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Central/Eastern Europe: Progress Toward Market Economies Slowed In 1998

London, 23 November 1998 (RFE/RL) -- The European Bank for Reconstruction and Development (EBRD) says many countries from the former Soviet Union and Central and Eastern Europe made slower and more erratic progress toward reform in 1998 than in any year since the fall of the Berlin Wall.

The EBRD's Transition Report 1998, published today in London, is the fifth in an annual series charting the progress of the region in building market economies. It says, "There has been considerably more backtracking in reforms in 1998 than in previous years."

The report says, for the countries of Central and Eastern Europe, the Baltics and the CIS, it was a year of "stresses and contrasts."

It notes that the crisis in confidence in emerging markets sparked a collapse of the Russian financial system, forced Ukraine to renegotiate its domestic debt, and unhinged the Slovak Republic's fixed exchange rate.

Regarding Russia, the report says inadequate structural reforms and an uncertain political environment produced "one of the sharpest setbacks of reform in the short history of the transition."

In addition, it says turmoil in global markets required countries across the eastern region "to brace themselves against the danger of contagion." The report adds that "the crisis is far from over and many of its effects are yet to be revealed."

The EBRD says a number of countries demonstrated an impressive resilience to external shocks, particularly Poland and Hungary, two fast-track reformers that have led the way in introducing institutional reforms, privatizing banking sectors and embarking on enterprise restructuring.

But the report says severe economic problems in a climate of uncertainty have prompted "backtracking" in some countries, most notably Russia, which has reverted to direct state controls on economic activity.

The EBRD says Belarus, Turkmenistan and Uzbekistan have continued to delay reforms and have actually reversed "earlier achievements, suggesting a more general lack of commitment to market-oriented reforms." It notes that in 1998, Belarus and Uzbekistan both introduced further price controls, while Turkmenistan again delayed its modest program for large-scale privatization.

But the EBRD says that several countries in which reform was earlier derailed by the pressures of war -- Armenia, Azerbaijan, Bosnia-Herzegovina, Georgia and Tajikistan -- have begun to make up lost ground, adopting new reform programs.

The report notes that the "reform paths" of the transitional economies are differing sharply, a trend reflected in the greater selectivity of foreign investors in deciding whether to risk their capital in the region.

It says many countries have begun to tackle the challenges of the next phase of transition: strengthening economic governance, building regulatory frameworks, and promoting restructuring. The report says that like all major transformations, these tasks "run the risk of intensifying political and social strains in societies that have already endured years of hardship and uncertainty."

The report says rapid liberalization and privatization have not been matched by progress in developing institutions necessary to support a well-functioning market economy. As a result, serious market distortions have generated substantial gains to particular interest groups, often with close ties to governments, while imposing great strains on society.

The EBRD says liberalization of the financial system without an effective regulatory framework has generated very high profits for banks, while privatization without effective corporate governance structures has resulted in big gains for enterprise managers without real improvements in performance.

The report urges governments not to use such abuses as an excuse to delay market reforms, but rather to speed up institutional reforms.

It says they need to tackle problems such as undeveloped financial institutions, weak legal frameworks, and the need for sound banking. Politically, the report says, the transition of the region since the fall of communism has shown remarkable progress and resilience. But, it says that in 1998, a number of authoritarian regimes remained in place, particularly in Belarus and in most countries of Central Asia where effective multi-party democracy has not taken root.

The report says, "The reliance of these regimes on manipulation and control undermines sound decision-making and prevents an effective response to economic difficulties once they have arisen."

The report says, "Economic policy-making in a number of countries, notably Russia, is further distorted by powerful interconnections between industry, finance, media and politics, which also weakens the functioning and stability of democracy." The report notes that weakness in democratic and economic structures is often associated with corruption which, in turn, inhibits both investment and further market reform.

The report notes the CIS is widely perceived to be one of the most corrupt regions in the world. It says corruption is a serious issue, too, for Central and Eastern Europe and the Baltic states. The EBRD says corruption stifles economic initiative, destroys confidence in governmental and political processes, and corrodes political support vital to market reform. The report says a reduction in bureaucratic controls is central to the fight against corruption.

It says, "Corruption distorts state behavior by allowing bureaucrats to intervene in areas where they should not, while undermining their capacity to act efficiently in areas where they are urgently needed."

The EBRD report, as in previous years, emphasizes the deep hardships in the region, particularly in the CIS, in the difficult transition period from the old command economies to market structures. It says dislocation is an inevitable part of the transition but countries now need strong growth to provide new opportunities for workers to be released from activities that are no longer economically viable.

The report stresses the need to create favorable conditions for enterpreneurship, particularly for small and medium-sized firms. It says governments that persist in propping up old enterprises and discouraging new firms inhibit the structural change central to a successful transition.

The report notes that the legacy of communist industrialization has created warped and profoundly inefficient economic structures. It says this is particularly true of Russia's "Rust Belt" -- a string of massive, largely obsolete industrial firms, around which entire cities were established, often in inhospitable and remote environments.

The EBRD says Russia's problems are compounded because self-styled "oligarchs" commanding vast financial-industrial groups have amassed fortunes while leaving workers and the state with a backlog of wages and tax arrears.

The report says there are many other problems. The absence of a well-functioning tax system, especially in the CIS, places severe fiscal constraints on the state. Salaries for civil servants have not kept pace with remuneration in the private sector, drawing the most talented people away from public service.

The report says it is up to governments in the transitional countries to define a role for themselves in providing a framework for sound market decisions. Their key objectives should be to deliver economic stability, an effective legal framework, a sound financial system, a social safety net, health, education, an adequate infrastructure, and environmental safeguards.

The EBRD says such measures are essential if governments in Russia and other transitional countries are to counter a growing popular disillusion with market reforms caused by continuing high levels of poverty and inequality.