An American look at the Czech Republic.

"Traditionally, [we have] had a very special relationship with the Czech people. There is a substantial reservoir of goodwill towards Americans. [No wonder the] U.S. has been one of the top-five foreign investors in the Czech [nation] since the Velvet Revolution of 1989."

THE CZECH REPUBLIC is a stellar example of the success and challenges that are facing the Eastern European nations that have been moving from communism to democratic capitalism. We may recall that, in the aftermath of World War I, Czechoslovakia was created as a new country out of a portion of the former Austro-Hungarian Empire. It lost its independence to Nazi Germany in 1939. At the end of World War II, in 1945, it became an independent nation again and expelled 3,000,000 ethnic Germans from the border areas. Soon, the country became subject to the powerful influence of the USSR and, for the next 44 years, was a "puppet" of the Soviets.

In 1989, after the Berlin Wall fell, Czechoslovakia became independent once again. However, in January 1993, it split peacefully into two separate countries--the Czech Republic and Slovakia. The Czech Republic (consisting of the provinces of Bohemia and Moravia) is more economically and technologically advanced than Slovakia. Its capital, Prague, is one of the great cities of Europe. In terms of population and economic production, the Czech Republic is about the same size as Hungary.

Each of the Eastern European nations is comparable to a state in our union, somewhere between Rhode Island and California. For example, in 2005, the gross domestic product of the Czech Republic was $110,000,000,000, not quite one percent of the output of the U.S. In comparison, Germany's GDP for the same year was 2.8 trillion dollars--25 times as large as the Czech economy. Similarly, the Czech population of 10,000,000 is three percent of the U.S. total and 12% of Germany's. The Czech Republic has a fairly stable (or rather stagnant) population. The death rate is slightly higher than the birth rate plus a modest amount of immigration. The life expectancy of people born there now is a respectable 76 years. HIV-AIDS is a rarity (about 10 deaths a year). The land area is 79,000 square kilometers, around the size of Virginia. The country is bordered by Austria, Germany, Poland, and Slovakia.

Like every other Eastern European nation, the Czech Republic has a distinctive and interesting history and culture. Since their independence in 1918, the Czech people have created a strong democratic tradition that continues to this day. In 1999, the Czech Republic joined NATO. In 2004, the country became part of the European Union. Its leaders have included such luminaries as independence groundbreaker Jan Masaryk (its first president) and dramatist Vaclav Havel (the first post-Soviet president).

The Czechs have a parliamentary republic, with two national leaders. Since March 2003, the president (chief of state) has been Vaclav Klaus, an economist. He is serving his first five-year term and is expected to seek a second and final term in the 2008 election. The prime minister is the head of the government. The U.S. combines the two positions in one president. The parliament consists of an 81-member senate elected by popular vote to serve for six years and a chamber of deputies popularly elected for four-year terms.

The general election, held in June 2006, produced a virtual tie. Left- and right-wing political forces each won control of 100 seats in the 200-seat, lower house of parliament. The center-right Civic Democratic Party (ODS), which previously was in the opposition, received 35% of the popular vote and gained 81 seats. The President has appointed ODS leader Mirek Topolanek prime minister. The Czech Social Democratic Party (CSSD), previously in control, registered 32% of the vote and received 74 seats. The Communist Party (which is the successor to the official Communist Party of Czechoslovakia) is in third place with 26 seats. Interestingly, the Green Party (six seats) wants to have nothing to do with the Communists. Its urban, educated, wealthy supporters favor a liberal, pro-EU policy.

The chairman and deputy chairman of the supreme court are appointed by the president for a 10-year term. A separate constitutional court, which rules only on constitutional issues, also is appointed by the president for 10-year terms. Suffrage and literacy in this well-educated nation are universal.

The Czech Republic invests proportionately less in education than the U.S., although the comparative results are mixed. Only 14% of Czech students graduate college or other post-high school training programs, compared to 33% in the U.S. However, its high school students, on average, score a bit higher in math and science on standard tests than do ours. In math, they register 498 versus our 493 and, in science, 511 versus our 499. About 58% of their 16- to 65-year-olds have good literacy skills, compared to 50% in the U.S. As in America, college graduates, on average, experience significantly lower unemployment rates than those who go to high school only.

Many doctors in the house

The Czechs devote seven percent of their GDP to health care, one-half the U.S. ratio. Yet, they proportionately have more doctors and hospital beds. They average 3.4 physicians per 1,000 people, while our average is 2.8. In terms of hospital beds, they boast almost nine per 1,1300 people; we are at three per 1,000. In a sense, they have to try harder since our demographic trends are far more favorable than theirs. For instance, we have 8.3 marriages per 1,000 people and they have four. Our divorce rate is a little higher than theirs, but that does not make up for the difference. Thus, we have a rising population and theirs is stagnant.

Although relatively small, the Czech economy is much more open to foreign trade and investment than that of the U.S. Its exports are equal to about 70% of GDP, while its imports are almost as large. In comparison, we are far less globalized in that our exports are only 10% of GDP and our imports, 16%. On the other hand, we have a large and growing trade deficit, while the Czechs maintain a modest surplus of exports over imports.

The Czechs wade heavily with their neighbors. Germany is their major partner, accounting for about one-third of exports and imports. When the other adjacent countries are added, it accounts for half of Czech total foreign trade. The composition of this trade reflects the traditional manufacturing orientation of the Czech economy: It is dominated by machinery (including parts and components), transportation equipment, and chemicals. When the Czech Republic was part of the old Austro-Hungarian empire, it was the industrial heartland of the entire regime.

Its trade with Russia is much less important than when the Soviet bloc was a dominant factor. Still, the Czech Republic imports 75% of its crude oil from Russia via pipelines through the Ukraine. Domestically, the Czechs have an abundant supply of coal and wood. Electricity is produced mainly from fossil fuels (76%) and nuclear power (20%). The Czechs gradually are reducing their dependence on highly polluting low-grade coal, partly to meet the environmental standards of the European Union. Biomass and hydroelectric plants provide about four percent of the country's energy.

The economy is growing rapidly after recovering from the difficult transition from communism to private enterprise. GDP increased six percent in 2005 and 2006--almost double the growth rate of the U.S. Inflation rose from a modest two percent in 2005 to almost three percent in 2006. Per capita GDP is around $20,000 a year--about half that of the U.S. Unemployment is at about nine percent; the U.S.'s is less than five percent. This is a rather favorable overall performance on the part of an economy only recently liberated from communist control.

Like most modern economies, services account for the majority of production and employment (approximately 58%). All formerly government-owned banks have been privatized, mainly through acquisition by Western European banks. In 2005, the government privatized the telecommunications enterprise. Internet usage is very popular at 4,800,000. That is almost one-half of the total population. Growth in mobile cellular telephones is especially rapid as well.

Industry accounts for about 40% of the workforce. The Czechs are quite strong in heavy industry, notably metallurgy, machinery and equipment, motor vehicles, glass, and armaments. In the early 1990s, most state-owned industries were privatized through an innovative voucher system. Every citizen was given the opportunity to buy, for a very moderate price, a book of vouchers. These vouchers could be exchanged for shares in state-owned companies. The voucher approach created a lot of shareholders and instant capitalism.

Foreign investment has made the Czech Republic the largest center for motor vehicle production in Central Europe. A key development occurred in 1992 when Germany's Volkswagen bought a 70% stake in the old Skoda Auto and expanded and modernized it for exports and domestic sales. In 2001, Volkswagen acquired the remaining 30%. The next big expansion occurred in 2005 when a large motor vehicle factory was built by a consortium of Japan's Toyota and France's Peugeot-Citroen. The nation's total production of motor vehicles has been rising rapidly, from 448,000 in 2004 to 600,000 in 2005. There is more to come. South Korea's Hyundai is committed to investing $1,300,000,000 in a new car factory in the Czech Republic. The construction of the factory began late in 2006. Initial production is expected to total 200,000 vehicles annually. That would be an almost one-third increase from the 2006 level of output.

All of this did not happen by accident. The Czech Republic has good infrastructure and a central geographic location. In addition, the government provides attractive incentives. For example, Hyundai has been awarded financial incentives equal to 18% of its investment plus $8,000 for each new job created. Basically, these incentives are provided to help offset the lower costs that the Balkan nations offer, as labor rates in Central Europe continue to rise. In 2004, the Czechs lost a $1,000,000,000 project when South Korea's Kia Motors decided to produce up to 300,000 cars a year in a new factory in Slovakia. High tax rates and burdensome regulations also are a difficulty in maintaining Czech competitiveness.

Employment regulations in the Czech Republic are a bit more flexible than in Western Europe, but much more rigid than in the U.S. For example, the maximum work week is 48 hours, with a premium of at least 25% for exceeding an eight-hour day. Large companies must pay higher overtime premiums as set by collective bargaining agreements. For workers under 18, overtime is prohibited. Larger employers increasingly are refraining from ordering overtime work. By law, all workers are entitled to an annual paid vacation of four weeks. About 25-30% of Czech workers are covered by collective bargaining agreements. In the U.S., the portion is less than 15%.

Czech law is quite restrictive on dismissals. For instance, if an employer wants to fire a worker for poor performance or failure to comply with assigned duties, the employer first must warn the employee. A notice of dismissal only is permitted if, during a subsequent period of six months, the poor performance is repeated, ff there is no work for the employee, the employer must try to find a job for him or her elsewhere in the company. If necessary, the employer must retrain the worker. If a different job assignment is not possible, the employer has to actively assist the laid-off worker in finding a new job elsewhere. The minimum amount of severance pay is two months of wages.

Some categories of workers must be continued on the payroll after their dismissal from work until suitable new jobs have been found for them. These groups include single parents of children under 15, pregnant women, disabled workers, and employees released for military service or other civil service duties. The regular retirement age is 60 for men and 53-57 for women. In 2007, it is scheduled to rise to 62 for men and 57-61 for women. The standard retirement age is 65 in the U.S. However, most people go on Social Security at age 62. In some American industries and government agencies, the retirement age is substantially lower than that.

No glass ceiling here

Agricultural production focuses on staples such as wheat, potatoes, sugar beets, hops, fruit, pigs, and poultry. The major natural resources are coal, coke, timber, lignite, and uranium. The country's natural resources are used to produce a category of goods that may be of special interest to women--glass products, especially glass beads, which continue to be an important fashion item and have been a feature of women's wear in the Czech region since prehistoric times. As early as 28,000 B.C., local inhabitants were fashioning beads of fossilized shell and stone. Glass beads were made in the region as early as the 10th century A.D. In the 18th and 19th centuries, millions of the area's beads were exported to North America and Africa.

In the rural parts of the provinces Bohemia and Moravia--during the 19th century and early 20th century--women paraded to church with their bead-embellished folk dresses (kroje). Headdresses with glass beads usually were worn to church on Easter Sunday. The beads conferred status on the wearers because they could not be made at home, but had to be purchased. Beginning in the early 17th century in Bohemia, beads decorated the sheet-sized, lace-trimmed wedding shawls (plena). Flower and heart motifs adorned three comers and tiny beads in bright colors outlined each embroidered motif. The most heavily decorated corner hung down the bride's back. The other two comers were tied in front to flame her face. It took at least two years to create such a shawl. In many Moravian villages, a beaded wedding cap was a traditional gift given to the new bride by her godmother. So expensive was the cap that a cow or piece of land might have to be sold to pay for it. Some caps were embellished with mirrors as protection against evil. If an evil force approached the bride, it would look into the mirror, see its awful reflection, and be frightened away. At least that is the traditional explanation. Of course, modern beads are not accompanied by any such assurances.

There also is a resource-based product that is of special interest to men--and some women. Czech beers are well-known, and not just to connoisseurs. On average, the Czechs drink more beer per capita than anyone else in the world. The consumption of beer is equivalent to about a bottle a day for every person living in the country. The Czechs have been brewing beer for more than a millennium. About 100 breweries currently make 450 different brews. The two major breweries are Pilsner and Budvar. Real Pilsner is made with low-sulfite and -carbonate water in the city of Pilsen. It first was brewed in 1842. The Budweiser Budvar brewery was founded in 1895. Budejovice (the local city) in Czech is translated as Budweis in German. Anheuser-Busch was founded earlier in 1876. The courts still are wrestling with the "Budweiser" issue.

Let us now shift gears and turn to the topic of finance. The Czech Republic was the first post-Communist country to receive an investment-grade rating for its bonds by the international credit institutions. The total inflow of foreign direct investment in 2005 was $10,-000,000,000. That was double the previous year's total and a major reason for the rapid growth of the Czech economy in recent years.

The U.S. has been one of the top-five foreign investors in the Czech Republic since the Velvet Revolution of 1989. By the way, the Czech Republic has no estate (or death) tax, while the top rate in America currently stands at 46%. The capital gains tax rate on securities held for more than one year is zero. Although there supposedly is general agreement on tax policy between the major parties, disagreement is obvious on the key components. Both parties formally support the goal of continuing to shift the overall tax burden from direct taxation of income to taxing consumption. The ODS proposes a flat rate of 15%. When it was in office, the CSSD reduced the corporate tax rate. Flat taxes have been introduced elsewhere in Central Europe, notably in neighboring Slovakia.

The current political deadlock is not expected to yield a new government with the power to make major changes in the near future. Despite the political obstacles, the Czech economy, overall, is forecast to register a very respectable growth rate of five percent in 2007. This reflects the strength of the private sector in a nation that has moved successfully from political domination of economic affairs to a decentralized private enterprise economy.

The currency is the Czech koruna. The exchange rate averages about 24 to the U.S. dollar. The Czech Republic plans to adopt the euro in 2010. The country's economic transformation is not yet complete. It faces a variety of serious challenges. One is to complete the restructuring and modernization of its industrial base, much of which was inherited from the days of communism. Another is to reform the pension and health care systems, particularly in view of the expected aging of the population. Moreover, the country has to deal with serious environmental problems. In general, the Eastern European nations under communism did much less to clean up their pollution than did Western Europe at the same time. So much for the propaganda that capitalism ignores the environment.

Traditionally, the U.S. has had a very special relationship with the Czech people. There is a substantial reservoir of goodwill towards Americans. The U.S. was instrumental in establishing an independent Czechoslovakia. Pres. Woodrow Wilson's 14 Points issued at the end of World War I included a very strategic one: the right of ethnic groups to form their own countries. That was the basis for the creation of Czechoslovakia. When Pres. Havel addressed the U.S. Congress soon after his country regained its freedom from communist domination, he received 21 standing ovations. Although still quite positive, the current relationship is not quite so enthusiastic.

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Murray Weidenbaum, Economics Editor of USA Today, is Mallinckrodt Distinguished University Professor at Washington University, where he is Honorary Chairman of the Weidenbaum Center on the Economy, Government, and Public Policy. He served as Chairman of the U.S. Council of Economic Advisers (1981-82)for the Reagan Administration; Assistant Secretary of the Treasury for Economic Policy (1969-71) for the Nixon Administration; and fiscal economist for the U.S. Bureau of the Budget (1949-57) for the Truman and Eisenhower administrations.