Transition Economies and Foreign Trade

Jan Winiecki

• Publisher: Routledge
• Year: 2002
• ISBN:
  9781134526017
• Edition: 1
• Topic: Business
• Subtopic: Business generale
• Index: Business

Transition Economies and Foreign Trade makes the bold claim to have solved puzzles that have hindered the subject for years. By taking the distortions of the Communist era into consideration, Winiecki has explained the phenomenon of the decline in output and trade, as well as explaining the dual commodity nature of exports in the early transition p

1 The legacy of the communist past and its impact on foreign trade in transition

Introduction

In order to evaluate better the foreign trade potential of post-communist economies in transition it is very important to understand the past, first of all the impact of the structure of incentives upon the performance of enterprises in the centrally planned and administered communist economy. For it is the legacy of that past in terms of dynamics, structure, and quality of output, as well as institutional characteristics of the tradable sector, that strongly influenced the performance of transition economies in their trade reorientation. This influence had been particularly strong in the early transition period, say 1990–94.

Inherited pattern of output

Distorted output growth

The starting point, as stressed by many analysts, is the perennial excess demand and shortage that appeared almost from the start and had become a permanent feature ever since. Analysts point to the de facto distorted structure of incentives to execute and exceed plan targets that were positively correlated with volume or value of output but not negatively correlated with production costs. This created a system of financial irresponsibility, called by Kornai (1979, 1980) ‘soft’ budget constraint, that – in spite of numerous ‘reforms’ – was not eradicated from the system until its very end.

As every enterprise demanded more and more labour, capital, and inputs to make plan fulfillment easier, shortages emerged and persisted, engendering an overall climate of shortage, with adverse consequences for cost and quality. Persistent shortages, and concomitant pressure for more output, imbued managers and workers with a careless attitude toward everything but quantity. In addition, cost and quality suffered from the time profile of the incentives for enterprises. The perennial chase after monthly, quarterly, and annual bonuses under the conditions of supply uncertainty resulted in intermittent periods of forced idleness (due to the lack of supplies) and rush to fulfill or exceed plan targets, regardless of cost and quality of output.

Shortages, and accompanying – adverse – output characteristics, tended to change their intensity over time but never disappeared from the system. The dynamics of changes in the level (and structure) of shortages was associated with the so-called investment cycles (see e.g. Bauer 1978, Winiecki 1982). Excess demand created the constant pressure to expand capacity and, in this way, output. Investments, however, had to be included in the medium-term (usually five-year) investment plans.

Enterprise managers were usually able to outwit central planners and obtain higher levels of supplies (production factors, inputs) for investment projects relative to the levels of output that these projects actually were able to deliver. Under the reigning informational asymmetry this discrepancy gradually became more obvious to the planners over the period of the first two–three years of the medium-term plan, generating extra tensions between the (by now revealed) much greater demand for supplies needed to complete investment projects and actual capability of these economies to deliver. Shortages of intermediate and capital goods multiplied. That, in turn, necessitated cuts in the number of investment projects (usually the least important politically, not the least efficient!) and in the second part of the medium-term plan shortages subsided somewhat.

It is quite obvious that both the statics and dynamics of economic growth under the communists entailed an inordinate amount of waste. The waste was clearly system specific. One of its manifestations was the much higher use of inputs per unit of output. Table 1.1 presents in comparative perspective the use of energy and steel per $1000 of GDP that was uniformly 2–2.5 times higher in communist than in market economies.

It should be noted, however, that higher costs and lower quality were only some of the side effects of the workings of the system. Output structure suffered, too. Let us keep in mind that under the general conditions of uncertainty enterprises tried to obtain more and more inputs to ensure easy fulfillment of plan targets. Grossly excessive inventories became the norm. The same applied to investments. In consequence, the shares of intermediate and capital goods industries increased much beyond those in market economies at similar development levels measured roughly by GNP per capita. And all this without commensurate effects on the output side; the share of ‘throughput’ (intermediate consumption) in gross output was distinctly higher in communist economies than in market economies to the detriment of the share of newly added value (roughly GDP).

Table 1.1 High resource intensity of communist economies in comparison with Western economies: the cases of energy and steel

Underspecialization and output structure

Not only system-specific institutional characteristics, such as the structure of incentives and informational asymmetries within the multi-level planning hierarchy, but also policy-specific characteristics affected output structure (as well as quality and cost) in communist economies. Distortionary effects were, firstly, the result of the import-substitution-oriented strategy.

Except for the former Soviet Union, all other European communist economies belonged to the small-country category, that is those that are expected to derive largest benefits from participation in the international division of labor. A forced imposition of the inward-oriented import substitution strategy caused them to forgo most of the advantages of international specialization based on comparative costs. Semi-autarkic inward orientation is less costly in large countries that are to a smaller extent dependent on foreign trade. Elsewhere, as noted long ago in Little et al. (1970) and Balassa et al. (1971) with respect to LDCs, it generates an overgrown industrial sector and intra-industry structural distortions.

An extreme version of import substitution pursued by communist economies inevitably generated even greater distortions than those in LDCs. Not unexpectedly, the share of industry expanded far beyond what was typical for countries at their range of GNP per capita, and more interestingly this tendency continued throughout the whole period of their existence. At the intra-industry level the result was the overexpansion of intermediate-input-producing industries: iron and steel, cement, basic chemicals, etc.

The communist economies also pursued the strategy of early production of capital goods, in fact too early for their level of economic development (a characteristic to be discussed later, in the next section). This generated additional distortions. For not only did small communist economies produce too large an assortment of goods in too small quantities per production run, using too many intermediate inputs and production factors in the process, but also the more sophisticated the product (and capital goods are usually the most sophisticated), the more adverse was the impact on cost and quality.

The import-substitution-oriented strategy was not the only source of underspecialization in communist economies. Another was the tendency of each enterprise to turn out as many inputs as possible inhouse. In the overall climate of shortage, low reliability of outside supplies, and permeating uncertainty, enterprises tended to produce internally as large a share of intermediate inputs, and even parts and components for productive equipment, within a given enterprise.

We may reinterpret the foregoing as another ‘import substitution’ strategy. That is, enterprises pursued their own ‘import substitution’, trying to ‘import’ as little as possible from other socialist enterprises (whether from domestic suppliers or from other COMECON countries, that is European communist countries subordinated to the Soviet Union). The resultant structural distortions were no less grave than those resulting from import substitution at the national economy level that lowered the optimum production scale across the industrial structure. In fact, as we shall see, they were even graver.

The distortionary effects of ‘import substitution’ at the enterprise level, called by the present writer a ‘do-it-yourself bias’ (Winiecki 1984a, 1988), were the outcome of the following processes. The small scale, often one-of-a-kind production of intermediate inputs, instruments, parts, and components for equipment, etc., used up much more material, labor, and capital than in the case of specialized subcontractors, instrument suppliers, and servicing by equipment producers. As a consequence, the often already suboptimum production scale (due to extreme import substitution) became even lower, as an important part of the resources of enterprises were tied up in these unspecialized activities.

The size of enterprises in the centrally planned and administered economy was therefore much larger for a given level of output than in comparable enterprises in a market economy at similar development levels. Large shares of employment and equipment were used in the production of goods and services made without much learning by doing, due to the (often drastically) insufficient production scale. The more sophisticated the product, the more parts and components were necessary, the more ‘maintenance intensive’ the equipment, and – consequently – the larger was the size discrepancy in question.

For these very reasons those most affected were the engineering (machinery and equipment) industries. It was estimated that even in such a large country as the former Soviet Union, 70 percent of engineering industry plants produced at below optimum production (see the literature quoted in Winiecki 1988). Here we come to the conclusion already intimated above that the do-it-yourself bias had even stronger distortionary impact than the import substitution strat...