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Soviet heritage and export trade--cross-country evidence from Georgia, Russia and Ukraine.

Introduction

The end of communism in the Soviet Union and its European satellite states presented the world with a challenge never seen before: the collapse of a political and economic system dominating a considerable part of the globe. For the process of transforming the affected states from communist, centrally planned economies into democratic and capitalist, free market ones a new term has been coined: transition. This term, although applied before to democratization in certain countries, acquired a completely new meaning, once relating to almost the entire communist world.

However, the economies, which after 1989 became independent entities, for decades have been part of a vast empire, both politically and economically integrated. The successor states of the former Soviet Union [FSU)1, but also the satellite states, were highly interdependent - the integration of their markets was both horizontal and vertical. First, the whole production was coordinated and controlled by the state institutions. Second, elements of value chains were dispersed among republics, so that - gaining independence2 - most successors did not overtake any complete industry but merely companies supplying certain goods, valuable only if further elaborated in other successor states.

We assume that this interdependence is a significant factor when analyzing the dramatic decrease in and evaluating the actual relations in foreign trade of the FSU countries. The political and economic integration of this area prior to 1989 is what we define in this paper as Soviet heritage.

Over the last 20 years, there has been an impressive amount of empirical work done on the magnitude and direction of trade between countries. Despite the variety of these studies, the evidence on the factors influencing the trade relationships of the FSU countries is negligible. With our study we aim at filling in the gap and at providing empirical evidence on the economic effects of traditional trade relations for Georgia, Russia and Ukraine. We evaluated trade data for the Soviet Union and its single republics prior to the breakup, as well as in the two decades after that event, for the successor states. The analysis is focused on three FSU states: Georgia, Russia and Ukraine, chosen on the basis of differences between them, such as economic and geographic size, trade policies, and geopolitical importance in the region. Further, the countries reflect distinct initial conditions and transformation strategies, leading to different and ambivalent outcomes.

Our main findings confirm that the traditional trade relations increase the volume of exports between countries and significantly affect the economies within the former Soviet Union. However, we ascertained that the initial conditions, e.g. country's abundance of natural resources, has major impact on the adjustment process of foreign trade and current development of trade relationships in the successor economies. Emphasizing the role of economic integration of space in the Union of Soviet Socialist Republics and its consequences for the post-Soviet states, we conclude that those countries' heritage will continue to influence their economic development in the future.

Two Decades of Transition - Assessing the Economic Performances

The political breakup of the Soviet Union in 1991, accompanied by the collapse of trade and industry relations, and by the abolishment of the common price and currency system, caused dramatic changes in the social and economic structure of the successor states. In Georgia, Russia and Ukraine, the vertically and horizontally strongly integrated Soviet economy fell into pieces and the countries recorded a decline in production, consumption and trade. The successors' performance, subsequent to the Soviet disintegration, was driven by the country-specific initial conditions and by the implemented policies, i.e., reforms of market structures and institutions, in the early 1990s.

In all of the successor economies, the adjustment process was characterized by a rapid economic liberalization. Particularly in Russia the encouraged reforms had ambivalent results. After a period of gradualist reforms under Mikhail Gorbachev in the late 1980s, Moscow implemented the so-called shock therapy (Sachs, 1992), with still visible devastating consequences (Stiglitz, 2003). Critics state that the policy advisors failed in regarding the characteristics of the post-Soviet states, e.g. weak institutions, high transaction costs, demonetization of the national economies and institutional weakness (Mau, 1999 and Popov, 2012). As a matter of fact, the advisors sent by Western governments had little knowledge about the system and the countries they should help to reform. In Poland, they were called the "Marriott Brigade" as they preferred to stay in Warsaw, in good hotels, and did not come into touch with the social and economic reality (Wedel, 1995). Similar problem was common to all the nations in transition.

In economics, shock therapy, applied by several of these nations, refers to a sudden release of price and currency controls, the abolishment of state subsidies, and an immediate liberalization of trade in a country. It usually includes the privatization of public assets. On the other hand, there is the gradualism that stands for stepwise reform processes. The goal is still the same, but it is to be achieved through a tactic of incremental adjustments, gradual steps (Gligorov, 1994). Tackling the need of reforms by sudden changes, i.e. economic shocks, was successfully carried out for instance in Chile and Bolivia. Thus, it was a "state of the art" in the 1980s. The overall performance of the transition countries in the early 1990s reveals that the shock therapy belied the expectations in the case of the FSU. By contrast, in Central Europe, e.g. in Poland or in the Baltic countries, the strategy was successful. Therefore, critics claimed that the shock therapy was not applied appropriately in unsuccessful transition countries.

However, Vivek Harsha Dehejia (1997) points out that even if shock therapy failed, there is no a priori presumption that gradualism would have worked. This is because it has conflicting effects in a dynamic general equilibrium. Any modification of the model parameters has ambivalent effects on the outcomes. The country-specific initial conditions make it impossible to define any one-fits-all solution. Vladimir Popov (2000) showed that the differences in the economic performance can be explained exactly by those

uneven starting points. But it is noteworthy, that the fastest growing transition economy, Poland, mitigated its own shock therapy by a more gradualist approach to the reform process (Stiglitz, 2003). The countries of the former Soviet Union performed exceptionally poor also in comparison to China, which followed a solely gradualist approach of transformation, starting in the 1980s.

Astonishingly, on the eve of the Soviet political breakup, the Union's GDP amounted to about one-tenth of the United States (US) GDP, equaling US$709.8 billion. Compared to other regions in the world, the GDP per capita was relatively high. It complied US$2,466 in 1990. But, the income differences among the republics were dramatic, ranging from US$459 in Tajikistan to US$3,485 in Russia. For the same time, it totaled up to roughly US$1,600 in both, Georgia and Ukraine. Figure 1 presents the development of the GDP per capita (in constant US$) in Georgia, Russia, Ukraine and aggregated for all countries of the former Soviet Union, for the period 1990-2010. The solid black line indicates the combined Soviet income per capita in 1990. Common for the economic development in all the successor states is that all countries experienced a sharp decline in the GDP, falling in the FSU to a global minimum of US$312.7 billion in 1999. This indicates the peak of economic depression in the region.

overall economic performance steadily decreased till 2000 and Georgia was affected immediately by the disintegration. The last-mentioned country's economy collapsed, reducing in 1994 the income per capita to one third of the 1990's level. In retrospect, the overall economic consequences of the breakup were twice as intense as the Great Depression in the countries of Western Europe and in the US in the 1930s. The recovery efforts in the successor states were thrown back twice, first by the economic crisis of 1999 and recently by the global economic crisis in 2008. While the Russian GDP increased almost eightfold since 1999, the growth in Georgia and Ukraine was less impressive, amounting to a fourfold rise in the GDP. Further, Figure 1 reveals that the former Soviet republics demanded in average 14 years to get back to the 1990's level of GDP per capita. Some countries, e.g. Georgia and Uzbekistan, required even 16 years in order to regain their former level of income.

[FIGURE 1 OMITTED]

Foreign Export Trade in Georgia, Russia and Ukraine

The inter-republic and foreign export trade showed a substantial growth performance in the 1980s. Prior to the breakup, its value increased from 225,971 millions of Rubles in 1987 to 242,240 millions of Rubles in 1989. The Russian Federal Soviet Socialist Republic was by far the most important economic space of the Soviet Union, occasioning almost 50 % of the export trade. But, compared with other regions in the world, the Soviet's then growth rate was considerably small, reaching approximate 6.83 % for the period 19871989. The growth of the export trade showed different patterns in all the republics. While the growth rate was low in Georgia (5.66 %), Ukraine's exports grew strongly, equaling 8.86 %. This indicates the importance of the mentioned initial conditions. Figure 2 presents the development of the merchandise export trade and depicts the triannual growth rate of the export trade in the Soviet Union, for the period 1987-1989, as well as in Georgia, Russia, Ukraine and in the whole FSU, for the period 1996-2009. Based on trade data derived from the database of Stuart Brown and Misha Belkindas (1993), the interrepublic and foreign export trade in the Soviet Union was converted to current US$. For that reason, the weighted average foreign exchange rate for the years 1987, 1988 and 1989 was calculated, using monthly data for the Soviet official exchange rate of Rubles to US$. The data was provided by the Bank of Russia

(2012). The average rate equaled to 0.63 in 1987, 0.61 in 1988 and 0.63 in

1989. Due to the collapse of institutions, accompanying the break up, and the following uncertainty in the early 1990s, trade data is not available for the countries of the former Soviet Union for the first 6 years of their independence. Since 1996, the Comtrade Database (2012) provides country-specific data. But, some of the former Soviet republics do not report to the United Nations Statistical Division. Particularly data for the successor states in Central Asia and for Belorussia are missing. However, as the volume of export trade in this countries negligible small, the provided data allows to evaluate the current state of export in the FSU.

The data indicates that the breakup of the Soviet Union caused a dramatic reduction of the export trade. In the period 1989-1996, the regional volume of exports diminished by 22.72 % to US$ 118,009 million in 1996. Noteworthily, Figure 2 reveals that some of the successor states benefited from the breakup. This is due to the fact that price distortions were a major characteristic of the Soviet economy. While the prices for raw materials, like crude oil, fertilizer and gas, were heavily undervalued, consumer goods, like textiles and processed food, were strongly overrated. This led, according to Lucjan Orlowski (1993), to a fall in incentives regarding the setting of prices and to a deficiently operating consumer goods industry. Thus, Russia increased its exports by 28.37 % to US$88,703 million in 1996 and its share of exports in total regional exports increased from 50 % to almost 75 %. On the other hand, Georgia's and Ukraine's foreign trade was negatively affected by the disintegration of the Soviet Union. The volume of exports decreased by 94.82 % to US$198 million and by 52.47 % to US%14,400 million respectively. This made Georgia economically to the major loser of the breakup. Also other successor economies were strongly influenced as their volume of export trade decreased by 70.27 %.

The economic crisis of 1998 induced further changes in the region (see Figure 2). In the period 1996-1998, the regional export trade decreased by 8.06 %. The following growth period lasted till 2008, causing an increase in the FSU exports amounting on average to 581.41 %, 678.63 % in Georgia, 547.51 % in Russia, 429.79 % in Ukraine and 767.29 % in the other FSU countries. The crisis of 2008 almost halved the volume of export trade in the region and caused a dramatic drop in the economic performance of the successor states. Interestingly, the decline in exports was not as strong in Georgia as in the other countries, amounting to merely 24 %. The different development points towards the importance of traditional trade relations, not evenly exploited by the former Soviet republics. Further, it indicates the fact that such trade has a lower price vulnerability.

[FIGURE 2 OMITTED]

To reveal the dependency on export trade in the post-Soviet states, the export propensity index was calculated for all three analyzed countries. The results are presented in Figure 3. The index shows the overall degree of reliance of domestic producers on foreign markets. It provides a better indicator of vulnerability to external shocks and is similar to the trade dependence index. Such shocks can be caused by falls in export prices or fluctuations in exchange rates and by reduction of foreign demand. The index also provides evidence for export-oriented growth policies and gives a better understanding of the economic characteristics in the transition countries.

According to the data, Georgia, Russia and Ukraine increased their shares of export trade in GDP in the reviewed period. However, the initial conditions determined different directions for each economy. The economies of Ukraine and Russia are much more export-oriented than the Georgian one. Interestingly, Georgia recorded the strongest increase, expanding the index by 63.9 %. It points towards a highly export-oriented growth in Russia and Ukraine. This places the countries at the same level with Germany, where the propensity index complied 44 % in 2009 (Dadush and Eidelman, 2010). On the other hand, economic prosperity in Georgia is mainly based on domestic growth and therefore, the Georgian economy is less vulnerable to foreign market shocks.

[FIGURE 3 OMITTED]

Inter-republic Trade in the Soviet Era

Since the first central economic plan was implemented in the 1920s, the Soviet government pursued a policy of economic integration across its vast geographic expanse. Its aim was to strengthen the social cohesion and to increase the stability of the system by deepening the economic relations among

the single republics. As a direct result, the dependencies in the production of certain goods increased heavily and, finally, the government of the Soviet Union established a united national economic space. The industrial activities were widely dispersed and highly specialized regionally. The Soviet planners put even further effort in extending the integration, disregarding the costs of this policy. Timothy Snyder (1993) claims that particularly the production of machineries and light industry goods was extremely concentrated and therefore vulnerable to shocks. This is due to the fact that in the case of an economic shock and abolishment of intra-industry relationships, the production is effected immediately.

The national development strategy of regions in the Soviet Union caused large economic dependencies among the republics (Claudon and Gutner, 1991). James W. Gillula (1979, 1982) gives an idea of the overall size of the dependencies in 1966. He assesses that the dependencies increased significantly since 1972. In 1988, inter-republican trade flows made up to 8590% of total trade in the Soviet Union. The relative importance of foreign trade for Georgia, Russia and Ukraine is presented in Table 1.

Particularly the countries of Transcaucasia heavily relied upon the inter-republican trade. In the case of Georgia, almost 80 % of goods were export to the other Soviet republics. Russia's dependence on the Soviet republics was smaller, as it realized merely 50 % of total export trade within the Soviet Union. Furthermore, Table 1 shows that the import dependencies were even higher than the export ones. This indicates the distortion of trade by central planning intervention and reveals the importance of initial conditions during the process of disintegration. Lee Kendall Metcalf (1997) points to the fact that the Soviet inter-republic trade was larger than the one of the European Community (EC) in 1989.

The communist party and the government of the Soviet Union regarded those increasing dependencies between the republics as a success of the Soviet regional integration policies. It should be also considered that the official Soviet statistics did not reveal the "true" trade situation as the distortion of prices was of major importance. For instance, the internal prices for fuels and raw materials did not reflect the real costs and values of these products. If calculated in world market prices, the trade balance for most of the Soviet republics would look even worse. Especially Georgia, as a supplier of light goods and fertilizer intensive agricultural commodities, heavily depended on the price discount in the Soviet Union. All Soviet republics, except the Russian one, run commodity trade deficits on overall trade in world market prices for 1987 and 1988.

Traditional Export Trade Relations in the Post-Soviet Period

Prior to the economic breakup of the Soviet Union, the trade dependencies were huge among the republics. Besides, trade relations were distorted by central economic planning. This caused an adaptation process in the newly independent countries. While some countries, like Russia and Kazakhstan, shifted their exports immediately in other directions, others, like the countries of Transcaucasia and central Asia, were not able do to the same. This is due to the fact that the nature of the goods differed among the successors. For instance, Russia mainly exported crude oil, gas and energy, while Georgia produced cloths and processed food. In fact, this made some successor economies highly vulnerable for shocks. The demand for low-value goods, produced in the successor states, shrank dramatic in the early 1990s as Asian countries supplied this type of goods at lower prices and higher quality. Figure 4 shows the share of export trade with the FSU countries in total exports for Georgia, Russia and Ukraine, for the period 1996-2009. Among the investigated economies, particularly the Georgian one reduced its exports dramatically, falling to US$198 million in 1996. Exports to former Soviet states amounted to 65.1 % in 1996, with a strongly decreasing tendency observed in the reviewed period. Likewise, Ukraine and Russia reduced their share of export trade with the FSU countries to 53.1 % and 20.5 % respectively. The average share of the FSU export trade for each country in the period of 19962009 is indicated by the broken line. Again, there are huge differences among the transition economies. In the reviewed period, it is on average 18 % for Russia, but 35.2 % for Ukraine and 43.6 % for Georgia. This development confirms that the Soviet economic heritage is highly relevant for Ukraine and Georgia, and less determining for Russia.

[FIGURE 4 OMITTED]

To underpin the graphically derived evidence, the Pearson productmoment correlation coefficient was calculated for Georgia, Russia and Ukraine, for the period of 1996-2009 (Pearson and Filon, 1898). The results of the correlation test are presented in Table 2. The test yields a positive coefficient for all three countries. This means that a mutual affiliation to the FSU of the trading economies has a positive impact on the volume of export trade. While for Georgia 1,123 trade events were recorded in the reviewed period, Russia traded with 2,421 and Ukraine with 2,283 countries. The correlation coefficients are highly significant (p < 0.05). The effect is strong in Georgia and Ukraine and rather weak in Russia.

Conclusion

Recognizing the economic importance of the export sector in transition countries, the study aimed at analyzing the characteristics and at evaluating the importance of traditional trade relations. For that reason, we conducted a qualitative analysis of the Georgian, Russian and Ukrainian export trade, covering the periods of 1987-1989 and 1996-2009. Furthermore, we also measured the importance of the sector for each economy, computing the export propensity index. Lastly, we calculated the Pearson product-moment correlation coefficient to underpin our findings with quantitative evidence.

On the basis of our analysis, we state that there is a strong relationship between the traditional economic relations and export volumes. However, the revealed evidence requires further underpinning by empirical analysis. It is both possible and recommendable to simulate this relationship with a trade model, for example, the gravity model of international trade. Such an analytic tool allows to quantify the correlation between these two variables and to measure the exact effect they have on each other. This is of high importance, once effective and scientifically well-founded policy advices should be formulated.

We infer from our results that there is no ultimately correct answer to the question: Which transition strategy is the appropriate one: a shock therapy or gradualist reforms? Still, to our astonishment, we discovered that the disintegration even stimulated trade in some of the successors. Therefore, a successful transition process is - in our opinion - less dependent on the chosen reform scheme and more on the initial conditions in the country concerned.

Considering the country-specific conditions is crucial also for recognizing the political implications of the reforms and the development potential of the economy. The traditional economic relations may be disregarded or be implemented into the strategies increasing exports and thus wealth of a country. Since our paper reveals evidence for the impact of the

Soviet economic heritage, the former choice would be not wealth-maximizing and therefore harming.

Acknowledgement:

This research was partially supported by the H. Wilhelm Schaumann Stiftung from Hamburg, Germany. We would also like to acknowledge many who have commented and made suggestions on this article, in particular, we would like to thank Isin Tellioglu.

Bibliography

Bank of Russia (2012). Archive,http://cbr.ru/currency_base/OldDataFiles/USD.xls

Brown, S.S. and M.V. Belkindas (1993): Who's feeding whom? - An Analysis of Soviet InterRepublic Trade. p. 168, In: Kaufman, R.F. and J.P. Hardt (1993): The Former Soviet Union in Transition. Joint Economic Committee, United States Congress, pp. 163-188.

Claudon, M.P. and T L. Gutner (1991). Investing in Reform: Doing Business in a Changing Soviet Union. New York University Press: 19-38.

Dadush, U. and V. Eidelman (2010). Germany: Europe's Pride or Europe's Problem? Carnegie report, Paradigm Lost: The Euro in Crisis.

Dehejia, V.H. (1997). Will Gradualism Work When Shock Therapy Doesn't? Discussion Paper, 1552.

Gillula, J.W. (1979). The Interdependence of Soviet Republics: Soviet Economy in a Time of Change. U.S. Congress Joint Economic Committee, 1: 640.

Gillula, J.W. (1982). The Reconstructed 1972 Input-Output Tables for Eight Soviet Republics. U.S. Bureau of the Census, Foreign Economic Report, 19: 95-99.

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Mau, W. (1999). Russian Economic Reforms as Perceived by Western Critics. Bank of Finland, Institute for Economies in Transition, BOFIT Ne 12.

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(1) Armenia, Azerbaijan, Belarus, Georgia, Estonia, Kazakhstan, Kyrgyz Republic, Latvia, Lithuania, Moldova, Russian Federation, Tajikistan, Turkmenistan, Ukraine and Uzbekistan.

(2) Although the satellite states of the Soviet Union, like Poland, East Germany or Hungary, were formally independent, all relevant processes within their borders had to comply with Moscow's directives, official or unofficial ones. In this sense, after 1989, they "regained" their independence.

Sandro STEINBACH,

Humboldt-University of Berlin

Faculty of Agriculture and Horticulture, Department of Agricultural Economics

Division of International Agricultural Trade and Development

E-mail: sandrosteinbach@hu-berlin.de

Mariusz RYBAK,

Humboldt-University of Berlin

Faculty of Agriculture and Horticulture, Department of Agricultural Economics

Division of International Agricultural Trade and Development

E-mail: mariusz.rybak@hu-berlin.de
Table 1: Percentage Share of Soviet Inter-republic Trade in Total
Export and Import Trade for Georgia, Russia and Ukraine in 1988

          Percentage Share of Inter-republic Trade in
          Total Trade (1988)

          Exports   Imports

Georgia     80        93
Russia      51        68
Ukraine     73        85

Sources: Authors' Illustration, Vestnik Statistiki, (1990). NN 3: p.
36; Narkhoz SSSR (1990). p. 639

Table 2: Correlation Coefficient Matrix between Export Trade and
FSU for Georgia, Russia and Ukraine in the Period 1996-2009

                       Export Trade

               Georgia    Russia     Ukraine

FSU            0.24 ***   0.12 ***   0.25 ***
Observations      1,123      2,421      2,283

* p < 0.05, ** p < 0.01, *** p < 0.001

Sources: Authors' Calculations and Illustration, Comtrade Database
(2012) and Developed Correlation Dataset

Triannual Growth Rate of Export Trade in the Soviet Union for the
Period 1987-1989 and in Georgia, Russia, Ukraine and in the FSU for the
Period 1996-2008

              87-89   89-96    96-98    98-00   00-02   02-04   04-06

Georgia       5.66    -94.82    -3.24   67.82    7.18   87.00   44.56
Russia        6.35     28.37   -18.52   42.64    3.49   70.21   65.88
Ukraine       8.86    -52.47   -12.24   15.31   23.02   82.21   17.45
Other FSU     6.38    -70.27    59.02   35.56    5.86   79.02   61.89
Average FSU   6.83    -22.72    -8.06   37.97    5.90   73.47   59.21

              06-08

Georgia        60.13
Russia         55.35
Ukraine        74.50
Other FSU     108.54
Average FSU    68.86

Sources: Authors' Calculations and Illustration, Mikhaylov (1990),
Brown and Belkindas (1993), Bank of Russia (2012) and Comtrade
Database (2012)
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Title Annotation:ORIGINAL PAPER
Author:Steinbach, Sandro; Rybak, Mariusz
Publication:Revista de Stiinte Politice
Article Type:Report
Geographic Code:4EXRU
Date:Jan 1, 2012
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