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Economic Shock Therapy vs. Gradualism : The "big bang" approach has worked well in Poland, while other east Europeans have adopted a more gradual method in moving toward capitalism.

By 1989, the communist economic system of central planning and state- owned industry was nearing its end. In Poland, the Solidarity movement had probably dealt it a mortal blow already in 1980 by virtually paralyzing the party state on which the functioning of the whole system crucially depended. In the Soviet Union, Gorbachev unwittingly kept dismantling it bit by bit through ceaseless reforms and reorganizations. Largely because of Gorbachev's renunciation of the Brezhnev Doctrine, the communist system was disintegrating in other Soviet bloc countries as well. Relieved of the threat of Soviet intervention,they saw once more the rise of the spirit of 1956 Budapest and 1968 Prague, this time safe and self-confident.

Poland was the trailblazer. An (almost) freely elected parliament, with a large noncommunist majority, approved the so-called Balcerowicz program in December 1989. Consisting of a host of coordinated liberalization measures ultimately aiming at the restoration of capitalism, the program--often described as "shock therapy" (or alternately, "big bang")--became the first of the postcommunist reform schemes.

Its example certainly inspired the measures later introduced in post- Soviet Russia by Egor Gaydar. And its results were closely watched by everybody. Some paid lip service to the principle of moving away from the centrally planned, state-owned economy rapidly, on a broad front, just as the Poles did. Others expressed doubts and reservations. Except for Russia, few equaled the Polish pace of reforms. The seemingly high cost--falling output, declining living standards, increasing unemployment--was judged excessive. Instead, a purportedly less painful exit route from communism was generally advocated--a gradual transition.

From the record so far--barely a decade--it would be difficult to draw conclusions about the relative merits of the two approaches. Shock therapy seems to have succeeded quite well in Poland but apparently not in Russia. More gradual changes added up to creditable progress in Hungary and in the special case of the Czech Republic (although short of expectations) but nowhere else. Obviously the course and outcome of the reforms (even if motivated by the same goal of restoring capitalism) were strongly influenced by local circumstances. Nonetheless, a few observations may be helpful in putting the shock therapy vs. gradualism issue into a more general perspective.

First, we must recognize the extraordinary complexity of a systemic overhaul. Economics was of relatively little use in choosing between the two strategies. Although a prescription for an adequate working system could be culled from any decent economics textbook, neither theory nor practical experience offered any guidance regarding the transition from the realities of communism to capitalism. Necessarily, the great project of overhauling an entire economic system was a matter of learning by doing, with all the attendant uncertainties and risks. It was, in effect, guesswork and improvisation. No amount of advice from academics, international agencies, or Western governments could change this.

The choice between the two strategies was further complicated because many relevant considerations involved psychological, sociological, and cultural dimensions that do not lend themselves easily to analysis--in particular, to quantifiable analysis--and prediction. This added an elusive quality to an already baffling economic problem.

Moreover, apart from any intrinsic complications, the choice of strategy and its implementation was to a great extent a matter of politics. It depended on the configuration of political forces in each country. This had several consequences. It would be difficult to exaggerate the weight of politics in adopting shock therapy. In Poland and Russia, the only two unambiguous cases of such a choice, the goal was to remove once and for all the organizational and economic basis of the Communist Party state. The reformers, enjoying at the moment popular support, wanted thus to create an irreversible situation. They tried to put an end to the self-regeneration tendencies of the central controls--a phenomenon well known from the communist past. Undoubtedly, all that was done with a hope for positive economic results sooner or later. But it was done with an overriding political purpose of getting rid of a communist regime, even at immediate economic cost. Anyone familiar with the 80-year history of communist rule can sympathize with such motives.

Still, this was only one part of the story. The other part, invariably overlooked by critics of shock therapy, was the fact that in both Poland and Russia the alternative of gradual, well-coordinated, and carefully timed reforms "from above" was altogether unrealistic. The political and organizational prerequisites for such a course were simply nonexistent. During the 1980s (in Russia, the later 1980s) de facto decentralization of the economy was progressing rapidly. There was growing chaos and an ever-worsening disequilibrium between supply and demand.

In 1989, a foreigner visiting Poland or Russia could form no idea of what was being sold in the various shops he might have seen. Their shelves were empty. The economy was no longer really controlled from the center. Under such conditions, no one was actually in a position to undertake an orderly course of gradual reforms. It was this vacuum (and the ready support of the IMF and World Bank) that encouraged, indeed invited, the procapitalist shock therapists to take the lead. Bravely, they did.

The very limited experience of postcommunism suggests that, more than anything else, shock therapy derived from a catastrophic decline of communist power. This was certainly the case in Poland and Russia. The counterexample of Czechoslovakia (and its two successor republics) also lends support to this view. In Czechoslovakia, despite vocal opposition, the communist regime functioned quite effectively almost to the end. There was neither a decline in production nor disequilibrium between supply and demand. Following the Velvet Revolution, the architect of the procapitalist economic program, VCclav Klaus, talked about wholesale and rapid reform, but in fact with the support of the social-democratic President VCclav Havel, steered the course of the reforms cautiously, step by step.

The same policy continued, after the breakup of the federation, in the Czech Republic. There certainly was no "shock." Similarly, Slovakia's Vladimir Meciar, also acting from a position of political strength and relative economic stability, stopped, and even reversed, the process of reforms. There was no shock here either. Notwithstanding local variations, the situation in other postcommunist countries of central and eastern Europe resembled the Slovak rather than the Czech variant. Romania, as so often in the past due to instability and wide policy swings, did not quite fit this oversimplified typology.

Until now, popular views, and indeed sundry public figures, have attributed the economic hardships of central and eastern Europe to the zeal of misguided shock therapists. Such beliefs have no foundation in fact. According to official statistics, there was no obvious connection between the breadth and speed of reforms and the decline in output. Official figures for the crucial period of 1989-1992 show it clearly.

[Table 1]

Except for Bulgaria (and of course the successor states of the former Soviet Union, including Russia), the central and east European countries have registered positive growth for the last several years. Some, especially Czechoslovakia, have also made significant advances in privatizing their economies. In that respect, however, official statistics need to be interpreted with caution. While it is true that each and every way of reducing the scope of state ownership is a move, probably an irreversible one, away from communism, not all such moves are productive.

The Russian case is most instructive. In their understandable eagerness to speed things up, the Russian reformers proved themselves unequal to the combination of nomenklatura and mafia. The resulting mess has yet to be cleaned up, and this, one can safely assume, will take a long time. The rather speedy Czech privatization, placing the control of industry in the hands of bureaucratic investment funds, has also proved less than satisfactory so far. The record is also mixed elsewhere, although Hungary and Poland--more deliberate (some would say sluggish) in their approach to privatization--seem to have been more successful. In any case, they managed to avoid scandals.

The experience of privatization in the postcommunist world leads one to conclude that clearly defined and enforceable property rights--which means good laws, efficacious courts, and effective enforcement--are more important than a particular privatization scheme. A litmus test of the real status of property rights is twofold: a fair and sympathetic approach to the restitution of property taken over by previous governments, and just treatment afforded foreign investors. Nationalism has often complicated and thwarted the latter. But the influx of capital from abroad is certainly an expression of confidence in the viability of local property rights. The Czech Republic, Hungary, and Poland have achieved a modicum of success on both counts. The other postcommunist countries are lagging.

The postcommunist countries will obviously need much more time to establish functioning private-enterprise market economies. The realization of this task has barely begun. In a few cases--such as the countries to be considered for early membership in the European Union, namely, the Czech Republic, Estonia, Hungary, Poland, and Slovenia-- there has been significant progress. Elsewhere, the picture has been mixed at best.

On occasion, especially in the former Soviet republics, it has even been bleak, with little probability of success in the foreseeable future. The uneven progress in freeing the various countries from the shackles of communism is reflected in a 1999 survey by the Heritage Foundation that ranked 161 countries according to an index of economic freedom. The survey was based on 50 independent criteria divided into 10 broad economic factors: trade policy, taxation, government intervention in the economy, monetary policy, capital flows and investment, banking, wage and price controls, property rights, regulation, and black markets. The results--debatable as they might be- -are a rough indication of the progress achieved so far by the postcommunist countries.

[Table 2]

An important negative factor in most countries of the former Soviet Union has been communism's destruction of what may be called the entrepreneurial class, including both the skills and attitudes usually associated in the West with entrepreneurship. This process was broader and deeper in places such as Russia and Ukraine, affected since 1917, than it was in Poland or Hungary, which came under communism in the 1940s. And of course the entrepreneurial elements were stronger in most of precommunist central and eastern Europe than they were in prerevolutionary Russia.

The continuing presence of communist and ex-communist bureaucrats and politicians on the public scene of the former Marxist-Leninist states has naturally also been a negative influence. They can hardly be expected to enthusiastically support the growth of capitalism. To be sure, they cannot entirely prevent it, but they certainly can slow it down. Kleptocracy on the scale witnessed in, say, Russia would be impossible without the continuing power of the old Soviet nomenklatura, which still dominates large enterprises as well as regional and local administrations.n

Andrzej Brzeski is a professor in the Economics Department of the University of California at Davis.
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Publication:World and I
Geographic Code:4EXPO
Date:Nov 1, 1999
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