Eastern Europe's difficult decade

By BBC News Online's James Arnold

On paper at least, Eastern Europe's decade-long recession has come to an end.

For the first time since the collapse of communism, all 27 ex-socialist bloc economies are growing at the same time - and a lucky few have already surpassed their 1990 level of output.

In a new survey of the region, "Transition: The first 10 years", the World Bank broadly congratulates policymakers for an almost complete shift from central planning to free markets.

But it also sounds a warning.

Free markets may be all very well, the Bank says, but 10 years of reform have produced as many losers as winners, and Eastern Europe now faces a host of new challenges.

Fall from grace

For much of the past decade, Eastern Europe has been in economic purgatory.

A small elite has prospered...

After the communist system was dismantled at the beginning of the 1990s, the shock of the free market brought about a catastrophic collapse in output.

"The magnitude and duration of the transition recession was, for all countries, comparable to that for developed countries during the Great Depression, and for most of them it was much worse," the World Bank says.

Overall, the region's gross domestic product fell by about one-third during the 1990s.

In some countries, notably on the poorest fringes of the former Soviet Union, GDP in 2000 was less than one-third what it had been a decade earlier.

Majority suffer

At the same time, the social cost was enormous.

Unemployment, previously disguised as under-unemployment, became epidemic; employers stopped paying wages; banks went bust; inflation ate up savings; and economic inequality ballooned.

... while the majority suffer

From being the world's most deliberately egalitarian societies under communism, East European states saw the emergence of a rich elite even as the majority were getting poorer.

Now, according to the World Bank, measures of inequality throughout Eastern Europe match or even exceed those in developed economies such as the United States.

Lessons learnt

In its new report, the World Bank is attempting to draw some conclusions on the past 10 years' experience.

Perhaps unsurprisingly, it fails to come up with any particularly startling conclusions.

Policymakers, it concedes, failed to take into account the particular needs of the East European situation, assuming glibly that imposition of free markets would in time heal the region's wounds.

Given the unchecked rise of corruption, inefficiency, political foot-dragging and vested interests, this theory was doomed from the start.

This argument is nothing new, and has even been aired by the World Bank and International Monetary Fund - the guardians of reformist orthodoxy - for the past three years or so.

Democracy matters

But the World Bank report does unearth a couple of new arguments, which may help shape the way that Eastern Europe squares up to the next 10 years.

More democracy, not more stability, means more money

First, it contends that political continuity is not necessary - indeed, may prove harmful - in building economic prosperity.

For the past few years, analysts have worried that the short shelf-lives of some East European governments was a major barrier to reform.

Poland, for example, has had nine governments in the past decade.

But the World Bank argues persuasively that democracy is far more important than continuity, which can produce entrenched elites who lack the zeal to persist with reform.

Over-comfortable governments have a tendency to take their foot off the reform pedal, as they become more deeply bedded down in the country's establishment.

Helping hand

Second, the report identifies the main reform priority now as the reform of small companies, which have the potential to power economic growth from the bottom up.

So far, most East European governments have focused their attention on big companies, usually former state monopolies.

Life isn't easy for Eastern Europe's entrepreneurs

But these companies, however aggressively privatised, rarely deliver much macroeconomic value.

Far more wholesome, the Bank argues, would be to put some effort into building a better environment for the creation of new companies.

Those countries that have been most successful in the past decade - notably Poland - have been marked by vigorous entrepreneurial activity.

But to create such an environment will take much work - not merely tweaks to the legal and regulatory regimes, but in many cases the painful elimination of cushy treatment for big companies.

Split into two

Third and possibly most significant for the long term, the report says that it is barely possible to see Eastern Europe as a single region.

As the factor that binds the region together - its communist past - recedes, the contrasts have started to look a lot more glaring.

Broadly speaking, Eastern Europe is now two regions: the increasingly prosperous, liberal-minded, economically open states of the west and Baltic region; and the poorer, politically less predictable former Soviet Union.

In economic terms, the gap between the two now yawns: parts of Central Europe are on a par with the European Union in terms of average incomes; in Kazakhstan, meanwhile, GDP per head is barely $1,500 a year.

As countries such as Hungary, the Czech Republic and Poland motor smoothly towards EU membership, that gap will widen irrevocably.

For some countries, the end of transition still looks a dispiritingly long way off.