of the introduction of radical measures to change the economic system [see also Gomu∏ka, 2000]. In Poland, a big jump took place in 1990. The data provide evidence for the argument that output did not decline so much, due to an increase in the activities in the informal economy. From 1991 on the size of the informal economy declined. A possible explanation is that this was the result of a developing tax system and more efficient tax enforcement. In consequence, the reduction in the share of the grey economy could be one of the sources of economic growth in Poland since 1992 – informal activities becoming legal. Sachs [1993] is a strong proponent of the argument that the recession was exaggerated, and that the fall in the standard of living was for the main part an illusion. In other words, the decline in output concerned “output that was, but should not”. He argues that the standard of living at the threshold of transformation was much lower than officially reported, due to large shortages and the large amount of unwanted and bad quality products produced by SOEs, such as tanks and statues. The fall in real wages in 1990 was an illusion, as it caused a reduction of the monetary overhang, “the accumulated, unspent stock of money in money owners’ pockets” that existed because not all money could be spent due to shortages [Kornai, 1992, 277]. This monetary overhang was rather the result of the increase in real wages between 1987 and 1989. In the socialist shortage economy, not all money could be spent. Thus, consumption may be a more reliable indicator of the standard of living. The disappearance of queues, due to price liberalisation, immediately improved the standard of living of many people6 [Kornai, 1992, 70], and the availability of a larger variety of products and higher quality products, also from import, improved living conditions [see also Rosati, 1998]. However, some economists argue that shortages had already disappeared in many fields at the end of 1989 [Herer and Sadowski, 1993; Ko∏odko and Nuti, 1997; Rosati, 1998]. An argument in favour of the statement that fall in output was underestimated is that some industrial transactions in 1990 were calculated as if they were concluded between firms, while before they had taken place within a firm [Ko∏odko and Nuti, 1997, 48]. On the other hand, an argument for the exaggeration of Poland’s recession is that, due to high inflation, the book value of stocks was overestimated in 1989 and underestimated in 1990 when the market value was much higher [Berg, 1995]. Generally speaking, an important cause of difficulties regarding statistical measurement was that statistical methods changed. Under socialism national income was measured by way of Net Material Product (NMP), while market economies use Gross Domestic Product (GDP). The service sector was underestimated in NMP, which led to an underestimation of output. In turn, this automatically may have led to growth being overestimated due to the use of GDP. It can be concluded that it is difficult to prove that the recession was statistically overor under-estimated, and that a fourth category can be added to the three distinguished by Hoen (see above): the recession was serious, and underestimated. 6

Of course there also were losers, like those who were queuing for others in returns for favours or money.


91

5.4.2. Demand factors A factor considered by many economists to have been an important explanatory variable for the decline in output at the beginning of the 1990s was the fall in aggregate demand consisting of individual consumption, private investment, government expenditure and net exports. Aggregate demand explanations of the fall in output concerns “output that was”, including both wanted and unwanted products produced under socialism. On the one hand, consumption demand declined at the beginning of the transformation, due to a fall in real wages caused by inflation and the “popiwek”, a tax on excessive wage increases that was introduced to break the wage-price spiral fuelling inflation since the 1970s [see Herer and Sadowski, 1993; Poznanski, 1996; Ko∏odko and Nuti, 1997; Rosati, 1998; Kierzkowski and Alsopp, 2000]. The fall in consumption demand hardly affected food consumption, but the demand for non-food consumption goods like textiles fell sharply [Ellman, 1993, 26]. As Herer and Sadowski [1993, 23–5] argue, a negative multiplier effect may have been at work as a result of the appearance unemployment. High inflation led to a fall in the real value of household savings, of which about 75% was in US dollars. This caused a negative wealth effect reducing consumption [Rosati, 1998, 115–6]. On the other hand, the introduction of currency convertibility and the devaluation of the z∏oty led to “de-dollarisation” of the Polish economy, and many people converted their dollar savings into z∏oty [Sachs, 1993, 54; Poznanski, 1996, 177–8]. This phenomenon, together with catching up consumption due to the availability of products and the large shortages before 1989, increased consumption demand. However, the availability of and trust in Polish consumer goods was limited, leading to a strong increase in the marginal propensity to import when trade was liberalised in 1990–91. This effect was weakened by a cheap z∏oty [Herer and Sadowski, 1993, 110; Rosati, 1998, 112]. The total effect on consumption demand may have been negative, deepening the recession. Another factor was the tight fiscal policy. Government spending declined, due to cuts in national defence spending, central government investment and subsidies. Subsidies fell from 11% of GDP in 1989 to 7% of GDP in 1990 [Poznanski, 1996, 174]. An important cause of the fall in aggregate demand is considered to be the tight monetary policy. The relationship between the increase in the interest rate and the fall in output is explained by Calvo and Coricelli’s [1992] “credit crunch hypothesis”. Reserve requirement ratios were increased, interest rates went up and access to credit became more difficult, due to administrative limits on lending [Poznanski, 1996, 175]. At the same time there was increased uncertainty about the rate of return on investments, due to high inflation. As a consequence, in 1990 investment in fixed capital declined by 10%, and by 4% in 1991. Stocks of working capital were reduced at the beginning of 1990. This effect lasted until the second half of that year, when stocks rose again [Rosati, 1998, 118]. Rosati estimates this effect as 2–2.5% of GDP on an annual basis, which is lower than Calvo and Coricelli’s [1992] (5%) and Berg and Sachs’s [1992] (7.7%) estimates. As Rosati argues, the production of final goods by companies should not be influenced by a fall in stocks. Final output fell due rather to a fall in consumption demand. It is possible that reduction of stocks of working capital caused a fall in aggregate demand and that unhoarding, companies getting rid of the

92

Chapter 5

stocks that were held for safety reasons under socialism because of shortages, took place. Stocks even increased at the end of 1989 by 20.9% due to the low real interest rates and uncertain future perspectives, while production declined by 2.5% [Biessen, 1993, 45]. These stocks were not necessary anymore under market circumstances. However, the recession can also have caused a reduction of stocks in order to reduce costs, which means that it was not a cause but a result of the recession [Poznanski, 1996, 191]. Net exports on average had a anti-recessionary influence in 1990 – imports decreased due to the cheap z∏oty, while exports increased not only due to changing price relations [B∏a˝yca, 2000, 237], but also due to the decreasing production costs resulting from lower real wages. The trade surplus increased from $0.8 billion in 1989 to $3.7 billion in 1990 [Poznanski, 1996, 181]. This shows that managers of SOEs reacted to market signals to a certain extent [B∏a˝yca, 2000, 238]. According to Rosati the fall in exports due to the collapse of CMEA (Council for Mutual Economic Assistance) in 1991 caused a fall in GDP by an estimated 3–4% [see also Fallenbuchl, 2000; Kierzkowski and Alsopp, 2000]. Although this decline in trade was partly counteracted by a fast reorientation towards increasing trade with the West, this could not immediately make up for the loss of the former CMEA market. The reduction in aggregate demand due to the collapse of the CMEA was the largest in Bulgaria and the Baltic States [Kierzkowski and Alsopp, 2000, 150]. The large decline in Finland’s GDP in 1991 indicates that this factor should not be underestimated [Williamson, 1993, 38; Fallenbuchl, 2000, 166].7 The import of better quality technology (e.g. machinery) probably had a positive effect on output, but pushed out less efficiently produced Polish machinery [Herer and Sadowski, 1993, 44]. Import of consumption goods increased rapidly due to the appreciation of the z∏oty, leading to a deteriorating trade balance and a $1.3 billion current account deficit [Poznanski, 1996, 182]. However, informal trans-border trade increased rapidly, lowering the official current account deficit. Rosati [1998] argues that the recession was the result of a combination of different factors, which operated with different strength in different countries. Like many other authors he considers demand factors to have been of more importance than supply factors, which probably had a neutral effect. Brada and King [1992] argue that the fall in output in Czechoslovakia, Hungary and Poland can be completely explained by aggregate demand shocks connected with the excessively tight monetary policy, while aggregate supply factors had little influence. However, there are strong arguments that supply side factors were the main cause of the decline in output [see Poznanski, 1996]. In the next section the influence of price liberalisation and currency convertibility is discussed. 5.4.3. Supply factors Two factors on the supply side influencing production decisions are discussed in this section: price liberalisation, as well as the introduction of currency convertibility and devaluation of the currency. Under socialism most prices were controlled, which was a cause of shortages. In order to introduce a market economy, prices had to be liberalised [see Kornai, 1992]. Changes in relative prices led to a change in profitability for firms, influencing their supply decisions. 7 Finland, which at the beginning of the 1990s was heavily dependent on trade with the Soviet Union, saw its export decline by 8.8% and its GDP by 10% in 1991 [Fallenbuchl, 2000, 166].


93

Formerly heavily subsidised products, such as energy-intensive products, became less competitive or uncompetitive when the price of energy went up, while the situation of products for which prices already were close or equal to the market equilibrium improved. Thus, in some sectors output declined, while in others output increased. No doubt, the share of heavy industry should decline in favour of the service sector [see Gorzelak, 1996]. On the other hand, decreased demand in the national economy due to price increases gave companies incentives to look for export markets [Biessen, 1993]. Decline in output in some sectors and the increase in output in others do not cancel out [Herer and Sadowski, 1993, 103; Kornai, 1994, 45; Rosati, 1998, 109]. Decline occurs faster than growth, as destruction proceeds faster than construction. Production can often be stopped immediately, while commonly investment and time is needed to expand output. Rosati [1998, 109] argues, that because output fell in almost all sectors, this argument cannot be the main explanatory variable. However, when looking at the state sector, which was in decline, and the private sector, which was expanding due to privatising and restructuring SOEs and business set-ups, its explanatory power increases. Price liberalisation initially led to high inflation, and was accompanied by a decline in output [Gomu∏ka, 2000, 232]. High inflation not only creates more uncertainty about expected future revenues, but also distorts relative prices, which makes the solving of the co-ordination problem more difficult. Even before 1989 price relations were very disturbed, thus high inflation was a clear sign of radical adjustment. However, as Poznanski [1996, 172] argues, high inflation shortens contract periods, reduces long-term investment and negatively influences labour productivity due to disincentives. These disincentives were caused by negative welfare effects and not fully or non-indexed wages for part of the population. The supply response to price liberalisation is closely related to the arguments regarding institutions elaborated in Section 5.5. The first reply to price liberalisation and the announcement of the application of means of monetary and fiscal control contrasted to the predicted reaction (at least officially predicted) [Kierzkowski and Alsopp, 1997, 2000]. Firms should have reacted by restructuring and increasing efficiency, but quickly returned to old habits of increasing wages in accordance with the increase in the price level due to, among other things, the strong labour unions. As a result little restructuring took place. Monopolistic practices and the reaction against unexpected effects of the stabilisation policy led to firms lowering their output and increasing prices. This was only good for the government budget, because of the high tax that firms had to pay on wage increases (“popiwek”). Furthermore, the price rises introduced by monopolistic companies negatively influenced expectations regarding inflation, negatively affecting the propensity to invest, contributing to the recession. The main reason for the opening of international trade, partial currency convertibility and devaluation of the currency was to create competitive markets in the mostly monopolistic industries [Sachs, 1993, 50, 54]. International trade was liberalised, tariffs were lowered, subsidies were eliminated and many non-tariff barriers were removed, except for duties on alcohol, natural gas, tobacco and oil [Poznanski, 1996, 202–3]. The logic of a swift introduction of currency convertibility was connected with the introduction of a properly functioning price mechanism, in order to get rid of shortages and imbalances [Kornai, 1994, 41].

94

Chapter 5

Competition is a necessary condition for such a properly functioning price mechanism, and free trade (low tariffs) and currency convertibility would stimulate this. However, these measures may have contributed highly to the recession [Ko∏odko and Nuti, 1997, 37]. It can be argued that the devaluation of the z∏oty was too strong. The new exchange rate of 9500 z∏oty per dollar was higher than the black market rate of about 8000 z∏oty per dollar (according to Biessen [1993, 49] 7500 z∏oty per dollar in December 1989). The black market exchange rate was already high due to the monetary overhang, increasing the demand for dollars, and the partial dollarisation of the economy. Although the cheap z∏oty could have stimulated exports, an increase in import prices contributed to inflation. However, this argument becomes weaker when considering the fall in average tariffs (including agriculture) from 18.3% to 5.5%, reducing import prices [Ko∏odko and Nuti, 1997, 37]. Ko∏odko and Nuti argue that the under-valuation of the z∏oty contributed indirectly to a fall in output as foreign assets and stocks of firms increased in z∏oty terms. This increased the tax base and intensified the problem of rising taxes due to increasing stock value resulting from high inflation. As Kornai [1994, 45] argues, the change in relative prices, while on the one hand stimulating exports, helped Polish firms to become more attractive to Polish consumers and producers, due to the increased prices of imports. However, as mentioned earlier, in a rather monopolistic market environment firms increase price rather than output, contributing to inflation [Kierzkowski and Alsopp, 2000, 149]. Furthermore, the “de-protection” of Polish industry, due to trade liberalisation, had negative effects on production in 1990. Polish producers competing with imports were forced to lower their margins, and often produced goods with a negative value added, i.e. production costs were larger than the world market price. Examples of such negative effects are provided by the textile industry and the electro-machinery industry, heavily exposed to foreign competition. In mid-1991 tariffs were increased again, decreasing the importance of trade liberalisation in explaining the fall in output in this year [Poznanski, 1996, 202–3].

5.5. Causes of the decline in output – a new-institutional explanation In Section 5.4. the fall in output in Poland at the beginning of the 1990s was discussed from the point of view of statistics, aggregate demand and aggregate supply. Arguments were presented in favour of aggregate demand as an explanatory variable. However, a new-institutional explanation can be given for why supply (output) decreased and why it is difficult to make it grow. This is done by way of analysing the effects of the process of institutional change in the early 1990s on economic performance. A possible explanation of the fall in output in Poland at the beginning of the 1990s is high transaction costs and adverse incentives in the process of institutional change. Restructuring of corporate governance of large SOEs is another factor that contributed to the decline in output. The slow restructuring of (former) SOEs could have been the result of a lack of market institutions, creating adverse incentives. Added to this, transaction costs and un-


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certainty were high due to unclear rules of the game, inefficient governance structures and the need for investment in safeguards in an undeveloped and rapidly changing institutional environment with increased opportunities for rent-seeking. The arguments presented in the first four subsections are closely related to each other, and focus on different factors causing high transaction costs and adverse incentives in the transition process. In Section 5.5.1. the main topic of interest in weak and missing institutions. In Section 5.5.2. the focus is on the privatisation process – the transformation of the formal institution of the property rights order. Difficulties on the level of governance in the form of high costs of using the market for SOEs are discussed next (Section 5.5.3.). Afterwards, the creation of adverse incentives and an increase in transaction costs as a result of informal institutions such as mental models and social capital is elaborated (Section 5.5.4.). Finally, private economic activity as a factor counteracting the decline in output is discussed (Section 5.5.5.). 5.5.1. Adverse incentives and high transaction costs due to weak and missing institutions At the end of the 1980s the weak Polish economic system was characterised by weak incentives and high transaction costs, negatively influencing economic performance. An aim of transformation was changing the “pathological” economic system into a “normal” and strong economic system, where stronger incentives and lower transaction costs should lead to an increase in GDP. However, the creation of such a system takes time, and fixed transaction costs of institution building are high, diverting resources away from purely productive activity. Important institutions for a market economy, such as a banking system and legal system fit for a market economy discussed below, were missing. When such institutions are introduced, they are not necessarily efficient. As existing institutions were weak, and many market institutions with a signalling function were lacking, uncertainty and information costs increased. An institutional disequilibrium probably developed, as people in a situation of high uncertainty tend to fall back on their socialist mental models for decision making, increasing the likeliness of adverse reactions to market incentives. Due to high transaction costs and weak “institutional governance”, there was considerable value in the public domain, providing incentives for redistributive rather than productive activities. The high transaction costs and adverse incentives in the situation described can help to explain the fall in output. Building market institutions is a complex venture, and, as Rosati [1998, 122–3] argues, introducing legal and political procedures for establishing such institutions takes time in a democracy. The rather exogenous path of institution building is likely to have contributed to the fall in output [Pejovich, 1995, 60–2]. The creators of the new institutions possess incomplete information and face uncertainty, which increases the chance of introducing inefficient institutions. Furthermore, the people who design new institutions are not the same as those who implement them. The people who implement the new rules of the game have their own interest, which can collide with the intention of the new rules, but it is also possible that they interpret the new rule differently. As a result, the outcome may be different to the one intended.

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Besides the high fixed transaction costs of institution building and organisational change, high transaction costs in the political process slow down institutional change. When an economy becomes more complex with respect to production and trade, major bottlenecks arise in the field of knowledge, law, economics, accountancy, management, the ability to take decisions, and language [Åslund, 1994, 35]. This implies that transforming institutions such as the banking system, public administration and the legal system is time consuming. As a consequence, for a certain period institutions will be missing, or not function properly. This leads to increasing transaction costs and uncertainty, contributing to a decline in output and difficulties in increasing supply. Nevertheless, “about tens of thousands, indeed millions of economic agents learning, practising and internalising the rules and their outcomes” [Csaba, 1993, 103] slowly strengthen the economic system. The banking system and institutions stimulating an efficient public administration were institutions whose importance was often underestimated [Biessen, 1993, 55; Ellman, 1997, 27]. Banking facilitates transactions (e.g. credit and quick money transfer), while in the case of bad loans they can be a burden on the government budget. There was no clear division of jurisdiction between central and local government over local matters [Groen, 1998, 143–4], which hampered privatisation and regional development. The importance of the banking system becomes clear when analysing the credit shortage that existed at the turn of the 1990s. During the 1980s the real interest rate was low or even negative. The increase in the real interest rate indirectly affected the output decisions of enterprises. In the short-term, output decreased because the increased price of money made banks less willing to lend without safeguards and proof of the profitability of a project. Thus, in other words, besides higher interest rates, the transaction costs of obtaining credit increased in the form of information costs from the side of banks, negotiation costs, and safeguards to reduce the control costs of preventing defaulting on payments. Another explanation of the credit shortage is that the financial system that had developed under socialism, was not fit to face many challenges of a market economy. Furthermore, a capital market, as exists in developed market economies, still had to be created. The existing banking system discriminated against new companies, and favoured non-restructured SOEs, which already had contacts with banks. An adequate bankruptcy procedure did not exist. A question is whether commercial banks were able to estimate risk and assess a business project. There was a huge lack of human capital in this field. As a consequence less credit was granted to new companies, while the lack of bankruptcy procedures and long-time connections with SOEs led to a tendency to give more credit for those firms, leading to an increase in bad debts [see Poznanski, 1996, 199–200]. The incentives to lend decreased from mid-1991, when commercial banks could also locate money in safe government bonds. The credit shortage contributed to the decline in output, while the banking system, due to institutional weaknesses, did not significantly contribute to the increase in output that started in mid-1992. The banking system may have been a factor itself in the decline in output by not taking up its role in the developing market economy quickly, while its role from the socialist days for the largest part had disappeared. Although many market institutions already existed at the end of the 1980s, due to the process of “creeping capitalism” during the 1970s and 1980s, the designers of the rather neo-classical stabilisation policy wrongly assumed that developed market institutions existed


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[Rosati, 1998, 120]. The breakdown of central planning created a vacuum [Stˆhl, 1993, 324; Poznanski, 1996]. Thus, as a consequence the market mechanism could not provide adequate incentives for activities aimed at restructuring. The weak market economic system that existed at the beginning of the 1990s expressed itself in many ways. There was a large degree of political uncertainty, which increased the risk involved in investments and hampered the enforcement of property rights. When the state is weak (e.g. political institutions are not well developed [B∏a˝yca, 2000, 238]), or faces high costs of enforcing (private) property rights (weak “institutional governance”), economic development is hampered and “private enforcement” of property rights can come into existence, such as the Mafia asking protection money or controlling certain sectors in the economy [Zhigang Tao and Tian Zhu, 2000]. Although this problem was much smaller in Poland than in a country like Russia, it increased transaction costs. Another factor of institutional weakness was the legal system. When laws do not exist, property rights are likely to be poorly protected, which creates uncertainty. However, when laws frequently change and are full of loopholes, this increases uncertainty and creates opportunities for rent-seeking. Furthermore, interpretation of the law contained difficulties, since different people in various parts of the bureaucracy had different interpretations, while enforcement was hampered by high transaction costs. Facing such uncertainty, it is difficult for companies to make long-term/strategic plans. Some factors contributing to the weakness of the legal system are discussed by Wyrzykowski [1995]. The approach to law and the legislative process is very politicised and ideological. Law is not a compromise between different interests, but rather the outcome of an ideological battle. This implies that it is often not “best practice” which is legalised and in many cases economic implications are not taken into consideration. This leads to laws which either hamper economic activity or are not enforced. Wyrzykowski emphasises the existence of an institutional disequilibrium in the legal system. The lex, a system of strictly interpreted and applied rules, often differs very much from the ius, which concerns the value system connected with “promoting justice on the basis of commonly accepted concepts of morality” [Wyrzykowski, 1995, 11]. There is path-dependency in the sense that the new economic (and social) lex and ius contain many elements from the old system. This is the case with labour, which had a strong influence under the old system. Currently in employer-employee conflicts the employee often has an automatic advantage. Another point is that the frequent, sudden changes in laws, that often are not well thought out, reduce the trust and belief in the legal system, and as a consequence undermine trust in the democratic constitutional state. Thus, in such a way values that reinforce the formal institutions are not likely to be strengthened, which leads to a continuation or increase in the institutional disequilibrium, weakening the economic system. The great uncertainty that Poland faced in the political and institutional fields at the beginning of the 1990s [Van de Mortel, 2000] may partly explain the fall in output [Macours and Swinnen, 2000, 197]. When there is great uncertainty, firms are likely to take a policy of wait and see, which delays restructuring, while it also hampers innovation. In this sense uncertainty about the institutional environment (what Van de Mortel calls “framework uncertainty”, defined in Chapter 2) contributes to the economic recession. On the other hand, economic recession makes institutional change more difficult, increasing framework uncertainty.

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When framework uncertainty is high and economic performance is unclear, then an unclear development path is likely to be entered into, where path-dependency is of great importance. In this case an economy can easily develop “pathological” institutions. Basically, large uncertainty increases transaction costs in all fields of political and economic life, and lowers the reliability of information. In such a situation it becomes more difficult to find reliable trading partners. The development of many embryonic market institutions under socialism in Poland, especially at the end of the 1980s, reduced framework uncertainty to a certain extent, and may have contributed to the economic growth that started after the shortest recession of all former Central and Eastern European STEs. In a situation of framework uncertainty and lack of enforcement mechanisms the value in the public domain is likely to be high, which creates opportunities for rent-seeking individuals. Such rent-seeking behaviour is accompanied by transaction costs of redistributive activities, which is a social waste, because these sources could be used productively.8 Much rent-seeking went through the state budget and boosted the budget deficit [Åslund, 1999], as the state was the main stakeholder in the economy. Åslund [1999, 51–6], using the example of Russia, regards upon inflation as a good indicator of rent seeking, as inflation would be mainly caused by rent-seeking behaviour, and would be an important explanatory variable for the decline in output. The state, directly or indirectly, subsidised enterprises by way of, inter alia, credit subsidy, price subsidies ad exchange rate subsidies. These rents for economic agents related with SOEs lowered the gains of privatisation and the development of a transparent market economy. Fast price liberalisation, currency convertibility, liberalisation of free trade and reductions in subsidies (in the case of credit subsidies – introducing a positive real interest rate) greatly lowered the opportunities for rent-seeking in Poland by strengthening the economic system. It is likely that the Polish stabilisation and liberalisation program caused a decline in output, but it may well have prevented a larger decline in output by immediately reducing opportunities for rent-seeking. 5.5.2. Adverse incentives and high transaction costs in the process of transforming the property rights order In the process of institutional change towards a market economy, a change in the rules of the game should provide strong incentives to improve efficiency at the level of governance and stimulate the growth of small business. The elimination of bureaucratic barriers and the elimination of wasteful production, due to more competition and the introduction of hard budget constraints [see Herer and Sadowski, 1993; Rosati, 1998] by way of privatisation, should lead to the improvement of x-efficiency at the beginning of market construction, increasing output while using the same amount of resources [B∏aszczyƒski, 1995, 273]. Due to slow privatisation, the development of a competitive market was hampered. SOEs reacted adversely to incentives given by market institutions as a result of high uncertainty in the privatisation process, leading to a reduction in output. As transaction costs were high, there was large value in the public domain which, besides the negative effects of 8 It can be argued that those who captured value out of the public domain were the fittest in the “jungle” of the market and could use those means the most productively, so redistribution would not influence efficiency. This is an argument in favour of the so-called “spontaneous privatisation” (see Section 5.5.5.). In many cases this concerns people making use of their positions under the old system, facing lower information and negotiation costs, and thus capturing value due to imperfectly working markets. They may have been more efficient in running companies due to “tacit knowledge” and a scarcity of management skills. However, the question remains as to whether the development of market institutions creates competition or that barriers to entry remain.


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rent-seeking on incentives and output, led to the phenomenon of “spontaneous” privatisation, where the incentives for restructuring are unclear. Restructuring of SOEs proceeded slowly, and as a consequence the influence of factors causing the decline in output lasted longer and it took more time before supply started to grow. An indicator of the speed of privatisation is the number of firms privatised. In 1992 this number was 1401, after which the number fell to 1271 in 1993, 791 in 1994, 485 in 1995 and 385 in 1996. However, the budget revenue from privatisation increased from 484 million z∏oty (121 million euro) in 1992 to 780 million z∏oty (195 million euro) in 1993 and 3750 million z∏oty (937.5 million euro) in 1996.9 The number of firms privatised fell, because the most profitable firms were privatised first. The remaining firms were often less attractive, due to low or negative profitability or problems with restructuring [Rosati, 1998, 88]. Privatisation is a complicated logistic venture [Sachs, 1993, 55–6], and because the privatisation process proceeded slowly, a large state sector had to co-exist with an expanding private sector for a longer period of time. Among others, the following reasons for the slow privatisation process can be distinguished: 1. High transaction costs in the privatisation process due to weakly developed market institutions, such as a lack of capital markets, a weak banking system and a lack of mechanisms and experience in obtaining information on the state of a company. In the face of high uncertainty and many unknowns about a company (high information costs) combined with an unclear legal framework investors will be very careful about investment. Finding a strategic investor with the desired characteristics is also a time consuming process. Strong interest groups (e.g. managers and workers)10 and unclearly defined competence of different state organs concerning privatisation increased negotiation costs, and the unclear state of ownership increased control costs. 2. Fragile political institutions, and the situation of a multi-party government (6 parties) and a small majority in parliament in favour of fast privatisation [see Czekaj, 1993, 79–80; Sachs, 1993, xii; Kamiƒski et al., 2000] at the beginning of the 1990s. Until 1995 the different prime ministers and the president regularly were at odds with each other, the last one often being a “veto-player”, threatening with or using his veto-right. Together with the existence of strong interest groups and the fact that the state itself was in transformation, this increased the transaction costs of privatisation. The internal division in the SLD/PSL government in the years 1993–97 was a factor slowing down privatisation [Ko∏odko and Nuti, 1997, 113] in that period. 3. There was a general lack of capital in households and firms and domestic capital markets were not well developed. As a consequence foreign capital was needed, but it took a few years before this got wings. However, as a survey among 280 companies shows, this lack of capital markets did not negatively affect the growth of private enterprise as much as expected [Bratkowski et al., 2000]. This was due to the strong development of small enterprises, for which human capital, contacts and capital obtained abroad by about 2 million Poles who had worked in Western Europe in the 1980s was important [Gomu∏ka, 2000, 225]. 4. Problems that SOEs faced were the following [Gomu∏ka, 2000, 225]: weak incentives, worn-out fixed capital, large debts to banks and other companies, over-employment, production of unwanted or low quality products at high unit costs, little money and great The budget revenue in euro was calculated using the exchange rate of 4 z∏oty for a euro (January 2003). During the 1980s, as was argued in Chapter 4, SOE workers and management obtained customary property rights (part of the usus and usus fructus) due to the reform attempts [see Raiser, 1997, 26]. Thus, workers had more power than was the case in a country like the Czech Republic, which may have hampered privatisation as they defended their interests. 9

10

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needs for restructuring and the high transaction costs of restructuring (e.g. the production profile and production method). This made many SOEs unattractive for privatisation. 5. The aims of transformation (e. g. privatisation) and stabilisation were often contradictory [Czekaj, 1993, 79–80; Ellman, 1993, 118]. As Ellman argues, price increases wiped out about 50% of savings, which lowered the availability of capital for privatisation. On the other hand, as Czekaj argues, rapid privatisation leads to an increase in the money supply, which under the existence of structural supply rigidities leads to inflation. Furthermore, financial resources used for privatisation deepened the problem of lack of funding for investment projects. 6. Mistakes made in the privatisation process. Many people had a simple view of the transformation. The view that policymakers and other stakeholders had of a market economy may have often differed from the reality in existing market economies [see Czekaj, 1993, 80; Rosati, 1998]. Furthermore, it is obvious that there was no experience with system transformation from planning to market. As a result the likeliness of making mistakes increased. Uncertainties regarding the privatisation process led to adverse reactions of SOEs to market incentives, lowering output and investment [see Poznanski, 1996; Urban, 1997; Kamiƒski et al., 2000]. Privatisation itself, but also the announcement of privatisation, created incentives. With the announcement of privatisation, uncertainty for managers increased in the sense that they did not know who would be the future owner, and whether the new owner would leave them in their position. Manager uncertainty also increased when the criteria to be used for privatisation and how fast the process would proceed were left unclarified. Poznanski [1996] argues that this uncertainty, together with uncertainty caused by high inflation and volatile exchange rates, led to lower efforts from management, and increased use of capital assets by managers and workers for their own purposes.11 However, this rent-seeking behaviour had its limits. Managers and workers seem to have recognised that wage increases by way of de-capitalisation would lead to bankruptcy in the future, leading to unemployment. With an increasing threat of unemployment the incentive for rent-seeking from the side of workers became smaller. Furthermore, when the privatisation process slowed down, property rights became more stable, leading to reduced uncertainty and, as a consequence, less opportunities for rent-seeking. When privatisation proceeds, first value in the public domain increases, increasing the opportunities for rent-seeking and contributing to the decline in output, while also negatively influencing the path of institutional change. Weakly or unclearly defined property rights and various interest groups with different bargaining power, together with high transaction costs of acquiring information and negotiation (e.g. in the case of a lack of inside information and contacts) and the undeveloped market institutions for transfer of property rights implied that there was a large probability of privatisation not using market procedures, as was the case with “spontaneous” privatisation. The procedures used were rather political and informal. “Spontaneous” privatisation, also called “insider” or “nomenklatura” privatisation, was common in many former STEs. This concerned the formation of private spin-off companies, often by state managers who had contacts and influence within the bureaucratic system 11 In some cases managers had an interest in worsening the financial position of an SOE when they themselves (or a relative or friend) were interested in buying the firm.


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[Poznanski, 1996, 223–4, 235–7; Lavigne, 1999 (b), 176–9]. In other words, a position that lowered the information costs and negotiation costs of obtaining value out of the public domain was important. Under “spontaneous” privatisation the transaction costs of privatisation are lower, which is a social gain, at the moral cost of part of the old elite obtaining property. As Hersch et al. [1997] argue, based on a sample of small Hungarian companies in the private sector in 1991, nomenklatura members had the least problems in obtaining loans, while experience and contacts were also a factor facilitating obtaining loans [see also Kornai, 1994; Poznanski, 1996]. On the other hand, it has been argued that “spontaneous” privatisation hampers restructuring [Djankov and Pohl, 1998]. Much depends on incentives for restructuring given by competition and the developing market institutions. “Spontaneous” privatisation was a phenomenon of the last years of socialism that continued during the first years of the 1990s. A method often used was that one or more persons kept on working in an SOE, but also started one or more private companies, which took over part of the tasks of the SOE. It was a relatively efficient way of privatising compared to other methods, and created an interest in capitalism among important groups in the nomenklatura. However, due to moral objections, this form of privatisation was limited under the Mazowiecki government. Michielsen [1991] gives some examples of “spontaneous” privatisation. One of them is a steel factory in Inowroc∏aw. This steel factory worked closely together with a private company named “Czas”. 158 workers of the steel factory took an unpaid holiday. However, in the meantime they kept on working at the steel factory. “Czas” had “hired” them for a small sum from the state company. The labourers were paid by “Czas”, and earned between 55% and 120% more than normal. Production was sold on the free market. The state company (and as a consequence the state treasurer) lost millions of (old) z∏oty.12 Everyone else was satisfied. “Czas”, the labourers of the state company, and also the president of the state factory, who was also the owner of “Czas”. The privatisation process itself was slow and cumbersome, and full of adverse incentives with respect to reorganisation and increasing output. An important aim of privatisation was to create incentives for restructuring towards more efficient production and to replace soft budget constraints by hard budget constraints. However, a distinction has to be made between short-run and long-run effects of privatisation [see Herer and Sadowski, 1993; Kornai, 1994, 50]. In the short-run the effect can be, as previously mentioned, a reduction in output, an effect which may be aggravated when privatisation proceeds too quickly. Output increases only in the long-run depending on successful restructuring, modernisation and of course developments in demand for the output of the company privatised. The food-processing industry is a good example of this [Urban, 1997]. For small private firms there were strong incentives and low transaction costs at the beginning of the 1990s. At the same time, (former) SOEs faced high fixed transaction costs of restructuring and, as is elaborated in the next section, high transaction costs. However, a few years later the market transaction costs for privatised SOEs had declined. Due to the introduction, as well as better enforcement, of laws and regulations, small enterprises faced more difficulties with complying with these rules. In other words, they faced higher transaction costs. 12

With the money reform that came into force on 1 January 1995, 10,000 old z∏oty were converted into 1 new z∏oty.

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Restructuring of SOEs was often slow because of the lack of physical and human capital. Experience and skills needed for restructuring were often lacking, and “learning-by-doing” is an important, but time-consuming, element, being hampered in the presence of high uncertainty. A problem with the privatisation process was that often political objectives accompanied the aims of increased efficiency [Mc Auley, 1993, 203–4]. Another factor hampering the restructuring of SOEs was the discriminative tax policy of the government [Poznanski, 1996, 181]. In 1991 about 91% of the profits of SOEs went to the government budget compared with 47% in 1990, reducing the funds available for restructuring. Furthermore, labour unions had a strong position, which hampered lay-offs. There was a lack of competition in many markets and SOEs brought different types and sizes of stocks from the planned economy. As a consequence the success of the attempts to harden the budget constraints varied according to the company [Carlin et al., 1995, 450]. Uncertainty about the effects of eventual restructuring, due to a “property vacuum” and uncertainty about who would gain the benefits of the restructuring, also slowed down this process. Investment in restructuring is transaction-specific, and when uncertainty exists under-investment is likely [Bös, 1999]. Macroeconomic turbulence, such as high inflation, disturbs signals that stimulate restructuring, as well as signals showing the efforts of managers to restructure to the owner. Another factor hampering restructuring was that managerial behaviour and mental models developed under the old system were based on not undertaking too much initiative. Foreign companies might have been an example to domestic firms [Van de Mortel, 2000, 160], but due to the small amount of such firms this effect was rather small. Foreign owned companies restructured more deeply, but strong aversion existed against foreign capital, making this way of restructuring less important. Case studies of 43 firms in Poland, Hungary and Czechoslovakia concerning their reactions to institutional change [Estrin et al., 1995] suggest that although restructuring was difficult, due to weak management and a lack of skills, many firms started to restructure before privatisation. The authors of the study argue that the main reasons for difficulties in restructuring are a lack of a clear privatisation policy (increasing framework uncertainty), poor structures in corporate governance and the poor financial condition of SOEs. Successful macroeconomic stabilisation and the involvement of a Western partner positively influenced restructuring and developing a long-run strategy. However, it has been argued that privatised companies were not more likely to restructure than SOEs [Carlin et al., 1995]. Although the success of privatisation at the beginning of the transformation is questionable, the shift from public ownership to private ownership has been successful. Leaving aside agriculture, which was already mostly private, the private sector created about 24% of total output in 1991, reaching 55% for construction and more that 80% for retail trade [Earle et al., 1994, 239]. The private sector grew in the sectors where the planned economy failed the most – consumer services and the construction of housing. Many people already traded under socialism, there was a large demand to be satisfied, and the barriers to entry were low in these sectors due, inter alia, to low capital requirement and lack of regulations.


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The prevailing attitude “what is not forbidden is allowed” stimulated entrepreneurship. The share of the private sector in GDP increased from below 30% in 1989 to over 30% in 1990, over 40% in 1991, 45.4% in 1992 and 47.5% in 1993, 53% in 1994, 62% in 1995 to 70% in 1996.13 The importance of new private economic activities is elaborated in Section 5.5.5. 5.5.3. High market transaction costs for state-owned enterprises The arguments developed in this section are in fact an extension of the discussion on missing institutions and the privatisation process in Sections 5.5.1. and 5.5.2. The lack of market institutions increased the transaction costs of using the market. This was in particular the case for SOEs, which faced difficulties with adapting to the new situation and reduced output. New small private business faced low transaction costs and strong incentives, which is discussed in more detail later. Old institutions that provided signals for SOEs in the planned economy lost their function as the system dissolved. One of these institutions, which may have been more important for SOEs than for new small private enterprises, was an old “language” that had to be replaced by a new “language”. A common language lowers transaction costs, and when a new language has to be introduced this is accompanied by increased transaction costs of information transfer.14 Although interpretation of such a concept and making it operational is difficult, it can be argued that such a new language is connected with old and new ways of communicating. “Socialist” language and “capitalist” language may co-exist. This problem concerns understanding the rules of the game, expressing them and communicating them. People needed to describe something, which they had never really experienced and which they had still to experience. This increased the likeliness of communication errors. These problems are likely to be greater in the hierarchical structure of an SOE than in the horizontal structure of small private enterprises. Brand names, trade marks and other tacit market institutions with a signalling function hardly existed [Stˆhl, 1993]. SOEs, being inexperienced in a market environment, also faced the problem of unpredictable consumer behaviour after the liberalisation policy came into force. Consumers, accustomed to shortages, started to try many different products. This made it difficult for firms to bring new products onto the market or to keep stocks. Due to the trial-and-error behaviour of the Polish consumer at the beginning of the 1990s, the information costs were higher than in more developed market economies. Information costs for sellers increased at the beginning of the transformation – before they did not have to care about consumer demand in the shortage economy. This probably was not such a big problem for small retailers, due to strong incentives and their small scale of operation, as for big SOEs, not knowing what policy to follow towards consumers, as well as towards other companies in a fast changing environment. An interesting analysis of increasing transaction costs for SOEs is the “system explanation” for the initial decline in output given by Blanchard [1997]. The most important cause is “disorganization”. The links between centrally planned entities were not immediately replaced by market operations [see also Williamson, 1992; Ovin, 1998, 72], which was 13 Source: 1989–95 EBRD, IMF, World bank, National Authorities, Planec., OECD. For 1996 Ministry of Finance. Mentioned in Ko∏odko and Nuti [1997, 113]. 14 Sussman, O., J. Zeira, The Economics of Transition: Some Theoretical Issues, Hebrew University of Jerusalem, mimeo, 1994. Mentioned in Roland and Verdier [1999].

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accompanied by the impact of price liberalisation, the elimination of subsidies and the replacement of “soft budget constraints” by “hard budget constraints”. Furthermore, traditional lobbies did not work anymore [B∏a˝yca, 2000, 238]. The institutional environment changed, and there was much uncertainty about the direction of institutional change. As a result the existing governance structures became less useful. “Disorganisation” can be explained as follows. SOEs obtained inputs from a single supplier. Although liberalisation can take place overnight, this is not the case for the situation with respect to the number of suppliers. The difference is that under market conditions suppliers have other private market opportunities, about which the buyer has no knowledge. Numerous “bargaining failures” occurred, and production in the state sector collapsed. This is connected with asymmetric information. When search costs are high, firms have difficulties in finding out what prices potential buyers are willing to offer. As a result, firms are rather unwilling (or unable) to offer their suppliers such a price that prevents them from looking for or finding new customers. Reallocation and restructuring are important elements in explaining the fall in output. Reallocation means that production moves from the state to the private sector, which may imply that some sectors decline and others expand. As mentioned earlier in this chapter, decline proceeds faster than expansion, which implies that the reallocation process is likely to be accompanied by a fall in output. Restructuring in fact means improvement of x-efficiency as a reaction to the hardening of the budget constraint (initial restructuring). Markets should later provide incentives for deep restructuring, like innovation, investment in new technology and replacement of obsolete capital by modern capital. However, this is not the case when a lack of efficiently functioning markets, such as the labour market, negatively influences investment in physical capital, and hampers the development of human capital. “Disorganisation” as an explanation of the decline in output does not account for the fact that while export to CMEA countries declined, export to Western Europe increased dynamically [Repkine and Walsh, 1999]. Disorganisation, restructuring, privatisation and other supply-side related factors did not prevent production from increasing in the sectors that quickly reoriented their export markets to Western Europe or were already oriented to Western Europe. This was because of strong incentives provided by trade liberalisation, as well as experience, foreign capital and foreign expertise. “Western” oriented firms producing for the domestic market were able to adapt and restructure faster, and contributed to the recovery from 1992 on. The fall in output in firms that were CMEA oriented outweighed the increase in output in the EU oriented sector in 1990–1991. It is possible, as Repkine and Walsh argue, that the initial fall in output and subsequent recovery “is an outcome driven by common intra-sector investment demand shocks, leading to copious intra-sector changes in the market orientation of production” [1999, 751]. They do not disagree with the “disorganisation” explanation of the fall in output, but distinguish in fact different transaction costs and incentives in different parts of the economy. Other types of transaction costs than those discussed above also increased as a result of the transformation to a market economy [Roland and Verdier, 1999]. Price liberalisation caused some sectors to expand and others to decline, while old trade partners disappeared


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and new partners appeared. A factor to be considered is the new situation of private business concluding transactions with SOEs. Both work in different circumstances and are likely to play according to different rules of the game (the “socialist” and the “market” rules of the game). Search frictions and transaction-specific investments are important in explaining the fall in output. Firms have to search for new long-term trade partners in a changing environment, meaning search costs, while relation-specific investment has to be made to build up new trade relationships. Three effects may cause a fall in output in the search process: disruption of previous links, a fall in investment and capital depreciation due to the absence of replacement investment. This type of explanation is of importance, because statistically the largest decline in output took place in the year after price and trade liberalisation. Roland and Verdier [1999] explain the fall in output by use of a simple model. Suppose markets do not exist. When liberalisation takes place, enterprises obtain the freedom to search for new customers and trade partners. Although the search for better opportunities is supposed to lead to an increase in transactions and output, there is the danger of dealing with unreliable customers and/or trading partners. Thus, the oldest existing links with trading partners or customers (when still existing) are likely to be maintained. Relation-specific investments will only be made after a new trading partner is found. Therefore, after liberalisation, during the search process investment will not take place, which leads to a decrease in production because obsolete capital is not replaced and there is a fall in investment demand. Here, it is not so much bargaining failures between existing firms that cause a fall in output, as with “disorganisation”, but high search costs that prevent the finding of better partners. The moment these search costs decline, output is likely to increase. In this model a decline in output is always followed by an expansion of output. Empirical research suggests that disorganisation of production links and search friction led to a decline in output after market liberalisation [Konings and Walsh, 1999]. Based on data from 300 Ukrainian firms, the following conclusion was reached: disorganisation constrained the growth of employment and productivity for SOEs that had existed under central planning. The more outdated the capital stock inherited from central planning, the greater the influence of disorganisation. Finally, disorganisation did not play any role in newly established firms, but may have acted as a barrier to entry. The arguments above imply that rapid liberalisation leads initially to a decline in output. However, Wing Thye Woo [1994, 305] argues, based on the Vietnamese experience, that the decline in output in Poland in 1990 and 1991 was not the result of the big-bang approach. Between 1985 and 1988 Vietnam introduced piecemeal reforms. Output grew slowly and inflation increased. Vietnam introduced a big bang policy in 1989 by limiting the availability of credit, de-collectivising agriculture, liberalising the prices of most goods, liberalising trade, devaluating the currency and legalising private economic activity. As a result, economic growth speeded up from 5% in 1988 to 8% in 1989. However, liberalisation has different effects in Vietnam and Poland, because of different institutional environments and governance structures. Vietnam’s SOE sector was rather small, as was the case with China. Disorganisation, search friction and the high transaction costs of restructuring tend to affect the more complicated production and logistic structures of SOEs.

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The resulting decline in output in Poland is likely to have been greater than the increase in production due to incentives given by liberalisation. Added to this, as discussed in Section 5.5.2., there are the negative effects on output of the large transaction costs and adverse incentives connected with (the announcement of) large scale privatisation. 5.5.4. Mental models and social capital The importance of informal institutions in increasing transaction costs and creating adverse incentives at the beginning of the 1990s was mentioned in earlier sections. In this section the focus is on mental models and a lack of social capital as factors contributing to a new-institutional explanation of the fall in output in this period. In a situation of relatively rapid institutional change, where formal institutions change faster than informal institutions, friction between these two can come into existence, leading to an institutional disequilibrium. When introducing a market economy, there may be a lack of acceptance of phenomena such as inequalities, unemployment or increased individual risk. Behavioural rules have to be changed and social capital has to be built up, for which many repeated dealings are needed. When formal institutions change rapidly, it is difficult for economic actors to adjust their behaviour. In such a situation “socialist behaviour” and socialist mental models will remain strong. Mental models played an important role in the transformation process, due to the institutional vacuum. People’s mental models and skills developed under socialism made it more difficult for them to assess and process the new types of information. As a consequence, transaction costs increased, economic actors were more likely to react adversely to incentives given by market institutions and the creation of efficient institutions became more difficult. Teachers coming from an authoritarian environment, as well as politicians and judges [Van de Mortel, 2000, 2], have to adapt to changes in the new institutional environment. Politicians have to play the game of democracy, which they have never experienced. Judges, used to applying laws and regulations under planning, are likely to have difficulties in enforcing market rules of the game. Leaders who were used to take decisions without consulting with lower levels in the hierarchy are not likely to change this behaviour very quickly. As a consequence, they often make decisions based on incomplete and/or wrong information. The need for behavioural change of management and entrepreneurs in the face of rapid changes in the institutional environment (or rather, a slow change in behaviour [Ellman, 1993, 30]) contributed to a reduction in output or prevented output from increasing. Social capital also helps to explain the fall in output. Generally speaking, social capital inherited from socialism was not fit for a market economy [see Putnam, 1993]. Personal trust and informal networks in the planned economy were needed for survival in the system. This is described by Rose [1995] using the term “Hour-Glass Society”. At the bottom and the top of society closed, non-transparent networks existed, whose expansion was very limited because of the repressive system. At the bottom family/friends were invaluable to overcome day-to-day problems, and there was hardly any interaction with the nomenklatura at the top of society.


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After the fall of socialism, “survival strategies” inherited from socialism can also be found in co-operation. “Positive” co-operation, co-operation in order to undertake economic activity, is often lacking, while “negative” co-operation, arranging something or engaging in opportunistic behaviour, prevails. Thus, ascribed trust was relatively high in transformation economies, while process-based trust was relatively low [see Fukuyama, 1996; Raiser, 1999; Raiser et al., 2001], which did not create conditions for adaptive efficiency. Impersonal trust, extended trust and trust in institutions, was low, and is still low, as it takes much time to build up social capital. However, as is shown in Appendices A5 and A6, research conducted in 2001 suggests that some process-based trust exists. The high ascribed trust, low process-based trust and low extended trust led to high transaction costs, reducing the opportunities for exchange. At the beginning of the liberalisation of the market direct payment transactions prevailed, which in the case of the successful small firms in the service and food sector was not a real problem. However, larger scale transactions were less likely to take place. It happened that Western firms only exported to former STEs on a pre-payment basis. Old nomenklatura networks provided a basis for exchange, but their closed structure did not stimulate transparency of transactions. As opposed to Russia, in Poland the situation was advantageous in the sense that these networks did no longer have political support [Raiser, 1997, 22]. An aim of transformation is to create “open” process-based trust, extended trust and trust in formal institutions and “institutional governance” by institutional change and creating more efficient “institutional governance”. Transparency and credibility of the state stimulates such development. However, this is a time-consuming process, as old networks and new interest groups try to influence the weak state to their own advantage, and repeated dealing is needed to establish trust and reliable buyer-seller relationships [Stˆhl, 1993]. Furthermore, it is much easier to lose trust than to build it. The importance of trust in economic performance and transition is emphasised by Raiser [1999, 2], who argues that only “extended … trust can support the transition to a modern market system” and that the “lack of extended trust, including distrust in the state itself is one key factor behind the disappointing economic performance observed in many countries in the region”. However, lack of extended trust is not an explanatory variable of the differences in economic performance in former STEs, as is the case in many developed market economies [Raiser, 1999, 9]. Low trust, closed non-transparent networks and lack of co-operation help to explain the fall in output. This is an argument connected with a lack of developed market institutions. When old enforcement mechanisms disappear, and new mechanisms are not yet established or undeveloped, trade has to rely on private enforcement of transactions. In the presence of distrust, parties have to invest in safeguards, due to the uncertainty of receiving payment or delivery. This implies high monitoring and control costs, but also increases information and negotiation costs, leading to less transactions taking place. 5.5.5. Private economic activity counteracting the decline in output Small firms are of crucial importance for a dynamic economy. They create the majority of employment in market economies and account for a significant share of GDP. Because of

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competition they face strong incentives for introducing transaction cost lowering solutions. The role of small enterprises was underestimated by the central planner, as well as in many analyses of transformation, where macro-factors are the main issue of interest. It can be argued that successful development of small business is indispensable to a successful transformation. As is shown in Appendix A3, economic liberalisation provided strong incentives for the development of new economic activity. Although the development of small business did not create so much competition for large (former) SOEs, these companies significantly contributed to an increase in the quality of many goods, such as food products. The transaction costs of starting such a small business were much lower than the transaction costs of privatising and restructuring a SOE, and little capital was needed to start a venture such as a small kiosk with pizza. The strong development of the private sector, especially small enterprises, counteracted the economic recession in 1990 and 1991 and contributed to the recovery in 1992. So-called small privatisation the, “process of ownership transformation in retail trade, catering, and the service sector”, was important for the development of the private sector at the beginning of the 1990s [Earle et al., 1994, xvi]. The fact that in the production of many services and consumer goods few economies of scale are faced, together with the easiness of breaking-up large units such as a chain of state-owned restaurants or shops into smaller ones, stimulated this process. Small privatisation was facilitated by the phenomenon that often the property was sold to insiders (e.g. managers or employees). An important factor in the choice of privatisation strategy was the principal-agent problem existing in large SOEs, as well as the existence of different interest groups such as managers, workers, government and potential investors influencing the privatisation process [Herer and Sadowski, 1993, 65; Poznanski, 1996, 219–30]. An advantage of small ownermanaged units is that they show large adaptive efficiency. A reason for this is the low transaction costs of change in more horizontal governance structures as compared to hierarchies. Furthermore, small companies in the service sector faced strong incentives in the fast changing institutional environment. This was very important in a situation where consumers showed rather trial-and-error behaviour, because of the large amount of new products coming onto the market. Earle et al. [1994] argue that, besides macroeconomic stabilisation and trade liberalisation, transfer of property rights in general, and the transfer of the usus (the right to use) of real estate in particular, explain the success of small privatisation in Poland. Thus, this did not concern, in general, the sale of a shop with its inventory or organisation structure, but the right to use a building or location. A package deal, buying real estate together with assets with a negative value, like the inventory and the organisational structure (e.g. transaction costs are involved in restructuring), would have hampered the process. The phenomenon that often only the property changed owner makes it difficult to distinguish between privatisation and business start-ups. An important element was that this privatisation process took place in a decentralised way, where municipalities and many real estate owners sold off many assets of former trade and service monopolies independently of each other, even before privatisation laws came into being [Sachs, 1993, 57; Groen, 1998, 147].


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The differentiation of ownership rights gave another strong incentive for this process. An SOE often rented a business below the market price, while the owner (e.g. the local government) possessed the usus abusus (right to sell). The introduction of the market economy increased the price of real estate, making it attractive to sell real estate to interested private parties. This not only prevented cumbersome restructuring of a large part of the service sector, but also created the opportunity to develop new types of business. Finally, an advantage of selling property to a business instead of renting it out was that it provided incentives for investment and restructuring. It increased the expected payoff and widened the choice set, because in the case of renting there tend to be more restrictions on the use of the property. Earle et al.’s study provides evidence for the thesis that possessing the usus abusus leads to higher investment, while there is a weak relation with faster restructuring. An indication of the success of small enterprise in Poland is that the number of stores per 1000 inhabitants increased from 4 in 1989 to 9.3 in 1992. Comparable numbers for Russia were 2 and 2.5, and 7 and 10 for Western Europe [Earle et al., 1994, xxix]. However, the total number of small and medium sized enterprises per 1,000 inhabitants was lower than in the EU and the Czech Republic [Kamiƒski et al., 2000, 184]. The total number of retail outlets (including kiosks, stands, booths and other points of sale) increased from about 249,000 in 1989 (of which 72,000 were private) to about 750,000 in 1992 (of which 717,000 were private). The number of retail shops more than doubled from 151,000 in 1989 (of which 27,000 were private) to 353,000 in 1992 (of which 344,000 were private). In 1991 there were about 1.5 million registered private businesses. There were only 70,000 joint-stock companies, 45,000 limited liability companies, 17,000 co-operatives and 4,800 joint-ventures. Most of the individually owned businesses were very small [Earle et al., 1994, 239]. This shows the very dynamic development of Poland’s small private businesses.

5.6. Institutional strengthening and recovery This section discusses the contribution of institutional strengthening to improving economic performance in Poland since 1992 using the examples of Foreign Direct Investment (FDI), the banking system, stabilisation policy and the development of markets. In 1992 a developing private sector of small and medium-sized enterprises had already been established, stimulating the economic recovery by way of informal financing (e.g. inter-firm loans) [see Rosati, 1998]. The private sector (e.g. construction and food processing) experienced rapid growth, while most state firms experienced slow growth or stagnation. The private sector especially contributed to the recovery. Slowly the larger firms, especially in the private sector, began to restructure and gain from economies of scale, among other things, due to modernisation [Barbone et al., 1999]. Furthermore, they started to recover from disorganisation and supply and distribution networks were re-established. It can be argued, as Poznanski [1996] does, that the 1992 recovery was connected with system strengthening. When property rights are established and enforced, this strengthens incentives for economic activity, due to a reduction in uncertainty and transaction costs, such as safeguards and high control costs. The private sector was developing dynamically,

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and property rights in this sector were rather certain from the start, although legal and enforcement problems existed. Although privatisation proceeded slowly, the privatisation strategy became clearer and the state gave signals that it would not let SOEs automatically go bankrupt, which decreased uncertainty in this sector. At such a moment firms that are to be privatised face stronger incentives to increase their effort to restructure. When the rate of change decreases, in other words turbulence in the institutional environment becomes smaller, and new market institutions become established, uncertainty decreases. The number of factors that cause adverse behaviour of firms declines. Thus, there are less and less reasons for a decline in output. FDI did not play a very important role in Poland until 1994, due to weak institutions and large uncertainty. As is shown in Table 5.5., after 1994 the inflow of FDI speeded up, which may be the result of system strengthening. Uncertainty for foreign investors was reduced after signing international agreements about debt reduction (e.g. the Club of Paris). Furthermore, property rights were more and more clearly established in the course of the privatisation process. Another important factor was the incentive to invest. The Polish economy had been growing from 1992 on, creating good prospects for foreign investors. However, per capita FDI inflow was still well below that of Hungary and the Czech Republic, countries which also had a significantly higher GDP per capita. Van de Mortel [2000, 141–2] argues that in the institutional context FDI can have positive and negative effects. On the one hand, FDI may facilitate institutional and behavioural change, while on the other hand hampering the development of domestic infant industries and new initiatives. Uncertainty and high transaction costs were a brake on the development of FDI. However, this did not prevent FDI from developing. When incentives are strong enough, interested parties are likely to find an institutional arrangement for carrying out the investment [Zhiang Tao and Susheng Wond, 1998]. At the moment when liberalisation came into force, local firms were interested in the technologies and know-how of foreign firms which are easy to learn. In return they could offer exclusive access to particular resources. Learning by doing was of significant importance for local firms in this period. When an economy develops, transactions become more complicated, as well as technology and know-how. This requires strict contract enforcement as the transformation proceeds. Another feature of institutional strengthening is the development of a commercial banking system and possibilities of enforcing contracts, in this case resolving problems of bad debt. A properly functioning banking system is of crucial importance for the facilitation of obtaining credit needed for starting-up a new business. It has been argued that in the mid-1990s the banking sector operated better than might have been expected [Bratkowski et al., 2000]. The Enterprise and Bank Restructuring Programme (EBRP), which was adopted by the Polish parliament in early 1993, strengthened this part of the economic system [Gray and Holle, 1997]. There were three solutions introduced for enforcing a loan or debt: court conciliation, bankruptcy or liquidation of a state enterprise. The programme provided incentives to undertake action against bad debtors. Firms could pay or enter a bankruptcy procedure. Thus, a process of selection against weaker firms started, leaving stronger firms in the market. Although the process worked in general, Gray and Holle argue that there were many flaws.


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Table 5.5. FDI (net flows recorded in the balance of payments, 1989–1999).

Poland

Hungary

Czech Republic

n.a.

187

n.a.

1990

0

311

n.a.

1991

117

1,149

n.a.

1992

284

1,471

983

1993

580

2,328

563

1994

542

1,097

749

1995

1,134

4,410

2,526

1996

2,741

1,987

1,276

1997

3,041

1,653

1,275

1998

4,966

1,453

2,641

1999

6,642

1,414

4,912

Cumulative 1989–1999 (USD mln.)

20,041

17,770

14,924

Cumulative FDI inflow/capita 1989–1999 (USD)

518

1,764

1,447

FDI inflow/capita 1998 (USD)

128

144

256

FDI inflow/capita 1999 (USD)

172

140

476

FDI inflow 1998 (% GDP)

3.2

3.1

4.7

FDI inflow 1999 (% GDP)

4.3

2.9

9.2

1989 (USD mln.)

Source: EBRD, 2000, 74. (IMF, Central Banks and EBRD estimates.)

Stabilisation is another factor strengthening a market system. Brenton et al. [1997] argue that statistical analysis indicates that lower inflation is connected with a recovery in output. No statistically significant relation has been found between the speed of transformation and decline in output. However, there is a strong positive relation between the speed of transformation and GDP change in 1994. The private sector share in GDP, enterprise reform, trade reform, banking reform and investment rules are important factors. This may suggest that there is a relation between system strengthening and economic performance. Furthermore, cutting down inflation was an important aim of the Polish transformation strategy. As was shown in Table 5.2., inflation fell from 586% in 1991 to 70.3% in 1991, 43% in 1992, 35.3% in 1993 and was declining in the years afterwards. High inflation is accompanied with high uncertainty. Low inflation reduces uncertainty, stimulating economic activity. Havrylyshyn et al. [2001] analysed the growth performance of 25 countries in transformation between 1990 and 1997, taking into consideration the initial conditions, stabilisation

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and structural reforms. The results suggest that macroeconomic stabilisation and structural reform are central to economic recovery. This is related to institutional strengthening and the accompanying reduction in uncertainty. The earlier stabilisation takes place, the better the results. Structural reforms in many fields are also a positive explanatory variable. With respect to decline in output the difference between rapid and slow reformers was not clear. However, with respect to economic recovery, the rapid reformers showed the best results. The initial situation was found to have had less influence on economic performance. Although distortions inherited from the old system slowed down recovery, this did not seem to be a brake on the development of countries where strong structural reform took place. The development of competitive markets is interesting in analysing the strengthening of the economic system. Johnson et al. [2000] present data from a survey of private manufacturing firms in 1997 in Poland, Slovakia, Romania, Russia and Ukraine on the development of market structure in these countries. In each country about 300 manufacturing firms with between 7 and 370 employees were investigated. The topics of this research was the destination of sales, the importance of intermediaries, the number of customers, price determination and provision of trade credit. The results are presented in Table 5.6. Table 5.6. Development of market structure in different countries in transformation.

Poland

Slovakia

Romania

Russia

Ukraine

Within home city

35.3%

32.4%

46.2%

76.7%

69.5%

Domestic, outside home city

55.7%

50.7%

49.2%

21.3%

26.7%

9.0%

16.9%

4.6%

2.0%

3.8%

25.7

18.6

6.6

5.3

4.2

Average number of customers

99.7

86

107.1

9.6

12.1

Average number of new customers

17.8

15.1

19.4

2.5

2.6

Prices set by “inputs/competitors”

62.5%

59.3%

63.1%

21.1

9.9

Prices set by “bargaining/relationship with customers”

31.3%

31.1%

25.1%

64.1

66.8

74.6

58.4

31.2

7.4

21.2

Destination of sales

Foreign destination Importance of intermediaries % of sales through wholesalers Average number of customers

Determination of prices

Provision of trade credit % of bills paid by customers later than 8 days after delivery Source: Johnson et al. [2000, 29].


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Markets seem to be more extensive in Poland and Slovakia, as more than 60% of sales find customers outside the home city. The middleman function is also better developed. The percentage of sales by wholesalers in Poland (over 25%) and Slovakia (almost 20%) are significantly higher than in the other countries (around 5%). The average number of customers is high in Poland, Slovakia and Romania, implying a more competitive market from the demand side than in Russia and Ukraine. These three countries also show a higher percentage of prices influenced by a competitive market. Finally, the development of the institution of trade credit is most developed in Poland. The fact that 7.4% of all bills are paid more than 8 days after delivery in Russia may suggest that many transactions take place in cash. Although the development of credit facilitates transactions, a problem can arise with late payment. As is shown in Appendix A4, problems with late payment have increased in the second half of the 1990s. In general it seems that the Polish market institutions are most developed, which is an indication of institutional strengthening. It can be argued that system strengthening in Poland has contributed to economic growth since 1992. A strong private sector has been established. Former SOEs were able to restructure when uncertainty declined. Conditions for FDI have been established. The stabilisation policy has contributed much to institutional strengthening. Furthermore, the banking system has been firmly established, although it did not contribute to the 1992 recovery. Finally, markets seem to be more developed than in other former STEs.

5.7. Concluding remarks The main question addressed in this chapter was what are the causes of the decline in output in the period 1989–1992. The poor state of the economy, imbalances and shortages at the end of the 1980s made radical change necessary. Poland applied “shock therapy”, as opposed to “gradualism”, i.e. more evolutionary change. However, which label applies depends on what is focused upon. Stabilisation policy in Poland was radical, while, for instance, privatisation proceeded slowly. Fast institutional change was a good approach to draw a line under the past and to establish credibility with respect to the path of institutional change. Formal and informal institutions had collapsed, creating large uncertainty. This uncertainty increased, because there were many unknowns about future institutional development. The fixed transaction costs of constructing market institutions, as well as the transaction costs of using the market, were high. As uncertainty increased, economic actors tended to fall back on their mental models which took shape under the socialist system, increasing the institutional disequilibrium. Economic actors, especially in the state sector, reacted adversely to incentives given by market institutions. This led to a reduction in output. Furthermore, there may have been insufficient information feedback due to uncertainty, hampering learning-processes. High fixed transaction costs of institution building cause institutional change to proceed slowly, and powerful interest groups have the opportunity to influence the creation of new institutions. Thus, the institutions introduced are not necessarily the most efficient. Added to this, the Polish reform program had to be

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implemented in a situation where there was no textbook example of transformation from a socialist to a market-type economy. A problem was that the reforms had to be carried out by people brought up under the socialist system, often having no experience with a market economy. The creation of a market economy implicitly concerns the strengthening of incentives and lowering of transaction costs by changing institutions, governance structures and “institutional governance”, in order to improve economic performance. The emphasis of the transformation strategy was on formal institutions, in particular the property rights order. However, “auxiliary” institutions are needed to facilitate the process of privatisation. Although some market institutions had already developed under socialism, many institutions (e.g. laws) had to be designed, while there was no time for an evolutionary “learning-by-doing” process, which increased the risk of making mistakes. It has been argued in this chapter that in Poland during the first years of the 1990s transaction costs went up, due to the process of institutional change. Examples of this are high (fixed) transaction costs involved in institutional change, an institutional disequilibrium and a lack of market institutions, increasing uncertainty. Furthermore, Poland faced a “dual” transformation. The state, which was a problem in the old system, had an important role in the creation of new institutions and was at the same time in transformation itself. “Institutional governance”, important for the enforcement of property rights, was weak. As a result, there were high measurement costs related to the process of privatisation, increasing the value in the public domain, which people tried to obtain by spending resources. In general, the weakness of institutions led to an increase in the value in the public domain, stimulating rent-seeking behaviour. This restricted competition and weakened incentives for many economic activities. Other transaction costs of institutional change were connected with the introduction of a labour market, rapidly changing laws and regulations leading to higher information costs and uncertainty, negotiation costs in the privatisation process, transaction-specific investments in new trade relationships, search costs of finding new trade partners and other market transaction costs, an unstable market with unpredictable consumer behaviour, costs connected with problems of cultural adaptation and low trust. Under uncertainty economic actors are likely to fall back on their mental models. In this case, these were mental models developed under socialism, which adversely influenced incentives and increased transaction costs. Higher transaction costs and adverse incentives contributed to the decline in output in 1990 and 1991. The state sector, in particular, faced high transaction costs. Furthermore, SOEs reacted adversely to incentives given by the new institutional environment, as was the case with price liberalisation, due to the undeveloped market institutions and mental models of managers. Newly established small enterprises faced low transaction costs and strong incentives, counteracting the decline in output. Transaction costs tend to decline when institutions stabilise after a period, due to better defined property rights, stable laws and regulations suited to a market economy and enforced by the state, properly working market institutions, social acceptance of the new situation and a maturing market. Lower transaction costs were faced mainly by privatised and restructured SOEs, due to decreased uncertainty, recovery from


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disorganisation and re-establishment of supply and distribution networks. Furthermore, improvement in efficiency, together with economies of scale, was achieved. The strong connection between politics and economic power under the old system gave incentives for rent-seeking. Disconnecting these two is likely to have reduced this problem. Privatisation, market transparency and democracy may have been helpful in this. These factors, together with the Polish stabilisation plan in the form of price liberalisation, liberalisation of foreign trade, unification of exchange rates and reducing (indirect) subsidising of firms, as well as a positive real interest rate, helped very quickly to reduce opportunities for rent-seeking in Poland. This is a possible explanation of why the transformation recession in Poland was the shortest of all former STEs within the Soviet bloc. Liberalisation of prices and trade was a way of strengthening the system of property rights in itself, because of the de facto privatisation of characteristics of goods and services. However, this stabilisation plan had a cost, in the sense that it contributed to the recession in 1990 and 1991. The Polish stabilisation and liberalisation policies was successful, many opportunities for rent-seeking have been eliminated, inflation has been reduced to single digits, and the economy has, to a large degree, integrated into the world economy. The market is the most important co-ordination system, the private sector is firmly established, and the pre-1990 GDP level was achieved in 1996. It seems that Poland has taken a path of “normal” institutional development and has prevented its system becoming “pathological”. Although “pathological” institutions certainly exist, many seem to be “normal” or “normalising”. System strengthening, i.e. lowering transaction costs and strengthening incentives, has contributed to economic growth since 1992. In Chapter 7 the importance of logistic solutions in this respect is discussed. However, Poland’s transformation has not ended yet, although the country has come a long way. Many formal institutions have been established, and currently these institutions are taking shape in an evolutionary way. On the other hand, remnants of the old system remain, and there is still a large task in reforming, for instance, tax and public administration and making laws more clear. On the informal institutional side, there is, to a certain extent, acceptance of the new situation. However, a significant proportion of society is not satisfied with the course and results of transformation. It seems that transaction costs in former SOEs have declined. However, the question remains as to whether the small firms that boomed at the beginning of the 1990s can face the challenges of the introduction of norms and standards which hardly existed at that time. As discussed in Appendices A4, A5 and A6, there are developments that suggest that transaction costs have been increasing since the end of the 1990s. Examples of this are incompetence, unfriendliness and corruption in public administration, complex and unclear tax law, a customer unfriendly tax collector, and an inefficient judiciary, leading to an increase in costs for firms. These factors also provide disincentives for economic activity. The economic growth since 1992 has been accompanied by an increasing number of transactions and it seems that many institutions have not sufficiently adapted to handle this new situation.

PART III A CLOSER LOOK AT TWO ASPECTS OF ECONOMIC PERFORMANCE UNDER DIFFERENT ECONOMIC SYSTEMS

119

CHAPTER 6 THE TRANSACTION COSTS OF QUEUING IN A SOVIET-TYPE ECONOMY 1

6.1. Introduction The transaction costs of queuing are discussed in this chapter by way of a case study. Queuing concerns transaction costs from the side of the buyer. These transaction costs highly differ from the type of transaction costs that were of main interest in Chapter 4 and 5, where transaction costs from the production side were analysed. Queuing for goods was a common phenomenon in classical socialism. The idea for this case study was born when observing four stalls where apples were sold at a market in Wroc∏aw (Poland) some time in 1994. There was one small queue in front of one stall. When someone arrived, he joined this small queue and did not go to another stall. Later similar situations could be observed. There are some possible explanations for this behaviour. People could have joined the queue purely out of habit. It also could be that they joined the queue because they thought that if people are willing to queue, the quality of the apples must be good. It could be that they knew the seller, or even that it was pure coincidence. This last option seems very unlikely, because the queuing behaviour observed was very different from what can be observed in developed market economies. This behaviour seems to be a leftover of the shortages in the Soviet-Type Economy (STE). Informal institutions like black markets and queuing came into existence to solve the allocation problem. The transaction costs of queuing were most “visible” in the socialist system, and became more visible during the period of “decaying” socialism as shortages increased due to institutional weakening. Furthermore, queuing increased dissatisfaction with the socialist system, being an important factor for hollowing out the belief in this system. The case study presented in this chapter is based on a survey among 418 Poles and mainly concerns the situation in the 1980s, the period of “decaying socialism”, when opportunities for opportunistic behaviour for the consumer increased compared to the 1970s. 1

This chapter is largely based on Platje [2000].

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After a theoretical discussion in Section 6.2. on the cost of queuing and the shopping process for consumers in a shortage economy, in Section 6.3. the following questions are addressed. What products were people queuing for? Who had to queue? What did people have to sacrifice in order to queue (how would they have used their time alternatively)? Do they sometimes long for the “queuing atmosphere” (“atmosfera kolejkowa”)? Could they arrange goods without queuing (e.g. via informal networks, on the black market or by way of bribing)? In what way do people now spend the time they do not have to spend on queuing? What were people doing while queuing (e.g. complaining, gossiping, talking about politics, meeting friends or trading)?

6.2. Queuing and transaction costs Before 1989 queuing was a common phenomenon in STEs. The main reason for queuing was the imposition of maximum prices on many products and planning problems. Following Barzel [1989], in the case of maximum prices, it can be said that in terms of property rights, the seller of a product is limited in the sense that he is not allowed to ask the price the buyer is willing to pay. As is shown in Figure 6.1., in the case of a maximum price Pm, a shortage of Qd – Qs comes into existence. People are willing to pay a monetary price of Pw at supply Qs, but they only can pay Pm. The difference between Pw and Pm is in the public domain. Several characteristics of the good are not delineated to a specific owner. They are accessible to others, who can spend resources on obtaining these characteristics in order to increase their income. In the case of maximum prices informal institutions come into existence to arrange the distribution. Examples of these are queues, package deals, quality reduction, and black markets.

Figure 6.1. The effect of a maximum price.

What happens with the value in the public domain? It cannot be said in advance who will obtain this value, the buyer or the seller. The essence is that the buyer in any case will pay Pw, the price he is willing to pay.

The Transaction Costs of Queuing in a Soviet-Type Economy

121

What are the different possibilities when a maximum price exists? In the case of queuing on a first-come-first-served basis the buyer will, other things equal, pay the maximum price plus the difference between Pw and Pm in the form of time spent in the queue. In this case the value in the public domain has leaked away in transaction costs. It happened that in STEs an agent of the state sold goods under the counter, obtaining in this way (part of) the value in the public domain. It can be argued that transaction costs, in the form of the time spent in the queue, are a social waste, because the buyer pays the price he was willing to pay anyway, while without price control the excess demand would have given extra income to the owner. In other words, the state could have received a higher price for the products, and consumers could have used the time spent in the queue for more pleasant or more lucrative things. Although the research shows that most of the respondents disliked queuing, some people considered it to be a pleasant social occasion. Furthermore, most of the people were doing something “useful” while queuing, like reading, meeting friends and arranging things. As a consequence, the quantitative aspects of queuing are difficult to estimate, even if one simply calculates the time people spent in queues. Queuing is part of the shopping process as described by Kornai [1992, 229–30]. This shopping process is presented in Figure 6.2. In the hey-days of the shortage economy, option 0 (good available right away at the first store) was rather rare. Often goods were not available, and when available, the demand exceeded the supply, due to which queues became an allocation mechanism. Queues can be physical and non-physical.2 One example of non-physical queuing [Kornai, 1992, 234–5] is waiting for housing, which in the 1980s in Bulgaria took between 5–20 years, in Hungary 4–6 years, in the Soviet Union 10–15 years and in Poland 15–30 years. Another example is waiting for telephones. In Poland the length of the waiting list as a proportion of the number of telephone subscribers – in five-year averages – increased from 33.6% for the period 1971–75 to 57.1% for 1981–85. The research conducted concerns physical queuing (outside a store or at a counter) for certain types of consumer goods. A very common phenomenon was forced substitution in the case of non-availability of the good, to be distinguished from voluntary substitution when a good is available due to a change in consumer preferences. Kornai calls events 1 to 5 “shortage phenomena”. The cause is shortage, and they are annoying and inconvenient to the customer and the customer has to sacrifice more due to the shortage. In other words, the annoyance and inconvenience brought about by queuing (is it pleasant to queue?), forced substitution (is the consumer happy with the fact he cannot buy the preferred product?), further search and postponement (in which case the purchasing process does not end), and abandoning the intent to purchasing (in fact a variant of forced substitution – the good the consumer intended to buy is substituted by nothing) can be considered to be “psychological transaction costs”. These “psychological transaction costs” can be estimated by asking to what degree people liked queuing.

2 Before 1989 the average Pole had to queue in order to buy consumption goods, or arrange it in another way. In common language terms like “za∏atwiç”, literally meaning “to take care of”, and “kombinowaç” are still used. The term “za∏atwiç” substituted the word “kupiç” (to buy) in the face of recurrent shortages of goods [Marczuk, 1998, 48]. Many products had to be arranged and organised. “Kombinowaç”, literally meaning “to put together”, was (is) commonly used in the meaning of “to get something by a wangle”. It was hardly possible to get by in a “normal” way before 1989. It can be said that there was a culture of waiting, arranging, and wangling caused by the economic reality. This queuing, arranging and wangling must have influenced the way of life of people.

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Shopping process starts

0. Good available right away at the first store

1. Good available at the first store: queuing

2. Forced substitution

3. Search

0

1

2

3

4

5

Not available

4. Postponement

0

1

2

3

5. Purchasing intent abandoned

4

5

Figure 6.2. The shopping process. Source: Kornai, 1992, 230.

Transaction costs of queuing have a tendency to be lowered through time.3 First of all, it can be expected that people with lower opportunity costs of their time (e.g. housewives, pensioned people, people without a job) are most likely to be found in a queue.4 When queuing becomes a permanent phenomenon, people will try to find ways to lower costs. 3 When these transaction costs are too high, less transactions take place. However, people are inclined to search for institutional arrangements, in order to lower transaction costs. It can be said that in the shortage economy there was competition between buyers (who used many of their skills and creativity to get the necessities of life, not for productive and innovative behaviour), not between sellers. Narojek [1995, 27] argues that the individual, in exchange for being deprived of his own initiative, is freed from market competition and the connected risk of failure. He argues further that collectivisation of economic rationality exerts a deep influence on human interactions in the mechanism of community life. 4 “Retired people and older workers (forty-five plus) find the returns from those assets irreplaceable. Hence, they have incentives to oppose the transition from socialism to capitalism. … In addition, the shortage economy made them an important asset to their families in two ways. First, they had time to wait in line for consumer goods. Second, they specialized in knowing what goods would be available, and where and when they were going to be available. Thus, they raised the real incomes of their family. As scarcity prices replace price controls, retired people fear that they will become a liability to their families” [Pejovich 1995, 59].


123

Examples are reading a book, queuing for each other and people specialising in queuing and earning money or goods in return. As in many repeated processes a learning-process also takes place in the case of queuing. For the analysis of the research Kornai’s simple model has to be explored more deeply. The possibility “not available” includes the case that when someone queues for a product, it turns out that the product is sold out. In answer to the question of how often it happened that someone queued without result, while he was in the queue at the right time, 57 of the 395 reported that this often happened (14.4%), 191 said sometimes (48.3%), 114 seldom (28.9%) and 33 never (8.4%). One respondent explained that she never queued without result, because when queues were too long, she resigned from queuing and bought what was available without queuing. In fact this is voluntary substitution, the good is available at the store, but the expected transaction costs are too high. This means that even when the good was available at the first store, there existed an uncertainty about the success of the buying process. When the news spread that five pianos would be available, the sixth person would not join the queue. But in the case of coffee or meat, where it was not clear how much was available, this risk certainly existed. People join a queue when they think they have a chance of obtaining the product – the estimated benefits are greater than the price plus the estimated transaction costs. Queues can be found in Western supermarkets, but then the buyer has the certainty that he can buy something. In Poland before 1989 self-service, as can be found in most shops nowadays, was very uncommon. This caused uncertainty about the success of the buying process, greater than in a self-service shop in a market-type economy with no maximum prices. When it turns out that the queue is too long, options 2, 3, 4, and 5 come into play again. This can be the case when people wait, and it turns out that the stock is sold, or when they do not want to wait so long in the queue. In some cases option 2, forced substitution, becomes voluntary substitution. When someone does not want to wait so long, he can buy something else. Another possibility is buying goods on the parallel market. The research on queuing presented in this chapter concerns physical queuing, standing in line in order to obtain goods. The main questions addressed are what products were people queuing for, who had to queue, what were the costs and benefits of queuing and whether there are social gains from the disappearance of queues. In former days people had enough money to buy goods, but shops were empty. Nowadays shops are full, but many wallets are empty. In the current economic situation growing differences in income can be observed, and some can buy and some cannot. Before 1989 there were queues, and it can be argued that everyone had to queue. This would make people equal, income did not matter, only the price of the product plus the time spent in the queue had to be paid. It might be expected that this was not the case. The question is what was the cost of people’s time sacrificed for queuing. People value their time differently, and it is more likely that pensioners can be found queuing than working people, while probably, due to tradition and the opportunity cost of time, more women queue than men. People are very inventive, and a “division of labour” may well take place. People start queuing for each other and queuing can become a profession. In Polish someone who queued professionally was called a “stacz”, and there were even organised groups of them.

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Chapter 6

6.3. Results and interpretation During the last months of 1998 and the first months of 1999 a questionnaire was carried out among 418 Poles.5 People under 15 were not in the target group, because it was assumed that as they were five or six years old at most in 1989, they probably had never queued. First, the sample is analysed for gender, age and party membership (Section 6.3.1.). Then the questions are addressed as to who was queuing with whom, and what were they queuing for (Section 6.3.2.). Afterwards costs and benefits of queuing (Section 6.3.3.), people’s assessment of activities undertaken while queuing (Section 6.3.4.) and how the time, which was gained due to the disappearance of queues, is used (Section 6.3.5.) are analysed. 6.3.1. Gender, age and party membership In Table 6.1. the sample is differentiated by gender and age. What is striking is that more women than men filled out the questionnaire. Men were less willing to sacrifice 30–40 minutes (as was measured in a trial) to filling out the questionnaire. In Table 6.2. an overview is given of what the proportion of a certain age group should be in the sample, if census data from 1985 and 1996 were taken. For 1985 children between nil and six years old are excluded, while for 1996 children younger than fifteen are excluded. This comparison is made in order to adjust for changes in the proportion of age groups in the total population. Someone who in 1996 belonged to the 45–54 age group, in 1985 belonged to the 35–44 age group. The aim is to see whether the proportional representation at the time the research was carried out was similar to the proportions in the total population in 1985. Table 6.1. Gender and age.

Age Group

Men

Women

No gender

Total

reported under 25

21

14

0

35

25–34

5

22

0

27

35–44

16

61

0

77

45–54

52

99

1

152

55–64

22

40

0

62

65–74

14

35

0

49

5

10

0

15

---

1

---

1

135

282

1

418

over 74 no age reported Total

5 As a part of their coursework, students in Gdaƒsk (the Department of Scandinavian Studies), Opole (the Faculty of Economics) and Wroc∏aw (the Faculty of Law and Administration) were asked to take questionnaires and ask their parents, grandparents, friends and acquaintances to fill them out. The common feature is that these students attended an economics course in English.

125


What can be observed is that in the sample, people under 35 are underrepresented compared with their share in the data from 1985, people between 45–54 are strongly over-represented, while the age group over 74 is under-represented, and approaches the current factual share in population. For the research I was more interested in people over 35 because in 1985 they were older that 18, a category making the decision to queue or not. For this reason I expressed my desire for people to take questionnaires to older people (parents and grandparents). This is a possible explanation for the under-representation of the under 35 category. Many students, who carried out the research, still live at home, or go home at the weekend, thus having good opportunities to allow their parents to fill out the questionnaire. Many parents are in the 45–54 age category. The fact that the questionnaire was quite long may explain the under-representation of the category over 74. Table 6.2. Comparison of the sample population with the actual population age distribution in the years 1985 and 1996.

Age Group

data from 1985*

data from 1996**

sample (n=418)

% of population

representation in sample

% of population

under 25

14.75

62

20.60

86

8.37

35

25–34

16.00

67

16.69

70

6.46

27

35–44

20.24

84

20.86

87

18.42

77

45–54

14.30

60

15.40

64

36.36

152

55–64

12.58

53

11.79

49

14.83

62

65–74

11.32

47

9.76

41

11.72

49

over 74

10.81

45

4.89

21

3.59

15

no data

---

---

---

0.24

1

418

100.00

418

Total

100.00

418

--100.00

representation % of sample in sample

representation in sample

Source: GUS, 1997, 90. * Age group 0–6 excluded. ** Age group 0–14 excluded.

About 13% of the sample reported to have been a member of the former Polish Communist Party (PZPR), over 7% of all women and about 24% of all men. There were more than 3 million PZPR members at the end of 1980. This number, as mentioned in Chapter 4, declined to about 2.2 million at the end of 1983, due to the effect of Martial Law in 1981 [Taras, 1986, 38]. There were even cases that people working in some state enterprises were registered as a member without knowing it. In 1985 the population of 15 years old and above consisted of about 27.781 million Poles [GUS, 1997, 90]. Assuming that 3 million people at any time were members of the party, this makes 10.8% of this group. In the sample 15.2% of people of 35 years and older reported to have been in the party.

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This may suggest that the sample is from a specific strata of society, keeping in mind that mainly students taking classes in English were asked to take questionnaires home. In general students’ parents earn more than average, and there could be a relation with party membership of relatives. However, if the population of 25 years and older in 1985 is taken, which is 22.568 million, 3 million is 13.3% of this group. Still smaller than the proportion in the sample, and there will also have been members in the age group between 18 and 25 years, but the difference becomes small. 6.3.2. Who was queuing with whom, and what were they queuing for? Tables 6.3. and 6.4. show who was queuing and with whom they were queuing, differentiated by gender, party membership and age. More than 95% of all respondents reported to have queued before 1989, and less than 5% (19 respondents) reported to never have queued. Among the people who never queued were 5 schoolchildren, 2 drivers, 2 managers, a civil servant, a lecturer, an inspector, an accountant, 2 shop assistants, an architect, someone who declared he worked, a director of a company, and a factory owner. Leaving out the schoolchildren, about 4% of the respondents now aged 35 and older never queued. The shop assistants explained that they supplied themselves in the shop where they worked and made use of contacts with colleagues working in other shops. Of the 14 people working, 6 reported to work more than 50 hours per week, while the other 8 worked between 40 and 49 hours per week. Of the 19 people who never queued, 12 reported that other people were queuing for them. Of these 12 people, 2 paid for it most of the time, 2 paid in the form of services, while 5 of them did not do anything in return. In the last case it is likely that mainly family were queuing for them. A total of 6 respondents declared they often managed to get goods without queuing, 4 sometimes, and 3 seldom. This was done mainly via contacts with people working in shops, friends/acquaintances and by way of bribing. A manager declared he often got goods via the producer, while the director of a company managed to barter within the company. Party membership does not seem to have influenced whether people queued or not. Rank order within the party could have been of influence, but was not a subject of research. Table 6.3. Company in the queue. Division by gender and party membership.

Total

Men

Women

301 (72.0%)

105 (77.8%)

195 (69.1%)

45 (83.3%)

Queued with family

59 (14.1%)

12 (8.9%)

47 (16.7%)

4 (7.4%)

Queued with acquaintances/friends

39 (9.3%)

11 (8.1%)

28 (9.9%)

4 (7.4%)

Did not queue

19 (4.6%)

7 (5.2%)

12 (4.3%)

1 (1.9%)

418 (100%)

135 (100%)

282 (100%)

54 (100%)

Queued alone

Total

Party members

127


Of all respondents, 72% mainly queued alone, while more than 23% queued with friends or family members in the same queue. More men queued alone (77.8%) than women (69.1%), while women queued more with their family, of which a possible explanation is the fact that many women were queuing with their children. This at least partly explains the fact that more than 40% of the respondents under 25 reported to have queued with their family. More party members seem to have queued alone. A possible explanation is that more men reported to have been a party member, but the sample size is too small to draw any definite conclusions. Table 6.4. Company in the queue. Division by age group.

Age Group

Queued

Queued with

Queued with

alone

family

acquaintances/ friends

Did not queue

Total

under 25

13

15

3

4

35

25–34

18

3

5

1

27

35–44

56

11

6

4

77

45–54

117

16

14

5

152

55–64

41

9

9

3

62

65–74

42

5

0

2

49

over 74

13

0

2

0

15

no data

1

0

0

0

1

301

59

39

19

418

Total

Table 6.5. presents the answers to the question “For what products did you queue?” This question was answered by 396 of the 399 people who reported to have queued. The top 5 products for which people often queued were meat (68.4%), toilet paper (45.5%), coffee (41.9%), sugar (33.8%) and dairy products (29.0%), closely followed by chocolate, gasoline and fruit. If the percentages of people queuing sometimes or often for a certain product are added together, the result becomes: meat (87.1%), toilet paper (75.3%), coffee (64.6%), sugar (63.1%), chocolate (56.6%), closely followed by dairy products and fruit, while bread scored 41.7%, ahead of gasoline (not everybody had a car, thus many queued often or not at all). Especially meat, toilet paper, coffee and gasoline were in shortage. One respondent wrote that she stopped eating meat, due to the long queues. Other people did not drink coffee until 1998 because coffee (or coupons for coffee) were traded for cigarettes and they got used to not drinking coffee. People did not have to queue so often for vegetables, probably due to the fact that a considerable proportion had a small plot where vegetables were grown, or they had some family living in the countryside supplying them. What can be observed is that people queued rather often for necessities.

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Table 6.5. Products people were queuing for.

Product

Never

Seldom

Sometimes

Often

Total

1. dairy products

93 (23.5%)

92 (23.2%)

96 (24.3%)

115 (29.0%)

396 (100%)

2. fruit

94 (23.7%)

97 (24.4%)

104 (26.3%)

101 (25.5%)

396 (100%)

3. bread

139 (35.1%)

92 (23.2%)

85 (21.5%)

80 (20.2%)

396 (100%)

4. sugar

72 (18.2%)

74 (18.7%)

116 (29.3%)

134 (33.8%)

396 (100%)

5. chocolate

83 (20.9%)

89 (22.5%)

110 (27.8%)

114 (28.8%)

396 (100%)

6. coffee

71 (17.9%)

69 (17.4%)

90 (22.7%)

166 (41.9%)

396 (100%)

229 (57.8%)

56 (14.2%)

40 (10.1%)

71 (17.9%)

396 (100%)

26 (6.6%)

25 (6.3%)

74 (18.7%)

271 (68.4%)

396 (100%)

227 (57.4%)

94 (23.7%)

54 (13.6%)

21 (5.3%)

396 (100%)

10. TV

284 (71.7%)

67 (16.9%)

24 (6.1%)

21 (5.3%)

396 (100%)

11. radio

322 (81.3%)

39 (9.9%)

23 (5.8%)

12 (3.0%)

396 (100%)

12. coal

314 (79.3%)

20 (5.0%)

34 (8.6%)

28 (7.1%)

396 (100%)

13. gasoline

212 (53.5%)

32 (8.1%)

42 (10.6%)

110 (27.8%)

396 (100%)

14. fridge, washing machine, etc.

204 (51.5%)

114 (28.8%)

41 (10.4%)

37 (9.3%)

396 (100%)

15. furniture

209 (52.8%)

111 (28.0%)

49 (12.4%)

27 (6.8%)

396 (100%)

16. books

188 (47.5%)

72 (18.2%)

96 (24.2%)

40 (10.1%)

396 (100%)

17. toilet paper

54 (13.6%)

44 (11.1%)

118 (29.8%)

180 (45.5%)

396 (100%)

18. vegetables

202 (51.0%)

98 (24.8%)

63 (15.9%)

33 (8.3%)

396 (100%)

19. clothes

132 (33.3%)

98 (24.8%)

114 (28.8%)

52 (13.1%)

396 (100%)

7. cigarettes 8. meat 9. alcohol

6.3.3. Costs and benefits of queuing The opportunity costs of queuing can be measured as the time spent in the queue. According to the survey conducted, the opportunity costs (transaction costs) of queuing for the individual, measured in time, ranged from a minimum of 4 hours and 30 minutes per week to a maximum of 10 hours and 15 minutes. Women, on average, queued longer than men, minimum 4 hours 50 minutes and 3 hour 45 minutes respectively, maximum almost 11 hours and 8 hours 50 minutes respectively. However, different people face different opportunity costs while queuing. The opportunity costs of queuing for a pensioner are probably lower than for someone who works. Furthermore, people can lower the transaction costs of queuing by, among other things, doing something useful or queuing during working hours. This section analyses some costs and benefits of queuing.


129

Table 6.6. shows what people reported to have sacrificed for queuing, and presents the answer to the question “What would you have to do if you did not have to queue?” Respondents could choose three possibilities, ranking them in order of importance. Slightly more than a quarter of the respondents who queued mentioned spending time with their family/children/grandchildren (further referred to as family) as the most important alternative that had to be sacrificed for queuing. Almost a quarter would have had to work, while work around the house/in the garden counted for a bit more than 22% and hobby/sport/reading was mentioned by 15% of the respondents. The number of people that sacrificed work is interesting. This means that if they worked in a state enterprise, they lowered the costs for themselves at society’s expense. Among this group there were also some farmers. Poland, together with Yugoslavia, was an exception among the Central and Eastern European socialist countries, with private farming on more than 80% of the arable land [Lavigne, 1999 (b), 8]. Thus, time lost while queuing came at the farmer’s own expense. As the second important activity sacrificed, family scored the highest (28.7%), while about 20% and 14% respectively reported working around the house and hobby. Meeting friends was mentioned by almost 10% of the sample. When the totals of all activities mentioned are taken without ranking of order, the same pattern can be seen, family being most important, followed by working around the house, hobby/sport/reading, and working. Table 6.6. Opportunity costs of queuing.

Activity

Most important

2nd most important

3rd most important

Work

71 (24.0%)

17 (5.7%)

10 (3.2%)

30 (11.0%)

128 (10.87%)

Work around the house/in the garden

67 (22.6%)

61 (20.6%)

44 (14.1%)

60 (22.1%)

232 (19.71%)

Spending time with family/children/ grandchildren

79 (26.7%)

85 (28.7%)

34 (10.9%)

55 (20.2%)

253 (21.50%)

Hobby/sport/reading

45 (15.2%)

41 (13.9%)

44 (14.1%)

57 (21.0%)

187 (15.89%)

Nothing

0 (0.0%)

1 (0.3%)

4 (1.3%)

3 (1.1%)

8 (0.68%)

School

7 (2.4%)

5 (1.7%)

3 (1.0%)

4 (1.5%)

19 (1.61%)

Study

2 (0.7%)

3 (1.0%)

8 (2.6%)

6 (2.2%)

19 (1.61%)

11 (3.7%)

28 (9.5%)

36 (11.5%)

28 (10.3%)

103 (8.75%)

Watching TV

5 (1.7%)

12 (4.1%)

59 (18.8%)

25 (9.2%)

101 (8.58%)

Something else

7 (2.4%)

5 (1.7%)

7 (2.2%)

4 (1.5%)

23 (1.95%)

Nothing mentioned

2 (0.7%)

38 (12.8%)

296 (100%)

296 (100%)

Meeting friends

Total

Mentioned but not numbered

64 (20.4) 313 (100%)

Total

104 (8.84%) 272 (100%)

1177 (100%)

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Almost 25% of the respondents who queued mentioned work as the most important sacrifice to queuing, 5.7% responded that it was the second most important, and 3.2% as the third most important. Thus, a total of 33% of people sacrificed work to queuing. Table 6.7. shows how many people queued during working hours: 6.9% queued often during working hours, 29.1% sometimes or often, approaching the 33% mentioned to have sacrificed work to queuing. When people are too busy to do something, or they do not want to do it, they often try to carry it out it in another way, one of which is letting someone else do it. To the question whether children, parents, acquaintances and/or friends queued for them, 66.5% of the respondents (276 out of 415) replied yes, 33.5% (139 out of 415) said no. Of the people who said yes, 129 (46.8%) did not pay for this, 2 paid money (0.7%, these were people that did not queue at all), 61 (22.1%) most often paid in services/favours, 59 (21.4%) queued in return, while 10 (3.6%) paid in other ways. A total of 15 respondents (5.4%) did not specify whether they paid or not in return. While 41.1% of the respondents (163 out of 397) reported to have queued for somebody else, 58.9% (234 out of 397) never did. This result may suggest that an informal barter economy with high transaction costs existed. The difference to the response to the question of whether somebody queued for them might be caused by the low number of people in the 75+ age group in the sample, due to difficulties with getting them to fill in the questionnaire and the fact that many of the people who probably queued for others (e.g. pensioners or grandmothers) do not live anymore. Another possible explanation is that some people specialised in queuing for others. Table 6.7. Queuing during work.

Never

Seldom

Sometimes

Often

Total

Total

202 (51.5%)

76 (19.4%)

87 (22.2%)

27 (6.9%)

392 (100%)

Male

65 (52.0%)

30 (24.0%)

22 (18.4%)

7 (5.6%)

135 (100%)

137 (51.3%)

46 (17.2%)

64 (24.0%)

20 (7.5%)

267 (100%)

25 (46.3%)

8 (14.8%)

18 (33.3%)

3 (5.6%)

54 (100%)

Female Party member

When queues are long, or people are waiting for goods to arrive, there is an incentive to arrange the distribution of the goods in question in such a way that less time has to be spent in the queue. A good example in which transaction costs are low is a waiting list (“lista kolejkowa”). To the question of whether situations existed where they could write their name down on a waiting list 169 out of 396 (40.9%) replied never, 117 (29.6%) seldom, 103 (26.0%) sometimes, and 14 (3.5%) often. Thus, on occasion part of the population managed to lower transaction costs of queuing, while a small group seems to have been able to lower these transaction costs very much. The number of respondents (24%) mentioning work as the most important sacrifice seems to indicate a large cost to the economy. The data are confirmed by the answers to the question of whether people queued during work, presented in Table 6.7. Almost 29% of the sample


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reported to have queued sometimes or often at a time they should have been at work. The cost of this depends on how many working hours were sacrificed and on labour productivity. Table 6.8. Benefits of queuing.

Activity

Never

Seldom

Sometimes

Often

Total

Complaining

96 (24.6%)

86 (22.0%)

108 (27.6%)

101 (25.8%)

391 (100%)

Talking about politics

157 (40.1%)

75 (19.2%)

102 (26.1%)

57 (14.6%)

391 (100%)

Gossiping

171 (43.7%)

93 (23.8%)

83 (21.2%)

44 (11.3%)

391 (100%)

Study

306 (78.3%)

38 (9.7%)

35 (8.9%)

12 (3.1%)

391 (100%)

Reading

130 (33.2%)

61 (15.6%)

111 (28.4%)

89 (22.8%)

391 (100%)

Meeting friends

109 (27.9%)

90 (23.0%)

126 (32.2%)

66 (16.9%)

391 (100%)

Sleeping

370 (94.6%)

9 (2.3%)

9 (2.3%)

3 (0.8%)

391 (100%)

Praying

335 (85.7%)

30 (7.7%)

22 (5.6%)

4 (1.0%)

391 (100%)

85 (21.7%)

57 (14.6%)

133 (34.0%)

116 (29.7%)

391 (100%)

Resting

338 (86.5%)

33 (8.4%)

12 (3.1%)

8 (2.0%)

391 (100%)

Trading/making appointments/arranging – wangling something

326 (83.4%)

42 (10.7%)

21 (5.4%)

2 (0.5%)

391 (100%)

Making useful contacts

222 (56.8%)

90 (23.0%)

69 (17.6%)

10 (2.6%)

391 (100%)

Nothing

194 (49.6%)

50 (12.8%)

70 (17.9%)

77 (19.7%)

391 (100%)

Thinking/meditation

In order to obtain a better picture of the costs of queuing, activities that people employed while queuing have to be considered. Table 6.8. presents the answers to the question “What were you doing while queuing?” In other words, what were the benefits of queuing? People waiting at a certain moment start to do something with their time. What they do depends on the time that has to be spent on waiting, and whether they wait inside or outside. In the case of queuing, the question is whether it is a social activity where people meet each other and communicate and whether some people make use of the opportunity to extend their network (making useful contacts) or trade. Reading can be a useful activity, while it might be that people only stand and think, or complain more than normally. The largest group reported that often they were just thinking (about 30%), and this is still the case when the group mentioning sometimes is included (about 64%). Other popular activities that people reported under the category often are complaining and reading (about one quarter of the respondents), meeting friends (17%), talking about politics6 (about 15%) and gossiping (more than 11%). This implies that often time was spent in a social way, while quite a large group “reduced the waiting time” by reading. 6 Some respondents said that it was too dangerous to talk about politics. This of course depends on how well people knew the other people in the queue. Talking about politics could also take the form of telling political jokes.

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Only a very small proportion traded often or made useful contacts. The question remains as to whether the amount of time people were complaining differs from “normal” social situations, and to what extent complaining during these social occasions is reinforced due to phenomena like queuing. Looking at the categories “often” and “sometimes” together, thinking remains the most popular, while around half of the population in the survey reports to have complained, read and/or met friends. Two out of five talked about politics, one out of three gossiped, while one out of five made useful contacts. This indicates that sometimes, besides reading and studying, time was used in a productive way by making useful contacts, while more than 5% arranged something. A category not explicitly mentioned concerns people talking about little day-to-day problems, and how to solve them. How to repair this, how to prepare that. On social occasions quite often useful information is exchanged, and from interviews with people I got the impression that this was also the case in queues. The fact that queuing time was spent more or less in a useful way does of course not mean that people liked queuing. This question is dealt with later. Table 6.9. Benefits of queuing. Division by gender.

MEN (N=125) – WOMEN (N=265) Often Activity

% of all male

Sometimes + Often % of all female

% of total

% of all male

% of all female

% of total

Complaining

20.8

27.9

25.8

44.0

57.7

53.3

Talking about politics

21.6

10.9

14.6

51.2

35.4

40.7

Gossiping

5.6

14.0

11.3

19.2

38.9

33.5

Study

2.4

3.4

3.1

11.2

12.5

12.0

Reading

25.6

21.5

22.8

52.8

49.2

51.2

Meeting friends

16.0

17.4

16.9

45.6

50.6

49.1

Sleeping

0.8

0.7

0.8

3.2

3.0

3.1

Praying

1.6

0.7

1.0

4.8

7.5

6.6

29.6

29.7

29.7

57.6

66.8

63.7

Resting

3.2

1.5

2.0

7.2

4.1

5.1

Trading/making appointments/arranging – something

0.8

0.4

0.5

7.2

4.9

5.9

Making useful contacts

4.0

1.9

2.6

24.0

18.1

20.2

19.2

20.0

19.7

37.6

37.7

37.6

Thinking/meditation

Nothing


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It is worthwhile to analyse whether gender influences activities undertaken while queuing. The results are summarised in Table 6.9., where only the categories often and the sum of often and sometimes are presented. Although the sample only consists of 125 men and 265 women, some interesting differences can be discovered. Women complained and gossiped more, while men talked more about politics. Almost 28% of all women complained often, compared with almost 21% of all men. Looking at respondents sometimes or often complaining, the percentage for women becomes almost 58, for men 44. With gossiping the difference seems to be even bigger. Of all women 14% declared to gossip often, against less than 6% of all men. Of all women 39% gossiped sometimes or often, against 19% of all men. With politics it is the other way round. Almost 11% of the women and more than 21% of the men often talked about politics. These numbers become 35% and 51% respectively if the people sometimes talking about politics are added. The question why women gossiped and complained more, while men talked more about politics, is to be answered by sociologists. However, it is possible that women complained more as they had to spend more time in the queue. The proportion of men making useful contacts is a little higher than the proportion of women. The difference with respect to trading/arranging something is even smaller, but could be a stimulus for a further elaboration of the role of men and women in the parallel economy. The existence of queuing in STEs was a sign that the allocation mechanism did not function properly. People tried to find different ways to reduce the opportunity costs of queuing, such as queuing during working hours, undertaking productive activities while waiting and queuing professionally. Such a situation is an indication of “decaying socialism”. The state, due to decentralisation, lost its hold on the economy. In other words, institutions were weak, and more and more opportunities for opportunistic behaviour appeared. Finally, the large number of people complaining while standing in line may suggest that queues contributed to dissatisfaction and weakening incentives. 6.3.4. Peoples’ assessment of queuing activities Although it can be argued that many people tried to spend their time usefully in the queue in one or various ways, the majority of the respondents considered their activities while queuing to be a complete waste of time (more than two third of the sample), while about 30% thought their activities were sometimes useful. The results are presented in Table 6.10. Only a few people considered their activities as being quite useful or very useful. When gender is considered, there is hardly any difference. People under 35 mentioned “sometimes useful” relatively more often, while people between 65 and 74 mentioned “complete waste of time” relatively more often. A person who reads a whole book while queuing, or meets friends, probably spends the time in a useful way. Why, then, does such a large proportion of the sample consider their activities while queuing to be a complete waste of time? To get a better view of this problem, two other questions have to be considered: “do you sometimes miss the “queuing atmosphere” (“atmosfera kolejkowa”)” and “how do you assess standing in queues before 1989?” (see Table 6.11.) The number of people sometimes missing the “queuing atmosphere” is slightly bigger (28 of 396 – 7.1%) than the number of people regarding their activities while queuing

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as quite useful or very useful (16 of 392 – 4%). Only 1 of the 396 respondents considered queuing to be very pleasant, 1 pleasant, and 7 quite pleasant. Of all respondents, 244 (more than 60%) assessed queuing as very annoying, 114 (almost 30%) as annoying. Someone said he liked queuing, because he had an audience for telling jokes. Another respondent liked queuing because of the social aspect – the possibility of talking to friends and acquaintances. The fact that most of the people did not like queuing at all could have had a large influence on how they consider the usefulness of their activities in the queue, and may be considered to be a “psychological transaction cost” of queuing. Table 6.10. Assessment of activities while queuing.

Complete

Sometimes

Quite useful

Very useful

Total

waste of time

useful

Total

266 (67.9%)

110 (28.1%)

13 (3.3%)

3 (0.7%)

392 (100%)

Male

83 (66.4%)

35 (28.0%)

5 (4.0%)

2 (1.6%)

125 (100%)

183 (68.5%)

75 (28.1%)

8 (3.0%)

1 (0.4%)

267 (100%)

Under 25

16 (55.2%)

12 (41.4%)

0 (0.0%)

1 (3.4%)

29 (100%)

25–34

13 (48.2%)

12 (44.4%)

2 (7.4%)

0 (0.0%)

27 (100%)

35–44

47 (64.4%)

20 (27.4%)

5 (6.8%)

1 (1.4%)

73 (100%)

45–54

99 (69.3%)

41 (28.7%)

2 (1.4%)

1 (0.7%)

143 (100%)

55–64

41 (69.5%)

17 (28.8%)

1 (1.7%)

0 (0.0%)

59 (100%)

65–74

40 (85.1%)

5 (10.6%)

2 (4.3%)

0 (0.0%)

47 (100%)

Over 74

10 (71.4%)

3 (21.4%)

1 (7.2%)

0 (0.0%)

14 (100%)

Female

Table 6.11. Assessment of queuing.

How do you assess queuing before 1989?

Number of respondents

Very annoying

244 (61.6%)

Annoying

114 (28.8%)

A bit annoying

23 (5.8%)

No problem

6 (1.5%)

Quite pleasant

7 (1.7%)

Pleasant

1 (0.3%)

Very pleasant

1 (0.3%)

Total

396 (100%)


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6.3.5. In what way is the time gained with the disappearance of queues being used? As a result of complete price liberalization on 1 January 1990, shortages were eliminated and queues disappeared from everyday life. People did not have to spend time in queues anymore, and most goods were available in the shops. In this section the question is addressed as to in what way people use the time they do not have to sacrifice on queuing anymore. This is done in order to obtain a better picture of the opportunity cost of standing in line during socialism and to assess the social gain of the elimination of queues. Table 6.12. Benefits of the elimination of queues.

Activity

Most

2nd most

3rd most

Mentioned but

important

important

important

not numbered

Work longer hours professionally

64 (20.6%)

16 (5.2%)

17 (5.3%)

1 (0.5%)

98 (8.53%)

Own business

15 (4.8%)

11 (3.5%)

3 (0.9%)

7 (3.4%)

36 (3.13%)

Spending time with family/children/grandchildren

99 (31.9%)

67 (21.6%)

36 (11.2%)

53 (25.5%)

255 (22.19%)


48 (15.5%)

80 (25.8%)

45 (14.0%)

54 (26.0%)

227 (19.76%)

Hobby/sport/reading

40 (12.9%)

29 (9.4%)

59 (18.4%)

27 (13.0%)

155 (13.49%)

Watching TV

12 (3.9%)

28 (9.0%)

46 (14.3%)

34 (16.3%)

120 (10.44%)

5 (1.6%)

14 (4.5%)

23 (7.2%)

8 (3.8%)

50 (4.35%)

18 (5.8%)

8 (2.6%)

4 (1.2%)

2 (1.0%)

32 (2.79%)

1 (0.3%)

6 (1.9%)

9 (2.8%)

2 (1.0%)

18 (1.57%)

Meeting friends

5 (1.6%)

22 (7.1%)

37 (11.5%)

18 (8.7%)

82 (7.14%)

Work without paying taxes

1 (0.3%)

3 (1.0%)

2 (0.6%)

1 (0.5%)

7 (0.61%)

Something else

2 (0.6%)

3 (1.0%)

4 (1.2%)

1 (0.5%)

10 (0.87%)

Nothing mentioned

0 (0.0%)

23 (7.4%)

36 (11.2%)

---

59 (5.13%)

310 (100%)

310 (100%)

321 (100%)

More sleep Study Go to cinema/

Total

theatre/disco/etc.

Total

208 (100%)

1149 (100%)

Three activities could be given in order of importance to the question in what way time is used that people do not have to spend in the queue anymore. The results are presented in Table 6.12. More than 30% mentioned spending time with their family as most important, working longer hours professionally (more than 20%) comes in second place, followed by work around the house (15.5%) and hobby/sport/reading (13%). When the respondents

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working longer hours professionally and those having their own business are grouped together, it turns out that one in four spends the time gained on economic activities. It is difficult to compare the sacrifice of work under the socialist system with using the time gained now for more work, due to possible differences in labour productivity and the large hidden unemployment that existed before 1989. When the productivity of labour has increased, the benefit of queues disappearing is even bigger. This also depends on how many working hours were sacrificed and how much more time is devoted to work now. In Table 6.13. the most important activities that people undertake due to the disappearance of queues (benefits) is compared with what people reported to have sacrificed for queuing (see Section 6.3.3.). Although there are small differences, a similar pattern between what had to be sacrificed and what they now do more often can be observed. A larger part of the sample (32%) reports to spend more time with their family than was mentioned as a sacrifice (27%). When the total number of times mentioned are compared, the difference becomes smaller (sacrifice – 21.5%, spending more time – 22.2%). Watching television has become a bit more popular: sacrificed – 1.7%, more watching – 3.9%. When the category “second most important” is added the following percentages are obtained: sacrificed – 4.1%, more watching – 9%. Considering the total number of times mentioned (sacrificed – 8.7%, more watching – 10.4%) a similar trend can be observed. Working around the house was sacrificed most often by 23% of the population, while 15.5% reports to spend more time on it now. Comparing the total number of times mentioned the difference becomes negligible (19.7% and 19.8%), which may indicate a shift in preferences (as the second most important sacrifice it was mentioned by 20.6%, as the second most important way of spending time by 25.8%). Table 6.13. A comparison between costs of queuing and benefits of the elimination of queues.

Activity

Sacrificed

Spend more time on it now

Work/Work longer hours professionally – own business

71 (24.0%)

80 (25.8%)

Spending time with family children/grandchildren

79 (26.7%)

99 (31.9%)


67 (22.6%)

48 (15.5%)

Hobby/sport/reading

45 (15.2%)

40 (12.9%)

Watching TV

5 (1.7%)

12 (3.9%)

Study/school

9 (3.1%)

18 (5.8%)

Meeting friends

11 (3.7%)

5 (1.6%)

Something else

7 (2.4%)

8 (2.6%)

Nothing mentioned

2 (0.7%)

0 (0.0%)

296 (100%)

310 (100%)

Total


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The last question to be mentioned is whether people nowadays also have to make use of acquaintances/friends (“znajomoÊç”) in order to obtain goods. Only 2 of the 408 respondents said often (0.5%), 13 sometimes (3.2%), 62 seldom (15.2%) and 331 never (81.1%). This indicates that the economy has “normalised” in this respect.

6.4. Concluding remarks This chapter’s main aim is to analyse transaction costs and incentives in STEs using the example of queuing and the social gains from queues disappearing. The questions that have been addressed are: what products were people queuing for, who had to queue, and what were the costs and benefits of queuing. What products were people queuing for? The products that turn out to have been most in shortage are meat, toilet paper, coffee, sugar, dairy products, chocolate, gasoline and fruit. At the beginning of 1990 queues disappeared due to price liberalisation. Many products could be obtained, but there still were some problems. Very few people nowadays have to make use of acquaintances/friends (“znajomoÊç”), in order to obtain goods. There is a strong indication that the economic situation for many people has normalised, that they do not have to rely on a “network of friends” anymore to get by. However, it has to be mentioned that for many people in lower income groups (e.g. pensioners and unemployed) it is currently very difficult to get by, maybe even more difficult than before 1989. Who had to queue? A large majority of 95% of the respondents had to queue before 1989. Only a few, schoolchildren and working people – especially in shops and with influential positions in companies – never had to queue. On the one hand, it is shown that some people managed to get the products they wanted without queuing. On the other hand, it can be argued that almost everyone was touched by the phenomenon of queuing. However, a “division of labour” took place, and some people specialised in queuing. Two thirds of the sample declared that other people queued for them, while more than 40% queued for someone else. It is known that many pensioners specialized in queuing. The point of “division of labour” has to be elaborated more deeply by trying to answer the question how often and how long people used to queue, which is quite difficult due to the fact that it happened more than a decade ago. What had to be sacrificed for queuing? A quarter of the sample mentioned work, which was, together with spending time with family and work around the house/in the garden, an important sacrifice. The sacrifice of work is confirmed by the fact that 33% reported to have queued during working hours. This was rather a social loss than a private loss. How big the loss in productivity was is difficult to estimate, due to the existence of hidden unemployment. People tend to use time gained due to the disappearance of queues for similar activities as were mentioned as a sacrifice. Some differences can be observed with spending time with family, working around the house, and watching television. Comparing how much work was sacrificed with how much more time is now spent working is difficult because there may be differences in labour productivity, and hidden unemployment was reduced in the 1990s. Assuming that labour productivity increased, the gain from the disappearance of queues becomes even bigger.

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What were people doing while queuing? Thinking, something that can be practiced everywhere, was most often mentioned. People read a lot, complained quite often (more women than men), talked about politics (more men than women), gossiped (more women than men), and some were making useful contacts, or were trading/arranging things. Why did women complain more? Maybe they had to queue more often, a reason for complaining. Was queuing a complete waste of time? It could be said that time was used in a useful way. However, a large majority of the respondents do not consider their activities while queuing as useful, while only a small proportion sometimes long for the “queuing atmosphere”. Was behaviour in the queue different from “normal” social behaviour? This question is difficult to answer. Many people disliked queuing. Phenomena such as queuing, shortages and the political situation are good themes to complain about while queuing, and telling political jokes can unload annoyance. But this does not imply that at social occasions people do different things. When there are annoying things in life, people will talk about them at social occasions. People will make useful contacts, arrange some business and have deep thoughts when the company is not so interesting. I expect that at “normal” social occasions not so many people are in deep thought, and reading is almost out of the question. Negative experiences while queuing probably will have had an influence on the motivation to work, and have been a good reason to complain at social occasions. In conclusion, the disappearance of queues is a social gain, although the exact gain is difficult to calculate. The consumer paid the price for a good plus transaction costs in the form of time spent in the queue. These transaction costs were lowered due to activities in the queue. Furthermore, for some people the value of their time was lower than for others. For this reason, there were people (e.g. pensioners and grandmothers) who specialised in queuing. It also happened that people joined a queue when they saw one, without knowing what was for sale, just in case something useful could be obtained. In Chapter 2 it was argued that when the transaction costs of using the institution or governance structure that distributes value from the public domain decreases (in this case the queue), the institution or governance structure becomes more widespread. Thus, when the transaction costs of queuing decreased, e.g. due to a learning effect, queues could have become larger and more queues could have appeared. The problems of queuing, the ways in which people tried to lower the transaction costs of queuing and tried to obtain goods in a different way suggest that institutions were weak. The state had lost its hold on the economy. When planning in the 1980s became a ritual, opportunities for opportunistic behaviour increased. Transaction costs of queuing rose, and continuous shortages and the annoyance of queuing weakened incentives and increased dissatisfaction with the socialist system, enlarging the institutional disequilibrium. This influenced economic activity negatively. It can be argued that the transaction costs of queuing were relatively small compared to other transaction costs in the planned economy. However, the “psychological transaction costs” were quite high. With the elimination of queues due to price liberalisation, transaction costs to consumers of obtaining goods were reduced significantly. Together with the increased availability of goods, this may have strengthened incentives.

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Chapter 7 TRANSACTION COSTS DURING TRANSITION – LOGISTIC CHALLENGES

7.1. Introduction The Soviet-Type Economy (STE) in Central and Eastern European countries was characterised by continuous shortages. This was mainly due to low prices, which increased the quantity demanded. Supply could not increase so fast, because incentives for producers were weak. This, together with disincentives provided by the institutional environment, hampered the development of transaction cost lowering logistic solutions. The lack of markets and the existence of shortages under socialism made it attractive for firms to keep larger stocks (hoarding). This is, in fact, a transaction cost of a disfunctioning co-ordination system. Furthermore, due to the lack of markets, there was a tendency of organising activities not directly connected with the core activity within the firm. Examples of this are repair, transport, construction, catering and leisure activities for employees [Stˆhl, 1993 318]. As a result, the development of division of labour and specialisation was hampered, implying that many potential benefits from economies of scale were not obtained. The elimination of shortages in 1990, by way of price liberalisation and the development of a market, strengthened incentives to introduce logistic solutions. With the breakdown of central planning, problems in the production and distribution system had become bigger. Stˆhl [1993, 314–5] describes how the distribution of beer in Estonia was almost impossible due to the lack of bottles, which was the result of various technical complications. Planning had made firms very dependent on single suppliers, and when one line of supply did not deliver the needed input, production problems appeared and there was often a snowball effect in the logistic chain. Many problems exist in former STEs in the field of developing logistic solutions. Workers are skilled, but innovative capacity is lacking, due to obsolete techniques and lack of appropriate implementation of theory in practice (research and application). Infrastructure is worn down, and was often rather developed for military purposes and not for solving co-ordination problems in a developing market economy [see Lavigne, 1999(b)].

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In economies in transformation the use of logistic solutions and improvement of infrastructure may give incentives for step-by-step improvement of institutions as a reaction to changes in the institutional environment, market demand and technology. This is especially important with respect to adaptive efficiency in the face of increasing transaction costs when the amount of transactions increase due to economic growth, leading to the need for institutional change (see Chapter 3). The increasing use of logistics and the stage of logistic development can be used as an indicator of the stage of transformation Poland finds itself in. In order to complete the transformation, a properly developed infrastructure is needed. The state of infrastructure in Poland, discussed in Section 7.2., shows that this is not the case. In Section 7.3. the analysis of the stage of logistic development that Poland finds itself in suggests that Poland is 10 to 30 years behind highly developed OECD countries, implying that Poland has not completed its transformation and that there are still many opportunities for lowering transaction costs. The question is addressed, focussing on road transport, as to what the likely consequences for the Polish transport sector are when Poland joins the EU. One possibility for lowering transaction costs is developing infrastructure and logistic applications of hardware, such as information systems, while stimulating co-operation within larger networks by developing integrated logistic centres, which is discussed in Section 7.4. The use of logistic solutions and integration with EU markets may not only lead to the introduction of many transaction cost lowering solutions, but can also be an incentive for institutional change towards a stronger economic system. In other words, it is a stimulus for a country in transformation to develop by piecemeal institutional change towards a “higher stage of market economy”.

7.2. The state of Polish infrastructure Currently, Poland’s infrastructure, and as a consequence its transport system, is very much influenced by the spatial development under socialism. Infrastructure was developed around large industrial complexes and for military aims, and was not developed with the aim of stimulating private transport and the development of car possession. Although investments in infrastructure remained behind in the territories gained from Germany after World War II, these parts of the country still have the most dense road and rail network, this being an inheritance of German investments before World War II. In 1990 Poland possessed 257 km of motorways, of which 140 km were built before World War II on former German territory. An important brake on the development of physical infrastructure was the low level of motorisation compared to the West [Despiney and Paslawski, 2000]. The physical infrastructure (e.g. transport and telecommunications) in Poland, as in other STEs, was rather designed for its hierarchical governance structures.1 There were few small and medium size enterprises and in many branches production was highly integrated vertically. There was not much horizontal co-operation between firms, while information 1 The emphasis under central planning on transport was rather on quantity than quality. Flexibility, logistics, reliability and safety were often neglected, increasing transaction costs. Furthermore, central planning was biased towards production of materials over services. As a result there was under-investment in telecommunications, and concerns with respect to keeping bureaucratic control over the economy were more important than improving the often antiquated and unreliable technology [Aghion and Schankerman, 1999, 86].

Transaction Costs during Transition – logistic challenges

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flows to consumers and suppliers were distorted, incomplete, or sometimes even hardly existed. The STEs lagged far behind their capitalist competitors with respect to technology, leading to a lack of the hardware base needed for introducing transaction cost decreasing solutions [Aghion and Schankerman, 1999, 80]. Boehme et al. [1998, 33–8] observe the following problems in existing infrastructure facilities. The technical condition of tracks, bridges and other facilities, lack of maintenance and the small number of electrified and double track lines are problems with the railways. Furthermore, signalling devices and traffic control systems are outdated and equipment and terminals for combined transport, an important pre-condition for developing logistic solutions, are lacking. Internal communication systems are not at an adequate level, rolling stock is outdated and of a low quality and operational efficiency and quality of services is low. The road network is a little less dense than in EU countries, but the main problem is the lack of motorways, the use of many roads by mixed traffic, the lower quality and lower maximum axle loads than in the EU, lack of service facilities and lack of ring-roads and bypasses. Thus, the quality rather than quantity of infrastructure is the problem. The Polish Ministry of Transport has developed plans to improve the infrastructure for the period up to 2015 [MtiGM, 1999]. The current length of motorways is below 300 km, and the network of motorways should be expanded to 2600 km by the year 2015. About 1600 km of international roads are planned to be modernised, ring roads, viaducts and bridges are to be built, new border crossings are to be created in order to facilitate international transport, the modernisation of international rail connections is planned, the rolling stock of Polish railways is to be changed, Polish ports and the merchant navy are to be modernised, and airports and inland shipping tracks are to be built. The investment costs are high. It has been estimated that for transport-related investment a total of more than 36 billion Euro is needed, of which 14.6 billion Euro in rail and 17.6 billion Euro in road transport. In 1999 such expenditure should have amounted to 1.3% of total GDP [EBRD, 2000]. Grajnert and Krettek [2001, 64] estimate the cost of building 1 km of highway as 6.25 mln euro (see also Despiney and Paslawski [2000]), and railroad (two-track electrified) as about 3.75 mln euro per km. This would mean a required investment of about 16.25 bln euro for the projected 2600 km of motorways.2 A problem for the Polish government is the huge public debt and the budget deficit, while private domestic investors do not have sufficient amounts of capital available. For this reason, financial support from the European Union is important. Developing Polish infrastructure is important for the EU, if they want to connect Poland to their transport network and to develop access to markets in the republics of the former Soviet Union. The building of motorways has been proceeding slowly. A question is whether this is the result of bad government policy or even the complete lack of such a policy. Boehme et al. [1998, 100] mention the following critique of the Polish Motorway programme: (i) plans were developed years ago and do not consider environmental and regional development during the 1990s, (ii) procedures concerning the conflict between environment and transport policy are cumbersome due to existing laws, (iii) property rights of land are not clearly defined, making acquisition difficult, (iv) forecasts of traffic flow lack reliability, making the financial picture unreliable. The toll-road Katowice-Cracow is an example (61 km – PLN 10 (€2.50) per car, 2

The exchange rate in January 2003 was about 4 Polish z∏oty for 1 euro.

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PLN 21 (€5.25) per truck in 2002). It was estimated that when tolls were introduced traffic would decrease by 40%, but in reality it stayed at the level same (15,000 vehicles per 24 hours) [Despiney and Paslawski, 2000]. This example suggests that opportunities exist for private-public ventures for building motorways. As mentioned before, transport infrastructure in Poland, as well as in other economies in transformation, bears the legacy of the past [see ECMT, 1995; Boehme et al., 1998]. The infrastructure (and rolling stock) is not only worn down, under-invested and lacking managerial human capital, but also cannot handle the rapidly increasing demand, due to increased trade and car use. This causes transport time to increase. Furthermore, increased international traffic and trade causes long waiting times at border crossings. It has been estimated that, when not breaking speed limits, total journey time in Poland is almost twice as long as in the EU due to a lack of motorways and infrastructure bottlenecks. It has also been estimated that at the beginning of the 1990s the maximum waiting time for trucks at the Polish-German border was 7 hours and at the Polish-Ukrainian border even 20 hours [ECMT, 1995, 73]. However, afterwards waiting times probably increased, as investment in border crossing facilities did not keep up with the growth of traffic. Facilities have been expanded only in the last few years. It can be argued that inefficient institutions cause bigger problems than infrastructural bottlenecks [Boehme et al., 1998, III]. Solving transport policy shortcomings (e.g. non-privatised port handling agencies and inefficient regimes of charges to users) and creating efficient institutions are of larger importance than investment in infrastructure in the short-run, as high transaction costs are likely to hamper trade and transport more that infrastructural problems. Furthermore, infrastructural investments are very costly and time-consuming. Creating proper institutions and governance structures that provide incentives and lower transaction costs make it possible to get the most out of the existing situation, and prevent unnecessary investments which may simply result from high transaction costs and the influence of interest groups.

7.3. Development of logistics in Poland 3 The European Union only developed a common transport policy, which stimulated the development of logistic solutions on a European scale, as late as the 1990s. The five main areas were laid down in the Program for Sustainable Mobility of 1992 [Neal and Barbezat, 1998, 102–3]. This was a consequence of the Single European Act of 1987, aiming at creating a single European market. The main points of the Program for Sustainable Mobility are removing barriers that hamper the flow of goods and people, removing barriers within and between countries with respect to the transport market, reducing regional differences in development by investment aid, ensuring environmentally-sound developments in the transport sector and improving safety in transport. Transport companies have reacted to the extension of the market, and tried to adapt to the new challenges of increased competition and the different environment in which they now operate. Many mergers have taken place between companies from different countries, 3

This subsection is partly based on Platje and Krzekotowski [2001].

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and there is a tendency to offer advanced, integrated logistic services. Advanced logistics can be defined as “... the concept of synchronising the activities of multiple organisations in the logistic chain and feeding back necessary information to organisations in production and/or physical distribution sectors on a real time basis, by fully utilising information technology and digital communication networks. By introducing advanced logistics, firms can respond quickly to the changes in demand and, as a consequence, transport can be regarded as an integral part of production or wholesaling or even retailing” [OECD, 1996, 15 – quoted from OECD, Advanced Logistics and Road Freight Transport, 1992]. The integration of the European market and the extension of international markets (globalisation), together with rapid developments in information technologies, have immensely expanded the opportunities for companies. On the one hand, there is a tendency of further division of labour by specialisation. However, consumers demand an integrated package of services. Companies are starting to co-operate with each other, in order to share experience and offer such a package of services, that the client does not have to search for all the services among different companies. With increasing division of labour and diversifying consumer demand, the demand for transport services is also likely to increase. Infrastructure cannot change so fast, among other things, due to the relatively low transport costs compared to the costs of production, leading to increasing pressure on the existing infrastructure. The moment that externalities of transport are internalised (e.g. by way of road taxes or fuel taxes), logistic solutions such as lighter vehicles, larger truck loads, distribution centres and logistic centres become more attractive. However, in this case co-ordination costs (e.g. transaction costs of managing a logistic centre) are likely to increase. Table 7.1. Three generations of logistic development.

Generation

First

Second

Third

Time Period

Before 1970

1970–1990

After 1990

Industrial Structure

Independent factories

OEM4 and subcontractors

Global and virtual corporations

Focus and Organisational

Shipment

Material flow

Logistics channel

Low costs

Reduced costs Increased revenues

System-wide cost reduction

Involvement Economic Impact

& revenue increase Management Position

In other departments

Separate function in company

Joint function of separate companies

Information Support

Telephone, Telex

Fax In-house computer systems

Computer network EDI, DSS, AI

Source: OECD, 1996, 43. 4 OEM means original equipment manufacturer. Such a firm produces a product that is sold under its own name, while using product components from one or more other companies as inputs [http://whatis.techtarget.com/definition/0‚,sid9_gci214136,00.html].

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Table 7.1. shows the development in logistic systems in OECD countries. The development in logistic services can be described as follows. Before the 1970s (first generation), the industrial structure in OECD countries was characterised by independent factories and the emphasis of logistics was on finding “cheap transport to and from cheap inventory warehousing facilities” [OECD, 1996, 45]. In this case the transaction “transport” was relatively straightforward. In the period 1970–1990 (second generation), an increasing division of labour could be observed – factories obtained inputs from more and more subcontractors. New logistic goals embraced “increasing revenues through the creation of customer value and speeding up flows to reduce tied up capital” [OECD, 1996, 45]. This phase is characterised by the introduction of the fax and in-house computer systems, lowering the costs of transferring information. Due to the increasing division of labour the amount of economic transactions increased and the logistic chain lengthened, leading to new bottlenecks and increasing transaction costs. When the number of firms involved in the production process increases, the result may be higher control and monitoring costs in case of re-loading or re-packaging due to the threat of making mistakes, mishandling, theft, smuggling, sabotage, etc. Consequently, measures for decreasing these transaction costs are required. Third generation logistics is strongly connected with the internationalisation of markets and the so-called “new-economy”. This generation is developing very quickly. Global and virtual corporations are starting to dominate the industrial structure, while logistics is starting to take into consideration the whole production and distribution chain, in other words, the logistic chain. An important role is played by information technology (e.g. computer networks, EDI and the Internet). Suppliers, who were independent in earlier phases, are becoming increasingly interdependent. While “in the second period links were created between suppliers and factories, nowadays companies work within networks where flexibility and adaptation are important features” [OECD, 1996, 43]. In the phase of third generation logistics, vertical integration (supply chain management) and horizontal integration are taking place. More and more specialised logistic companies offer some or all logistic services (third party logistics or contract logistics). “Apart from giving access to specialists third party logistics provides opportunities of conserving economies of scale by sharing resources within other networks, while simultaneously significantly increasing the level of service offered to individual partners” [OECD, 1996, 45]. This is a clear example where lowering transaction costs by integrating networks leads to increased economic activity. Furthermore, there is specialisation/division of labour with respect to the provision of logistic services. In other words, using Williamson’s [1985, 1998] reasoning, the transaction costs of providing logistic services within the firm are higher than the provision of those services by the market, while there are economies of scale in the provision of logistic services. When one part in the logistic chain is disfunctioning, this can have significant consequences for the rest of the chain. For this reason investment in safeguards has to be made. A possibility for reducing transaction costs is to share responsibilities between shippers, providers of logistic services, transport authorities and national authorities [OECD, 1996] in such a way that all parties have incentives to strive for reducing the opportunities for opportunistic behaviour (incentive-compatibility). This is a case where not only efficient institu-


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tions are important, but also information technology such as equipment for tracing and tracking and route planning. While it can be argued that many industries in the EU, as well as its transport sector, find themselves in or are entering very rapidly into the third generation of logistic development, the question is “which generation does the Polish transport sector find itself in?” This is related to the stage of transformation the Polish economy has reached, and answering this question is important in assessing what will be the consequences for the Polish transport sector when joining the EU market. Table 7.2. Services offered by road forwarding and transport companies.

Customs agency

Road forwarding

Road transport

Only road

Only road

(n=248; 217 also offer road transport)

(n=260; 217 also offer road forwarding)

forwarding (n=31)

transport (n=43)

61 (24.6%)

52 (20.0%)

11 (35.5%)

2 (4.7%)

Consultancy in the area of transport and forwarding

116 (46.8%)

102 (39.2%)

21 (67.7%)

7 (16.3%)

Encashment of due payments from foreign contractors

8 (3.2%)

7 (2.7%)

1 (3.2%)

0 (0.0%)

Control of the quality and quantity of goods

7 (2.8%)

5 (1.9%)

3 (9.7%)

1 (2.3%)

72 (29.0%)

64 (24.6%)

14 (45.2%)

6 (14.0%)

0 (0.0%)

0 (0.0%)

0 (0.0%)

0 (0.0%)

41 (16.5%)

38 (14.6%)

3 (9.7%)

0 (0.0%)

6 (2.4%)

5 (1.9%)

1 (3.2%)

0 (0.0%)

31 (12.5%)

32 (12.3%)

2 (6.5%)

3 (7.0%)

6 (2.4%)

5 (1.9%)

2 (6.5%)

1 (2.3%)

E-mail

85 (34.3%)

82 (31.5%)

12 (38.7%)

9 (20.9%)

Web-site

38 (15.3%)

33 (12.7%)

6 (19.4%)

1 (2.3%)

Storing and warehousing Computer information services for transport and forwarding Cargo management Repackaging Cargo insurance Customs clearance

Source: my own calculations based on Ogólnopolski Teleadresowy Katalog Firm Bran˝y Transportowej i Spedycyjnej 1999/2000 (Polish Transport and Forwarding Companies Nationwide Directory 1999/2000), Warsaw, 1999.

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The focus here is on Polish road transport. 260 Polish companies involved in road transport and/or road forwarding were analysed according to which services they offer besides pure transport, which may be an indication of the development of logistic services. The results are shown in Table 7.2. It has to be mentioned that the companies in question are likely to be larger companies, because they advertised in the Polish Transport and Forwarding Companies Nationwide Directory 1999/2000, which small companies tend not to do, due to financial constraints. A little less than 25% of all companies (about 45% of the companies only involved in road forwarding (CRF) and 14% of the companies only involved in road transport (CRT)) offer storage and warehousing services. Less than 40% offer consultancy services in the area of transport and forwarding (67% of CRF and 16% of CRT). Cargo management is offered by less than 15% (almost 10% of CRF and 0% of CRT), while encashment of payments due from foreign contractors, control of the quality and quantity of goods, repackaging and customs clearance are offered by 2–3% of all companies (in all cases more CRF offered such services than CRT). A wider range of logistic services is offered by larger companies like Hartwig, Pekaes and Raben, as well as some companies specialising in offering logistic services. Among the 53 largest Polish transport and forwarding companies, 30 offer logistic services [Rzeczpospolita, 2000]. There is a tendency that companies focusing on pure road forwarding offer more logistic services than average. However, in general, the emphasis of Polish carriers and forwarding seems to be on pure shipment, suggesting that the Polish transport sector is in the first generation of logistic development. Table 7.3. Possession of web-site, use of e-mail and/or fax in contacts with clients.

Web-site

E-mail

Fax

Yes

No

NA

Yes

No

NA

Yes

No

NA

234

869

13

237

864

13

524

577

15

(n=1,116)

(21.0%)

(77.9%)

(1.1%)

(21.2%)

(77.4%)

(1.3%)

(47.0%)

51.7%)

(1.3%)

Transport

23

33

0

25

31

0

46

10

0

(41.1%)

(58.9%)

(0.0%)

(44.6%)

(55.4%)

(0.0%)

(82.1%)

(17.9%)

(0.0%)

32

33

0

35

30

0

54

11

0

(49.2%)

(50.8%)

(0.0%)

(53.8%)

(46.2%)

(0.0%)

(83.1%)

(16.9%)

(0.0%)

112

603

11

111

602

13

288

424

14

(15.4%)

(83.1%)

(1.5%)

(15.3%)

(82.9%)

(1.8%)

(39.7%)

(58.4%)

(1.9%)

All

(n=56) Ind. Prod. (n=65) Retail (n=726) Gastr. (n=75)

7 (9.3%)

67

1

(89.3%)

(1.3%)

7 (9.3%)

67

1

31

44

0

(89.3%)

(1.3%)

(41.3%)

(58.7%)

(0.0%)

NA = no answer

With respect to information support, many companies can be found in the second generation of logistic development. At least 30% of the 260 forwarding and transport companies in the survey have an e-mail account, while more than 10% have an Internet web-site.


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Research carried out among 1,116 Polish firms during the first half of 2001 (see also the Appendix) gives the following picture with respect to the possession of web-sites, use of e-mail and fax to contact clients (Table 7.3.). A number of 234 companies (21.0%) reported to have a web-site, 237 firms (21.2%) use e-mail in contact with clients, while 524 firms (46.9%) use fax in contact with clients. There are differences between the branches: 32 of the 65 firms in industrial production (almost 50%), 23 of the 56 transport companies (41%), and 112 of the 726 (15.4%) firms operating in retail trade have a web-site. With respect to e-mail, the trend is similar. About 82% of the transport companies, 83% of the firms engaged in industrial production, and almost 40% of the retailers use fax. More and more firms in Poland have access to e-mail and make use of fax in communicating with suppliers and customers. However, the use of advanced information technology and telecommunication systems lags behind the developments in the EU. Furthermore, most people seem not to collaborate and co-operate more than is immediately necessary, which is an inheritance from the past. It may not be so much the unwillingness to co-operate, but more the lack of trust, the lack of “co-operation skills” and the lack of a “communication culture”. This is a serious challenge when trying to introduce logistic solutions. However, in a less developed market like Poland a computer with a modem, which is a cheap means of communication, makes it possible to develop E-commerce in a cheap way, reducing co-operation and co-ordination problems [OECD, 1996, 94]. Currently the introduction of advanced logistic systems in the Polish transport and forwarding sector does not seem to be proceeding quickly. Most of the firms are small with one or a few trucks and little capital, while many loads are small and occasional, lowering the possibilities for standardisation. Thus, e-mail would be a good means of communication. However, as mentioned, many firms do not even have access to e-mail, and a question is whether firms check and answer their mail regularly. Another problem with e-mail, as with fax, is that a document does not possess legal enforceability, which in case of low trust causes an increase in transaction costs. Although with respect to information support there seems to be a tendency of part of the Polish transport sector to enter the “age of Information Technology”, the companies in the first sample presented in this section are likely to be larger companies, because, as mentioned before, they advertise in a nation-wide directory of Polish transport and forwarding companies. This implies that the percentage of other companies using e-mail or having a web-site are likely to be lower. With respect to fax, the road transport sector is in the second stage of logistic development. Third generation developments are rarely observed in Poland. Thus, it can be concluded that Poland’s transport and forwarding sector is somewhere between the first and second generation of logistic development when looking at focus, organisational involvement and information support. This implies that in this field Poland has not finished its transformation yet. When Poland enters the European Union, and faces the competition from integrated companies from the current EU countries, the question is whether they can survive the competition. There are different possible scenarios, of which two are given below. Polish carriers and forwarders start to co-operate with each other and with suppliers and factories, in order to face competition on the domestic market, as well as to obtain a share of the EU transport market, using the advantage of, among other things, low labour costs in Poland. In order to achieve this, either mergers or a concentration of small and medium-sized

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firms are necessary, as well as the introduction of integrated, advanced logistic services. The development of logistic centres may stimulate such development. Key words are co-operation, specialisation and flexibility.5 Education and training in logistics, as well as a thorough knowledge of the EU market, is needed for achieving such development. In order to survive on their own market and to gain a share of the EU market, however, co-operation with EU transport firms is necessary from the point of view of the transfer of knowledge/experience, knowledge of local markets and distribution systems, sources for investment, etc. To achieve this, an adequate transport policy with respect to matters like developing local infrastructure, stimulating co-operation and information provision is required from the side of local and central government. Another scenario is that foreign companies will squeeze out most of the Polish transport and forwarding companies from the EU market and reduce their share of the Polish market, leaving them the niche of shipment of goods over the Polish eastern border (Ukraine, Belarus, Russia). Another niche could be providing services for large companies with foreign capital on local markets and transport eastwards for those companies. Small Polish firms have the advantage of low labour costs, knowing the local market and knowing the language and culture, while many Western drivers do not want to drive eastwards.

7.4. Integrated logistic centres 6 A reason for offering logistic services is high transaction costs for the customer of finding different specialised companies providing such services and negotiating with them. The transport provider does not have to provide all the logistic services itself, as it can have a network of subcontractors, which is used in its service offer to clients. Especially when advanced information technologies are used, repeated dealings are required not only to obtain economies of scale in the provision of logistic services, but also to lower the control costs, which would accompany market transactions with many unknown partners. However, when a provider of logistic services makes use of subcontractors, it is important to clarify who is liable for execution (of parts) of the contract. In other words, property rights should be delineated, as otherwise the control costs of the collection of damage payments in the case of failure of the execution of a contract are likely to be high. In such a situation the value in the public domain increases, which increases opportunities for rent-seeking, with all its negative consequences. An integrated logistic centre is a place where many different logistic service providers are located. Such a concentration of firms may lower transaction costs, because of the possibility of using advanced information systems, reducing negotiation and control costs when firms co-operate for a longer time, and generating internal and external economies of scale. Especially when logistic processes become more complex, such logistic centres help to reduce transaction costs and transport costs, and they can create conditions for adaptive efficiency of governance structures. Combined transport (e.g. road – rail), a multifunctional system of logistic services and an integrated informational system are important for the functioning of a logistic centre 5 It has been argued that in Western Europe firms which do not use EDI (Electronic Data Interchange) will be out of business [OECD, 1996, 14]. 6 This section is largely based on Platje [2002].


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[Korzeƒ, 2001, 32; Nobel, 2001, 51]. A logistic centre is an independent properly organised and managed economic subject administering a site connected with an external transport system, equipped with infrastructure (e.g. roads, engineering structures and warehouses), equipment for relocation and storage, and providing logistic services [Szyszka, 2001, 37].7 Integrated logistic centres8 are built in a compact organisational-functional arrangement and can often be found quite far away from the centre of an urban agglomeration. Integrated logistic centres operate at an international, regional or local level. International logistic centres achieve the highest level of organisational and functional development and operate within international distribution networks with a range of 500–800 km and occupy an area of 100–150 ha. Regional logistic centres focus on regional and city distribution networks and have a distribution range of 50–80 km, while occupying an area of 20–50 ha. Local logistic centres are a gravitational point in the local/urban distribution network with a range of 5–8 km and occupy an area of 2–10 ha [Korzeƒ, 2001, 32; Abt, 2001, 110–1]. In order for an integrated logistic centre to develop, there are certain conditions that have to be fulfilled, related to the development of combined transport, infrastructure and location in the transport system, personnel, capital, spatial development, the climate for entrepreneurship and economic development and demand. Infrastructure and combined transport are briefly discussed here. Infrastructure is of decisive importance for the development of logistic centres. The existence of good road, rail, water and air connections is an important determinant for the location. Difficulties with transport faced in the European Union are also faced by Poland [Grajnert and Krettek, 2001]. There is a rapid growth of road transport, faster than the growth of the road transport network, which leads to congestion. Furthermore, Polish infrastructure is neither prepared for heavy nor high levels of transport. Transport by car has increased much in the last few years, causing the following problems: destruction of the excessively burdened road surface; more difficulties at customs (e.g. time delays and cargo formalities); deterioration of the environment along the roads and around border crossings; traffic jams in most urban areas; decrease in the number of cargoes in rail transport; the lack of possibilities for planning the schedules of realising transportation, due to the increased time spent at the border [WZCL, 1999, 18]. Integrated logistic centres are able to lessen these problems, among other things, by rationalising transport flows and the use of combined transport. Combined transport is essential to the development of logistic centres. A good description of combined transport is the Declaration on Combined Transport adopted by the European Conference of Ministers of Transport in 1996 [Document CEMT/CM (96)16]. “[C]ombined transport has to be understood as an individual mode of transport which makes maximum use of the advantages of the numerous modes of land transport and short sea shipping, choosing those modes most suitable. Combined transport thus implies the organisation of inter-modal door-to-door transport by transferring goods from one mode of transport to another without changing the loading unit” [ECMT, 1998, 7]. Based on Kearney and Kearney [2000]. Integrated logistic centres have, among other things, the following functions [Abt, 2001, 109]: organise flows of goods according to the needs of clients; association of hauliers that are most suitable for a given haulage/transport; supplement transport-warehousing activities with logistic services; facilitate co-operation between forwarding companies and logistic companies; use of common logistic infrastructure appliances/equipment; common management, administration, organisation and acquisition of logistic processes; development of integrated logistic systems; co-ordination of co-operating logistic companies; use and perfection of compatible coding systems; diffusion of Electronic Data Interchange (EDI). An Integrated logistic centre may offer the following services: re-loading, re-packaging, storing; forwarding services; customs services; technical services for means of transport; broadly understood distribution; banking and administrative services; informational services; postal and telecommunication services; gastronomic and hotel services [WZCL, 1999, 20]. 7 8

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The share of combined transport in total transport in Poland is very small. However, the gains can be substantial. For instance, it is possible to transport 5 wagonloads by train, which normally would be transported by 5 trucks over a long distance. The advantages are that labour costs are lower (although this is not good for employment in Poland), less fuel is used, greater safety can be achieved, maximum speed can be higher, less noise is created and less exhaust fumes are emitted [Grajnert and Krettek, 2001, 71]. The underdeveloped roads could be relieved from congestion, and less transit transport would go through cities, which is currently important, due to the lack of ring-roads. Although the share of combined transport in total transport in Europe is expected to increase [Tylutki and Wronka, 1996], large investments are needed because of the lack of proper equipment and experience, the need for terminals and adapting the means of transport to such cargoes, as well as the need for maintenance and repair. Special terminals for switching loads, which can be provided by an integrated logistic centre, are essential for combined transport. A problem in Poland is the lack of combined transport terminals, and the lack of investment in rolling stock and equipment for combined transport. When investment takes place, the equipment and information systems of road hauliers should be compatible with the equipment the railroad operator uses. In the case of a lack of co-operation and lack of exchange of information it is likely that problems arise. The size and weight of loads to be transported depends on the infrastructure and local regulations. As Polish infrastructure is rather under-invested and low quality (e.g. roads), it is important to make the most of the existing infrastructure. As mentioned earlier, investment in infrastructure is indispensable, but is time and capital consuming. Thus, initially it may be better to adapt the mode of transport (e.g. smaller vehicles) and optimise logistic systems (e.g. information, just-in-time and, when possible, collecting smaller, less urgent parties until a large load is collected), not only to reduce costs but also to reduce pressure on the existing infrastructure. It has been estimated that 300 km is the shortest distance for combined transport to pay off [ECMT, 1998, 13]. For this reason, combined transport facilities should be located in an internationally oriented logistic centre. Transaction costs of re-loading increase in the case of combined transport, as in this process there exists the danger of theft, delay, damage and mistakes. Investment in monitoring equipment and the costs of re-loading should be compensated by lower transport cost due to economies of scale obtained by transporting large and concentrated loads. Tracing and tracking equipment, status reporting and monitoring equipment can lower the transaction costs [ECTM, 1998, 23]. An integrated logistic centre can lower transport costs too, e.g. because the road haulier terminal and the rail terminal are very close to each other. In the Polish case combined transport will become more attractive when truck drivers are bounded by EU law, assuming that this law will be enforced. When transporting by road over a distance of more than 600 km, which in Western Europe takes about 8 hours, but under Polish circumstances would take longer, the driver has to be changed or take a break of at least 8 hours [ECTM, 1998, 23]. Thus, in this case the costs of employment would increase. In the Eastern European case, combined transport has the advantage of spending a shorter time at the border than in the case of road vehicles. While road vehicles sometimes even face waiting times of 24 hours, combined transport trains cross the border almost without


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delay [ECTM, 1998, 23]. This lowers the transaction costs in the form of time, costs of frozen capital and labour costs. However, there are many practical problems hampering the development of combined transport between economies in transition, like Poland and Russia, and the EU [ECTM, 1998, 27]. Many Polish trucks do not fulfil EU standards concerning road safety and pollution standards. When trucks are not checked at the border, but rather at a combined transport terminal in an EU country, many Polish hauliers are unlikely to enter the combined transport business. Furthermore, high transaction costs connected with health standards exist (e.g. veterinary and plant controls). This might increase the costs of standing at the border. These transaction costs can be lowered by control at a loading or unloading unit, but then the opportunities for smuggling or changing the load on the road increase. However, rail has a lot of spare capacity, which creates opportunities for combined transport. On the other hand, many managerial problems exist in Polish National Railways (PKP), a monopolist in transport by rail. Another problem is that many transport companies are very small (less than 5 trucks) and dispersed, and due to their size are not able to develop with respect to combined transport [Külper, 2001, 190]. There are many potential advantages from integrated logistic centres. First of all, their activities may help to alleviate the transport problems in cities [WZCL, 1999, 41]. A first reason is that the development of combined transport reduces transit traffic. Secondly, as a result of a lack of ring-roads, many firms are located in the city centre. An integrated logistic centre may attract such firms (e.g. transport, wholesale, production and services) and rationalise transport of supplies to the city centre. However, the building of a ring-road around an agglomeration, in order to reduce transit transport in the centre, is of essential importance. Without this the logistic centre could negatively influence traffic, because it could attract new transport streams, if it attracts investments and leads to a reviving of the economy in the surrounding area. There are also positive effects at the level of producer and consumer from the use of logistic solutions in an integrated logistic centre. Korzeƒ [2001, 33] mentions the following: lower transaction costs due to the possibility of lowering stocks; improvement of quality and time of delivery and lowering costs of physical material flows; improvement in the level of consumer service; scale effects, causing a more beneficial operational cost structure (labour, rent, insurance, etc.); the possibility of fast introduction of innovations and business corrections under conditions of market disturbances; offering complementary, integrated organised logistic outsourcing services (for transport, forwarding and information services). The development of integrated logistic centres is an example of how Poland can be stimulated to enter the post-transformation phase of institutional change. There are still formal and informal institutions to be transformed, while currently the governance structures of a moloch such as Polish National Railways is not fit to enter the “age of advanced logistics”. Also the question remains as to whether the various participants (e.g. firms, banks and government) are “ready” to co-operate. However, small and medium-sized enterprises could play an important role in offering logistics services [OECD, 1996, 16]. This is important for the Polish transport sector, where many small companies face tough competition from each other. Many companies are not aware of the need to adapt to the new technological possibilities, and governments can try to stimulate awareness by educational programs.

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Furthermore, when looking at logistic development, Poland is still in transformation. Many infrastructure problems remain to be solved and investment in logistics equipment, methods, information technology and logistics education to be made. Advanced integrated logistics and integrated logistic centres are means to lower transaction costs and extend markets by integrating with the European logistic system, which can be a stimulus in the transformation process. Such a venture is an excellent opportunity to construct social capital by showing that co-operation with different domestic (e.g. firms, banks and local government) and foreign subjects is possible.

7.5. Concluding remarks A problem with developing a market economy, besides institutions and governance, is the state of infrastructure. Better infrastructure extends markets and stimulates competition. However, as investment in infrastructure is expensive and time consuming, in the short-run more efficient use of current infrastructure by way of improvements at the level of institutions and governance is advisable. To put it simply, if we cannot make the most of our current resources, will we be able to use new resources most efficiently? Thus, when introducing logistic systems and solutions in order to lower transaction costs, the infrastructure constraints and need for institutional improvement have to be taken into consideration. When looking at logistic development, Poland seems to be 10 to 30 years behind the development of a developed market economy. This implies that there are still many opportunities for introducing logistic solutions lowering transaction cost. Although in some parts of the economy Poland is catching up very quickly, Polish transport companies need to start to co-operate and introduce logistic services, in order to face the competition that can be expected. For this the creation of human capital, as well as an adequate government policy, is required (at local, as well as at central level). Otherwise many transport companies are not likely to survive competition from large Western firms when Poland joins the EU. The process of creating ventures such as integrated logistic centres may stimulate Poland to enter the stage of “post-transformation”, extend markets by integrating into European logistic systems and help to build social capital. However, a danger of building process-based trust in such a network is the exclusion of potentially efficient partners. For this reason, such logistic networks should be as transparent as possible. Co-operation within networks is becoming more important for obtaining a competitive advantage. As is shown in Appendix 5, social capital, important for stimulating the creation of more open networks and adaptive efficiency, is missing, and has to be constructed. It is especially important to increase extended trust and trust in institutions and the government, e.g. by way of more efficient “institutional governance” and the government stimulating the creation of networks by providing information, chambers of commerce and organising training and trade fairs.9 The creation of such trust not only stimulates adaptive efficiency, but also brings the economic system closer to an institutional equilibrium. However, the creation of trust is very time-consuming and difficult.

9

See Humphrey and Schmitz [1996].

SUMMARY AND CONCLUSIONS

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Chapter 8 Summary and Conclusions

This final chapter gives an overview of the main conclusions and policy implications of this study on institutional change and Poland’s economic performance since the 1970s, and an attempt is made to answer the main question of this thesis: To what extent have incentives and transaction costs changed in the Polish economy and influenced economic performance in the period 1970–2000 and how can these changes be explained with the help of New Institutional Economics? Two periods were taken into consideration. The socialist system, which existed until 1989, and the period of market construction since 1990. The main question was divided into sub-questions. Concerning the socialist system, to what extent can transaction costs and incentives explain its demise, and how did they create the conditions for institutional change towards a market economy? How did the situation at the end of the socialist system influence economic performance at the beginning of the 1990s, and how did institutional change proceed and transaction costs and incentives develop during the 1990s? Tools of New Institutional Economics (NIE) have been applied in order to try to find an answer to the research question and analyse the process of institutional change. NIE analyses economic problems from a multidimensional point of view. A focal point was how the “legacy of the past” can be taken into account when explaining the decline of the socialist system in Poland and analysing the process of institutional change in the 1990s.

8.1. Summary of main findings and conclusions Formal and informal institutions (rules of the game) provide incentives for economic activity. Thus, when institutions change, incentives for economic activity also change. Transaction costs influence the payoffs of undertaking economic activity, and determine which type of governance structure is the most efficient. The level of transaction costs is influenced not only by institutions influencing the value in the public domain, but also by “hardware” like physical infrastructure and by enforcement of the rules of the game by “institutional governance”. Institutions should be stable and reduce uncertainty, in order to stimulate economic activity. However, inefficient institutions may survive, as people get used to them (mental models), not all mistakes are uncovered, and strong interest groups may defend a status quo.

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In general, high transaction costs negatively influence economic activity, while the same counts for weak incentives. But when transaction costs are high and incentives strong, the influence on economic activity depends on which factor has the strongest influence. Generally speaking, a planned economy can function appropriately at early stages of economic development or when market institutions are not developed or fail. Thus, just after World War II the model of central planning could provide satisfactory economic performance, especially in the period of post-war reconstruction. However, when the number of transactions increase, the planned economy is expected to face increasing (marginal) transaction costs, as there are diseconomies of scale to planning. Then a more decentralised economic system, like a market economy, is needed to lower transaction costs. When transaction costs increase, there is larger value in the public domain, negatively influencing incentives for productive activity, as more opportunities for rent-seeking appear. This is a theoretical explanation for the economic stagnation in Soviet-Type Economies (STEs) that appeared in the 1970s and 1980s. The socialist system was inefficient compared to developed market economies. A question is why inefficient institutions in socialist countries could survive for such a long time. Until the 1960s economic performance in STEs was at an acceptable level. When economic problems appeared, people had already got used to the system. Furthermore, the Communist Party in fact monopolised information, and had a strong ideological commitment to the socialist system. The influence of the Soviet Union limited the room for change in Poland to a large extent. Due to control of media, many mistakes remained uncovered. When the power monopoly of the Communist Party was broken, market institutions that would increase efficiency could be introduced. However, there is a free-rider problem with introducing them, as market institutions have features of a public good. This is because they are accessible for free without reducing the opportunities for use by others. Self-interest and distrust make the problem bigger, while trust and process-regarding preferences (e.g. ideology) can overcome the free rider problem. However, even when the free-rider problem is overcome, there remains uncertainty about the outcome of institutional change. No-one is able to completely grasp the complex nature of institutional change or foresee which institutions are most efficient, because of many unknowns, while much can go wrong in the process of creation and implementation. It is expected that transaction costs increase when the introduction of market institutions is speeded up. When there is high uncertainty about institutional change, people fall back on mental models developed under the old system, leading to adverse reactions to the incentives given by developing market institutions. This creates an institutional disequilibrium. As many people had “system-specific” skills and contacts, they had an interest in protecting old (inefficient) institutions, which slowed down institutional change. Thus, for a certain period old “degenerating” institutions were likely to co-exist with new developing institutions. This was accompanied by lack of certain institutions (institutional vacuum). Furthermore, value in the public domain is expected to increase. During the privatisation process the opportunities for rent-seeking increased, and there were problems with the enforcement of market rules of the game as “institutional governance” was weak. The increasing transaction costs and adverse incentives may have contributed to the fall in output

Summary and Conclusions

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at the beginning of the 1990s, while incentives for economic activity due to more economic freedom counteracted this tendency. Generally speaking, transaction costs increased and incentives weakened through time in the socialist system. This was a consequence of the system weakening from classical socialism, via reform socialism to “decaying” socialism. Increasing transaction costs and weakening incentives contributed to deteriorating economic performance, and, together with other factors like the large foreign debt and the extensive growth path, resulted in economic stagnation. In the period of classical socialism, which lasted more or less until the end of the 1960s, transaction costs were relatively low and incentives relatively strong, as the Central Committee had an encompassing interest in good economic performance and public property and planning were “strong”. In the period of reform socialism, which in Poland started in the 1970s, transaction costs increased and incentives weakened. This is connected with the weakening of the planned economy, making the solving of the allocation problem more difficult. Reforms and decentralisation de facto led to a dispersion of the characteristics of property rights. In other words, lower levels in the hierarchy obtained part of usus (the right to use) and usus fructus (the right to pick the fruits). As a consequence, in accordance with what Olson argues, there was a change from encompassing interest to narrow interest. The Central Committee had an interest to look at total economic performance, while individuals were interested rather in maximising their own welfare, eventually at the cost of overall economic performance. Furthermore, the dispersion of property rights made it more unclear who was in control over property rights, while the principal-agent problem increased in a situation where it became more unclear who is the principal. Thus, it can be argued that value in the public domain increased, leading to increased rent-seeking, higher transaction costs and weaker incentives for productive economic activity. The socialist system was adaptively inefficient. The institution of public property provided weak incentives for innovation, since benefits became public property and costs and risk were born by the innovator. Another reason for adaptive inefficiency was the impossibility of experimenting with different forms of property rights, as state ownership was sacrosanct. Communist ideology had never been very strong in Poland, and the Gierek administration tried to motivate people with economic incentives. This supported a development towards narrow interest. Furthermore, support was “bought” by promising higher standards of living and a social contract of solving political conflicts non-violently. Investment and consumption was financed by foreign loans. However, the strategy of building up industry for exports failed due to various reasons. This may not have been so much the result of the waste of investment due to weak incentives, as the oil crises and strong internal demand negatively influenced opportunities for exports. The oil crises of 1973 and 1979 caused Western economies to enter a recession, lowering the demand for Polish export products. On the other hand, the increased expectations of society had to be fulfilled. Because of this many products were not exported, as they were consumed on the domestic market. This created a problem with repaying the foreign debts. Belief in the system started to weaken as economic problems continued, especially towards the end of the 1970s. During this period the labour movement in the form of Solidarity gained much influence, weakening the power of the Communist Party.

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The 1980s were a period of “decaying” socialism, where the economic policy seemed to be “keep the boat from sinking”. Transaction costs increased more and more, and incentives weakened. By way of Martial Law, which went into force on 13th December 1981, an attempt was made to break the power of the, by that time, legal labour union Solidarity. It is difficult to find out whether it was the Soviet Union that inspired this or not, but as a consequence the Communist Party itself weakened very much. Many members had been active in Solidarity, and in 1982 many people left the Party. After a while labour again gained more power, and in the process of reform attempts in 1982 and after, labour and management of state-owned enterprises (SOEs) obtained more influence. In other words, they had more control over the characteristics of state property. As a result, property rights were more vaguely defined, leading to more value in the public domain. From 1982 an attempt was made to introduce more market into the economy, and the system of directive planning was abolished. Plan bargaining was replaced by regulation bargaining, which was accompanied by higher transaction costs. Shortages increased, which led to higher transaction costs from the sides of both producers and consumers. Theoretically, in a planned economy there are no transaction costs involved in activities such as stock procurement and selling the product. However, due to shortages it was never clear how much of the needed input could be obtained at what moment. This led to hoarding and the development of an informal market between firms, accompanied by high transaction costs. Also many other transaction costs increased. For consumers the consequence of shortages was that more and more often queuing and informal markets became the distribution mechanism. It was quite common that people had to queue 2–3 hours per day for the necessities of life. Such a situation was frustrating, and contributed to general dissatisfaction. Belief in the socialist system weakened, also among members of the Communist Party. In other words, the institutional disequilibrium became larger. The weakening of the socialist system by way of de facto dispersion of property rights, weakening of the Communist Party, the abolition of central planning and the disappearance of the belief in the system were factors that created a situation of “decaying” socialism in the 1980s. Transaction costs increased, incentives weakened, and economic stagnation seemed to be a permanent feature. This created fertile ground for the creation of a market economy in the 1990s. Economic factors alone cannot explain the direction of change. The development of an economic interest among the ruling elites in a more market-oriented system was important. This, and the strong labour movement, lowered the political transaction costs of change significantly. However, the non-interference of the Soviet Union in Polish internal affairs also lowered these political transaction costs. The situation at the end of the 1980s was one of neither plan nor market. With the peaceful power transfer to the Solidarity movement in 1989, when a coalition with the Communists was formed, the task of the Solidarity led government was to develop a program to improve economic performance. As transaction costs increased and incentives weakened under socialism, an implicit aim of transformation was to lower transaction costs and strengthen incentives. Although theoretically there may have been other options, it can be argued that the construction of a market was chosen as there were no other feasible alternatives. Reforming socialism was not a real alternative, as there was no-one to do this job.


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The reformers were quite optimistic about the expected results of the Balcerowicz plan under which a market economy would be introduced in a short period. With the advantage of hindsight, the tools of NIE can be used to explain why the fall in output was larger than expected at the beginning of the 1990s, and why Poland’s economy started to grow again after a short recession in comparison to other transforming former STEs. As informal institutions change more slowly than formal institutions, mental models developed under the old system play an important role in the development of the new system (path-dependency). This means that fast institutional change is difficult. Theoretically, formal rules can be changed at once, but implementation takes time because economic subjects have to learn, interpret and apply the new rules and to change their behaviour. Institution building and the creation of “institutional governance” is very costly (high fixed transaction costs of institutional change), which implies that these sources cannot be used for other purposes, negatively influencing economic activity. Although the Polish transformation was called “shock-therapy” as opposed to gradualism, these labels are not proper. Some institutions changed quickly, while others changed slowly. Thus, the label “shock” or “gradual” depends on which institutions we are talking about. The development path towards a relatively strong market economy was not obvious, as examples of former Soviet republics show. An important factor strengthening the economic system immediately was the macroeconomic stabilisation policy in the form of price and trade liberalisation. Although this caused a deepening of the recession in 1990–1991 on the one hand, it reduced the opportunities for rent-seeking activities created by price regulations and reduced the remaining shortages immediately. Price liberalisation means the privatisation of property rights (characteristics of property) that the government possessed with respect to price regulation, stimulating the development of a market economy. Trade liberalisation provided strong incentives for small business to develop, while they faced low transaction costs, as little regulation existed. As a result, a private sector was firmly established. When opportunities for rent-seeking are reduced (lower value in the public domain), wealth maximising individuals use their efforts for productive rather than redistributive activities. Uncertainty about future institutional change was very high at the beginning of the 1990s, while the economic system faced an institutional vacuum and an institutional disequilibrium. A mix of socialist and market institutions existed and many market institutions existed in an “embryonic” form or did not exist at all. When there is uncertainty, economic actors fall back on their mental models, which in this case took shape under socialism. Such a situation created many adverse incentives for economic behaviour and led to high transaction costs in economic exchange in the process of institutional change (e.g. privatisation) and restructuring of SOEs. As a consequence, output declined. This effect was strengthened by factors such as a lack of social capital and a lack of skills needed for a market economy. However, due to the immediate system strengthening, the fall in output was not as deep as it could have been. Transition has come to its end when a “normal” economic system exists where transaction costs are low and incentives are strong, while informal institutions support formal institutions. Although many steps in this direction have been made, transition still proceeds in many fields.

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An example is logistic development, where Poland lags 10 to 30 years behind developed market economies. However, the development of logistics creates opportunities for finding transaction cost lowering solutions and provides incentives for step-by-step institutional improvement. It is suggested that small firms should start to co-operate with each other, in order to survive increasing competition from larger companies offering logistic services. This seems also to be necessary, as the “institutional vacuum” is becoming smaller with the introduction and implementation of many standards (e.g. health, safety and environmental standards) in the process of EU accession, increasing the costs to smaller firms relatively faster than to larger firms. At the beginning of the 1990s transaction costs to SOEs increased, while small newly established private business faced low transaction costs and strong incentives. When property rights became more certain, the institutional vacuum became smaller and part of the (privatised) state sector adapted to the new circumstances, causing transaction costs to decline. A good example of a strengthening institution leading to lower transaction costs is the banking sector. However, as is suggested by empirical research (see the Appendix), in the second half of the 1990s some transaction costs increased, at least for small firms. It may be that the closing of the institutional vacuum, e.g. in the form of the introduction and enforcement of new taxes as well as environmental and health regulations posed problems for them. The data also suggest increasing transaction costs for firms with more than 20 employees. These transaction costs concern inefficient public administration, unclear laws, law enforcement, the process of creating legislation, corruption, theft, and increasing problems with collecting payments from trade partners. Furthermore, trust and the propensity to co-operate remain low. Trust in different levels of government among entrepreneurs is very low, posing a threat to continuing economic growth. Some trust in banks, as well as process-based (personal) trust in suppliers and clients, exists, suggesting some prospects for developing new economic ventures.

8.2. Some implications Tools of NIE have been used to analyse system change in Poland since the 1970s. It has helped to explain why the socialist system stagnated economically, and how weakening incentives and increasing transaction costs contributed to the demise of the system, being an explanatory variable in addition to political factors. Furthermore, it explains why the transformation strategy was accompanied by a decline in output, and why the economy entered a path of economic growth rather quickly. It also helps to indicate which challenges have come up that may hamper future economic growth. A question is how future institutional change will proceed. A market has been introduced, generally speaking lowering transaction costs and strengthening incentives compared to the socialist system when the economic system strengthened in the 1990s. However, although uncertainty about the direction of institutional change has been reduced significantly, there is still a long way to go as only thirteen years have passed since the introduction of the Balcerowicz plan. As much change still has to take place, uncertainty remains.


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Among others, weak “institutional governance”, interest groups and a lack of transparency hamper the introduction of more efficient institutions. Poland’s efforts for EU accession create incentives for the development of strong institutions and good governance practices. At the moment (the year 2003) Poland is in the process of preparing accession to the European Union. In fact, this is also a process of institutional change accompanied by many uncertainties. There seems to be less uncertainty in this process than at the beginning of the 1990s, because there are established EU institutions to refer to and adaptation to EU institutions has been proceeding for many years. However, the existing mental models, which still find their roots in the socialist system, as well as the inefficient formal institutions and “institutional governance” still existing, create the danger that an “inefficient copy” of EU institutions will be introduced. This is not an unrealistic scenario, as in the last few years many laws have been passed and negotiations with the EU have finished, of which hardly anyone can predict what will be the effect, simply due to the huge amount of changes, not mentioning other factors. “Inefficient copies” of EU institutions are more likely, if these institutions are introduced without taking Polish reality into consideration. Furthermore, EU institutions also have to be changed in the process of its enlargement, creating much uncertainty. For this reason experience from the transformation to a market economy gained up till now may be invaluable in facing the challenges created by the aspirations of joining the EU. As EU accession implies a new kind of transformation, lessons from the process of institutional change can be drawn, in order to prevent the type of problems that came up at the beginning of the 1990s. Although many firms are prepared for changes, due to the proceeding transformation, many are likely to have to restructure and to invest in new trade relations when Poland joins the common market. In the short-run there may be negative economic effects, while positive economic effects will be felt only in the medium-term as a result of evolutionary institutional change, under the condition that Poland is able to use the opportunities created by EU membership.

APPENDIX A SURVEY AMONG FIRMS – EMPIRICAL INDICATORS OF THE DEVELOPMENT OF TRANSACTION COSTS DURING THE 1990S

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APPENDIX A survey among firms – empirical indicators of the development of transaction costs during the 1990s

A1. Introduction In this Appendix the development of transaction costs in the 1990s and the state of social capital in the form of trust is analysed by way of a survey I carried out among 1,116, mainly small, companies. The data of this survey suggest that many transaction costs have increased, except for transaction costs related to banking and infrastructure. The level of trust seems to be low, in particular trust in government institutions. Low trust hampers the development of new types of governance structures, making the economy less adaptively efficient. However, the data also suggest that some process-based trust exists, creating opportunities for development by way of co-operative solutions.

A2. Description of the research Between January and July 2001, a survey was carried out among 3,725 Polish companies. Firms from different areas were approached, and 1,116 of them filled out the questionnaire. These firms were located in Wroc∏aw (408 questionnaires), the capital of Lower Silesia with about 650,00 inhabitants; Opole (289 questionnaires), the capital of the Opole region with about 140,000 inhabitants; Wieluƒ (216 questionnaires), a provincial town with around 30,000 inhabitants; Upper Silesia (86 questionnaires); a rural region in Great Poland (101 questionnaires); and in other regions (16 questionnaires). The questionnaire contained two central questions, while in most questionnaires there is one central question accompanied by questions on background variables [Allers, 1994, 111]. This made the likeliness of non-response higher. A postal survey among 5,393 firms carried out by Allers in the Netherlands on compliance costs had a non-response rate of about 80%, which can be considered to be normal [Allers, 1994, 119]. A postal survey carried out in Poland by

166

Appendix

a company, which wanted to estimate the demand connected with a planned investment among about 250 companies, also showed a non-response rate of almost 80%. In this case the survey was carried out among companies doing business with this firm. For this reason, and reported examples of non-response rates of over 95%, it was expected that in the case of a postal survey the non-response rate would be greater, also due to the low level of trust expected (researched in the survey). In order to prevent this problem, students were trained to go to firms in their home town. It was emphasised in the questionnaire that data would be confidential, and that the questionnaire could be filled out anonymously. For this reason the pollsters had an addressed envelope with a stamp. The non-response rate using this method was about 70%. The emphasis was on small firms, for they were the motor of economic activity counteracting the fall in output at the beginning of the 1990s, facing low transaction costs compared to (privatised) state-owned enterprises (SOEs) and being an expression of Polish entrepreneurial spirit. The main aim of the survey was to find out how different types of transaction costs developed during the first 10 years after the “shock therapy” and what is the state of social capital in Poland with respect to trust and co-operation. In Chapter 5 it was argued that in conjunction with system strengthening, transaction costs tend to decline. However, a question remains as to whether institutions and “institutional governance” could keep up with the increasing amount of transactions due to economic growth. If not, transaction costs are likely to have increased. Thus, some transaction costs may have increased, while others have declined. Overall, it can be expected that transaction costs for small companies connected with tax law and regulations have increased, as the institutional vacuum that existed at the beginning of the 1990s closed. As was discussed in Chapter 3, trust is important in lowering transaction costs, stimulating adaptive efficiency and the creation of new governance structures. Furthermore, co-operation and the development of new forms of governance are important for introducing logistic solutions. It can be expected that trust and propensity to co-operate are low, as much social capital was destroyed under socialism and construction of social capital is a time consuming process. With respect to institutions and transaction costs, one set of questions concerned the development of the speed of banking transactions, the problem of late payment, speed of customs clearance, and speed of legal procedures in cases of late payment in the period 1996–2001. Another set of questions concerned the development in professionalism of tax officers, clearness of tax law, settlement of damages by insurance companies, theft, corruption, and transport infrastructure since 1989. Three periods were taken into consideration: 1989–1993, 1993–1997 and 1997–2000. Finally, it was asked how the problems of late payment evolved during these three periods, and what methods firms used to solve this problem. With respect to social capital, answers to the questions on who is trusted (a firm’s own employees, suppliers, customers, local government, central government, competitors and banks), how co-operative other parties are (tax office, competitors, local government, central government and banks), and whether and for what reason the company is actively looking for partners are presented. The questionnaires were filled out by owners (75.5%), managers (15.4%) and others (6.4%). About 2.7% of the respondents did not report their status in the company. Some

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167

results are also analysed according to subgroups: location and main activity – transport (56 questionnaires), industrial production (65), retail trade (726) and gastronomy (75). From the 1,116 firms in the sample, the large majority are private (1,008), 26 SOEs, 9 partly privatised SOEs, 35 privatised SOEs, 9 co-operatives while 29 did not report their status. Of these companies, 93 are limited liability companies (spó∏ka z o.o.), 31 joint stock companies (spó∏ka akcyjna), 209 civil partnerships (spó∏ka cywilna), 70 commercial partnerships (spó∏ka handlowa), 623 one-man companies (przedsi´biorstwo jednoosobowe), 9 co-operatives, 6 with a different legal status, while 72 did not report their status. A small number of companies (55 – 4.9%) are owned by another company, while 48 companies (4.3%) of all companies are partly or completely foreign owned. The majority of the sample consists of companies employing between 0 and 5 employees (746 – 66.8%). A total of 153 firms (13.7%) employed in 2001 between 6 and 10 employees, 84 (7.5%) between 11 and 20 employees, 36 (3.2%) between 21 and 50 employees, 26 (2.3%) between 51 and 100 employees, 21 (1.9%) between 101 and 200 employees, 9 (0.8%) between 201 and 500 employees, 4 (0.4%) between 501 and 1000 employees, and 10 (0.9%) more than 1000 employees. This question was left unanswered by 27 firms (2.4%). Transport companies and companies engaged in industrial production tend to be bigger (e.g. respectively 32.1% and 15.4% employed between 0 and 5 employees) than gastronomic firms (45.3% between 0 and 5 employees) and firms operating in retail trade (75.9% between 0 and 5 employees). The firms in Wroc∏aw and Great Poland are the smallest, respectively 73.0% and 72.3% of them employed between 0 and 5 employees. For Opole this percentage is 67.1%, for Upper Silesia 61.6% and for Wieluƒ 53.7%. A possible explanation is the fact that more than 74% of the firms in Wroc∏aw reported to be involved in retail trade, while the percentage for Opole, Wieluƒ and Great Poland is slightly above 60%, and for Upper Silesia 50%.

A3. Business start-ups, development of employment and financial results The average company in the survey was established in the second half of 1990. For retail trade the average year of establishment is the end of 1991. This is a result that might have been expected, because most of the firms in the sample are involved in retail trade, a sector monopolised by the state under socialism. In this sector many new firms were established with the break-up of SOEs that had already started towards the end of the 1980s, while the liberalisation policy that came into force on 1 January 1990 gave strong incentives for new start-ups. Figure A1 presents the number of firms established annually in the period 1981–2000. Figure A2 presents the number of firms established over a period of five years. As is shown in Figure A1, 1990 is the year in which most companies were established (115, of which 85 in retail trade). This is likely to have been the result of incentives for business start-ups given by economic liberalisation. During the 1990s much more firms were established than during the 1980s, confirming this incentive-effect. However, during the second half of the 1980s an increase in business start-ups can be observed, especially in 1989, probably as a result of the reforms of 1987–8.

168

Appendix

The dynamics of business start-ups become clearer when looking at a five year period (Figure A2). While 49 companies were established between 1980 and 1984, this number increased to 117 for the period 1985–1989. Between 1990 and 1994 a total of 429 firms were established. This number declined to 346 for the period 1995–1999.

Figure A1. Number of firms established yearly, 1981–2000.

Figure A2. Number of firms established per 5 years, 1945–1999.

Interestingly, between 1990 and 1994 more firms were set up than between 1995 and 1999. Many firms from the first period probably do not exist anymore. Consequently, the real difference is likely to be even bigger. Thus, there is a “survivors’ bias” in the sample, a problem that is faced when researching existing companies. On average, the firms have already been in the market for a long period, which may suggest that governance structures in Poland do not change so quickly. Another explanation is the fact that Polish retail trade is characterised by many small (family) firms, and that big supermarkets, pushing small retailers out of the market, are only a recent phenomenon.


169

However, at the beginning of the 1990s there was a strong development of small private business due to the absorptive market, “small privatisation” (see Section 5.5.5.), the euphoria of the starters in the new situation and the partial disappearance of social security. Some years later there were few possibilities for “small privatisation” left. Tax law had started to become an obstacle, holes were closed, and new types of taxes (e.g. VAT in July 1993) and more and more regulations were introduced. Furthermore, as was argued in Chapter 5, many privatised SOEs had recovered from “disorganisation” and had modernised, and created stronger competition for small companies. Many standards that apply in developed market economies, such as health and safety standards or environmental standards are not in force yet or weakly enforced. When implementing EU directives in the accession process, difficulties for small enterprises are to be expected. On the question of whether in the period 1996–2001 the number of employees had increased, decreased or stayed the same 18.8% of the firms reported an increase, 26.6% a decrease, while 53.8% reported that the situation had stayed the same. At a 1% level of significance, using the normal approximation for large samples, the hypothesis that on average the level of employment stayed the same has to be rejected. When analysing the different sectors, this result is also obtained for retail trade. Although in transport and industrial production more firms reported a decline that an increase, this result is not significant. More firms in gastronomy reported an increase than a decrease, but this result is not significant either. When looking at the regional differences, for Wroc∏aw it can be concluded that at a 1% level of significance firms decreased employment, while, although there is a similar tendency, in Wieluƒ, Great Poland, Opole and Upper Silesia this conclusion cannot be drawn. Thus, the data suggest that especially firms in Wroc∏aw engaged in retail trade saw a reduction in employment, which may be the result of the rapid growth of shopping centres and hyper-markets during the last few years, but also due to the decline in economic growth and increasing unemployment. Many more firms reported a deterioration in their financial situation than a reduction in employment during the period researched. About 20.2% of all firms reported that their financial situation had improved, 48.4% reported that their financial situation had deteriorated, while for 30.4% the situation stayed the same. The hypothesis that on average the financial situation had stayed the same has to be rejected at a 1% level of significance. When looking at the different branches, this effect is also observed for retail trade, while for the other branches no significant effect is observed. Analysing the situation in the different regions/towns, the situation had changed for the worse in all of them, except for Upper Silesia. Explanations for the fact that more firms reported a deterioration of the financial situation than a decline in employment might be as follows: it was not asked whether firms made a profit or a loss, most of the firms were very small family-owned or one-man companies (623) and firms wait before laying off employees because of the costs connected with hiring and firing and the possession of (transaction specific) human capital. Using the chi-square goodness-of-fit test at a 5% significance level, a dependency has been found between the development of the financial situation, the development of employment and the size of the company in the period 1996–2001. Firms that reported a better financial situation, also tended to employ more people, and the other way round. More firms with 6 or more employees reported improvement of the financial situation and an increase in the

170

Appendix

number of employees, while very small firms with 0–5 employees rather reported financial deterioration and a reduction in employment. One possible reason is that small firms face smaller economies of scale. Another explanation is that the firms who employed a small number of people a few years earlier and had been successful probably employed more people and vice versa. Along with the previously mentioned expected introduction of EU standards, many small firms can be expected to have difficulties with surviving in the market, as was discussed in Chapter 7 for the transport sector in the light of increasing competition from large forwarders from the EU, offering logistic services.

A4. Transaction costs The aim of the question about international banking transactions and banking transactions in Poland was to figure out whether the transaction costs of financial transactions had increased or decreased during the period 1996–2001. Table A1 presents the answers to the question about the change in the speed of banking transactions within Poland. The answers to the question about the speed of international banking transactions are summarised in Table A2. Firms could answer “faster”, “slower”, “same” or “don’t know”. The answers “don’t know” and firms giving no answer have been grouped together. Table A1. Speed of banking transactions within Poland.

Speed

Faster

Same

Slower

Don’t know/no answer

Total

All together

483 (43.3%)

302 (27.1%)

89 (8.0%)

242 (21.7%)

1,116 (100%)

Transport

24 (42.9%)

22 (39.3%)

4 (7.1%)

6 (10.7%)

56 (100%)

Industrial production

36 (55.4%)

18 (27.7%)

7 (10.8%)

4 (6.2%)

65 (100%)

Retail trade

293 (40.3%)

193 (26.6%)

62 (8.5%)

178 (24.5%)

726 (100%)

Gastronomy

27 (36.0%)

27 (26.0%)

5 (6.7%)

16 (21.3%)

75 (100%)

Wroc∏aw

143 (35.0%)

125 (30.6%)

39 (9.6%)

101 (24.7%)

408 (100%)

Opole

157 (54.3%)

59 (20.4%)

11 (3.8%)

62 (21.4%)

289 (100%)

Wieluƒ

79 (36.6%)

81 (37.5%)

26 (12.0%)

30 (13.9%)

216 (100%)

Upper Silesia

56 (65.1%)

15 (17.4%)

4 (4.6%)

11 (12.8%)

86 (100%)

Great Poland

36 (35.6%)

20 (19.8%)

8 (7.9%)

37 (36.6%)

101 (100%)

Region/Branch

171


There had been a large amount of foreign direct investment in the banking sector, which had been accompanied by transfer of technology and know-how. Furthermore, investment had taken place in information technology and cash dispensers. This should have led to faster banking transactions. The results of the survey confirm this expectation. With respect to the quickness of banking transactions in Poland, 21.7% of the firms answered “don’t know” or did not answer the question. At a 1% level of significance, firms reported that the speed of banking transactions in Poland had increased. A total of 483 firms answered “faster” (43.3%), 89 “slower” (8.0%), and 301 “the same” (27.1%). The effect is confirmed when analysing each branch and region/town separately (the sample for transport is too small for statistical testing). Table A2. Speed of international banking transactions.

Speed

Faster

Same

Slower


Total

All together

204 (18.2%)

157 (14.1%)

99 (3.5%)

716 (64.2%)

1,116 (100%)

Transport

14 (25.0%)

21 (37.5%)

4 (7.1%)

17 (30.4%)

56 (100%)


17 (26.1%)

16 (24.6%)

4 (6.1%)

28 (43.1%)

65 (100%)

Retail trade

114 (15.7%)

98 (13.5%)

22 (3.0%)

492 (67.7%)

726 (100%)

Gastronomy

15 (20.0%)

12 (16.0%)

6 (8.0%)

42 (56%)

75 (100%)

Wroc∏aw

46 (11.3%)

54 (13.2%)

5 (1.2%)

303 (74.3%)

408 (100%)

Opole

73 (25.3%)

31 (10.7%)

6 (2.1%)

179 (61.9%)

289 (100%)

Wieluƒ

42 (19.4%)

53 (24.5%)

27 (12.5%)

94 (43.5%)

216 (100%)

Upper Silesia

50 (34.9%)

7 (8.1%)

0 (0.0%)

49 (57.0%)

86 (100%)

Great Poland

10 (9.9%)

10 (9.9%)

0 (0.0%)

81 (80.2%)

101 (100%)

Region/Branch

A majority of 64.2% of the sample answered “don’t know” or did not answer the question about the speed of international banking transactions. This percentage is probably so high, because most of the firms were not involved in international trade. However, the available data suggest that also the speed of international banking transactions had increased at a 1% level of significance. A total of 204 firms answered “faster” (18.3%), 39 “slower” (3.4%), and 157 “the same” (14.1%). This effect was also observed for retail trade (the samples for transport, industrial production and gastronomy are too small for statistical testing) and different regions, except for Wieluƒ.

172

Appendix

Using the chi-square test at a 5% level of significance, it is to observe that a dependency exists between the reported increase in the amount of workers and stating an increase in the speed of banking transactions in Poland. Furthermore, a dependency has also been found between the improvement of the financial situation of firms and faster banking transactions in Poland, as well as faster international banking transactions. It is difficult to provide an unambiguous explanation for this dependency. It may be that when firms grow, they obtain better service from banks. It is also possible that faster banking transactions lead to a better financial situation due to cost saving (e.g. increased liquidity and less need for credit). The questions about the speed of payment by customers and the speed of payment of bills by the company filling out the questionnaire were aimed at analysing the development of problems and transaction costs connected with opportunistic behaviour concerning late payment. The results are presented in Tables A3 and A4. It was expected that quickness of payment had deteriorated. This expectation was based on declining economic growth, although it can be argued that the market was still expanding, which may have been accompanied by an increasing risk of opportunistic behaviour, because in such a case more exchange with unknown partners takes place. Another factor is the significant increase in the real interest rate during the period under research due to falling inflation rates and tight monetary policy, making credit more expensive and late payment more attractive. Table A3. Speed of payment by customers.

Speed

Faster

Same

Slower


Total

All together

112 (10.0%)

516 (46.2%)

341 (30.6%)

147 (13.2%)

1,116 (100%)

Transport

4 (7.1%)

19 (33.9%)

30 (53.6%)

3 (5.4%)

56 (100%)


6 (9.2%)

21 (32.3%)

33 (50.8%)

5 (7.7%)

65 (100%)

Retail trade

69 (9.5%)

357 (49.2%)

192 (26.4%)

108 (14.9%)

726 (100%)

Gastronomy

9 (12.0%)

44 (58.7%)

14 (18.7%)

8 (10.7%)

75 (100%)

Wroc∏aw

44 (10.8%)

205 (50.2%)

93 (22.8%)

66 (16.2%)

408 (100%)

Opole

22 (7.6%)

155 (53.6%)

92 (31.8%)

20 (6.9%)

289 (100%)

Wieluƒ

31 (14.3%)

85 (39.3%)

68 (31.4%)

33 (14.8%)

216 (100%)

Upper Silesia

10 (11.6%)

24 (27.9%)

37 (43.0%)

15 (17.4%)

86 (100%)

Great Poland

2 (2.0%)

44 (43.6%)

42 (41.6%)

13 (12.9%)

101 (100%)

Region/Branch

173


About 13.2% of the firms answered “don’t know” or did not give an answer to the question on quickness of payments by customers. This percentage is 11.8% for the question on quickness of payment of bills by their own companies. A total of 112 firms (10.0%) reported faster payment by customers, 341 (30.6%) slower payment, while according to 516 firms (46.2%) the situation stayed the same. It can be concluded that at a 1% level of significance customers paid their bills slower in 2001 than in 1996. The same result is obtained for each branch and region/town, implying that slower payment was a common phenomenon. The result for retail trade is interesting, because most of the transactions are paid in cash. In some cases small shops sell on credit to well-known customers in times of financial distress, and during the end of the 1990s the problem of unemployment worsened. In the case of deals between firms, slower payment may have been the result of a deteriorating financial situation (which for many firms was the case), and the previously mentioned increase in the real interest rate. Table A4. Speed of payment of bills by your own company.

Speed

Faster

Same

Slower


Total

All together

112 (10.0%)

583 (52.2%)

289 (25.9%)

132 (11.8%)

1,116 (100%)

Transport

5 (8.9%)

34 (60.7%)

13 (23.2%)

4 (7.1%)

56 (100%)


9 (13.8%)

31 (47.7%)

21 (32.3%)

4 (60.1%)

65 (100%)

Retail trade

66 (9.1%)

374 (51.5%)

199 (27.4%)

87 (12.0%)

726 (100%)

Gastronomy

1 (1.3%)

40 (53.3%)

25 (33.3%)

9 (12.0%)

75 (100%)

Wroc∏aw

50 (12.2%)

208 (51.0%)

80 (19.6%)

70 (17.2%)

408 (100%)

Opole

19 (6.6%)

151 (52.2%)

107 (37.0%)

12 (4.2%)

289 (100%)

Wieluƒ

19 (8.8%)

111 (51.4%)

60 (27.8%)

26 (12.0%)

216 (100%)

Upper Silesia

15 (17.4%)

40 (46.5%)

19 (22.1%)

12 (13.9%)

86 (100%)

Great Poland

5 (4.9%)

66 (65.3%)

20 (19.8%)

10 (9.9%)

101 (100%)

Region/Branch

The answers concerning the speed of payment by the company itself suggest a similar trend when compared to the speed of payment of bills by customers. A total of 112 companies (10.0%) reported that they paid faster, 289 slower (25.9%), and 583 (52.2%) “the same”. At a 1% level of significance, firms paid their bills later in 2001 than in 1996. This effect is also significant for retail trade, but not for industrial production (although there is a similar tendency), while the samples for transport and gastronomy are too small for statistical analysis.

174

Appendix

Using the chi-square test at a 5% level of significance, a dependency has been found between firms that reported a decrease in the amount of workers and slower payment of bills by the company itself. This is probably related to the phenomenon that when a firm has financial problems, a first reaction is to pay bills later. The number of workers is reduced later, due to the costs of hiring and firing and the hope that the situation will improve. The dependency between the financial situation and the speed of payment of bills seems to be even clearer. Firms reporting that the financial situation had improved tended to report that they also paid their bills faster. A deteriorating financial situation is related to slower payment of bills, and an unchanged financial situation is related to an unchanged speed of paying bills. Thus, when there is a downturn in the economy, deterioration of the financial situation of firms leads to an increase in payment problems, which increases transaction costs, contributing to the downturn. The speed of domestic banking transactions is also related to the speed of payment of bills. Firms reporting that banking transactions proceeded slower also tended to report slower payment of bills by customers. This effect is clearer than between faster banking transactions and faster payment by clients, probably because if banking transactions are faster or slower and each of the parties still pays at the same moment, only the firm receiving the payment observes the difference. Faster international banking transactions are related to faster payment of clients, but no dependency has been found with the payment of bills by the firm itself. In short, faster or slower banking transactions tend to decrease or increase the payment problem, and in this way contribute to decreasing or increasing transaction costs. Thus, although the transaction costs of late payment seem to have increased during the period 1996–2001, the faster banking transactions reported have reduced this effect. A dependency has been found between the speed of payment of bills by clients and by the firm itself. Faster payment by clients seems to be related to faster payment by the firm itself, slower with slower, and same speed of paying bills by clients with same speed of paying bills by the firm itself. For instance, firms pay late, because they have to wait for money from clients, and borrowing is expensive. Thus, there is a kind of “chain reaction” in late payment, increasing the problem of late payment. The speed of customs clearance is important for international trade and international division of labour. The region where the survey was conducted is the closest to Germany and the Czech Republic. Problems with customs clearance were big, but not so big as at the border with Belarus and Ukraine. However, waiting times could accumulate to over 24 hours [ECMT, 1998, 23]. Boehme et al. [1998, 119] argue that by 1997 these problems were caused mainly due to a lack of border stations and modern electronic data processing equipment in the face of increasing transport volume. Furthermore, customs officers were often insufficiently trained to deal efficiently with customs clearance and bureaucracy prevailed. Organisation could be improved, as well as information provision concerning the procedures. The authors argue that improvements at the administrative level could significantly lower transaction costs and reduce uncertainty connected with customs clearance by improving credibility and predictability. At the end of the 1990s investments were made at the Polish-German border and customs officers of both countries had started to co-operate.

175


Table A5. Speed of customs clearance.

Speed

Faster

Same

Slower


Total

All together

64 (5.7%)

146 (13.1%)

102 (9.1%)

804 (72.0%)

1,116 (100%)

Transport

6 (10.7%)

15 (26.8%)

12 (21.4%)

23 (41.1%)

56 (100%)


10 (15.4%)

11 (416.9%)

9 (13.8%)

35 (53.8%)

65 (100%)

Retail trade

38 (5.2%)

86 (11.8%)

63 (8.7%)

539 (74.2%)

726 (100%)

Gastronomy

2 (2.7%)

11 (14.7%)

9 (12.0%)

53 (70.7%)

75 (100%)

Wroc∏aw

23 (5.6%)

52 (12.7%)

18 (4.4%)

315 (77.2%)

408 (100%)

Opole

14 (4.8%)

35 (12.1%)

48 (16.6%)

192 (66.4%)

289 (100%)

Wieluƒ

15 (6.9%)

33 (15.3%)

27 (12.5%)

141 (65.3%)

216 (100%)

Upper Silesia

10 (11.6%)

15 (17.4%)

4 (4.6%)

57 (66.3%)

86 (100%)

Great Poland

1 (1.0%)

9 (8.9%)

3 (3.0%)

88 (87.1%)

101 (100%)

Region/Branch

It was expected that the speed of customs clearance had slowed down during the period 1996–2001, due to expanding trade. However, this effect was counteracted by infrastructure investments that had been made in border crossings. As trade and traffic seemed to increase faster than infrastructure investments, the hypothesis was that in 2001 customs clearance proceeded slower than five years earlier. As is shown in Table A5, a large proportion of the firms answered “don’t know” or did not give an answer (in total 72.0%), probably because most firms were not engaged in international trade. A minority of 64 firms (5.7%) reported that customs clearance in 2001 proceeded faster than five years earlier, 102 (9.1%) slower, and 146 (13.1%) at the same speed. The hypothesis that customs clearance took more time is confirmed at a 1% level of significance. The hypothesis is also confirmed for retail trade, while the samples of the other branches are too small for statistical analysis. The situation looks different when analysing different regions/towns. Using the chi-square test at a 5% level of significance, the hypothesis is confirmed for Opole, but not for Wieluƒ. For Wroc∏aw the data suggest that for firms in this city the situation had stayed the same. The sample from Upper Silesia is too small for statistical analysis, but more firms reported an improvement in the situation than firms reporting a deterioration. An possible explanation is that there are firms in the more industrialised Wroc∏aw and Upper-Silesia region offering logistic services in the field of customs clearance. Furthermore, in these regions more investment had been made in border crossings.

176

Appendix

The sample of Great Poland is too small for statistical analysis. It can be concluded that transaction costs of customs clearance had increased, but it might be suggested that there are regional differences. Table A6. Speed of legal procedures enabling obtaining money from late payers.

Speed

Faster

Same

Slower


Total

All together

78 (7.0%)

201 (18.0%)

234 (21.0%)

603 (54.0%)

1,116 (100%)

Transport

7 (12.5%)

12 (21.4%)

20 (35.7%)

17 (30.4%)

56 (100%)


9 (13.8%)

16 (24.6%)

18 (27.7%)

22 (33.8%)

65 (100%)

Retail trade

44 (6.1%)

135 (18.6%)

140 (19.3%)

407 (56.1%)

726 (100%)

Gastronomy

3 (4.0%)

14 (18.7%)

11 (14.7%)

47 (62.7%)

75 (100%)

Wroc∏aw

28 (6.9%)

87 (21.3%)

55 (13.5%)

238 (58.3%)

408 (100%)

Opole

9 (3.1%)

44 (15.2%)

95 (32.9%)

141 (48.8%)

289 (100%)

Wieluƒ

27 (12.5%)

41 (19.0%)

37 (17.1%)

111 (51.4%)

216 (100%)

Upper Silesia

7 (8.1%)

12 (13.9%)

28 (32.6%)

39 (45.3%)

86 (100%)

Great Poland

3 (3.0%)

14 (613.9%)

17 (16.8%)

67 (66.3%)

101 (100%)

Region/Branch

The question on change in the speed of legal procedures enabling firms to obtain money from late payers concerns the transaction costs arising from post-contractual opportunistic behaviour. As it was expected that the late payment problem had increased, it was also expected that the quickness of legal procedures would have been negatively influenced. More cases of late payment lead to more court cases, which in turn leads to delays in already overloaded courts. The capacity of the courts had not increased as much as the number of transactions. More transactions, ceteris paribus, lead to more cases of late payment, and as a consequence more use of legal procedures to handle this. For instance, the number of ascertained economic crimes handled by courts increased from 6,042 in 1990 to 7,459 in 1999 and 12,220 in 2000 [GUS, 2001, 64]. Thus, in conjunction with a slower increase in capacity, procedures could be expected to have slowed down. Furthermore, when there are incentives for late payment, there are also incentives for customers who pay late to delay legal procedures, which is strengthened by a “learning effect” – customers learning how to abuse the already inefficient legal procedures and legislation.


177

The hypothesis that legal procedures enabling firms to obtain money from late payers had slowed down in the period 1996–2001 has been confirmed at a 1% level of significance. As is shown in Table A6, a majority of 54.0% (603 firms) of the sample answered “don’t know”, or did not answer the question. Only 7.0% (78 firms) answered faster, 21.0% (234 firms) slower, and 18.0% (201 firms) the same. When analysing branches, this effect is also observed for retail trade, while, although showing a similar tendency, the samples of transport, industrial production and gastronomy are too small for statistical analysis. The data for the different regions suggest a similar trend. However, the trend is not so clear in Wieluƒ. For Great Poland the sample is too small for statistical analysis, although a similar tendency is observed. In conclusion, the transaction costs connected with legal procedures enabling firms to obtain money from late payers seem to have increased during the period 1996–2001. Using the chi-square test at a 5% level of significance, a dependency between slower payment of bills by clients and perceived slower speed of legal procedures for obtaining money from late payment has been found. Such legal procedures can last 2–3 years. Do people who face more problems with late payment of clients have more experience with the system? Or are firms abusing the slower legal procedures (opportunistic behaviour)? Also, a dependency has been found between the speed of payment of bills by firms themselves and the speed of legal procedures to obtain money from late payment. Did firms pay bills more slowly themselves and abuse slower legal procedures, or did they have experience of being slow payers? Faster payers tended to perceive an unchanged speed of legal procedures, while slower payers and firms with an unchanged paying behaviour more often perceived legal procedures to have slowed down. This might suggest that firms who paid more slowly made use of the slower legal procedures. Firms that reported that the speed of legal procedures for obtaining money from late payers had increased or decreased tended to use legal procedures more often than firms that said that the speed remained the same. This may suggest that the dependency between slower payment and slower speed of legal procedures exists because of experience. The firms were asked to assess development in professionalism of tax officers, clearness of tax law, settlements of damages by insurance companies, theft, corruption, and transport infrastructure in Poland during three periods: 1989–1993, 1993–1997 and 1997–2000. The respondents were asked to order these three periods as follows: 1, the period where the situation was the best; 2, the second best period; and 3, the period where the situation was the worst. Table A7 presents the results of the companies, which filled out the questions correctly. The average of all three periods together should be 2. When looking at averages, it seems that professionalism of tax officers had improved, clearness of tax laws and settlement of damages by insurance companies first improved and then deteriorated, problems with theft and corruption had become greater, and that transport infrastructure in Poland had improved. However, an analysis of the distributions is needed to obtain a better picture. Comparisons of averages may give a wrong picture [Kampen, 2001]. Using the chi-square test, dependency has been found between the assessments and the different periods at a 1 % level of significance.

178

Appendix

Table A7. Development in different factors; comparing the periods 1989–1993, 1993–1997 and 1997–2000 – average.

1989–1993

1993–1997

1997–2000

Sample

2.20

1.93

1.87

N=488

Clearness of tax law

1.96

1.88

2.16

N=478

Settlement of damages by

2.02

1.89

2.09

N=411

Theft

1.53

1.97

2.50

N=506

Corruption

1.47

1.97

2.56

N=463

Transport infrastructure

2.21

1.96

1.82

N=503

Professionalism of tax officers

insurance companies

in Poland 1 = best situation; 2 = second-best situation; 3 = worst situation – periods had to be ordered from 1 to 3

Table A8. Professionalism of tax officers between 1989 and 2000.

1

2

3

Total

1989–1993

175

39

271

485

1993–1997

68

382

35

485

1997–2000

242

64

179

485

Total

485

485

485

1 = best situation; 2 = second-best situation; 3 = worst situation – periods had to be ordered from 1 to 3

Table A8 presents the distribution of answers concerning professionalism of tax officers in different periods. The periods 1989–1993 and 1997–2000 were mainly assessed with a 1 or a 3. Comparison of both periods shows, although there is a large difference in the assessment of different periods, that there is an increase in the number of firms reporting 1 and a decrease in the number of firms reporting 3. This suggests that, although answers are divided, problems had become smaller. The period 1993–1997 mostly obtained 2. This suggests that it was perceived as not the best and not the worst period. However, it is also possible that many respondents just indicated whether the situation had improved or deteriorated. For all the six questions the period 1993–1997 most often received a rank of 2 and considering all the answers together 78.4 % of the respondents gave a rank order from best situation to worst situation (1-2-3), or from worst situation to best situation (3-2-1). The ordering 1-2-3 means that the period 1989–1993 was assessed with 1, period 1993 with 2 and period 1997–2000 with 3.


179

Table A9. Rank order of different periods – Professionalism of tax officers.

Ranking of periods

Number of firms

Percentage of firms

1-2-3

157

32.4%

1-3-2

18

3.7%

2-3-1

17

3.5%

2-1-3

22

4.5%

3-2-1

225

46.4%

3-1-2

46

9.5%

Total

485

100%


Table A9 presents how the responding firms ordered different periods with respect to the professionalism of tax officers. About 46% of the respondents indicated that during the three periods tax officers had become more professional, while 32% saw a deterioration. Comparing the periods 1993–1997 and 1997–2000, a deterioration was reported by 46.4%, and an improvement by 53.6%. About 60% saw an improvement between 1989–1993 and 1993–1997, while about 40% saw it the other way round. The data suggest that although the professionalism of tax officers improved between 1989–1993 and 1993–1997, it seems to have stayed at a similar level between 1993–1997 and 1997–2000. Small firms with 0–5 employees tended to report a “3-2-1” ordering of periods less often than larger firms. Table A10. Rank order of different periods – Clearness of tax law.

Ranking of periods

Number of firms

Percentage of firms

1-2-3

204

42.9%

1-3-2

22

4.6%

2-3-1

17

5.7%

2-1-3

27

3.6%

3-2-1

140

29.5%

3-1-2

65

13.7%

Total

475

100%


180

Appendix

Table A10 shows how firms ranked the different periods with respect to clearness of tax law. About 29% reported that tax laws became clearer over the three periods, while almost 43% think that they to became less clear. Comparing the periods 1993–1997 and 1997–2000, about 60% saw a deterioration and about 40% saw an improvement. For the periods 1989–1993 and 1993–1997 these numbers are 53.2% and 46.8% respectively. This suggests that it is unclear whether the situation improved or deteriorated between 1989–1993 and 1993–1997, while it seems that later the situation deteriorated. A dependency has been found between firms that saw the amount of workers increasing and improvement in the clearness of tax law (ranking order 3-2-1). A similar observation has been made for the improvement of the financial situation of firms, while firms indicating deterioration in the financial situation during the period 1996–2001 more often assessed the development of clearness of tax law negatively (ranking order 1-2-3). Firms with 6 or more employees were more likely to assess the developments positively, while firms with 0–5 employees rather assessed the developments negatively. This may be related with the following, previously mentioned fact: more firms with 6 or more employees than firms with 0–5 employees saw their financial situation improving. However, it can also be that there was lack of expertise in small firms, and that they not could keep up with changes, which negatively influenced financial results. With respect to the settlement of damages by insurance companies, according to the data presented in Table A11, the situation improved steadily over all three periods according to 32% of the respondents, while 34.5% indicated a steady deterioration. Comparing the periods 1993–1997 and 1997–2000, a deterioration was reported by 56.7% and an improvement by 43.3%. For the periods 1989–1993 and 1993–1997 an improvement was reported by 45.7%, while 54.2% report a deterioration. This suggests that, besides divided assessments, overall the situation deteriorated. Firms with 6 or more employees assessed the situation positively (ranking order 3-2-1) more often than firms with 0–5 employees. Table A11. Rank order of different periods – Settlement of damages by insurance companies.

Ranking of periods

Number of firms

Percentage of firms

1-2-3

141

34.5%

1-3-2

32

7.8%

2-3-1

14

3.4%

2-1-3

39

9.5%

3-2-1

131

32.0%

3-1-2

52

12.7%

Total

409

100%



181

Table A12 shows that with respect to theft a majority of 65% of all firms reported a steady deterioration over all three periods, while only 18% reported steady improvement during this time. The conclusion that the problem of theft had increased is in accordance with the increase in the number of court cases [GUS, 2001, 64]. The number of theft cases increased from 215,431 in 1990, to 265,421 in 1995 and 309,846 in 2000. However, the number of burglary cases declined from 431,056 in 1990 to 304,899 in 1995, afterwards increasing to 364,786 in 2000. The number of robbery cases increased from 15,067 in 1990, to 19,618 in 1995 and 41,893 in 2000. Table A12. Rank order of different periods – Theft.

Ranking of periods

Number of firms

Percentage of firms

1-2-3

329

65.0%

1-3-2

19

3.8%

2-3-1

16

3.2%

2-1-3

33

6.5%

3-2-1

91

18.0%

3-1-2

18

3.6%

Total

506

100%


Table A13. Rank order of different periods – Corruption.

Ranking of periods

Number of firms

Percentage of firms

1-2-3

318

68.7%

1-3-2

18

3.9%

2-3-1

13

2.8%

2-1-3

25

5.4%

3-2-1

69

14.9%

3-1-2

20

4.3%

Total

463

100%


182

Appendix

The answers to the question with respect to corruption show a pattern similar to the answers to the question about theft. Almost 70% reported that the problems became steadily worse over the three periods, while only about 15% stated the opposite (see Table A13). This is in line with the increasing number of corruption cases handled in Polish courts, increasing from 799 per year in 1990 to 1247 in 1995 and 1899 in 2000 [GUS, 2001, 64]. Table A14 presents the data concerning the question of whether the transport infrastructure in Poland had improved or deteriorated. Analysing these data, it can be argued that the transport infrastructure in Poland had improved, but that opinions were divided. A small majority of 50.6% of the respondents saw a steady improvement of the situation through all periods (rank order 3-2-1), while 33% reported a deterioration (rank order 1-2-3). For the period 1993–1997 and 1997–2000 a majority of 56.8% assessed the situation as having improved, against 43.2% reporting a deterioration. For the periods 1989–1993 and 1993–1997 the respective percentages are 60.6% and 39.4%. Thus, the data suggest that the transport infrastructure in Poland had improved.

Table A14. Rank order of different periods – Transport infrastructure in Poland.

Ranking of periods

Number of firms

Percentage of firms

1-2-3

166

33.2%

1-3-2

12

2.4%

2-3-1

19

3.8%

2-1-3

17

3.4%

3-2-1

253

50.6%

3-1-2

33

6.6%

Total

500

100%


It was shown earlier in this section that customers, as well as the firms themselves, paid their bills later in 2001 than in 1996. A question was asked concerning the seriousness of problems with late payment from customers in three periods: 1989–1993, 1993–1997 and 1997–2000. For each period the respondents were asked to indicate on a scale from 1 to 7 whether they faced no problems at all (1) or a lot of problems (7). Table A15 presents the answers, while Table A16 presents the mode, median and mean. Only the firms which filled out the question for all three periods were taken into consideration (773 out of the total sample of 1,116). Using the chi-square goodness-of-fit test, a dependency has been found between periods and problems of late payment at a 1% level of significance.


183

Table A15. Problems with late payment for the periods 1989–1993, 1993–1997 and 1997–2000.

1

2

3

4

5

6

7

89–93

426 (55.1%) 126 (16.3%) 115 (14.9%)

56 (7.2%)

23 (3.0%)

9 (1.2%)

18 (2.3%)

93–97

344 (44.5%) 127 (16.4%) 111 (14.3%)

99 (12.8%)

54 (7.0%)

19 (2.5%)

19 (2.5%)

97–00

305 (39.5%)

73 (9.4%)

75 (9.7%)

54 (7.0%)

83 (10.7%)

92 (11.9%)

91 (11.8%)

1 = no problems at all; 7 = a lot of problems; n = 773

Table A16. Problems with late payment for the periods 1989–1993, 1993–1997 and 1997–2000 – mode, median and mean.

Mode

Median

Mean

1989–1993

1

1

1.99

1993–1997

1

2

2.38

1997–2000

1

2

3.02

1 = no problems at all; 7 = a lot of problems; n = 773

The mode (the value that occurs most often [Crawshaw and Chambers, 1994, 2]) was 1 in all three periods. This implies that a large proportion of the companies did not have any problems with late payment at all. However, the percentage of companies having no problems at all declined from 55% in the period 1989-1993, to 44% in the period 1993–1997, and below 40% in the period 1997–2000. The median (the value in the middle of the ordered list of all the data [Crawshaw and Chambers, 1994, 62]) increased from 1 in the first period to 2 in the following periods. This suggests that problems had increased a bit. The increase in the mean can be interpreted as an increase in problems with late payment from few problems to some problems. However, the percentage of companies facing quite a lot of problems or a lot of problems (indicated by a 6 or a 7) increased during the three periods from 3.5% via 5% to almost 18%. Thus, almost one-fifth of the firms faced serious problems with late payment in the period 1997–2000. A dependency has been found between the speed of payment of clients during the period 1996–2001 (presented in Table A3) and the development of problems with clients’ late payment. While the mode for the assessment of problems of late payment is also 1 for the first two periods, firms that report slower payment by clients show an increase in the median from 2 in period 1989–1993 (1 for the whole sample) to 4 in 1993–1997 (2 for the whole sample). For 1997–2000 the trend is even clearer, with a mode of 7 (1 for the whole sample) and a median of 4 (2 for the whole sample). Thus, there seems to be a clear relationship between the (perceived) increase in problems and the (perceived) number of problems. Another dependency has been found between the change in speed of payment by the firm itself during the period 1996–2001 and problems with customers’ late payment in the

184

Appendix

period 1997–2000. Firms that paid slower tended to have more problems with late payment in the last period. This is in accordance with the dependency found earlier between slower speed of payment of bills by customers and slower speed of payment of bills by a firm itself. The average firm reported to seldom or sometimes pay bills too late itself. A dependency has also been found between the development of the amount of workers employed in firms during the period 1996–2001 and how often the own company paid bills too late. Firms, in which the number of workers declined, paid bills too late (mentioned more often “sometimes”, “often” and “very often”) more often than other companies where the number of workers stayed the same or increased. The case is even clearer when comparing the development of the financial situation and how often a company itself paid bills to late. Firms, in which during the period 1996–2001 the financial situation had deteriorated, paid bills too late (mentioned more often “sometimes”, “often” and “very often”) more often than other companies where the financial situation had stayed the same or improved. This confirms the dependency found earlier between deterioration in the financial situation and slower payment by the company itself (see analysis of Table A4). With respect to the problem of late payment, the firms were asked what solutions they used to solve this problem. They were asked to report whether they used a reminder, a bailiff, legal procedures, “Mafia” or default acceptance, having the possibility to answer never, seldom, sometimes, often and very often. The average firm sometimes used a reminder, more commonly never than seldom used a bailiff, seldom used legal procedures, never used “Mafia” practices (with a few exceptions), and more commonly seldom than never accepted default. Firms that reported customers to pay their bills slower than five years ago tended to use a reminder and legal procedures more often. No dependency has been found with default acceptance.

A5. Social capital In order to find out whether low- or high process-based trust and trust in government prevails among entrepreneurs, influencing transaction costs and the opportunities for developing new governance structures, questions were asked on who were trusted (a firm’s own employees, suppliers, customers, local government, central government, competitors and banks) and, in the experience of the firms, how co-operative the tax office, competitors, the local government, the central government and banks were. With respect to trust, a scale from 1 to 7 was used, 1 expressing complete distrust, 7 meaning complete trust. A 4 can be interpreted as neither trusting nor distrusting. Table A17 presents all the answers, while Table A18 presents the mode, the median and the mean with respect to trust. Using the chi-square goodness-of-fit test, a dependency between the type of “player” in the economy and the level of trust has been found at a 1% level of significance. Studies suggest that former STEs inherited a relatively poor state of social capital (see also Chapter 5). Based on data from World Values Survey 1990 and 1995, Raiser et al. [2001, 4–7] argue that the degree of trust is significantly lower than in OECD countries.


185

Extended trust in the sense of the percentage of the population that think that people in general can be trusted declined between 1990 and 1995 in both transition and market economies. Poland saw this percentage decline from 34.5 to 17.9. Economic performance is not an explanatory variable, as Poland at that time was booming, but Russia showed a similar decline while its economy stagnated. Table A17. Who is trusted.

1

2

3

4

5

6

7

Total

NA

19

23

52

142

180

206

431

1,053

63

(1.8%)

(2.2%)

(4.9%)

(13.5%)

(17.1%)

(19.6%)

(40.9%)

(100%)

25 (2.4%)

41 (3.9%)

129 (12.2%)

245 (23.1%)

295 (27.8%)

183 (17.3%)

142 (13.4%)

1,060 (100%)

56

18

48

153

277

290

173

105

1,064

52

(1.7%)

(4.5%)

(14.4%)

(26.0%)

(27.3%)

(16.3%)

(9.9%)

(100%)

Local Govt.

255 (24.1%)

202 (19.1%)

232 (22.0%)

199 (18.8%)

93 (8.8%)

37 (3.5%)

38 (3.6%)

1,056 (100%)

60

Central Govt.

353 (33.6%)

245 (23.3%)

210 (20.0%)

127 (12.1%)

68 (6.5%)

23 (2.2%)

25 (2.4%)

1,051 (100%)

65

Competitors

326 (30.8%)

195 (18.4%)

228 (21.5%)

188 (17.8%)

78 (7.4%)

22 (2.1%)

22 (2.1%)

1,059 (100%)

57

Banks

57 (5.4%)

56 (5.3%)

97 (9.1%)

173 (16.3%)

271 (25.5%)

234 (22.0%)

175 (16.5%)

1,063 (100%)

53

Employees

Suppliers

Customers

NA = no answer; 1 = complete distrust; 7 = complete trust

Table A18. Who is trusted – mode, median and mean.

Mode

Median

Mean

Employees (n=1053)

7

6

5.64

Suppliers (n=1060)

5

5

4.76

Customers (n=1064)

5

5

4.52

Local Government (n=1056)

1

3

2.94

Central Government (n=1051)

1

2

2.51

Competitors (n=1059)

1

3

2.67

Banks (n=1063)

5

5

4.83

1 = complete distrust; 7 = complete trust

186

Appendix

Raiser [1997, 23] argues that most people neither trust, nor distrust political institutions like government, parliament, civil servants and the police. Based on data from World Values Survey 1995, New Democratic Barometer 1996 and Environment and Enterprise Performance Survey 1999, Raiser et al. [2001, 16] conclude that trust in public institutions in former STEs is not significantly lower than in OECD countries. Studies from 1995 and 1999 on trust in the Belgian parliament, the Belgian government and the Flemish government suggest a situation of neither trust nor distrust [Kampen et al., 2001; Kampen and Molenberghs, 2002]. On a scale from 1 to 7, the level of trust would be around 4. In a survey carried out in 9 former STEs on trust in formal institutions among 10,087 individuals in 1993, the mean for all those countries is 3.4 (standard deviation 1.8) on a scale of 1 (maximum distrust) to 7 (maximum trust), as used in the survey presented here. The mean for Poland was 3.5 (standard deviation 1.6). Concerning civil servants, the mean for all countries was 3.5 (standard deviation 1.6), and for Poland also 3.5 (standard deviation 1.4).1 The data from the survey presented here suggest that in 2001 trust in the government (local and central) was lower among entrepreneurs than was in general the case in 1993, with a mean of 2.9 for trust in local government and a mean of 2.5 for trust in the central government. Although the sample in this study is different, it may be that the lower level of trust is connected with disappointment with government policy. At the time the survey was conducted the media widely reported on huge problems with the government budget (it was announced publicly that the budget deficit would be twice as big as assumed), while reports on corruption were being published regularly. Another possible explanation might be that private companies have to deal more often with certain levels of government than the average citizen. Also the feeling that the state sector was favoured over private business, as well as laws and regulations that changed (and still change) rapidly and often, can have affected trust in local and central government. Employees were trusted most of all, which is not so surprising because they have the closest contact with the employer/manager. The mode is 7, which means that the largest proportion of the firms in the survey, almost 40%, completely trusted their personnel. The median is 6, which can be interpreted as a reasonable, but not very high level of trust. Banks and suppliers were second, with a mode and median of 5. Although the means for banks and suppliers are similar, there is a difference in the distribution of trust. Firms tended to give more extreme assessments to banks. Banks were not trusted (marks 1 and 2) by 10.7% of the firms, while 6.3% of the firms did not trust suppliers. Banks were rather or completely trusted (marks 6 and 7) by 38.5% of the firms, while the percentage for suppliers is 30.7. Suppliers more often received 3, 4 and 5 than banks, 63.1% and 50.9% respectively. It is possible that experience with banks have differed greatly from bank to bank. Another possible explanation is based on the results of a survey among 1,037 Poles held in March 2002 by the OBOP (Centre for Public Opinion Research) [OBOP, 2002]. According to this survey more than two thirds of the Poles trust public banks. Only 38% trust private banks, while 39% distrust private banks. The difference between private and public banks was not taken into consideration in this survey. The data suggest that some trust in banks and suppliers exists.

1

Data from Paul Lazarsfeld Society [1994] and Rose et al. [1997, 17]. Presented in Raiser et al., 1997, 24.


187

Trust in customers is at a similar level when looking at the mode and the median. However, when comparing trust in customers with trust in banks, a similar observation is made to the comparison between suppliers and banks. More firms assessed banks with very low trust (1 or 2) or high trust (6 or 7), while customers received 3, 4 and 5 more often. Clients seem to be a little bit less trusted than suppliers, as suppliers received 5, 6 and 7 more often, while customers tended to be assessed with lower values. There is a tendency that the “farther away” individuals or organisations from the firm, implying less repeated dealing, the lower the reported trust. While trust in customers is at a rather low level, local government, competitors and central government are distrusted. The mode for the three last categories is 1, implying that a large proportion of all companies completely distrust these parties. The trust score for central government has a median of 2, while for competitors and the local government the median is 3. The largest proportion of firms (33.6%) has absolutely no trust in central government, followed by competitors (30.8%) and local government (24.1%). Summarising, some process-based and personal trust in economic partners seems to exist, creating room for development and co-operation. However, a question remains as to how open networks are. If networks are closed and not transparent, this hampers the development of new governance structures. Low trust in competitors has positive and negative aspects. The positive aspect is that this hampers co-operative behaviour in the form of collusion, price agreements and creating barriers to entry. However, as many firms are small, they may have difficulties in facing the challenges of increasing regulation and increasing competition in the process of EU accession (see Chapter 7). The very low trust in the different levels of government hampers third-party enforcement and is a sign of an institutional disequilibrium, negatively influencing economic performance. Distrust of citizens can be an important stimulus for initiating quality improvement [Van de Walle and Kampen, 2002]. However, the incentives for local and central government provided by distrust depend on political transaction costs and the strength of interest groups. Of course the measure of trust used here is quite crude. As Van de Walle and Kampen remark, it is important what people perceive as being government and whether they distinguish individual services as being provided by the government. Furthermore, it is rather the perceived functioning of the government (and other actors) than the real functioning that often influences the evaluation of the government. Thus, this evaluation is partly based on the existing level of trust. When the existing level of trust is low, it is very difficult to get out of such a situation. Even when the government (or another actor) tries to improve the quality of its services, it can take a long time before trust increases. In other words, building social capital is a time consuming process. The general tendency concerning low trust in the government is confirmed when looking at the answers to the question about how co-operative, in the experience of a company, the tax office, competitors, local government, central government and banks are. The results are presented in Table A19 and A20. Respondents had the possibility to choose on a scale from 1 (totally un-co-operative) to 7 (very co-operative), with 4 implying neither being un-co-operative nor co-operative.

188

Appendix

Table A19. Perceived co-operativeness of “institutional governance” and market participants.

Tax Office

1

2

3

4

5

6

7

Total

NA

182 (17.4%)

119 (11.4%)

184 (17.6%)

235 (22.4%)

164 (15.6%)

107 (10.2%)

57 (5.4%)

1,048 (100%)

68

362

197

201

159

88

24

13

1,044

72

(34.7%)

(18.9%)

(19.3%)

(15.2%)

(8.4%)

(2.3%)

(1.2%)

(100%)

417 (40.4%)

231 (22.4%)

180 (17.4%)

110 (10.6%)

60 (5.8%)

21 (2.0%)

14 (1.4%)

1,033 (100%)

83

550

195

137

79

36

19

1,023

93

(53.8%)

(19.1%)

(13.4%)

(7.7%)

(3.5%)

(1.9%)

(0.7%)

(100%)

120

62

137

206

205

205

117

1,052

(11.4%)

(5.9%)

(13.0%)

(19.6%)

(19.5%)

(19.5%)

(11.1%)

(100%)

Competitors

Local Govt.

Central Govt.

Banks

7

64

NA = no answer; 1 = totally un-co-operative: 7 = very co-operative

Table A20. Perceived co-operativeness of “institutional governance” and market participants – mode, median and mean.

Mode

Median

Mean

Tax Office

4

4

3.6

Competitors

1

2

2.55

Local government

1

2

2.31

Central government

1

1

1.96

Banks

4

5

4.27

1 = totally un-co-operative: 7 = very co-operative

Using the chi-square goodness-of-fit test, a dependency between the type of “institutional governance” or market participant and co-operativeness has been found at a 1% level of significance. Banks were reported to be the most co-operative. However, a mode of 4 and a median of 5 imply co-operativeness at a relatively low level. Tax offices are rather at the level of being neither co-operative nor un-co-operative, although almost 17% of the respondents perceived the tax office to be totally un-co-operative. Tax offices were considered to be less co-operative than banks. Competitors, local government and central government were considered to be un-co-operative, with competitors having the highest trust score of these three, followed by local government and central government with a very low level of perceived co-operativeness. More than 53% of companies considered central government to be completely un-co-operative, while this percentage for local government is 40% and for competitors almost 35%. These low averages suggest a low level of co-operativeness


189

when those stakeholders are involved in new economic initiatives, hampering economic activity. The low mode, median and mean for tax offices, local government and central government may suggest the existence of inefficient public administration. Tax offices have the image of making life difficult and being quick to give fines when an entrepreneur makes a mistake. Central government at the time of the research (shortly before parliamentary elections) was not very popular. However, in all regions the mode, median and mean for local government were also low, although different political coalitions governed these areas. A complaint heard very often is that civil servants are not employed because of their qualifications, but because of their political connections. Furthermore, politicians are often considered to be in politics because of the financial advantages. These factors may suggest high transaction costs of arranging the permits necessary for a new economic activity. In the case of the tax office, no dependency has been found between the co-operativeness of the tax office and clearness of tax law or professionalism of tax officers. Higher transaction costs, due to low trust in the form of safeguards for contracts and transaction costs of forming new governance structures or creating coalitions for undertaking new economic ventures, are connected with the question of whether firms were actively looking for partners. A total of 271 firms (24.3%) answered yes, 822 (73.7%) no, and 23 (2.1%) did not answer the question. Firms could give a maximum of three reasons for why they were seeking partners. Of the 271 firms actively looking for partners, 85 reported that they were looking for a partner in order to avoid problems with unreliable companies. This suggests that 7.6% of all companies had large enough problems with opportunistic behaviour (high market transaction costs), in order to actively look for a solution. A total of 61 firms reported to be looking actively for a partner because of problems of buying certain products/services via the market, also suggesting that some firms faced high transaction costs. Other reasons given were that the company is too small to survive on the market (97 firms), finding new capital for investment (66 firms), gaining new management know-how/new ways of organising the business (74 firms), offering a more integrated package of services (143 firms), and obtaining new technology (51 firms).

A6. Concluding remarks By way of a survey among more than 1,100, mostly small, companies an attempt has been made to analyse the development of transaction costs in the 1990s and the level of trust at the beginning of the 21st century. Most of the companies investigated were established at the beginning of the 1990s, confirming the strong incentives created by economic liberalisation. However, less firms were set up during the second half of the 1990s, suggesting a slower change in governance structures. Only infrastructure and banking in Poland seem to have improved between 1989 and 2001. This implies lower marginal transaction costs facilitating trade and the development of markets. However, because of the increasing number of transactions and the resulting increase in traffic, many bottlenecks in infrastructure have appeared. Furthermore, increasing problems

190

Appendix

with customs clearance suggest increasing transaction costs in international trade. Professionalism of tax officers initially improved, while afterwards it stayed at a similar level. However, many problems still exist due to a lack of skills. Tax law became less clear during the second half of the 1990s. Settlement of damages by insurance companies seems to have deteriorated, although assessment of this situation by firms is divided. Problems with late payment became larger, while transaction costs connected with legal procedures to obtain money from firms that pay their bills too late, theft and corruption increased. Although there are many more factors influencing transaction costs, these findings suggest that transaction costs increased. A few reasons why transaction costs, especially for small firms, increased can be distinguished. Institutions may have become more inefficient and changed often. The clarity of tax law may have deteriorated, because many changes have taken place since 1990 in parts of the law, while not taking the whole into consideration. Often when parliament had to pass the government budget, tax laws were prepared in a rush and in the political process ad hoc changes took place. Furthermore, it is possible that while the number of economic transactions increased, “institutional governance” did not adapt enough, leading to an increase in control costs. Another problem is a lack of physical and human capital, incompetence, unfriendliness and corruption in public administration, complex and unclear tax laws, a customer unfriendly tax collector and an inefficient judiciary. The tax collection infrastructure and information flows remain underdeveloped. Computerisation was started only towards the end of the 1990s. Inefficient “institutional governance” hampers economic activity by increasing transaction costs and negatively influencing incentives. The perceived increase in theft and corruption can have led to increasing transaction costs. Of course, as is always the trouble with the type of research presented here, it is possible that there is a difference between a perceived and a real deterioration of the situation. It is possible that corruption remained at the same level, but that more cases were uncovered and/or published in the media, leading to a feeling that the problem of corruption had increased. However, it is possible that experience of entrepreneurs is reflected in the answers. Whatever the case, the moment that people perceive an increase in the problem of theft, this is likely to lead to expenses on safeguards and monitoring equipment, which implies increasing transaction costs. When these problems are not resolved by further institutional change, the related transaction costs remain high, or even increase further when exchange becomes more complex and sophisticated. A problem exists with respect to the low trust in and perception of un-co-operativeness of “institutional governance”. Some process-based trust exists, creating opportunities for economic activity. The data for the tax office, local and central government suggest an inefficient public administration (or at least perceived as inefficient). With such a poor state of social capital it is likely that more resources are spent on contractual safeguards. In addition, information and negotiation costs are likely to increase when dealing with different levels of government, as well as with unknown trade partners, or with establishing privatepublic partnerships. But problems can also arise with competitors when co-operation is needed for a larger venture, as low trust in the government increase difficulties with thirdparty enforcement. Furthermore, a low level of trust in “institutional governance” hampers the introduction of efficient institutions.


191

To conclude, although some transaction costs have declined, it seems that many transaction costs to small firms in Poland increased at the end of the 1990s and the beginning of the 21st century. The data suggest that problems also existed for firms with more than 20 employees. As transaction costs for small firms seem to be increasing, while large companies have lowered the high market transaction costs they faced at the beginning of the 1990s, the result may be increasing concentration of firms and less competition. Further institutional change is needed in, among others, public administration and the judiciary. Inefficient public administration not only suggests high (marginal) transaction costs, but also provides disincentives for economic activity. Complying to EU standards in the process of EU accession is likely to be difficult for small firms, due to a lack of human capital, and when the accompanying procedures are too difficult this adds to the already high transaction costs and strengthen the disincentives. Besides further institutional change, there is a need for small firms to create larger governance structures in order to meet the challenges of a developing market. There exists some process-based trust, which facilitates such a high-transaction-cost venture. Extending networks is important, because of the trend identified in EU countries of an increased use of logistic solutions. As outsourcing of non-core activities becomes more important, firms are co-operating more and more in networks. When the different levels of government are able to reduce transaction costs and strengthen incentives for small and medium-sized enterprises, this stimulates the increase in economic activity which is needed if Poland wants to catch up economically with EU countries and improve the standard of living of its citizens.

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SAMENVATTING (SUMMARY IN DUTCH)

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Samenvatting (Summary in Dutch) Instutionele verandering en Poolse economische prestaties vanaf de jaren zeventig van de twintigste eeuw – prikkels en transactiekosten

Doel- en vraagstelling van het onderzoek De jaren negentig van de vorige eeuw in Polen worden gekenmerkt als een periode van economische transformatie van een centraal-geleide naar een markteconomie. In deze studie wordt geprobeerd het Poolse transformatieproces te beschrijven en te analyseren met behulp van het theoretische kader van de Nieuwe Institutionele Economie (NIE). Cruciaal in NIE is het concept van padafhankelijkheid, waardoor de introductie van een nieuw economisch systeem, in dit geval een markteconomie, niet Pareto-optimaal verloopt. De vorming van het nieuwe systeem heeft zijn wortels in en wordt beïnvloed door het oude systeem. De centrale vraagstelling in deze studie luidt: In hoeverre zijn de prikkels en de transactiekosten in de Poolse economie veranderd, op welke wijze zijn deze veranderingen van invloed geweest op de economische prestaties in de periode 1970–2000 en hoe kunnen deze verklaard worden met behulp van de Nieuwe Institutionele Economie? Deze vraag is verfijnd met betrekking tot het socialistische systeem en de periode van de opbouw van een markteconomie. • In hoeverre kunnen verandering van prikkels en transactiekosten de ondergang van het socialistische systeem verklaren en de weg hebben gebaand voor transformatie naar een markteconomie? • Hoe heeft de situatie die aan het eind van de jaren tachtig bestond de economische situatie aan het begin van de jaren negentig beïnvloed en in hoeverre zijn de prikkels en de transactiekosten veranderd in de periode van de opbouw van een markteconomie? Opzet van het onderzoek Voor de uitwerking van dit probleem bestaat dit proefschrift uit drie delen. In deel I (hoofdstukken 2 en 3) wordt het theoretische kader van NIE en de transactiekostentheorie uiteengezet. Vervolgens komt in deel II (hoofdstukken 4 en 5) de invloed van transactiekosten en prikkels op economische bedrijvigheid in Polen in de periode 1970–2000 aan de orde. In deel III (hoofdstukken 6 en 7) worden enkele specifieke aspecten van economische prestaties behandeld: de transactiekosten van in wachtrijen staan en logistieke uitdagingen in de periode van de opbouw van een markteconomie.

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Samenvatting (Summary in Dutch)

In hoofdstuk 2 worden definities gegeven en wordt het theoretische raamwerk voor het onderzoek geschetst en toegepast op de transformatieproblematiek in Polen. Transactiekosten bepalen hoe makkelijk of moeilijk het is een transactie af te sluiten of af te dwingen en bepalen welke vorm van governance het meest efficiënt is voor het oplossen van het allocatieprobleem. Instituties, de regels van het “spel van economische bedrijvigheid”, beïnvloeden de prikkels voor economische activiteiten die plaatsvinden op het niveau van governance. Van belang zijn stabiele instituties die onzekerheid verlagen en contractnaleving makkelijker maken. Voor naleving is echter “institutional governance” nodig in de vorm van een organisatiestructuur. Tijdens de transformatie van een centraal-geleide economie naar een marktorde bestaat er een zwak systeem van eigendomsrechten. Vele eigendomsrechten zijn onduidelijk gedefiniëerd. Dit betekent dat er zich meer waarde in het publieke domein bevindt, hetgeen kan leiden tot productiedaling. In het algemeen geldt dat des te hoger de transactiekosten, des te meer waarde zich in het publieke domein bevindt. Dit creëert meer mogelijkheden voor rent-seeking, en sterkere prikkels voor activiteiten gericht op herverdeling van eigendomsrechten, terwijl prikkels voor productieve economische activiteit verzwakken. In hoofdstuk 3 wordt de theorie uit hoofdstuk 2 verder ontwikkeld om een meer specifiek theoretisch raamwerk te creëren dat toegepast wordt in de rest van dit proefschrift. De institutionele omgeving en transactiekosten bepalen in grote mate welke eigendomsrechtsvorm de sterkste prikkels geeft voor economische efficiëntie. Een economisch systeem kan “sterk” danwel “zwak” zijn. Eigendomsrechten zijn “sterk” als ze worden afgedwongen en er zich weinig waarde in het publieke domein bevindt. Als het “afdwingingsmechanisme” faalt en de controlekosten hoog zijn, is de eigendomsrechtenorde “zwak” en verzwakken de prikkels voor economische activiteit. Efficiënte instituties bevorderen economische groei. Deze leiden tot meer transacties en toenemende (marginale) transactiekosten. Het gevolg is dat het bestaande institutionele raamwerk en de governance-structuur die in staat waren een zekere hoeveelheid transacties efficiënt af te handelen veranderd moeten worden. Om dit te bereiken moet het economische systeem adaptief efficiënt zijn. Planning en publiek eigendom kunnen efficiënt zijn voor het ontwikkelen van een economie wanneer marktinstituties onontwikkeld zijn. Marginale transactiekosten van planning stijgen en prikkels worden zwakker wanneer het aantal economische transacties toeneemt. In deze situatie kan een gedecentraliseerd economisch systeem, zoals de markt, marginale transactiekosten verlagen. Een impliciet doel van transformatie van plan naar markt is de introductie van efficiënte instituties, “institutional governance”, en stucturen van governance die transactiekosten verlagen en prikkels versterken. Zonder “infrastructuur” blijven de effecten van een efficiënte institutionele omgeving echter beperkt en ontwikkelen markten zich niet. Wanneer het pad van institutionele verandering moeilijk te voorspellen is en een aantal instituties ontbreken (institutioneel vacuum) neemt onzekerheid toe. In deze situatie hebben vele economische actoren de neiging terug te vallen op hun socialistische “mentale modellen”, de manier waarop ze gewend waren te handelen onder het oude systeem. Dit gegeven leidt tot een institutioneel onevenwicht (institutional disequilibrium), waarin “oude” mentale modellen bestaan die de nieuwe formele instituties niet versterken. Het gevolg is dat de


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transactiekosten stijgen en individuen meer geneigd zijn pervers te reageren op marktprikkels. De verwachting is dat productie daalt in die sectoren die sterk waren onder het oude systeem. Deze productiedaling moet vergeleken worden met de toename van economische bedrijvigheid in sectoren die traditioneel sterk zijn in ontwikkelde markteconomieën, zoals de dienstensector. Transactiekosten kunnen in een later stadium dalen als gevolg van een leerproces en de ontwikkeling van stabiele instituties. Hoewel het introduceren van efficiënte instituties één van de doelen is van transformatie, kunnen inefficiënte instituties ontstaan of voortbestaan als gevolg van mentale modellen, onzekerheid en belangengroepen. Marktinstituties vertonen kenmerken van een publiek goed. Dit leidt tot een paradox dat de staat, die zelf in transformatie is, een belangrijke rol heeft in het creëren van instituties die een competitieve markt en een kleinere rol van de staat zouden moeten genereren. Transformatie is voltooid wanneer een economisch systeem sterk is, er zich weinig waarde in het publieke domein bevindt, “institutional governance” sterk is en er een institutioneel evenwicht bestaat. Deze elementen houden in dat de transactiekosten laag en de prikkels sterk zijn, terwijl instituties zich in een evolutionair proces aanpassen aan veranderende omstandigheden. In hoofdstuk 4 worden transactiekosten en prikkels in de Soviet-Type Economy (STE) in het algemeen, en in Polen in het bijzonder, besproken en geanalyseerd. Er wordt een ontwikkeling van het socialistische systeem geschetst van klassiek socialisme in de jaren zestig, via hervormings socialisme in de jaren zeventig tot “vervallend” socialisme in de jaren tachtig van de twintigste eeuw. In deze laatste fase ontwikkelden zich karakteristieken van een markteconomie in “embryonale” vorm. De transformatie naar een markteconomie heeft zijn wortels in de jaren zeventig van de vorige eeuw toen in Polen een proces van institutionele verzwakking in gang werd gezet. Twee fundamentele instituties van de plan-economie, de Communistische Partij en publiek eigendom, verzwakten, onder andere door hervormingen die gericht waren op het verbeteren van economische prestaties. Door de adaptieve inefficiëntie van de STE namen de transactiekosten echter toe. Dit feit hangt samen met toenemende problemen met moral hazard, planonderhandeling (plan bargaining) en informatie. Prikkels voor technische en institutionele innovatie, alsmede voor het vinden van transactiekosten verlagende oplossingen, waren al zwak en werden nog meer verzwakt door het systeem van centrale planning, het instituut van publiek eigendom, de Communistische Partij en tekorten. Informele instituties, zoals het geloof in het systeem, werden langzaam uitgehold, onder andere door permanente tekorten, onderdrukking van werknemerseisen en de modelfunctie van Westerse kapitalistische landen. Toenemende transactiekosten en verzwakkende instituties leidden tot verslechterende economische prestaties, en bereidden het pad voor institutionele verandering naar een markteconomie voor. Hoewel hervormingen meestal faalden, veranderden ze fundamenteel de karakteristieken van het economische systeem. Door decentralisatie werden de eigendomsrechten (usus en usus fructus) de facto verspreid over een grotere groep, hetgeen de prikkels voor betere economische prestaties verzwakte vanwege toename van rent-seeking gedrag van individuen en belangengroepen. Zo verzwakte dus het instituut van publiek eigendom door de hervormingen.

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Na de staat van beleg op 13 december 1981 nam de staat vele functies van de intern verdeelde Poolse Communistische Partij (PZPR) over. Een groot aantal leden zegde hun lidmaatschap van de PZPR op. Voor de politieke elite werd het duidelijk dat de machthebbers in een vergelijkbare positie in een kapitalistische samenleving meer economische voordelen hebben. Door de economische hervormingen in de jaren tachtig, toen de centrale planning werd verlaten zonder een echte markt te introduceren, verzwakte het economische systeem nog meer. Het verzwakken en uithollen van formele en informele instituties ging gepaard met toenemende transactiekosten en zwakkere prikkels voor economische bedrijvigheid. Naast de verzwakking van instituties en economische stagnatie, zijn er andere factoren van belang om de teloorgang van het socialistische systeem te verklaren. De druk van de kant van de vakbond Solidariteit, het belang van de politieke elite in een nieuw systeem en de non-interventie van de Soviet Unie verlaagden de politieke transactiekosten van institutionele verandering. Een soort van “revolutie van boven” lijkt de doorslag gegeven te hebben doordat Poolse en Sovjet-elites hun interesse in het behoud van het oude systeem verloren. In hoofdstuk 5 worden verschillende oorzaken voor de daling in productie en nationaal inkomen tussen 1989 en 1992 behandeld. In deze periode werd geprobeerd in korte tijd een markteconomie te introduceren. Behalve aan vraag- en aanbodsfactoren wordt aandacht geschonken aan factoren die samenhangen met prikkels en transactiekosten in het proces van institutionele verandering. Zwakke en ontbrekende instituties, onzekerheid, socialistische mentale modellen, alsmede het privatiseringsproces, veroorzaakten perverse prikkels. Transactiekosten waren hoog, waardoor de waarde in het publieke domein steeg. Dit verzwakte de prikkels voor economische activiteit en versterkte de prikkels voor rent-seeking. Het macroeconomische stabiliseringsbeleid, geïntroduceerd in 1990, leidde aan de ene kant tot een verdieping van de recessie. Aan de andere kant werd het economische systeem direct versterkt door de prijsliberalisering, hetgeen de mogelijkheden voor rent-seeking in geval van prijsregulering juist weer reduceerde. Prikkels voor productieve activiteiten werden versterkt, hetgeen een verdere productiedaling voorkwam. Toen er meer marktinstituties waren ontstaan en deze zich stabiliseerden, zoals beter gedefiniëerde eigendomsrechten, en geprivatiseerde staatsbedrijven zich hadden aangepast aan de nieuwe omstandigheden, daalden de transactiekosten voor deze geherstructureerde en geprivatiseerde staatsbedrijven. Alhoewel er nog vele inefficiënte instituties bestaan, lijkt het erop dat Polen een “normaal” pad van institutionele verandering volgt. Empirisch onderzoek onder 1116 bedrijven wijst uit dat de transactiekosten aan het eind van de jaren negentig en aan het begin van de 21e eeuw zijn toegenomen. Dit kan onder andere het gevolg zijn van inefficiënt openbaar bestuur, een inefficiënte rechterlijke macht, instituties die niet mee-evolueerden met de toegenomen hoeveelheid transacties in de groeiende economie en povere vormgeving en introductie van nieuwe instituties. Alhoewel het vertrouwen in centrale en locale overheden laag is, bestaat er een zekere mate van vertrouwen opgedaan in het proces (process-based trust), hetgeen mogelijkheden voor economische ontwikkeling biedt. In hoofdstuk 6 wordt een case-studie van transactiekosten voor de consument in de Poolse STE gepresenteerd: het in de rij staan voor het verkrijgen van consumptiegoederen.


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Deze transactiekosten verschillen significant van het soort transactiekosten besproken in hoofdstuk 4, waar het vooral de transactiekosten van planning betrof. Het in de rij staan holde het geloof in superioriteit van het socialistische systeem uit. Het onderzoek is gebaseerd op enquetes onder 418 Polen. Ongeveer 95% van de respondenten heeft voor 1989 in de rij gestaan. Mensen stonden vooral in de rij voor consumptiegoederen als vlees, toiletpapier, suiker, melkproducten, chocola, benzine en fruit. Er was sprake van arbeidsdeling, aangezien er mensen waren die “gespecialiseerd waren in het in de rij staan” voor anderen. Twee-derde van de respondenten in de steekproef verklaarde dat anderen voor hen in de rij stonden, terwijl 40% voor iemand anders in de rij stond. De meest voorkomende activiteiten in de rij waren: “denken”, lezen (vrij veel), klagen (tamelijk vaak en meer vrouwen dan mannen), praten over politiek (meer mannen dan vrouwen), roddelen (meer vrouwen dan mannen), en nuttige contacten leggen of het regelen van dingen (sommigen). Een grote meerderheid van de ondervraagden beoordeelde hun activiteiten tijdens het in de rij staan evenwel als nutteloos. Alhoewel de tijd die men in de rij stond in zekere zin nuttig besteed werd, waren de “psychologische” transactiekosten hoog. De resultaten van het onderzoek duiden erop dat het verdwijnen van de rijen in 1990 een groot sociaal voordeel opleverde. In hoofdstuk 7 wordt het belang van infrastructuur, transport en logistiek voor institutionele ontwikkeling en het verlagen van transactiekosten besproken en geanalyseerd. Gebaseerd op onderzoek van logistieke diensten aangeboden door 260 transportbedrijven en communicatiemiddelen gebruikt door 1116 onderzochte bedrijven wordt gesteld dat Polen 10 tot 30 jaar achterloopt in logistieke ontwikkeling ten opzichte van EU landen. Als Poolse bedrijven niet snel de logistieke trend oppakken, dan kunnen ze de concurentieslag verliezen als Polen tot de EU toetreedt. De ontwikkeling van geïntegreerde logistieke centra in Polen kan niet alleen leiden tot introductie van transactiekosten-verlagende oplossingen, maar kan ook een prikkel zijn voor institutionele ontwikkeling naar een sterker economisch systeem. Conclusies van het onderzoek In hoofdstuk 8 worden de belangrijkste conclusies uit het onderzoek getrokken en een antwoord geformuleerd op de centrale vraagstelling van deze studie: In hoeverre zijn de prikkels en de transactiekosten in de Poolse economie veranderd, op welke wijze zijn deze veranderingen van invloed geweest op de economische prestaties in de periode 1970–2000 en hoe kunnen deze verklaard worden met behulp van de Nieuwe Institutionele Economie? Ten gevolge van de teloorgang van het socialistische systeem door de facto verspreiding van eigendomsrechten, het verzwakken van de Communistische Partij, de afschaffing van centrale planning en het verdwijnen van het geloof in het systeem ontstond een situatie van “vervallend” socialisme in de jaren tachtig van de twintigste eeuw. Transactiekosten namen toe, prikkels werden zwakker en stagnatie leek een permanente karakteristiek van de Poolse economie. Dit creëerde een vruchtbare bodem voor de transformatie naar een markteconomie in de jaren negentig. Onder de heersende elites had zich een economisch belang in een meer marktgeoriënteerd systeem ontwikkeld, terwijl de Sovjet-Unie zich niet langer

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met interne Poolse aangelegenheden bemoeide. Tezamen met een sterke arbeidersbeweging die het oude systeem wilde hervormen, verlaagden deze omstandigheden significant de politieke transactiekosten van veranderingen. Een belangrijke factor die het Poolse economische systeem direct versterkte in 1990 was de prijs- en handelsliberalisering. Hoewel deze aan de ene kant leidden tot een diepe recessie in 1990–1991, leidden ze ook tot een reductie van de mogelijkheden tot rent-seeking, hetgeen de prikkels voor productieve activiteit versterkte. Door hoge transactiekosten waren er echter nog legio mogelijkheden tot rent-seeking. Gedurende deze periode was onzekerheid over toekomstige institutionele verandering erg hoog. Er bestond een mix van socialistische en marktinstituties, en veel markinstituties bestonden in een “embryonale” vorm of in het geheel niet. Door de grote onzekerheid vielen vele economische actoren terug op hun socialistische mentale modellen. Deze situatie creëerde veel perverse prikkels voor economisch gedrag en leidde tot hoge transactiekosten. Prijsliberalisering betekende in feite een privatisering van (karakteristieken van) eigendomsrechten die de overheid bezat toen die de prijzen nog reguleerde, hetgeen de ontwikkeling van de markteconomie stimuleerde. Liberalisering van handel creëerde sterke prikkels voor de ontwikkeling van het kleinbedrijf voor welke de transactiekosten laag waren. Hierdoor kreeg de private sector snel vaste voet aan de grond en als gevolg van systeemversterking was de productiedaling kleiner. Aanvankelijk stegen de transactiekosten voor staatsbedrijven. Toen de eigendomsrechten zekerder werden, het institutioneel vacuum kleiner werd en een deel van de (geprivatiseerde) staatsbedrijven zich aan de nieuwe situatie aanpasten, daalden deze transactiekosten. Sommige transactiekosten stegen echter later in de jaren negentig, in het bijzonder voor het kleinbedrijf. Met behulp van de Nieuwe Institutionele Economie, in het bijzonder prikkels en transactiekosten, is een verklaring geboden voor de ondergang van het socialistische systeem in Polen. Daarnaast biedt dit model een verklaring voor de vraag waarom de radicale transformatiestrategie in het begin van de jaren negentig gepaard ging met een zo sterke productiedaling, en waarom de economie daarna snel een pad van economische groei betrad.