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Consequences of economic transition on logistics: the case of Hungary.

Introduction

Economies and societies in Central and eastern Europe (CEE) are going through a change of historical importance. The political changes in 1989-1991 have opened the way for a transformation to a market economy, which in the time elapsed has proved to be harder and more painful than originally expected. This article examines one specific aspect of the changes: their effect on logistics, using Hungary as an example.

The ex-socialist countries of CEE show substantial differences. The most important differences follow from:

* the starting position of the various countries (e.g. some countries had a substantial private sector, others not; some countries had a large foreign debt, while others not);

* policies followed in the transition (most importantly, whether shock therapy or a gradualist approach was applied);

* history and culture.

There are also some very important common elements:

* structural and operational problems inherited from the previous regimes are in many respects similar;

* they have similar tasks in modernization, privatization and restructuring;

* all are heavily affected by the collapse of eastern European integration (Comecon);

* all wish to join the European Union in the shortest time possible.

At the beginning of its transformation, Hungary possessed the best developed market system, compared to other transition economies in CEE. The limited, but permanent reforms since 1956 helped to establish many of the institutions and processes of a market economy. Therefore, Hungary can be considered as a benchmark when examining the general features of transition in the region.

This article is organized as follows. First, we shall summarize those features of the transition which have most affected logistics. We do not attempt a general evaluation of the transition since there are extremely good and informative articles on those topics (see, for example [1-3]). Then we shall deal with specific changes experienced in the field of logistics. At the end, some conclusions will be drawn.

Logistics-related economic developments

Fall of production

In all transforming economies production has fallen after the political turnaround. Hungary is no exception. Falling production is a consequence of the transition process itself. Transformation involves eliminating non-economical activities and restructuring the economy. There were very substantial state subsidies before transition, which had maintained non-economic production in many fields. These subsidies have virtually been eliminated in Hungary, forcing companies either to reduce or stop production of those items which caused losses. Two external factors deepened these effects, the result of which can be seen in Table I. One of them is the unexpectedly speedy collapse of the eastern European integration (Council of Mutual Economic Assistance, COMECON), which eliminated the market for a great number of products, forcing many companies specialized in those markets either to turn to other markets (first of all to western Europe, which process was not at all easy) or to decrease production sometimes very sharply. This factor made restructuring the whole economy a must. Few products (or services) sold until 1990 to the COMECON countries were to be equally successful in the western markets. Another external factor complicating the adjustment was the enduring world recession, which made the markets available for Hungarian products even narrower.
Table I.
Change in GDP (percentage of 1989 figures)


Country           1990      1991     1992     1993     1994


Hungary           96.5      85.0     81.4     79.5     82.3
Czech Republic    99.6      85.5     79.4     79.2     81.1
Poland            88.4      81.7     82.9     86.1     90.4


Source: [4]


Recent developments show that Central and eastern European economies have started to come out of recession, in connection with the upswing in western Europe. However, the level of production is still far from the level existing before the political changeover, even in the most developed countries of the region.

Changing microstructure

There have been fundamental changes in the microstructure of the Hungarian economy. Here we advance three main aspects. First, the ongoing privatization process is changing the ownership structure. This change of ownership is unprecedented in history under peaceful conditions (although many people, including myself, would like to see an even faster change). The rise of private ownership gives way to new economic and business behaviour in a growing proportion of economic actors. (According to a recent estimate in Business Central Europe, the private sector produces about 65 per cent of GDP in the Czech Republic, about 55 per cent in Hungary, Poland and Slovakia, 40 per cent in Bulgaria - compared to 5-15 per cent before the political changes.) The main elements of this changing behaviour are the following:

* private companies usually show greater cost sensitivity soon after the new owners step in;

* the market- and customer-related activities are strengthened, services are improved;

* the traditional overemployment (causing frequently in-house unemployment) is terminated.

Second, the privatization process and the recession together dramatically changed the size of companies. While in the traditional "socialist" system very large, state-owned enterprises dominated most industries, today they have mostly disappeared either by breaking into pieces or shutting down substantial parts of their production. (This process is also closely connected to privatization.) In the meantime, tens of thousands of new partnerships and hundreds of thousands of sole proprietorships have been established (Table II).
Table II.
The number of economic organizations with legal entity (at the end
of the year)


Type of organization                   1989         1994


State enterprises                     2,399          821
Limited liability companies           4,484       87,837
Joint stock companies                   307        2,896
Co-operatives                         7,076        8,285
Others                                  870          975


Source:[5]


A third major dimension of structural change involves sectoral transformation. Reorientation of trade has altered substantially the contribution of various sectors to GDP, while the decline of state enterprises and rise of new companies in each sector vary greatly. Most new companies have entered service industries and trade, where capital turnover is relatively speedy. These sectors generally were underdeveloped in the old regime. As a result the share of manufacturing has declined substantially against the advance of these two sectors. (In the 1989-1991 period in Hungary the decline was from 31.1 per cent to 26.8 per cent of contribution to GDP, while in Poland the figure dropped from 44.1 per cent to 40.1 per cent. There are no data available for the Czech Republic[3].) Also, the internal structure of manufacturing has changed. Those products of the heavy industry and machine industry which were characteristic of COMECON trade have given way to more consumer-oriented products both for exports and internal use.

Change of market relations

Traditional market relations within the "socialist" countries, including Hungary, were characterized by the superior position of the seller to the buyer. Under the circumstances of shortage economies it was easy to sell and hard to buy. Therefore trade conditions (and the whole logistics process) were mostly determined by the seller. This situation was self-sustaining under the former system. With transformation the reasons behind it have ceased to exist, and only then could changes occur. Without going into a general economic discussion of these phenomena which are of basic importance for the operation of the economy, here I only mention that the two direct (or technical) reasons for eliminating shortages were the liberalization of imports (which has increased supply) and the general fall of production and living standard (which have decreased demand).

These changes have certainly had a great influence on logistics behaviour. Companies became much more customer oriented, as will be shown later.

Political uncertainties

Even without going into detail, it is easy to see that logistics activities are greatly influenced by such events as the war in the former Yugoslavia, the virtual shutdown of Ukrainian and Russian imports, the Czech-Slovakian separation, etc. These, mainly political, events are seemingly far removed from logistics, but they have very direct effects on it (for example, on possible distribution channels and on the costs of logistics - the embargo against Yugoslavia cost Hungary at least US$50 million).

New requirements for the logistics function

Faced with the above-mentioned conditions, companies have to meet new strategic requirements. The most important ones are listed in the following paragraphs.

First, companies must deal with new participants in their industrial sector almost every day, both among customers and suppliers as well as competitors. The relative strength and influence of the participants is changing constantly. Even old participants show new behavioural patterns. Companies must adjust to these changes. New channels of supply and distribution, new requirements in contacts, etc. require greater flexibility. This means both challenges and opportunities - those who are able to meet the new requirements can make considerably more profit than before.

Second, the change in market relations means that companies, in their role as sellers, must provide a service completely different from the one which they were used to. They are no longer able to dictate delivery conditions to buyers, but have to adjust their operation to the buyers' requirements. This means, for example, that they must:

* keep considerably higher output stocks than before, in order to meet demand more quickly;

* provide the means for transportation in many cases where previously they did not care how the buyer would take delivery;

* be more reliable in providing appropriate quality and quantity.

Third, the integrative role of the logistics function has received much more emphasis than before. More and more companies employ a logistics manager, and place him/her at a senior level within the management hierarchy. Much more attention is paid to the logistics aspects of operation. There is an increasing demand for education and there is much more awareness of what is going on throughout the world. Managers must learn more and more about world class methodologies. (In the few years which have elapsed since transition started, a major in logistics has been introduced in most higher education institutions and the Hungarian Association of Logistics, Purchasing and Inventory Management, founded in 1991 as a response to the transition process, is running a very successful system of logistics courses at the middle-and top-management levels.)

Finally, one of the fundamental characteristics of the old regime was its neglect of infrastructure development. As a result, today the infrastructure is a barrier to development in several regions. Now the Government expresses its preference for infrastructure development and substantial efforts are being made within many companies as well. The task is complex: the capacity, quality and structure of the infrastructure must be changed, all at the same time. Special attention must be paid to the development of telecommunication systems.

These changes are quickly progressing, especially in the case of the various joint ventures involving foreign partners, since foreign owners usually come up with new management requirements (in many cases they have put experienced foreign managers in some key positions). The new practices introduced in foreign joint ventures create direct challenges for domestic Hungarian companies as well.

A special role is played in this respect by Hungarian subsidiaries of large multinational companies (most of the world's largest multinationals have established some kind of business in Hungary). These companies have brought their own management culture to the country and in many cases provide good examples and even play a norm-setting role in business behaviour.

Changes in logistics behaviour

This section summarizes several micro-level aspects of logistics changes characteristic of the leading companies in Hungary. Such strategic changes are responses to the environmental factors described above and are as follows:

* Distribution (sales) strategy is influenced mostly by the increasing competition both from within the country and from imports. Competition forces increased flexibility, extended services, faster delivery and larger output stocks waiting for customers. Leading companies meet these requirements to a greater and greater extent.

* More and more is being demanded of suppliers than before. This is the "other side" of market changes - i.e. the increased strength of buyers relative to sellers. Companies require much faster, economical and reliable service from their suppliers. Increased attention to purchasing economy leads to a selective approach towards suppliers - source selection and multiple sourcing are more frequent than before.

* The reliability of delivery has already changed substantially. Companies offer shorter delivery time and miss the deadline less frequently than before.

* Companies are much more sensitive to costs of logistics than before (e.g. in the selection of transport mode). This is part of the generally increased sensitivity to their financial wellbeing, which stems from two sources (increased competition and the elimination of state assistance in case of financial troubles).

* The overall financial situation of most companies makes it impossible to maintain the same high inventories as before. The general decrease of inventories goes together with a structural change: the relative increase of output inventories (finished goods) compared to input inventories (raw materials and purchased parts).

* Companies put somewhat less emphasis on increasing exports. Since imports are liberalized and competition is increasing, companies do not necessarily need to export in order to purchase import goods. The state support of exports has mostly disappeared.

* Before transformation there was a big difference both in the requirements and the actual performance in the various markets (internal, COMECON and western). Practices rapidly are becoming uniform across markets which certainly makes it possible for companies to conduct a much more systematic and logical logistics behaviour.

In a recent survey conducted as part of the Global Manufacturing Research Project several characteristics of the changing supplier behaviour have been explored. The Whybark and Vastag[6] volume gives detailed information on the project; the Chikan and Demeter[7] article in that volume describes results of the survey in Hungary. A third round of the survey has just been completed, so the 1994 data appear here first. In all the three rounds we had about the same number of manufacturing companies (78 in 1986, 77 in both 1991 and 1994). Despite the standard changes in Hungary we tried to maintain the comparability of the samples. There is only one major change: the average size of the companies has decreased substantially, as a consequence of the general downsizing in the Hungarian economy. The questionnaire used in the survey is quite lengthy - here we give only those results which characterize the changing logistics behaviour.

The increased attention to customer relations and the higher flexibility is reflected in setting and changing production priorities. Table III illustrates the changes: material shortages and production problems have lost their leading role, while market-related factors (pressure from sales and customers and the changes in demand) and sales plans have advanced. The manufacturing lead time of the companies in the sample decreased to about one-third in the period examined.

Consequences of the changing supplier behaviour can be seen in Table IV, which shows that delivery discipline has increased very substantially. (It already did not make sense to separate export relations in 1994.) It must be added that the decrease in lateness had happened together with a sharp decline in delivery lead time - which, on average, is now about half of the one before.

The market situation is reflected in the inventory level and structure of companies. In shortage economies it is easy to sell and hard to buy - companies keep most of their stocks at the input side to protect themselves against production disruption. Now the situation is just the opposite - flexibility in meeting customer demands requires relatively higher finished good stocks, while there is much less worry about supply. The ratio of input and output stocks is around one in the manufacturing industry of all developed market economies. Table V illustrates that the Hungarian data show a move in this direction (for more details see Chikan[8]).
Table III.
Reasons for changing priority


                                      Average of weights 1-5
Factors                          1986          1991           1994


Material shortages               4.3           3.8             3.5
Production problems              3.5           3.5             3.0
Pressure from sales              3.4           3.9             3.9
Pressure from customers          3.3           3.9             4.0
Due date change                  3.7           3.8             3.7
Demand changes                   2.8           3.6             3.5
Changes in sales plan            2.8           3.4             3.3
Engineering changes              2.7           2.9             2.8
Pressure from top management     2.9           3.4             2.8


[TABULAR DATA FOR TABLE IV OMITTED]
Table V.
Structure of inventories in the manufacturing industry


                                          Ratio in total (%)
Types of inventories              1986           1991
1994


Materials and purchased parts     68.3           67.6
57.0
Work-in-progress                  17.9           18.9
19.0
Finished goods                    13.8           13.5
24.0
Total                            100.0          100.0
100.0


The above changes in most cases occurred as a consequence of external influences. It is still very rare that companies have a well-established logistics strategy, e.g. as a consequence of a re-engineering process. However, increased attention to logistics is a definite trend and will probably lead to strategic thinking in that area as well.

It should be noted that the above trends also appear in other transition economies, mainly in Poland, the Czech and the Slovak Republics and in Slovenia. Though there are only very few reports (as an example see Kisperska-Moron[9]), everyday experience in these countries shows characteristics similar to those described here.

Conclusion

The fundamental changes in CEE as exemplified by Hungary have a great influence on the whole economy of the region, including the logistics function. Macro changes in the economic environment and micro changes in company activities have had a positive impact on the quality of firms' logistics operations. These effects can be increased substantially if companies learn how to obtain synergistic effects through strategic logistics management. Leading companies have already made important steps in this direction. The growing attention to logistics raises the hope that this function will not be a weak area of general development in Hungary.

An understanding of the logistics processes in CEE and the recent changes affecting logistics is certainly important for those who want to do business in Hungary (and similarly, in other countries of the region). Both the economic and business climate are favourable to foreign direct investments and joint ventures. The rapid improvements in logistics performance together with a well-trained and relatively low-cost workforce provide good opportunities for business in this area, which is at the crossroads of Europe.

References

1. Blanchard, O. et al., Reform in Eastern Europe, MIT Press, Cambridge, MA and London, 1992.

2. Kornai, J, "Transformational recession", Discussion Paper No. 1, Collegium Budapest, Institute for Advanced Study, 1993.

3. United Nations, Economic Commission for Europe, Economic Survey of Europe in 1992-1993, New York, NY, 1993.

4. Hungarian National Bank, The World Economy and International Finances, Hungarian National Bank, Budapest, 12 April 1995.

5. Hungarian National Bank, Annual Report, Hungarian National Bank, Budapest, 1993/1994.

6. Whybark, D.C. and Vastag, G., Global Manufacturing Practices, Elsevier, Amsterdam, 1993.

7. Chikan, A. and Demeter, K., "Manufacturing practices in a transition economy", in Whybark, D.C. and Vastag, G. (Eds), Global Manufacturing Practices, Elsevier, Amsterdam, 1993, pp. 341-52.

8. Chikan, A., "Joint macro and micro economic effects on inventories in the transition economies", International Journal of Production Economics, Vol. 35, June 1994, pp. 11-14.

9. Kisperska-Moron, D., "Inventories and customer service in Polish companies", International Journal of Production Economics (forthcoming), paper presented at the Eighth International Symposium on Inventories, Budapest, 1994.

Further reading

Business Central Europe, November 1994, p. 64.

Miller, K.L., Simpson, P. and Smart, T., "Europe: the push East", Business Week, 7 November 1994, pp. 26-9. (Also a correction in Business Week, 5 December 1994, p. 4.)
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Author:Chikan, Attila
Publication:International Journal of Physical Distribution & Logistics Management
Date:Jan 1, 1996
Words:3215
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