World Development Report '96
A Twisted Tale of A Traumatic Transition -
World Bank's Bag of "Venerable Prejudices"

Dipankar Bhattacharya

From plan to market. This is the theme to which the World Bank has devoted its latest World Development Report (WDR). The Report is based on a study of this transition in twenty-eight countries of Asia and Europe, including the erstwhile USSR and Eastern Europe, China and Vietnam, which have either abandoned the socialist road or introduced a whole range of market-oriented reforms in their economies.

The Bank of course does not talk about socialism and capitalism, it talks only about planned and market-driven economies. The concept of transition is used all through the Report in an exclusively economic sense. Gone is the earlier insistence on the Gorbachevian correspondence between glasnost and perestroika. As a financial institution, the Bank obviously has little difficulty in reconciling itself with the proposition that economic transition may or may not be accompanied by political transition. While in Central and Eastern Europe (CEE) the transition has been total, China and Vietnam do not show any significant signs of political reforms.

But the Bank does differentiate between wholesale transition and routine reforms though both are aimed at building "a thriving market economy capable of delivering long-term growth in living standards". The difference is both qualitative and quantitative. Unlike reform, transition is "not simply the adoption or modification of a few policies or programmes but a passage from one mode of economic organisation to a thoroughly different one". And in the transition economies, magnitudes are exponentially greater. For example, transition economies have privatised more than 30,000 large and minimum-sized enterprises in five years, whereas between 1980 and 1991 the rest of the world privatised fewer than 7,000.

Two Trajectories

The WDR recognises two patterns or paths of transition. The first approach is termed the all-out approach. This is transition with a big bang or instant transition, as has been the case with former East Germany for instance. Most of the CEE countries have followed this trajectory, albeit in varying degrees. The best rationalisation of this approach is perhaps provided by the Czech president Vaclav Havel, who says "it is impossible to cross a chasm in two leaps". But what if the chasm is too wide for a leap and the ground is not cushioned? You can't possibly hang in the midair, you only invite a close encounter with the unfathomable abyss.

China stands out as the classic example of the other approach, the go-slow approach of piecemeal and phased reforms. In China's case the reforms began as far back as 1978 and till 1985 the focus was on rural reforms. In Vietnam too, liberalisation - known as doi moi in the local parlance - began in 1986 and the process has been relatively accelerated since 1989. The underlying rationale of this slow-and-steady approach is captured by this Deng Xiaoping phrase: "feeling the stones to cross the river".

The Bank admits that "Radical economic reform has proved easier when political change has been rapid and fundamental, as in much of the CEE and the Baltic states". But then having observed this correlation, it goes on to present the two routes to "transition" as just two different choices available to different transition countries, glossing over the fact that if China and Vietnam are able to follow the phased approach, it is not just because they set out earlier than their European counterparts but primarily because they retain a different state system. One wonders if Russia could have escaped its present destiny had the reforms begun much earlier and had the package of political reforms been designed within a socialist framework. And now that going by the results, the Chinese approach turns out to be much more sound than the Russian recipe, the Bank conveniently conceals its original preference for instant transition and would like us to believe as though both these approaches are vintage Fund-Bank prescriptions.

The Performance Report

The Bank uses two basic parameters to judge the performance of different transitional economies: growth and inflation. Between 1989 and 1995, the average rate of growth of GDP for a group of six former Soviet republics including Russia remained incredibly low: -9.6%. In other words, the Russian GDP has been reduced to half over a period of mere six years! Could there be a more sinister spectacle of growth? And Russia is no exception, the figures are negative for all the former socialist countries of Central Asia and Europe. A slimmer GDP thus remains the overriding transitional truth so far, but this slimming comes with an astronomically high average annual inflation rate of 466.4%!

In sharp contrast stands the experience of China and Vietnam. Between 1978 and 1995, the Chinese GDP grew at an average annual rate of 9.4% while Vietnam has recorded an average rate of 7.1% since 1986. In terms of inflation, China has done remarkably well maintaining a single-digit rate (8.4%) through "appropriate administrative intervention". Vietnam's record on this front has not been similarly satisfactory, but with an average of 114.8% the situation is still not as bad as in most of the former Soviet republics and Eastern European countries.

Well, there is much more to the contrast between Russia and China than their dramatically divergent end-results. With the Russian economy having already been ravaged by "transition", the Bank now does not mind according some posthumous recognition to the erstwhile centrally planned Soviet economy. The Report reminds us that "When the transition began, Russia's economy was far more developed than China's, with income per capita eight times higher. Over 40% of the work force was in industry, and the state's social security system covered virtually the entire population" whereas "Despite the industrialisation efforts of the 1950s and 1960s, China was very poor and largely rural at the start of its reforms".

The Employment Scene

With output falling so drastically, registered employment has also been on the decline in the erstwhile socialist countries. In Bulgaria, Hungary and Slovenia, the fall in registered employment has been of the order of 20 to 25%. Even in East Germany, where the Report boastfully claims that massive social transfers ensured that "the living standard of the unemployed was higher than that of employees before unification", we are told that "But for early retirement and other programmes, unemployment would have been over 30 per cent". "Transition", the Report cannot but admit, "has relegated an entire generation to the economic sidelines".

If the unemployment figures for Russia, Ukraine and some other former Soviet republics do not look so alarming, the reason is that in these countries wages have borne the brunt of labour market adjustment. The fact, the WDR tells us, is that large numbers of Russian workers remain "formally attached to their firms, receiving low or zero wages but continuing to enjoy some enterprise benefit while working increasingly in the informal sector". According to a study cited in the WDR, the growth rate of the unofficial economy has been as high as 18 to 27% in a sample of CEE countries and 12 to 37% in a sample of former Soviet republics in Central Asia.

In all these countries and particularly in Russia, female employment has been hit the hardest. "Women", the Report tells us, "are no longer seen as having a social duty to work". It quotes the Russian labour minister as saying "Why should we employ women when men are out of work? It's better that men work and women take care of children and do housework". Even then the WDR would have us believe that apart from the fact that women are being forced to stay home by more burdensome responsibilities or becoming "discouraged workers", the drop in labour force participation also reflects women's "free choice".

Poverty, Inequality and Destitution

Given such a drastic drop in wages and employment and the fact that inflation has wiped out the entire savings of a whole generation of Russian citizens, there has been a sharp rise in poverty in this one-time superpower. "Poverty, growth, and inequality - the unfolding story", runs the caption of a section in a chapter entitled "People and Transition". The situation is obviously worst in Russia and some of the former Soviet republics, where the problem has reached the stage of absolute poverty and destitution. China and Vietnam, on the other hand, have witnessed a reduction in the number of the poor. In China, the first phase of rural reforms lifted 200 million people out of poverty. In Vietnam, the proportion of the poor fell from 75% to 55% between 1984 and 1993.

But the problem of inequality is assuming serious proportion in these countries too. In Vietnam, the area around Ho Chi Minh city is growing about 40% faster than the national average. In China, inequality is growing more in the form of urban-rural disparity and the incidence of intra-regional inequality is reported to be still relatively low. South-eastern coastal China has been growing at over 13% compared with the national average of 8.5% while growth in populous central China has been around 6%. By 1992, household expenditure by urban families in the south was 75% higher than that in the north.

The situation, particularly in Russia and other CEE countries, has been worsened by the growing dismantling of the earlier system of social security and basic services. This all-round decline in the quality of life is accompanied by a marked fall in life expectancy in Russia: from 64 to 58 in case of men and 74 to 71 for women. In a box story bearing the provocative title "Is transition a killer?", the Report informs us, "More Russians are dying during transition. ... Russian adult mortality is now 10 per cent higher than that in India". The story then goes on to suggest two factors as "at least partial contributors" - "The first is substance abuse - alcohol and illicit drugs. ... The second factor, less well documented but supported by extensive observation, is a decline in the quality of and access to medical care over the past five years...".

The Bank is of course not unduly disturbed by such developments. It commends the ongoing transition in the health care system of former socialist countries "away from specialised care to more basic and outpatient care" and happily tells us that Hungary is planning to eliminate 20,000 hospital beds in 1995-96!

Privatisation and Problem Enterprises

Coming to the specifics of economic reforms, privatisation remains a key issue for all transitional economies. The Report notes that privatisation in the form of outright sale of state/public sector units may be the ideal or best-known model, but in most countries this method is proving to be rather slow and difficult. The difficulty is not just because of political opposition but more importantly because of the lack of availability of buyers. The Report therefore recommends step-by-step privatisation and attracting private sector participation through concession arrangement. It also notes quite approvingly that asset privatisation has proceeded much faster than enterprise privatisation in most transition economies.

In the context of "problem enterprises", the Report cites a practice which looks so ominously similar to our own BIFR experience. To quote from the WDR, "A number of transition economies have developed what are termed isolation exercises for problem enterprises. A set of poor performers, often the biggest money losers, are put into a "jail" and examined to determine which are potentially competitive and which merit liquidation. Early experience with jails was not promising. Inmates tended to view their isolation units more as rest homes than as prisons, since they provided both relief from creditors and exceptional resources to meet the wage bill. More-recent isolation exercises, for example in Armenia, the Kyrgyz Republic, the former Yugoslav Republic of Macedonia, and Uzbekistan, have tried to overcome these problems by assuring prisoners that governments are indeed committed to their sale or closure, and are not simply using the device to delay the day of reckoning. For example, of twenty-nine firms assigned to the Kyrgyz "restructuring agency," over a twenty-four-month period eight have been liquidated (including a 5,000-employee agricultural machinery plant that the government had regarded as strategic), two have been sold, six more are for sale, eleven are being downsized in hopes of rendering them saleable, and two are still in the diagnostic stage".

The Bank's concern is obviously far wider than mere enterprise privatisation or asset privatisation. The Report lays equal stress on securing unrestricted entry (and exit!) for new private firms, commercialisation of remaining PSUs and as much commercialisation/privatisation as possible of basic services. The Bank is aware that such price reforms may lead to runaway inflation, but then its job is to get the distorted legacy of abysmally low administered prices corrected at any cost. In the lyrical language of the Report, "prices soared as they were freed"! Yet prices of some basic services are still not sufficiently free. The Bank is certainly not amused by the fact that from 1927 to as late as 1992, the basic monthly rent charged to households in the USSR was frozen at 0.132 ruble per square metre! It is in fact pretty annoyed that prices of energy and some services are still far below world levels. The Report cites a recent World Bank study which indicates that "prices for housing, transport and telecommunications (relative to those for manufactured goods) would have to increase roughly sixfold from their 1994 levels just to reach 60 to 75 per cent of their relative values in industrial market economies".

The Report also discusses the question of privatisation of agricultural farms, commercial real estate and housing. It lays particular stress on privatisation of housing for that is a necessary precondition for enhancing the geographical mobility of labour. There is also another typical world Bank argument for privatised housing: "(It) opens the way to a host of new products and services, including property insurance, real estate brokerage, housing maintenance, mortgage finance, and property development. These create new jobs and make private housing markets work by spreading risk, supplying information to buyers and sellers, and providing needed financing"! Do we need more imaginative examples of the World Bank's unbounded market enthusiasm?

China's Halfway Forms

The Report is understandably not happy with the progress of privatisation in China and Vietnam. It notes that "Vietnam's state firms still benefit from a wide array of protective and distortionary measures (exchange controls and land policy, for example) that hinder free entry and competition and bias state firms toward capital-intensive production". In China too, state enterprises remain important financial and economic actors. In 1994 they still accounted for 75% of investment and 70% of bank credit. State sector employment continued to grow till 1993, declining very slightly thereafter. During 1985-90, the state sector in China provided 70% of all new jobs, by 1993 it however provided only 9% of new urban employment. But according to the Bank, "growing nonstate employment will not be enough to pull labour out of the state sector". Including benefits, pay in the state sector is about 60% higher than in the nonstate sector and the Bank therefore insists that "Policymakers will have to find ways to deal with redundant state labour, estimated at some 20 per cent of sate sector employment".

Interestingly, even when China is moving away from the state sector, it has not embarked on a Fund-bank style privatisation drive. The Report tells us that "China has developed several halfway forms of industrial enterprise that are neither state owned in the classic sense nor privately owned in the capitalist sense." In this context, the Report highlights the Chinese phenomenon of township and village enterprises (TVEs). The TVEs are owned by local governments and citizens and mainly produce consumer goods for domestic and international markets. These are generally of two types. "The first, owned by the local government, acts like a holding company, reinvesting profits in existing or new ventures as well as in local infrastructure. The second, more recently developed type is much closer to private enterprise in that most are effectively controlled if not formally owned by an individual. Still, they too maintain close fiscal ties to the local government". Over the last fifteen years, the TVEs have recorded growth and performance of an extraordinary kind. Their share in GDP rose from 13% in 1985 to 31% in 1994. Output has grown by about 25% a year since the mid-1980s and they have created 95 million jobs over this period.

Toward "Slimmer" Government

The World Bank's advocacy of privatisation is however only a part of its broader campaign for what the Report terms "better and slimmer government". The Bank calls for a wholesale redefinition or reinvention of government according to which the role of governments in production and distribution must shrink dramatically; governments must stop restricting and directly controlling commercial activity, intervening only in cases of market failure; and instead of having an intimate involvement in financial sector, the accent must be on regulation of private pensions and insurance while complementing them with basic public pensions and insurance to improve efficiency and fill gaps in coverage.

However, the Report acknowledges "a constant tension between, on the one hand, the need for a strong state to enforce laws and impose order and, on the other, the need for constraints on state power to make room for individual rights". We are also informed of a certain tussle between the judicial, legislative and executive wings of the state. In Poland, for example, the court invalidated most of the government's efforts to reduce public spending on pensions. The Hungarian court too struck down provisions of the Government's March 1995 stabilisation package aimed at cutting spending on family allowances and education.

The Bank also identifies the issue of rising corruption and organised crime as a problem child of transition. "Transition-style corruption is different", says the Report, "it is more visible and more money-based". A much more serious problem is private organised crime which antedated transition but has grown dramatically in recent years. "Private economy", we are informed, "has opened new avenues for private criminality". Most notorious has been the emergence of the Russian mafia which, according to the Report, is a collection of perhaps 3,000 to 4,000 groups employing more than 25,000 people; several hundreds of these groups now span the CEE countries, even reaching into the West at times.

Reshaping "Prejudices"

Quite understandably, there is a groundswell of growing popular resentment in the CEE countries. An opinion poll cited in the Report tells us that while in December 1991 just over a quarter of Russians disagreed with the proposition that ordinary people would benefit from the introduction of private property, by March 1995 over two-thirds disagreed. Results of not just opinion polls but actual elections too have amply brought home the message of resentment. Didn't we all see the kind of travesty of democracy that was enacted in Russia during the recent presidential poll? The unprecedented interference and manipulation the Americans and their western allies had to resort to to save their dear Boris from being humbled by a communist candidate?

The Bank would however prefer to dismiss all this resentment as "venerable prejudices". The WDR therefore recommends a new education package that would not only reshape skills to suit the requirements of the emerging markets but more importantly free the people of these received "prejudices" and "assist the understanding that employing workers (subject to suitable regulation) is not exploiting them but giving them an opportunity to earn a living, ... that business has its place in society and hence that profits are needed to provide an engine of growth"! If the prejudices are still reinforced by growing poverty and inequality on the ground, growth would take care of that in the long run! The Report even cites an unexplained liberalisation index to show that the higher a transition country's location on the liberalisation index, lower is its rate of decline! If some poverty relief has still to be provided in the short term, governments should hand this job over to the NGOs who can play a valuable role in targetting poverty relief!

The process of transition has completed nearly a decade. Yet as the WDR reveals it, for most of the 28 transition countries there is still no light at the end of the treacherous transition tunnel. We are told that "Countries will have completed their transition only when their problems and further reforms come to resemble those of long-established market economies at similar levels of income". In other words, there is no catching up with the capitalist West; transition is not meant to lead to the "success" and "prosperity" of market-driven capitalism - you only get their problems and end up losing your way in the web of endless reforms!

Perhaps this is why the Bank has chosen to depict the inherent uncertainty and fluidity of today's transition landscape in terms of that celebrated passage from the Communist Manifesto: "All fixed, fast-frozen relations, with their train of ancient and venerable prejudices, and opinions, are swept away, all new-formed ones become antiquated before they can ossify. All that is solid melts into air...". Is it the Bank's way of admitting that while socialism has been demolished, the capitalist project of "creative destruction" has not yet succeeded in striking roots in most of these countries?