Transition 5 (7)

Votn ,lumo 7 e.nw r 19 TransitionEconomicsDivision * PolicyResearchDepartient * TheWorldBank Market Liberalization in Ukraine To Regain a Lost Pillar of Economic Reform By Daniel Kaufmann n Ukraine the three key pillars of Stop-Go Cycles: Keeps Going and of monetary restraint, which was con- i a successful economic reform Going... ducted by the national bank, also be- * program-macroeconomic stabi- came more influertial as abhorrence of lization,privatization, andmarketliber- Ukraine, like the rest of the former So- hyperinflation became widespread, and alization-hadbeenlargelyignored.Dur- viet Union (FSU), had not experienced the importance of credit restraint be- irg 1993 the inflation ratewasthehighest serious inflation for many decades. The came better understood. of any country not at war. Less than 10 high inflation rate, rampant since 1992 percent of total assets have been offi- until recently, caught the public unpre- By contrast, the need forbudgetary (fis- cially privatized. Yet, liberalization has pared. Withtheirinterventionistrecipes, cal) restructuring and restraint was not been ignored and opposed the most- advocates for administrative controls equally emphasized and had no strong ithas becomethelostpillaroftransition. gained strength. Equally, the supporters constituency. Since Ukraine regained The reasons for this neglect include the following:,,,,. , What's Inside... WoildBanklinkstoPostsocialistEcono- -Public misunderstanding of economic nmies-ExcerptsfromtheAnnualReport issues. Recent polls indicatethat almost MeasuringAdministrative Control InFY94lendingsurgedtoFSU,butfellto (page 2) CentralandEasternEurope;anddhsburse- three-quarters of the population favor ment is still is at low level. (page 12) privatization; but atthe sametimethree- Ukraine's Reformers at the Crossroad Quotation ofthe Month: "Privatization quarters also oppose price liberaliza- (page 3) policy in Poland will remain a political tion-in the belief that it is largely re- battleground"--a privatization expert's sponsible for the inflationary spiral. Promoting Reforms in the World Bank warningintheFinancial 7)mes (page 13) CircumventBureaucratic Centralism To encourage government decentraliza-. Letters to the Editor-Opinions from -Persistence of controls over economic tion in the recipient countries, IDA fund, Padma Desai, William Easterly, Stanley activities (including the issuance of li- IFC quotas, and special units would be Fischer, andLucja Swiatkowski Cannon censes and permits) where vested in- able to assist local governments tangibly. (page 15) terests and rent seeking opportunity are (page 7) Milestones of Transition (page 17) at stake. RejuvenatePensionSystem inTransition WorldBank/D1FfAgenda(page21) *Inco.nsistencybetween lax fiscal policy Economies. AnamnbitiousnewWorldBank Conference Diary(page24) -Incnsisenc beteenlax iscl poicy study suggests pension systems that are ,and (since late 1993) restrictive mon- acceptable to the old and sustainable and NewBooks and Working Papers etary policy. growth-enhancingfortheyoung. (page 8) (page26) BibliographyofSelectedArticles (page 3 1)  The Wordd BanklPRDTE Measuring Administrative Controls in Ukraine Inorderto"technocratize"thepoliticized only 30 percent of total output is in goods exchangeauction.Theadministrativecon- reintroduction of administrative controls not subjectto administrativeprice controls. trolindex inmid-1992droppedto35,asub- inUkraine, asimple, quantifiableindex of holesale price control index (figure 6) is stantial improvement,butstillveryhighby administrative controls was constructed the share of wholesale prices subject to ad- any market economy standards, and even bymeasuringthe degree ofadministrative rinistrative controls. by standards of economies in transition. intervention and market distortion in the foreign exchange, trade, and pricing re- Anoveralladminitrativecontrolindex(fig- Inthesummerofl993 Ukraine'snewgov- gimes. Each regime, in turn, includes two ure 7, see next page) is a simple average of ernmentbegantoreintroduce administra- indexes: the six indexes. (Some variables have not tive controls: the currency exchange auc- been considered, such as trade tariffs and tion was abolished, and the exchange rate *Foreign exchange regimeindexes income and profit taxes, which are essential was fixed atan artificially low level. Con- Exchange rate distortion index (figure 1) policytools in marketeconomies, similarly trolling the exchange rate forces controls is the percentage deviation of the market toantimonopoly, publicutility, andbankdng on the allocation offoreign exchange and exchange rate from the "effective" official regulations.)The index wouldbe zeroinan imports. Price controls have become per- exchange rate (where "effective"averages economy free of direct administrative con- vasive, which in turn has pressured thetwodifferentofficialrates,weightedby trols,whiletheindexwouldbe 100inacen- policymakers to control exports; as a re- the surrender requirement share). Anex- trally planned economy, as the Soviet sult, manyexportlicenseshavebeen rein- change rate distortion index of 0 means economy was in the 1970s. In Ukraine the stated. Bymid-1994 the degreeofadmin- that the official exchange rate is the same index ofadministrative controls reachedal- istrative control over the economy was as the market rate. An index of 66 means most 80 in early 1992. The advent ofanew virtually the same as it hadbeen immedi- that the effective rate an exporter gets for govermnent in October 1992brought about atelyfollowingIndependence.Theoverall one dollar of exports is only one-third the some liberalization in the economy: partial index surgedtoalmost 75, meaningthatthe marketrate(a66percenteffective "tax"on liberalizationofprices,alimitedrelaxationof official economywasonlyminimally"'ib- foreignexchange earnings). export restrictions,introduction ofaforeign eralized." Foreign exchange allocahon distortion index (figure 2) measures the share offor- . . . . t eign exchange allocated according to Si Indices of Adminstrative Controls nonmarket administrative mechanisms, Fio- I F)- 3 and not sold on the official foreign ex- change auction (the closest thingto "mar- 10"STORTI iI iX DltTONTOiON INDEX ket-based" official allocation offoreign ex- :100 change in Ukraine). A foreign exchange 300 so allocationdistortionindexof90meansithat t0 only lOpercentofofficial foreign exchange revenues go through the auction mecha- _ / nism,whiletherestisatlocatedaccording so to administrative discretion (at a rate sig- 40 40 40 nificantlybelowamarket-determinedrate). so \ /o .20 0 20 *Traderegimeindexes 20 M. i * Export restriction index (figure 3) is the O_ _0__._ 0_._- shareofoverallexportsadministeredby a a 2, ,x a 3 r a S 3 a a 3 a a a a a quotas and licenses. An index of 80means I thatonly 20 percent ofexports are free from quotas or licenses. 4 R I WO P Domestic trade administrative index (fig- [100 o ~no Te ITAL PFUCE CONTROLS WIOL SALE PRICE ure 4) is the share of state orders and con- CTION INDEX O C10ROLS tractsintotaloutput. Theseareordersthat aO so enterprises are supposed to fill by provid- l\01 ing specific production volumes to the :1 stateortootherpredeterminedenterprises. to 7 I Anindexof55meansthatonly45percent s _ go of outputisnotsubjecttostateadministra- 40 s0 so tive decisions regardingprocurement and 30 l0o 40 internaldistribution. 0 't 20 T 20t /0 *PricingIregimeindex t0 | 0 10 Retailprice control index (figure 5) is the o o 0 . 0 - shareofretailpricessubjecttoadministra- a a a 'a a a a, a a 8 a 3 a a ' a I tive controls. An index of 70 means that _ _ . U__ 2 September 1994  Transition Ukraine: Reformers at a Crossroads Foreign assistance President Kuchma and Chairman Ukraine is $5 billion in debt to Russia; 20 Moroz percent of this is for Russian deliveries of Ukraine will need nearly US$1 billion in gastoUkrainefor 1994. Ukraine'sfailureto foreign assistance this year to implement Oleksandr Moroz, chairman of Ukraine's meet this obligation has ledto supplycuts radicaleconomicreforms,accordingtose- Supreme Council (Parliament)andleaderof from Russia, Ukraine is also in debt to niorUkrainianofficials.Ukrainianofficials the SocialistParty, saidon September 17 that Turkmenistanfor energyimports. reachedapreliminaryagreementwiththe Ukraine had accepted "on the whole" the LMF on an economic reform program that IMF conditions attached to an initial $720 Radiant Future with Nuclear they say is the first step in a comprehen- millionloan. Moroz's supportforany reform Energy? sive package of reforms to be announced packageagreedwiththeIMFwillbe critical soon. Thepreliminaryloanagreement,if to President Leonid Kuchma's ability to Thenuclearpowersectorproduced38 per- approved by the Ukrainian Cabinet and implement it. In lateJulytheUkrainianPar- centofUkraine's total electricity output in the IMF Board, would mean that a $360 liamentvotedtohaltallprivatizationuntil it the first half of 1994, despite the fact that million SystenmicTransformationFacility reconvenes to decide which state property it faced severe problems. Thermal power (STF) loan would be available before the toprivatize anddhowtoprivatize it. The gov- stations have significantly reduced elec- end of the year, and could be followed by enmment has to provide a list of "nationally tricityoutputbecause ofashortageoffuel. asecondtrancheofaboutthel amefsizedin important" enterprises excluded from Giventhisgrowingdependenceonnuclear 1995. Furtherinore,a$400millionWorld privatization,includingthoseinthe "fuels- power, Kiev insists that the closure of Bankrehabilitationloanisunderprepara- energycomplex, transport, and communi- Chernobyl-demanded by the West- tion. Disbursements could start before cations. would lead to a severe energy crisis this year-end if privatization and agricultural winter. Ukrainianauthorities andthe inter- reformsmoveforward. Moroz earlier argued that the state must nationalcommunityremainfar apart onthe assume control of several key aspects ofthe issue. ThereformprogramcommitsUkrainetoa economy, includingthe amount ofhard cur- seriesofmeasurestostabilizeprices, liber- rencyin circulation,theoperationsofenter- MikhailUmanets, theformerdirectorofthe alize theeconomy, speedupprivatization, prises vital tothe state and, above all, exter- Chemnobyl plant and current chairman of enact structural reforms, and tighten fiscal nal trade. Moroz anticipates a three-stage the State Committee for Atomic Energy, andcreditpolicies. Ukraine'sgovernment program of recovery, each of which would callstheG-7offerof$200millioninimme- has also pledged to strengthen its social require close government supervision and diateassistancetohelp shutthe Chernobyl safety net so as to protect its most vulner- state control of the "commanding heights" powerplant insufficient. He estimates the able citizens. IMF Managing Director of the economy, well into the next century. costs involved as $1.4 billion to close the Michael Camdessus has cautioned that The plan envisages a halt in industrial out- plant andan additional $1 billion to com- the success of the program will depend putdeclineby 1995-96, animprovementin plete the three reactors now under con- bothonitsvigilantimplementationandon livingstandardsin 1997-98 and,from 1998 struction. substantial financial assistance from the onward,alivingstandardcomparabletothat international community. (nternationalfi- in industrially developed countries. Without economic recovery, there is little nancial institutions areworkingon aplan prospect that Ukraine's longer-term en- tosecureUkrainecreditsofupto$5billion The Economy ergy program-which envisages 50 per- over two years to support the country's centself-sufficiencyby2OlO-willbeful- reform.) Meanwhile, economic decline continues. filled. Current energy output covers little Sectors such as oil processing, chemicals, more than 10 percent of the domestic re- Figure 7 and construction materials have suffered quirement. Ninety percent ofthe planned Overall Administrative Control index the most dramatic declines. The defense increased output would be in coal and complex(includingmachinebuilding),which nuclear-generated power, although out- accounts for a quarter of Ukraine's indus- put in both is currently falling-coal by trial output and "40 percent ofthe total sci- 13.4percentin 1993 over 1992, andelectric- entificandtechnicalpotential"(PrimeMin- ity by 9 percent. Still, given a projected isterVitaliiMasol),experienceda52percent decline in energy consumption of40 to 50 year-on-year fall in production. Fuel and percentby 1995 andUkraine's position as energy production continues to decline. one ofthe largest per capita producers of energyintheworld,officialsinUkraineare -Ukraine imports more than 60 percentofits bullishaboutfuturenuclearenergyexports. gasrequirementfromRussia,andthebulkof Ukraine's expenditure outflow is debt re- (Based on reports from the Oxford payment to Russia for oil and gas. Supply Analyticaresearchgroup, Oxford, UK, agreementsbetweenthetwocountrieshave and various articlesfrom the Financial repeatedlybrokendownasUTkrainehasbeen Times and New YorkTimes) unable to pay Russian prices that have risen '~ o~ onte 4steadilytowardinternational norms. Volume 5, Number 7 3  The World BanklPRDTE its independence in 1991, the budget has controls argue for a softer monetary cialandunofficialeconomiesinUkraine. continued to serve as the state's princi- policy, and thus for a monetary "go. " *The official economy has declined pal instrumentfor influencing economic The dissatisfaction of the public and dramatically since late 1991. Annual activity. Budgeted expenditures have enterprise sector, hurt by the payment GNP dropped by about 15 to 17 percent amounted on average to 70 percent of arrears (resulting from the inconsistent in both 1992 and 1993, and the free-fall GDP. Thus, inflationarypressures arose fiscal and monetarypolicy), encourages has cortinued, with GNP plummeting largely from financing the budget (and the advocates of administrativecontrols by 26 percent in the first half of 1994 quasi-budget) deficit. Public sectordefi- to reimpose "stable" administrativecon- comparedwiththe sameperiodlastyear. cit financing accounted for about 70 trols over the economy with the claim Real wages for the first quarter of 1994 percent of all credit emissions in late thattheywill beableto deal administra- shrunk by half compared with January 1992, andits shareincreasedto about 85 tively with inflation and output decline. 1992. Ukrainians on average earn less to 95 percent in late 1993 and early For many, this seems a lesser evil than than $15 a month. 1994. (By contrast, in Russia the cen- the "stop-and-go" monetary approach. *Hard cash currency exports, as reg- tral bank's straightcreditemissions have The administrative control power base istered by official data, declinedfrom made up 40 to 60 percent of all emis- is strengthened, the pure monetarists about $4.2 billion in 1992 to $2.8 sions, and the share of deficit financing are weakened-and the "fiscal-first" billion in 1993. At the same time, im- in credit emissions came to just 50 per- constituency remains as absent as ever. port requirements have increased as a cent on average.) (The evolution of administrative con- resultofthesharplyhigherenergyprices trols in Ukraine is tracedthrough a spe- charged by Russia and Turkmenistan. As monetary restraint has taken place ciallyconstructedindex,thatisdescribed By mid-1993 Ukraine concluded an without accompanying fiscal restruc- in detail on page 2.) agreement with Russia whereby $2.2 turing, liberalization lost out. Years after billion in arrears were converted into independence,thebudgetisstillamecha- Bleak Surface... long-term debt. During 1993 and 1994 nistic planming document driven by ac- substantial further arrears, exceeding countingandbylegalprinciplesthatdate The prevalence of administrative con- $2billion, haveaccumulated. Atpresent, from the Soviet era. Conservatives un- trols has had major effects on the offi- Ukraine consumes imported energy at a derstand that fiscal restructuring and restraint necessitates liberalization of trade and prices which they oppose. In fact, further administrative controls be- tween mid-1993 and early 1994, Legal Rollercoaster emerged, for several reasons: -Monetary stringency without the full support of an appropriate budgetary framework is not sustainable beyond ". a few months. Wage, pension, and enterprise arrears get out of hand. Sub- sidy pressures for key sectors such as coal andagriculturebuildup, andatleast some of the sectors are eventually paid. Thus, followingapure monetary "stop," which may be extended by a few months through the tightening of government controls,thereis an inevitable "go." (The late summer of 1994 saw such an ines- capable monetary "go," which is bound to translate into renewed inflationary pressures in October and Novernber of 1994. *Every time a monetary "stop" starts to bite, supporters of administrative From the Budapest magazine Hungarian Economy 4 September 1994  Transition cost of about $13 million a day, yet it exchange rate of the karbovanec for ate the official economy shrinks-often paysforlessthanone-halfofit. Official exporters was virtually the same as in with increasing speed. This means that export receipts cover only a fraction of the open market, a monthly average of beyond a certain point, tightening cen- the present energy import bill. (Domes- about $100 million came to auction, in tral administrative controls and inter- tic industry and agriculture are charged sharp contrast with the administrative ventions over the official economy will only a fraction ofworld prices-ranging control period of dual exchange rates, result in reduced administrative control between 25 percent for electricity and whenthemonthlyforeign exchange sup- of the overall economy gas to 33 percent for coal-and house- ply to the heavily taxed auctions was holds are charged only a fraction of lessthan $15 million. Much ofthe differ- (Since so many enterprises leave the what the industries pay.) ence was absorbed by the underground official economy as administrative con- *About 45 million tons of grain were economy. trol tightens, the relationship between produced during the 1993 season. administrative control over the official Fourteen million tons of the grain have A January 1993 survey of more than economy and management control over been procured through state orders and 200 officially registered private sector the overall economy becomes a variant about 4 million tons have been sold on firms also suggests that about half of of the inverted U-shape Laffer curve.) the market. The remaining 25 million their activities were in the unofficial tons (about 60 percent) have been re- economy. Furthermore, a separate and Significantmarketliberalizationhasthus tained at the farms for seeds and animal nonrandom survey of about 20 busi- taken place, in practice, as entrepre- feed. With low yields and high waste, nesses indicated that in 1992 private neurs haveleftthe official economy, the virtually no grain,exports were regis- businesses were conducting 25 percent sphere of government authority. The tered. Individuals last year held only 11 of their business outside of the official unofficial economy has become a large, percent of all agricultural land, yet they economy. By March 1994 that share and liberalized segment ofthe economy produced 43 percent of all livestock and had grown to 75 percent. For state- today. The emergence and growth of 37 percent of crops-in other words, owned businesses the estimated share this unofficial economy has both posi- they were almost four times more pro- of unofficial activities in 1992 was less tive and negative aspects. On the posi- ductive than state agriculture. Animal than 10 percent, yet by March 1994 it tiveside,ithaslargelykepttheeconomy husbandryandmeatproductiondeclined had increased to more than one-third. afloat, as incentives to efficient produc- by 23 percent in the first half of 1994. tion in the official economy have de- The total grain harvest in 1994 is likely Clearly, many state and private busi- clined. It has also debunked the myth to be about 34 million tons, the smallest nesses have adapted to the evolving that Ukrainians lack entrepreneurship. in twenty years and a sharp drop from circumstances by leaving the official Onthe contrary, in their entrepreneurial last year. economy altogether or at least for a activities they have demonstrated resil- significant portion of their activities. ience, creativity, andthe abilityto adjust Bright Underground? Businesses by now have a clear notion to changing economic and financial cir- To estimatethesizeofUlkraine's shadow of the "private payments" required to cumstances and policies. This bodes economy, it is telling to compare get pernits; to bypass reulations, offi- well for the future of Ukraine, if the Ukraine's officially reported hard cur- cial payments, and foreign exchange propereconomicpoliciesareputinplace. rency export figures (estimated at about surrender requirements; to gain advan- $2.8 billion in 1993) withtrade partner tages in acquiring subsidized foreign On the negative side, the shadow data on Ukraine's imports gathered at exchange; and to push through every economy undermines the state's man- the pon Ukrainesation (about $6.2 bil- bottleneck in the way of unofficial ex- agement of the economy. The legiti- lion in 1993). Evenaallowingforthe pos- porting.The"services" renderedtoavoid macy ofthe overall legal and regulatory sibility of methodological underestima- the official economy do not come system is being challenged or ignored, tion of official export statistics, the cheaply, often exceeding 25 percent of and the tax and foreign exchange base, remaininggap couldwell implythat over tumover. crucial for economic management, is half ofall exports ($200millionmonthlyj rapidly dwindling. Also, the informal are divelted to the unofficial economy Central, state-administered controls, economy, despite its rapid growth, is a even if intended for all agents in the survival economy where trading, ser- Fluctuationoftheforeignexdianlgesup- economy, actually apply only to those vices, and short-term concems domi- plyuto the official foreign exchange auc- agents operatingintheofficial economy. nate longer-term activities. Large-scale tions is also telling: when the official And as admniistrative controls prolifer- investments and sophisticated produc- Volume 5, Number 7 5  The World Bank/PRDTE tion-crucial for Ukraine-are virtu- industry. Production increases would agentsoperatingintheshadoweconomy ally absent. Many of the assets being spur aggregate demand and boost do- should be induced to surface "voluntar- used in the unofficial sector are in effect mestic consumption. Liberalization of ily" in the official economy. Their con- derived from the spontaneous prices and trade would also translate fidence and trust have to be restored. decapitalization of the state sector. It is into dynamic growth bythe private sec- Establishing an appropriate market- far less efficient for a large segment of tor as well as by entrepreneurial seg- friendly environment for the official theeconomytooperateunofficiallythan ments of the state sector. economyisthusthefirstpriority. Herein it would be for that segment to operate lies the Ukrainian paradox: To regain within the first economy in a liberalized *Privatization. Market liberalization (in- control of overall economic manage- market environment. And society pays cluding price, trade, and foreign ex- ment, administrative controls on the of- the price in wasted effort and nonpro- change liberalization) is important for ficial economy must be loosened. ductive payments. privatization to succeed. A supportive framework of market incentives cre- Such paradox appears to have been Finding the Lost Pillar atesdemandforprivatizedenterprises- grasped by the new administration that and for the normal operation of these has come to power during the summer Market liberalization could become a businesses. of 1994. The economic reform program major pillar of structural reform in being drafted includes macroeconomic Ukraine, providing impetus for a tum- *Investment. Ukraine has seen little stabilization (through appropriate bud- around in the economy and for future foreign investment so far. Its attractions getaryandmonitarypolicies), exchange growth. And contrary to prevailing (location, a skilled, educated laborforce, rate unification, significantliberalization myths, liberalization could improve the high-technology niches, and so on) will of prices and trade, and rapid social conditions of the population-if continue to be ignored unless privatization. done appropriately. Market liberaliza- macroeconomic stability and liberalized tion would also facilitate: markets (includingforforeign exchange) The author is Head of the World are in place. A credible program of Bank's resident office in Kiev, *Macroeconomic stabilization. Nar- stabilization and market liberalization Ukraine. row attempts to impose macroeconomnic would bring back much of the foreign discipline without accompanying liber- currency that left the country as a result This article is an updated version of alizationmeasureswouldamounttotry- of capital flight. the author ' paper presented at the ing to stabilize a quickly disappearing Economic Policy Journal-sponsored (official) economy. The tax base has The Ukrainian experience demonstrates conference "Societies in Transition: already been eroded significantly. Large that attempts to control the unofficial Market Reform Experience for subsidies to the enterprise sector, par- economy through administrative and Ukraine," held in Kiev in May 1994. ticularly on account of low domestic legal measures will not work. Instead, prices for energy, are being barely fi- nanced by the rapidly shrinking official exporter base (the result of the artifi- cially low official exchange rate). Lib- _ = eralization of prices would alleviate the - pressure on direct subsidies still pro- 1 vided from the budget, such as those to services, while liberalization of state contracts would bring about budgetary savings. *Exports and production. Large ex- -- port gains could be expected from a unified, market-based exchange rate.- "Chief, give me 5 more vouchers. They taste great when used as roil- A rapid increase in exports would pro- ing papers for my cigarettes..." vide foreign exchange for imports, as well as an impetus to troubled domestic From the Russian daily lzvestia 6 September 1994  Transition How To Encourage Govermnente Decetitralization Interesting Ideas for Redirecting Lending T he Bretton Woods Commission, the Association's membership, a politi- Going Local a private U.S .-based multina- cal subdivision of any of the foregoing, T tional group of prominent busi- apublicorprivateentityintheterritories In developed countries, local govern- nesspeople, academics,andformergov- of a member or members, orto a public ments characteristically dominate or enment officials, recently advised the international or regional organization," have a large share in the delivery of World Bank Group to shift funds to the withorwithoutcentralgovernmentguar- manypublic goods and services such as Industrial Finance Corporation (IFC), antees; only the World Bank is con- local roads, primaryandsecondaryedu- its affiliate for private finance, and to strained to lend solely through central cation, police protection, law enforce- "expand [its] activities that deal directly governments. (The World Bank Group ment through courts, water and sanita- with the private sector..."(see Transi- includes the World Bank and three af- tion services, surfaceirrigation, andmany tion, July-August 1994, p. 3). The con- filiated organizations, the Intemational others. In less-developed countries, cen- ventional focus on public versus private Development Association [IDA], the tral governments (or state-level govern- sector lending may be too narrow to Industrial Finance Corporation [IFC], ments in larger countries) often claim address many ofthe obstacles to reform and the Multilateral Investment Guar- responsibilityforprovidingthesegoods anddevelopmentintheborrowingcoun- antee Agency.) and services, but perform poorly. tries. In many ofthesecountries, central government agencies still dominate the The Bank and IDA have increasingly Reforms that split off from central gov- formal economy and society. A more refrained from lending to governments emments the responsibility to produce open institutional framework therefore for activities appropriate for the private or to provide public goods and services wouldallowmorepeopleandmorenon- sector, such as manufacturing, banking, appropriate for other levels of govem- central govenument institutions to take and importing and distributing agricul- ment, and that assign those tasks to more initiative. Bypassing central gov- tural inputs. Over the past decade, IFC other levels of government, create new eminent agencies, and shifting authority financial assistancehasmultiplied,while channels for peopleto participateand to to markets and to subnational govern- Bank and IDA lending has stopped exercise judgment and initiative to buy ments, would link decisionmakers more growing. Clearly, scoperemains in many the publicgoods and services theywant. closely with incentives and could speed countries to reassign more tasks to free Fiscal autonomy for subnational gov- up change and economic growth. The markets and to cut bureaucratic ob- enmuents is a concept that is not exclu- Bank Group could accelerate this pro- stacles to private economic initiative. sivetorichdeveloped countries; China's cess by channeling more funds through But there are many examples of bu- reformers promote "eating out of sepa- non-central government institutions, in- reaucratic centralism coexisting with rate kitchens" and Russian cluding not only private companies but private ownership. Mounting economic decentralizers advocate "each pot sit- also multiple levels of subnational gov- crime in Russia and other transition ting on its own bottom" as down-to- effments. economies in Central and Eastem Eu- earth descriptions of fiscal autonomy rope inhabits the interface between pub- for local governments. Giving Bypass Operations lic and private sectors: favored busi- subnational governments autonomy to nesses make money as govemnment tax and spend maybe considered a form Articles of Agreement for two of the officials give special assistance or look oftrade liberalization, with central gov- three Bank Group lending institutions the other way. Such crimes of the new emnent agencies abandoning their mo- already allow loans to non-central gov- "kleptocracy" metamorphosed from the nopolies intheprovision ofpublic goods emmnent institutions: IFC's Articles of old nomenklatura and reflect a lack of and services, allowing markets for pub- Agreement allow loans directly to "pro- government accountability to cifizens. lic goods to emerge. ductive private enterprises" in member Institutions preserve too great a "dis- countries without central government tance" between citizens and officials, Some Suggestions guarantees; IDA's Articles of Agree- so that levers for accountability such as ment allow loans "to a member, the law,public opinion, and elections aretoo If the World Bank Group intends to govenmmentofaterritoryincludedwithin weak to restrain government antisocial encourage government decentralization behavior. Volume 5, Number 7 7  The Wolid Bank/PRDTE in borrowing countries, some modest limit support for BOO/BOT schemes IDA loans are to be collectible and if reforms may be accomplished within for electricity generation or retail distri- BOO/BOT contracts are to be sound. the current Articles of Agreement: bution to those negotiated with subnational governments such as city The World Bank Group's endorsement *IDA could establish a jund or quota and state-levelgovernments. This would offiscal decentralization would create a to assist subnational governments in encourage central government agen- tremendous opportunity to strengthen member countries in selling bonds on cies to devolve electricity regulation to subnational governments' tax pro- national or international bond mar- subnational governments; over time grams-and their legal and voting ar- kets, taking advantage of the fact that, these changes could be expectedto lead rangements. Capital markets can be of thethree Bank Group lending institu- to the emergence of a wholesale market expected to respond favorably to re- tions, the IDA alone is empowered for electric power.) forms that will make local governments through its Articles of Agreement to and associated utilities autonomous lend to subnational governments. *The World Bank and the IFC could from central governments and account- Through bond sales city governments set up separate units to deal with able to local taxpayers and voters. could raise funds for urban infrastruc- subnational government issues (in- ture, water districts could raise funds cluding taxing, spending, and regu- David Gisselquist for irrigation and drainage infrastruc- latory activities) and to support initia- ture, and state and local-level govern- tives to lend directly to subnational The author is an independent con- ments could raise funds for rural roads governments and to private utilities that sultant, former university professor, or other rural infrastructure. For sub- contract with subnational governments. and author of several books on inter- national government bond sales to be Those governments must have stronger national economics. successful, central govemments would tax bases and stronger management if have to relinquish control over taxing and spending policies to subnational govermments, and move away from ad hoc revenue-sharing schemes. -Although the IFC cannot lend to Foreign Direct Investment subnational governments, it can and does lend to private utilities, which f may be associated with central or f subnational governments. The cur- rent interest in BOO (build-own-oper- ate) and BOT (buJild-operate-transfer) schemes for electricity, gas, and other utilities and for infrastructure creates tremendous opportunities to promote lm efficiency through competition. But to the extent that the IFC accepts schemes thathave beennegotiated and contracted with central government agencies, those agencies' authority will expand and the Z opportunity to strengthen competition b and to weaken bureaucratic centralism will be lost. Al The IFC should consider establish- ing guidelines or quotas to direct BOO/BOT investments toward con- Let's try to bargain. His last offer was 2 bars of American chocolates. tracts with subnational govern- ments. (For example, the IFC could From the Budapest magazine The Hungarian Economy 8 September 1994  Transifion How to Rejuvenate a Greying Pension System in Transition Economies Suggestions of a New World Bank Study In Eastern Europe and the former redistributing real income, both across investment returns, recession, inflation, Soviet Union, which can no longer and within generations. and private market failures. The public afford the formal old age security *Occupational plans: privately man- pillar shouldberelatively small andbased programs they introduced long ago, lib- aged, partially funded plans with de- on pay-as-you-go. Eligibility could be eral earlyretirementprovisions andgen- fined benefits; offered by employers to limited to the poor, or could serve as a erous benefits have required high con- attract and retainworkers. Increasingly, universal minimum pension guarantee tribution rates, leading to widespread however, contributions are specified and to a mandatory saving pillar. As a third evasion. (On "Reforming Pensions in benefits depend on contributions plus option, it could take the form of a flat tdeTn rnsk