CASE-Ukraine
Center for Social and Economic Research
Lessons from the Ukrainian Transition:
Reform Driving Forces in a Captured
State
Delhi, January 2004
Reforms in Ukraine (1991-2001) :
A process, not an action
CASE Ukraine
Never openly supported by the majority of population
Reactive, not proactive
Occurred in the historically “captured” state
Slow, inconsistent, incomplete
Very painful
But nevertheless resulted in the impressive growth
and relative macroeconomic stability
A success story ????
CASE Ukraine
Economic policies defined within the elites
“Public choice”: the “mandated” reforms, based on the political support
of a resulting political force
In Ukraine:
The major reforms were undertaken irrelevant to the position
of a broad public
No program of reforms has ever got a public mandate
A majority of broad public was always against privatization of the large
enterprises
The monetary stabilization was started without any mandate and continued
despite the political defeat of its initiators.
The paternalism towards the enterprises was contracted despite the growing
public sentiment in its support
The only positive example we may provide is the simplified taxation for small
and micro business
CASE Ukraine
The reforms in Ukraine: rarely proactive
“Proactive”
“Reactive”
maximize the
political gains
minimize the
political loses
Mandated
Imposed by
an
authoritarian
government
“Passive”
Just accepting the new
rules of the game that
have already become
dominant in the
grassroots
In Ukraine:
Rarely took place
Public alienated
from the state
Privatization
and reduction of
paternalism
Price liberalization
CASE Ukraine
Why the inefficient institutions persist?
Nobody knows how to
make the things better
The efficient institutions
already exists in other
countries
Vested interests of
the rent seekers
CASE Ukraine
Sonin: Who needs the bad [formal] institutions ?
opportunities
Market
imperfections
creates
Rent seeking
supports
Efficient allocation of resources
a dead end?
CASE Ukraine
The reforms under rent seeking
Tornell: The rent is an exhaustible common resource
player
player
A rent source
player
player
Competition destroys it because of the
problem of commons
Different sources of rents
CASE Ukraine
Distorting and inhibiting the factor allocation
player
monopoly rents
at the product
and factor
markets
player
player
player
Competition should be protected and encouraged
Different sources of rents
CASE Ukraine
The “good” ones, vitally needed for a society
player
State budget
player
Natural
endowment
player
player
Competition should be restricted
It is safer to even prohibit it at all if there is no way to
discriminate between sources of rents
CASE Ukraine
Back to the rent maximization – 1:
player
Rent source
player
player
player
CASE Ukraine
The rational and transparent formal institutions
provides with the opportunity of distinguishing between
the rent sources if such distinction may be rationally
justified
May still serve to prohibit the market competition
Requires the corresponding informal institutions
Limit the property rights but do not affect their clearness,
symmetry and distribution
Can be a basis for an efficient market
economy
CASE Ukraine
Back to the rent maximization – 2:
Authoritarian arbiter
player
Rent source
player
player
player
CASE Ukraine
An arbiter:
Has an incentive to extract the rent (share the players’ rents)
If he does so, he becomes “captured” with the vested interests
But still preserves some freedom of choice (in a sense of
Grossman-Helpman-Dixit model)
Asymmetry: The players may motivate their arbiter with a
“carrot”, but not threaten to him  irresponsibility
players are clients of an arbiter
He is interested in using his discretionary power for weakening the
players’ residual property rights of control
Being endowed with authority to resolve the problem of commons
in the vital sectors is interested to use it for enforcing any kind of
cartel, therefore restricting the economic freedom
An arbiter:
CASE Ukraine
is not interested in the market reforms as long as they reduce
the sources of rents and enhance the economic freedom
and particularly those, strengthening the residual property rights
of the players
BUT:
He is constrained with the threat of PUBLIC UNREST
that may occur if a vital rent source would get exhausted
His ability to control the players is limited by the same
factors, primarily non-transparency, that facilitate rent seeking
Even a hierarchical structure with the players and arbiter
at each level cannot secure the rents from exhausting
The reforms are get imposed on the players mostly
when a crisis comes
CASE Ukraine
The post-Soviet institutional legacy
Elitism
“Party rule”:
never
formally
legitimized
Discretion
Formal
institutions
Clientelism
Paternalism
Soft budget
constrains
(SBC)
Selective
implementation
Vague and asymmetric property rights
CASE Ukraine
USSR: Under the command economy
Communist Party
State property
Budget
director
bureaucrat
director
bureaucrat
CASE Ukraine
Soon after
State property
Budget
director
director
The first-wave
“intermediate
winners”
bureaucrat
bureaucrat
Unconstrained paternalism towards enterprises
(not the population!)
Paternalism is dangerous
CASE Ukraine
The government commits to “support a domestic producer”
“support Protectionism
of the
effective
demand”
monetary
emission
Tolerating
barter
monopolism
Tolerating
arrears
Forced
crediting
Soft
crediting
Direct
subsidies
Fiscal deficit
Credit emission
Price growth out of control
rents for the directors at the expense of the
population and deadweight loses
Consolidated budget’s expenditure
structure
CASE Ukraine
100%
Other
80%
National defence
60%
Public administration
Social assistance
40%
Social institutions and
activities financing
National economy
support
20%
Source: Ministry of finance, own estimates
01
20
00
20
99
19
98
19
97
19
96
19
95
19
94
19
93
19
92
19
19
91
0%
CASE Ukraine
Remedy suggested: privatization
The first program was developed already in 1992
BUT:
The director supported by
communists became the
President in 1994:
“Under Kuchma your factory will stay in business!”
Oligarchs: wanted title property rights to secure their rent
Kuchma became an “arbiter” of the oligarchs and
conducted the mass privatization (1995-98)
Privatization: just a half-way
CASE Ukraine
Property rights
Still controlled
by the directors
and bureaucrats
by the means of
SBC
The title property rights
The residual rights of
control
“captured” by the directors
and bureaucrats
Time
Source: the World Bank, 2003
01.01.2002
01.07.2001
01.01.2001
01.07.2000
01.01.2000
01.07.1999
01.01.1999
01.07.1998
01.01.1998
01.07.1997
01.01.1997
01.07.1996
01.01.1996
01.07.1995
01.01.1995
Tax arrears (UAH billions)
CASE Ukraine
16.0
14.0
12.0
10.0
8.0
6.0
4.0
2.0
.0
CASE Ukraine
Tax privileges (% of budget revenues)
80
70
60
%
50
40
30
20
10
0
1997
1998
1999
Source: Ministry of finance, own estimates
2000
2001
2002
CASE Ukraine
The next step: reducing paternalism
Oligarchs: interested in the title property rights as a
means of control the rents brought by paternalism
“virtual economy” + irresponsible borrowing
Crisis of 1998 and expected default in 2000
Series of reforms subversive for oligarchs and
directors but VERY POPULAR
CASE Ukraine
Evolution of the informal property rights
120
30
100
25
80
20
60
15
40
10
20
5
0
0
1994
1995
1996
1997
1998
1999
2000
2001
2002
% of entities privatized by the moment in the total number of privatized entities
ACTUAL percentage of the total labor force working at the private sector
PERCEIVED working in the private sector (IS NAS survey)
CASE Ukraine
Per capita GDP (1990=1)
2002*)
2001
2000
1999
1998
1997
1996
1995
1994
1993
1992
1991
1990
1
0.9
0.8
0.7
0.6
0.5
0.4
0.3
0.2
0.1
0
The “unpopular reforms” appeared to begot the
most popular Ukrainian politician
The clientism is alive
CASE Ukraine
About 40% of enterprises respond that the personal changes in
some government authorities could significantly affect their
business (IER, 2002)
Business Environment In Ukraine, International Finance Corporation, 2003
Thanks for
your attention!