Chinese President Jiang Zemin announced Privatization and the in late 1997 that his nation would soon privatize thousands of state-owned enterprises. The pre- Transition to a cise meaning of privatization in the Chinese context is open to debate: one deputy minister explained that the state might retain a majority Market Economy stake in the firms, and the editor of a commu- nist newspaper said that expectations of a Jason L. Saving Economist Western-style ownership structure in the firms Federal Reserve Bank of Dallas had arisen from a “misunderstanding” (Lyle 1997). Still, while information is scarce about the details of the Chinese plan, it is clear that any privatization effort in the world’s most pop- ulous country could have a major impact on the global economy. Given the distinct possibility of massive An effective privatization privatization in China, it is natural to reexamine economic reform in the postcommunist nations must transfer ownership in of Eastern Europe and determine what lessons may be drawn for China. The reform process in such a way that the new these nations has been substantial: the private- sector contribution to gross domestic product private-sector owners and (GDP) now exceeds 50 percent in nineteen of the twenty-six states that once formed the Soviet managers have an incentive to empire (European Bank for Reconstruction and Development 1997), including each of the maximize profit, and this Eastern European states outside the volatile Balkan region (Table 1).1 The short-term pain incentive must be reinforced caused by economic reform has generally given way to significant gains in per capita GDP by a legal structure that (Figure 1) and the possibility of membership in multilateral institutions such as the European encourages private-sector Union and NATO.2 But can any lessons from the competition for these firms.
Table 1 Share of GDP Derived from Private Sources
1980 1988 1994 1997 Czech Republic <1.0 <1.0 65 75 Hungary 3.5 7.1 55 75 Poland 15.6* 18.8* 55 65 Romania 4.5 — 35 60 Russia <1.0 <1.0 50 70 Slovakia <1.0 <1.0 55 75 United States 79.4 79.6 81.1 82.0
* This is almost exclusively agricultural production (Slay 1993). NOTE: Czechoslovakia dissolved in 1993 and was replaced by Slovakia and the Czech Republic. SOURCES: Patterson 1993; European Bank for Reconstruction and Development 1994, 1997; Bureau of Economic Analysis.
FEDERAL RESERVE BANK OF DALLAS 17 ECONOMIC REVIEW FOURTH QUARTER 1998 Figure 1 support” (Bird 1998), and it is estimated that Real GDP Per Capita one-sixth of Albania’s population may become U.S. dollars bankrupt because of investments in pyramid 6,000 Hungary Poland schemes (Percival 1997). Such examples suggest Czech Republic Romania that economic education may be important to 5,000 Slovakia the success of privatization. In addition, formerly communist citizen- 4,000 ries face special problems in attempting to eval-
3,000 uate the net worth of to-be-privatized firms. Balance sheets for such firms were not kept
2,000 according to Western norms, often deliberately, so as to shield the poor performance of high- 1,000 ranking party functionaries who were appointed as managers during the communist era but wish 0 to retain their positions after privatization 1990 1991 1992 1993 1994 1995 1996 (Brada 1996, Tirole 1994). Moreover, the divi- sion of assets among such companies is not experiences of these Eastern European nations clearly delineated, so that a potential investor be applied to other countries embarking on the during the transition period could not be certain road of economic reform? Also, was the road to which assets would end up with a company and privatization in these nations paved with serious which would remain with the state (Bolton and mistakes others might be able to avoid? Roland 1992). In addition, the transition to a In discussing these questions, it is impor- market economy would almost certainly cause tant to define precisely what is meant by priva- an enormous reallocation of resources across tization. While privatization occurs whenever sectors of the economy, making it difficult for the ownership of a firm is transferred from the citizens to gauge a firm’s future performance government to the private sector, the purpose even if communist-era balance sheets were of this transfer is to help create a competitive available. economic environment in which firms strive to A final problem relates to communist-era increase efficiency and maximize profit. Thus, informational asymmetries between the ordi- an effective privatization must transfer owner- nary citizen and the party elite. Information is a ship in such a way that the new private-sector closely guarded commodity under communist owners and managers have an incentive to maxi- systems, and government officials commonly mize profit, and this incentive must be rein- possess an enormous amount of information of forced by a legal structure that encourages which ordinary citizens are unaware (Blanchard private-sector competition for these firms. These and Layard 1992). In the aftermath of commu- are the issues this article discusses. nism, then, a citizen’s information about state- run enterprises would be primarily a function of past affiliations with a now-discredited state. INFORMATION AND PRIVATIZATION IN PRACTICE This implies that the group of citizens best able In theory, privatization is a relatively sim- to evaluate the profit potential of state-run firms ple process in which potential investors evalu- is composed of precisely those individuals society ate the profit potential of each firm, choose would least like to prosper. those in which to acquire shares, and then man- Yet there is widespread agreement that age the firms in a way that maximizes their shares in state-owned enterprises should be return.3 In practice, however, this model suffers given to the public whose efforts created the from limitations when applied to the transition enterprises. These “mass privatization” programs from communism to a market economy. In gen- are regarded as the most egalitarian method of eral, formerly communist citizenries are likely privatization because each citizen profits from to be less familiar with market economics than them (Grime and Duke 1993). Also, giving each their capitalist counterparts, and some commen- citizen a stake in privatization increases public tators have suggested that this unfamiliarity support for the program and reduces the gov- could lead them to make bad investment deci- ernment’s ability to renege on its privatization sions (Brada 1992). This perception is not with- commitments (see the box entitled “Credible out foundation. For example, a 1998 Moldovan Commitments and Privatization”). newspaper headline marveled that the “private Is there a socially optimal distribution of sector survives even though it gets no state ownership shares when ordinary citizens are
18 Credible Commitments and Privatization
Privatization helps promote economic growth by ensuring that firm owners have unable to evaluate the prospective financial per- an incentive to maximize profit. However, one important aspect of any privatization formance of state-run enterprises but commu- program is the possibility of revocation (Weingast 1995). Unless those who become nist functionaries are capable of making such owners of privatized enterprises believe the government will allow them to keep the evaluations? Perhaps surprisingly, there are fruits of their labors, there is little reason to believe these owners will invest time and effort in their enterprises. some conditions under which this question can The importance of political commitment to the privatization process can be illus- be answered in the affirmative. For example, trated through an examination of Russia’s New Economic Policy.* Shortly after the suppose that shares are to be divided among communist takeover of 1917, Bolshevik leaders confiscated private farmland in what the citizenry subject to three conditions: they called the “crusade for bread.” Though the peasantry was ordered to continue 1. Every share must be distributed to a cit- working the fields, all farm output would go to the state rather than the workers. This policy reduced peasant effort to such an extent that mass starvation ensued, fol- izen. lowed by peasant riots that began to threaten the survival of the Bolshevik regime. In 2. The expected profit of each citizen response, Lenin introduced a partial privatization of farmland and a partial restora- must be equal. tion of farmers’ right to sell excess produce to ordinary Russians, arguing that peas- 3. The risk (variance) borne by each citi- ants would not work at maximum efficiency unless they were able to reap the zen must be equal and must be as low rewards of their labors. But would the communist regime—which had previously viewed private prop- as possible, subject to all other condi- erty as anathema—be willing to commit to the New Economic Policy for the foresee- tions. able future? Nove (1992) recounts the words of a communist official who complained Only one portfolio of shares meets these New Economic Policy supporters “demand of us a promise that we will never, i.e. not three criteria: a distribution in which each citi- in 15 or 20 years, confiscate or expropriate” farmland, to encourage peasant farmers zen receives an equal percentage of each enter- to work without fear that the state would seize their crops and confiscate their land. This the official refused to do: in his words, expropriation of farmland by the state 4 prise. Moreover, such a distribution can be would occur “when the time comes for so doing.” implemented even if those in charge of privati- The productivity gains from the New Economic Policy were short-lived, partly zation cannot evaluate the financial viability of because of these fears. Farmland was then reconfiscated in a new effort to abolish state-owned firms—an important consideration private farming. in countries where government economic deci- * Details of the New Economic Policy are taken from Nove (1992). sion-making prowess is at best questionable. There are no examples of large-scale pri- vatizations in which each citizen was given an equal share in each state-owned enterprise. might perform no better after privatization than However, the equal-share distribution is a special they had before privatization.5 Such a situation case of the voucher-based privatization programs points to the difference between the act of pri- implemented by, among others, Poland and vatization (transferring ownership to the private Czechoslovakia (which split into Slovakia and the sector) and an effective privatization. Czech Republic on January 1, 1993). In these The oversight issue is especially problem- mass privatization programs, each citizen re- atic because of the temptation to retain com- ceived an equal amount of purchasing power, munist-era managers during the transition which could be used to obtain shares of state period and let investors decide later whether to enterprises. However, these and other mass priva- remove them. In Russia and the Ukraine, such tization programs must confront certain problems. holdover managers routinely used bribes and intimidation to forestall their replacements (Roland 1994), a maneuver that has been HOLDING COMPANIES AND dubbed “grab-ization” by the media (Seely EFFECTIVE PRIVATIZATION 1993). In Hungary, managers often held posi- Problems of Dispersed Ownership tions in local government, and the patronage Mass privatization carries with it a serious opportunities afforded by such an arrangement problem: no single investor has the ability to encouraged local governments to resist both oversee management. Since managers do not managerial replacement and the overall privati- own their firms, shareholders must oversee zation effort (Bolton and Roland 1992). Finally, managers to ensure that management makes some managers across Eastern Europe simply every effort to maximize profit ( Jensen and seized firms from the state and began operating Meckling 1976). However, mass privatization them as private businesses (Voszka 1993). This can produce a situation in which an enormous “spontaneous privatization” of firms was aided number of individuals hold only a small number by a lack of information, even on the part of of shares. Under this scenario, no single investor government, about which assets belonged to would have sufficient incentive to monitor man- the state (Boycko, Shleifer, and Vishny 1994). agerial activity, even though every investor When owners were able to replace manage- would gain by such monitoring (Gray 1996). ment despite these problems, empirical evi- Without a resolution to this problem, firms dence suggests such replacement helped
FEDERAL RESERVE BANK OF DALLAS 19 ECONOMIC REVIEW FOURTH QUARTER 1998 increase the economic performance of priva- era banks had no incentive to investigate the tized firms in Eastern Europe (Dyck 1997). But financial viability of firms to which they made in a world of dispersed ownership, such loans or to hire people who possessed any par- replacement may be unlikely to occur. ticular aptitude for such investigations. More- over, since it is almost impossible for bank Holding Companies as a Solution privatization to precede the privatization of To address these concerns, many econo- other enterprises, distributing firms across the mists have recommended the creation of a small banking sector would amount to continued number of powerful shareholders (Bolton and nationalization rather than privatization. Roland 1992). Because firm performance would With neither the national government nor substantially impact the profit of these share- the banking sector able to fulfill the responsibil- holders, they would (at least theoretically) have ities of the powerful shareholder during the an incentive to control management (Gray transition from communism, privately run hold- 1996). At the same time, citizens could invest ing companies would become the most natural in the diverse portfolios of these powerful alternative. Econometric evidence from Britain shareholders, rather than in a single company suggests that holding companies can be an (Boycko, Shleifer, and Vishny 1994). Further, the effective means of enforcing managerial pro- powerful shareholders would presumably have ductivity after privatization (Blanchard and a much greater ability to obtain financial infor- Layard 1992). However, holding companies mation about the firms to be privatized and, alone are not sufficient to ensure effective pri- therefore, a greater ability to pick a reasonable vatization, as recent experiences in Chile and ownership portfolio. Russia have demonstrated. Chile attempted Perhaps the most obvious candidate for large-scale privatization shortly after the ascen- the role of “powerful shareholder” would be sion of Pinochet, and the result was an enor- government. As the single most powerful entity mous concentration of ownership shares among in a country, government would have the nec- private financial institutions that were subse- essary size and scope to exert pressure on man- quently rendered bankrupt by an economic agement. Moreover, because governments in downturn (Bolton and Roland 1992). In Russia, formerly communist countries are far more voucher privatization was hampered by the intrusive into the lives of citizens than are gov- presence of bogus investment funds that ab- ernments in the West, government officials in sorbed citizen investments and acquired firms in these nations would be relatively adept at the name of those citizens, but then vanished obtaining information and pressuring firms. when payment was requested by the state However, governments have a multiplicity of (Seely 1993). Both Chile and Russia were forced interests, which include running an efficient to embark upon costly reprivatization programs. firm but also include minimizing unemployment These examples suggest that the proper and facilitating political patronage. Presumably, implementation of holding companies is of cru- there would be no reason to discuss privatiza- cial importance. How did the design of the tion unless governments were failing to operate Polish and Czechoslovak privatizations compare efficient enterprises, but a government that fails in this respect? Recognizing the pitfalls associ- in this capacity would not be an appropriate ated with mass privatization, the Polish proposal choice for powerful shareholder. mandated the creation of between ten and The other obvious candidate for fulfilling twenty holding companies (Blanchard and the responsibilities of a powerful shareholder Layard 1992). Responding to concerns about a would be the indigenous banking sector.6 After lack of information about the financial perfor- all, these banks had made loans to newly priva- mance of state-owned firms, each holding com- tized enterprises before those enterprises were pany was to be assigned a distribution of private. This suggests that the banking sector ownership shares by the government (Boycko, would have knowledge of the firms’ financial Shleifer, and Vishny 1994). Finally, to ensure status and future prospects (to gauge the ability managerial oversight, at least one-third of the to repay a loan) as well as an especially strong shares of each state-owned firm would be given interest in the firms’ financial future (to ensure to a single holding company that would be such repayment). However, lending decisions expected to oversee the firm’s management. under communism were based on political Each citizen would receive one share in each rather than economic considerations, and it was holding company but none in individual firms. known that loans not repaid by borrowers The Czechoslovak proposal, in contrast, would be covered by the state. Thus, communist- did not mandate the creation of holding com-
20 panies. Instead, each citizen was to receive a LEGAL STRUCTURE AND certain number of voucher points, which could PRIVATE BUSINESS CREATION be used to obtain shares in individual firms. These points could also be entrusted to holding A successful privatization program trans- companies if such companies were to emerge fers ownership from government to the private from the private sector, but the government sector in a way that ensures proper managerial would not itself create them (Brada 1992). oversight of the privatized firms. However, Voucher holders would then expend points to these firms will be tempted to behave as acquire shares in particular enterprises. monopolies unless they face competition from The Polish plan might appear to be the other private-sector firms. Such competition more effective means of privatization because it cannot form as long as communist-era con- mandated a reasonable ownership structure and straints on private business creation are main- minimized the informational problems associ- tained. These constraints range from a ban on ated with citizen participation. In reality, how- the private ownership of land to the harassment ever, the Polish plan was stymied for years of private-sector banks to confiscatory tax because political pressures prevented the gov- regimes. They even include price controls, ernment from choosing how to allocate owner- which are not typically associated with private ship shares to holding companies (Roland business creation but nevertheless play an 1994). In Czechoslovakia, on the other hand, important role in facilitating competition. privately run investment funds quickly arose in response to an enormous demand for such Direct Constraints funds by consumers. Indeed, more than half of There are several reasons to suppose that all Czechoslovak citizens entrusted their vouch- constraints on private business creation would ers to these funds, whose portfolios were deter- diminish the economic effects of privatization. mined through market mechanisms rather than One reason is that constraints on private busi- the political process (Kotrba and Svejnar 1994, ness creation lead to monopolistic industries Grime and Duke 1993). Ironically, Czecho- (Feinberg and Meurs 1994). Although privatiza- slovakia emerged with an ownership structure tion programs move government-run monopo- reasonably close to the structure desired by lies into the private sector, they do not in and of Poland without any government mandates to themselves create competitive markets. Unless that effect, while Poland’s attempt to mandate entrepreneurs are free to create competing such a structure almost derailed its privatization firms, newly privatized companies will not face program entirely. sufficient financial pressure to improve quality The examples given here permit certain and reduce prices. In such a noncompetitive conclusions to be drawn regarding holding environment, privatization could change firm companies. First, citizens recognize the prob- ownership without changing firm behavior. lems associated with mass privatization and, as Constraints on private business creation the Czechoslovak experience demonstrates, will are also likely to harm consumers who wish to solve them through holding companies if given obtain goods deemed unimportant during com- the opportunity to do so. Second, government munist rule. Communism emphasizes heavy can assist in this process by guarding against industry over agriculture and the service sector, fraudulent holding companies, something the which suggests that the public sector would Russian state failed to do in its initial privatiza- contain a disproportionately high number of tion effort. However, efforts to move beyond heavy-industry firms but a disproportionately this oversight could harm a privatization pro- low number of service-sector and agricultural gram even if such efforts were well-intentioned, firms (Bolton and Roland 1992). In fact, the such as the Polish government’s desire to employment share of heavy industry relative to ensure that holding companies would be cre- these sectors was estimated to be 50 percent ated and would receive the proper distribution higher in Eastern Europe than in comparable of shares. When states seek to create holding developed economies (European Bank for companies, the Polish experience suggests that Reconstruction and Development 1997). Thus, policymakers must have a firm consensus on private business creation is needed to shift the precisely how shares will be distributed—per- overall composition of firms in the economy haps by implementing an equal-share distribu- toward services and agriculture and thereby sat- tion at the holding company level and then isfy consumer demand. giving each citizen an equal share of each hold- Another effect of constraints on private ing company. business creation is to exacerbate unemploy-
FEDERAL RESERVE BANK OF DALLAS 21 ECONOMIC REVIEW FOURTH QUARTER 1998 Table 2 Qualitative Competitiveness Measures, 1997
Removal of Price Solidarity government in Poland and a high pri- Privatization entry barriers liberalization ority in most other Eastern European states Czech Republic Near OECD Substantial Substantial (Vickers and Yarrow 1991). Hungary Near OECD Substantial Substantial While price controls are most commonly Poland Near OECD Substantial Substantial criticized for obscuring producers’ ability to Romania Substantial Some Substantial know which products to produce, price controls Russia Substantial Some Substantial Slovakia Near OECD Substantial Substantial also act as a barrier to private business creation and therefore affect whether an entrepreneur NOTE: Near OECD means near normal Western levels. produces at all. When the state sets artificially SOURCE: European Bank for Reconstruction and Development 1997. low prices in a particular industry, entrepre- neurs have little incentive to set up firms in that industry because they cannot earn a sufficiently high rate of return on their investment. Thus, ment problems that occur during the privatiza- raising prices can actually help consumers by tion process. Because communist doctrine hastening the arrival of competitors, which will emphasizes full employment, state-owned firms in turn eliminate the shortages endemic to com- are encouraged to employ workers even when munism and ultimately lower prices as well. those workers become unprofitable for their companies (Feinberg and Meurs 1994). This Eastern European Experience suggests that private owners would almost cer- The privatization process is nearing com- tainly need to lay off workers. Unless these indi- pletion across the core states in Eastern Europe, viduals are free to start their own businesses and constraints on private business creation in and free to work for newly created businesses, these states have been substantially reduced the unemployment created by privatization (Table 2). However, private business creation could cause rather severe social difficulties, was hindered in a variety of ways during the especially given the near-total absence of a transition period. In Russia, market entry was social safety net in these countries. discouraged “by a variety of technological, Finally, constraints on private business administrative, and other obstacles” (Capelik creation place an inordinate emphasis on suc- 1992). In Hungary, market entry was hampered cessful privatization. Even though the theoreti- by a government policy under which large state cal issues involved in privatization are relatively banks ignored the private sector in favor of simple, designing a privatization program that state-owned enterprises; additionally, any loans successfully translates theory into effective pri- by private-sector banks to private-sector busi- vatization is extremely difficult. By definition, nesses could be deemed improper banking private business creation lessens the economic practices punishable by closure of the bank in influence of newly privatized firms. Therefore, question (Pataki 1993). And in Romania, gov- business creation acts as a sort of safety net for ernment regulations impede market entry to poorly designed privatization programs and such an extent that many privatized firms con- thereby assists in the transition to a market tinue to be run as monopolies (Melloan 1998). economy. On the other hand, private-sector eco- nomic activity exploded in the Czech Republic Price Controls as a result of rapid postcommunist market liber- Before the fall of the Iron Curtain, goods alization (European Bank for Reconstruction communist officials deemed necessary were and Development 1997). For example, the often priced significantly lower than compa- Czech Republic’s private-sector share of GDP is rable goods in the West, while goods deemed almost on a par with that of the United States unnecessary were often priced significantly (Table 1 ). Private-sector economic activity also higher (Arrow and Phelps 1993). It is, therefore, rose in Poland and Hungary, where successful not surprising that price liberalization was one communist-era experiments in private-sector of the first issues with which the postcommunist legalization helped persuade postcommunist states of Eastern Europe had to contend. policymakers to adopt market liberalization Economists have argued that price liberalization shortly after the fall of the Soviet Union is essential to the development of a market (Johnson 1994). These three countries have had economy because prices are the mechanism the fastest-growing economies in Eastern through which entrepreneurs determine what to Europe since the transition from communism produce. Based on this advice, price reform was (Figure 1). While one cannot demonstrate con- made the first priority of the postcommunist clusively that a favorable climate for private
22 business creation is responsible, the experience as China’s? One such lesson is that the design of of these countries is consistent with the idea a privatization program is as important as the that constraints on private business creation can economic theories the program incorporates. hinder growth. Unlike privatization in the West, which typically The abolition of price controls occurred in involves a single firm whose financial perfor- a more uniform fashion in Eastern Europe. mance has been evaluated by independent Within a few years after the fall of communism, auditors, the transition from communism in- price controls had been sharply reduced across volves the simultaneous privatization of hun- the region (Table 2). This resulted in the virtual dreds of firms for which even the most basic elimination of shortages and an eventual in- balance-sheet information is likely to be un- crease in product quality to near-Western levels. available. Additionally, a dispersal of ownership Reversion to the previous regime has been a across many citizens could produce a situation possibility only in Russia, where many ex- in which shareholders would be unable to exer- pressed hope that firms would voluntarily limit cise effective oversight of management. One their price increases in the name of protecting way to overcome this problem would be the consumer (Arrow and Phelps 1993). Indeed, through the creation of holding companies in policymakers almost reinstated strict price con- which each citizen could invest. For example, trols in 1993 to counter what one legislator heeding the suggestion of economists, both called the “greed” of producers, and the legisla- Poland and Czechoslovakia made holding com- ture enacted a number of provisions to punish panies a centerpiece of their privatization pro- those deemed to have raised prices too far or grams. However, equally strong commitments to too fast (Bush 1993). This lack of political com- the principle of holding companies did not mitment to reform deterred entry and shifted result in equal success with their implemen- business toward the black market (which has tation. Holding companies played an enor- seen astonishing growth in Russia) while pro- mous role in the success of the Czechoslovak longing the presence of queues that in turn program but nearly destroyed the Polish have generated widespread public dissatis- scheme. Such seemingly small changes in faction with the reform effort.7 Several Russian implementation could have enormous conse- regions reintroduced price controls in 1998 to quences for Chinese privatization. quell this dissatisfaction, and the national Of particular importance is the claim that government has discussed doing the same Chinese privatization might not move a majority (LaFraniere 1998). Such a move would reduce interest in state-owned firms into the private competition in the Russian economy and, ironi- sector. If the Chinese government were to main- cally, exacerbate many of the economic prob- tain a majority stake in a particular “privatized” lems to which the public objects. enterprise, it could thwart efficiency-enhancing measures at that company if the measures were CONCLUSION likely to increase unemployment. The govern- ment could also block the firm from entering This article explores problems and possi- new markets if those markets were already bilities associated with privatization and the served by a government-owned firm. It could transition to a market economy. In it, I suggest even bankrupt the firm if the private-sector that privatization at its most basic level—the shareholders were to resist the directions in distribution of shares from the government to which the government wished to take the firm. the private sector—is difficult to achieve and One might hope the government would behave insufficient to bring about economic growth. I as if it were a private-sector individual, but the also consider the importance of appropriate only way to guarantee such behavior by the owner/manager incentives and conclude that owners of privatized firms would be to ensure privately created holding companies may be the that every owner is a private-sector individual— best way to ensure that de jure privatization which would be inconsistent with a privatiza- becomes effective privatization. Finally, I con- tion plan in which the government releases only sider the importance of legal constraints on pri- a minority of ownership shares to the public. vate business creation and conclude that a Another lesson is that privatization, while competition-enhancing legal framework is vital important, is not sufficient to create a market to the success of privatization. economy. Eastern European governments fo- What lessons can be learned from the cused on privatization as a quick fix, something Eastern European privatization experience and, that could be executed quickly and would bring perhaps, applied to emerging economies such about effective competition just as quickly. Yet
FEDERAL RESERVE BANK OF DALLAS 23 ECONOMIC REVIEW FOURTH QUARTER 1998 privatization does not by itself create competi- REFERENCES tion. If communist-era restraints on private busi- Ali, Abdiweli (1997), “Economic Freedom, Democracy ness creation were to be maintained in China, and Growth,” Journal of Private Enterprise 13 (Winter): entrepreneurs would be unable to compete 1–20. against newly privatized companies. This could mean that privatization would only convert gov- Arrow, Kenneth J., and Edmund S. Phelps (1993), ernment-run monopolies into privately held “Proposed Reforms of the Economic System of monopolies, with minimal employment oppor- Information and Decision in the USSR: Commentary and tunities for workers laid off during the privati- Advice,” in Privatization Processes in Eastern Europe: zation process. Such a result might exacerbate Theoretical Foundations and Empirical Results, ed. Mario the unemployment shocks associated with the Baldassarri and Luigi Paganetto (New York: St. Martin’s transition to a market economy without provid- Press), 15–47. ing any of the efficiency gains that result from competition—probably the worst imaginable Bird, Chris (1998), “Voters in Quandary over Moldova’s outcome for those who wish to help unleash Political Zoo,” Reuters Online News Service, March 19 the Chinese economy through privatization.
NOTES Boycko, Maxim, Andrei Shleifer, and Robert W. Vishny (1994), “Voucher Privatization,” Journal of Financial I would like to thank Steve Brown, Steve Prowse, Lori Economics 35 (April): 249–66. Taylor, and Mine Yücel for helpful comments. 1 These Eastern European states are the Czech Brada, Josef C. (1992), “The Mechanics of the Voucher Republic, Hungary, Poland, Romania, and Slovakia. Plan in Czechoslovakia,” RFE/RL Research Report 1 2 A study by Ali (1997) finds that increased economic (17): 42–45. freedom generally leads to increased economic growth. ——— (1996), “Privatization Is Transition—Or Is It?,” 3 One example is the landmark 1984 privatization of Journal of Economic Perspectives 10 (Spring): 67–86. British Telecom (Financial Times 1995). 4 This is a standard portfolio-theory result applied to Bush, Keith (1993), “Chernomyrdin’s Price Control Decree privatization. See Sharpe (1970) for a more general is Revoked,” RFE/RL Research Report 2 (5): 35–37. discussion of portfolio theory. 5 Hansen (1997) presents an alternative view in which Capelik, Vladimir (1992), “The Development of Anti- mass privatization is desirable precisely because no monopoly Policy in Russia,” RFE/RL Research Report 1 single investor has the power to oversee management. (34): 66–70. According to this view, managers who face no share- holder oversight can transfer any profit from the share- Dittus, Peter, and Stephen Prowse (1996), “Corporate holders to themselves, which gives managers a Control in Central Europe and Russia: Should Banks Own powerful incentive to maximize profit. Shares?” in Corporate Governance in Central Europe and 6 See Dittus and Prowse (1996) for an interesting and Russia, Volume 1, Insiders and the State, ed. Roman informative discussion of this issue. Frydman, Cheryl W. Gray, and Andrzej Rapaczynski 7 Responding to this dissatisfaction, the Russian legis- (Budapest: Central European University Press), 20–67. lature passed a nonbinding resolution in June 1997 that called for the renationalization of many previously Dyck, I. J. Alexander (1997), “Privatization in Eastern privatized companies. The nonbinding measure Germany: Management Selection and Economic Transi- passed by a vote of 288 to 6 (Radio Free Europe/ tion,” American Economic Review 87 (September): Radio Liberty 1997). 565–97.
24 European Bank for Reconstruction and Development Pataki, Judith (1993), “Hungary: Domestic Political (1994), Transition Report (London). Stalemate,” RFE/RL Research Report 2 (1): 92–95.
——— (1997), Transition Report (London). Patterson, Perry L. (1993), “Overview: The Return of the Private and Cooperative Sectors in Eastern Europe and Feinberg, Robert M., and Mieke Meurs (1994), “Privatiza- the Soviet Union,” in Capitalist Goals, Socialist Past, ed. tion and Antitrust in Eastern Europe: The Importance of Perry L. Patterson (Boulder, Colo.: Westview Press), 1–16. Entry,” Antitrust Bulletin 39 (Fall): 797–811. Percival, Lindsay (1997), “Albania: Pyramid Schemes Financial Times (1995), “A Decade of Privatization,” Common Across Europe,” RFE/RL Research Report 6 December 27, 9. (1): 31–33.
Gray, Cheryl (1996), “In Search of Owners: Privatization Radio Free Europe/Radio Liberty (1997), “Duma Slams and Corporate Governance in Transition Economies,” Privatization Results,” Newsline on the Web, June 6 World Bank Research Observer 11 (August): 179–97.
Grime, Keith, and Vic Duke (1993), “A Czech on Roland, Gerard (1994), “On the Speed and Sequencing Privatization,” Regional Studies 27 (8): 751–57. of Privatisation and Restructuring,” Economic Journal 104 (September): 1158–68. Hansen, Nico A. (1997), “Privatization, Technology Choice and Aggregate Outcomes,” Journal of Public Seely, Robert (1993), “Shops Go on Block as Ukraine Economics 64 (June): 425–42. Privatizes,” Los Angeles Times, February 21, A4.
Jensen, Michael C., and William H. Meckling (1976), Sharpe, William F. (1970), Portfolio Theory and Capital “Theory of the Firm: Managerial Behavior, Agency Costs Markets (New York: McGraw-Hill Book Company). and Ownership Structure,” Journal of Financial Economics 3 (October): 305–60. Slay, Ben (1993), “The Indigenous Private Sector in Poland,” in Capitalist Goals, Socialist Past, ed. Perry L. Johnson, Simon (1994), “Private Business in Eastern Patterson (Boulder, Colo.: Westview Press), 19–39. Europe,” in The Transition in Eastern Europe Volume 2: Restructuring, ed. Olivier Jean Blanchard, Kenneth A. Tirole, Jean (1994), “Western Prudential Regulation: Froot, and Jeffrey D. Sachs (Chicago: University of Assessment, and Reflections on Its Application to Central Chicago Press), 245–91. and Eastern Europe,” Economics of Transition 2 (June): 124–49. Kotrba, Josef, and Jan Svejnar (1994), “Rapid Multi- faceted Privatization: Experience of the Czech and Vickers, John, and George Yarrow (1991), “Economic Slovak Republics,” Economic Policy in Transitional Perspectives on Privatization,” Journal of Economic Economies 4 (2): 147–85. Perspectives 5 (Spring): 111–32.
LaFraniere, Sharon (1998), “Legislative Leaders Decry Voszka, Eva (1993), “Spontaneous Privatization in Moscow’s Political Vacuum,” Washington Post, Septem- Hungary,” in Privatization in the Transition to a Market ber 10, A26. Economy: Studies of Preconditions and Policies in Eastern Europe, ed. John S. Earle, Roman Frydman, and Lyle, Robert (1997), “China: ‘Survival of the Fittest’ Drives Andrzej Rapaczynski (New York: St. Martin’s Press), Privatization,” Radio Free Europe/Radio Liberty Weekday 89–107. Magazine, September 15
Nove, Alec (1992), An Economic History of the USSR: 1917–1991 (New York: Penguin Books).
FEDERAL RESERVE BANK OF DALLAS 25 ECONOMIC REVIEW FOURTH QUARTER 1998