In September 1989 Eastern Europe saw its first non-communist government in fifty years. The country was Poland. The Solidarity led government assumed office facing an enormous budget deficit and rapidly accelerating inflation. Economic reform was an imperative. In the first phase of reform the Government tried to regain some control over the budget, and price distortions were corrected. The second phase is known as the 'big bang'. This was a radical departure and uncharted territory that the Poles were sailing into. There was a liberalisation of prices, reform of the tax system, reduction of the deficit, and the implementation of a restrictive monetary policy. These moves from a planned economy to a market economy laid the groundwork for privatisation, an essential part of the market economy.
'Privatisation remains the most important outstanding item on the agenda of radical reform in Poland.' The reforms in Poland have been slow however. The process has been 'characterised by conflict between the centralist schemes of the post-communist government and the pressures of insiders to decentralise......at the enterprise level.' Added to this has been a succession of weak governments, with no strong parliamentary majority. In this essay the author looks at the privatisation process in Poland and its success to date. Firstly, however, the author examines the concept of privatisation itself.
Privatisation
A privatisation programme should set out to achieve a number of goals, according to Gros and Steinherr (1995). Firstly, privatisation should be an instrument for promoting efficiency by creating an incentive-based economy. Secondly, there should be a fair distribution of ownership. Finally, it 'should serve the creation of a market structure that is compatible with a decentralised and democratic society.' The efficiency argument requires firms to face real competitive pressures, therefore it is not just ownership that must change but the whole macroeconomic environment.
'Privatisation is crucial to the reform process in an Eastern European countries.' The right to private property is the chief feature distinguishing market and centrally planned economies. Without privatisation the market economy cannot begin to develop, nor can it attract foreign investment. What is happening in Eastern Europe at the moment is unique and unprecedented, it is a learning process to which it is difficult to apply Western practices.
There are many problems associated with the privatisation programme. One of the most difficult things to do is to value the firms to be privatised. There are very large price and non-price distortions from pre-price liberalisation. Added to this is the need to develop capital markets so that a firm's future viability and performance can be assessed.
According to Gros and Steinherr the success of privatisation 'hinges on owners' ability to monitor managers' performance properly.' One way of curing this problem is to bring in incentive based schemes, but this is easier said than done. What this highlights, however, is the lack of managerial and technical skills that exists in Eastern Europe. Traditionally the principal-agent relationship has been faulty. There are no real incentives or penalties at the managerial level, nor is there a realistic production response to a given set of prices. Furthermore, there has to be increased opposition from principals to the demands for wage increases. Ever increasing wages can lead to macroeconomic destabilisation.
Macroeconomic Effects of Privatisation
The macroeconomic structure is a very important issue. The uncertainty about the future presents huge risks. The return on any investment will need to be well above the opportunity cost of capital to be worthwhile. There can be a couple of effects on this structure due to privatisation. Firstly, privatisation will have an adverse effect on the budget. The tax revenue from enterprises will undoubtedly fall due to new competitive pressures. Furthermore, the restructuring process will require the writing off of a large number of bank loans. Finally, social safety nets will need to be implemented to protect employment and savings.
One can look at the actual effects on employment and savings. Hyperinflation and the distributive effects of privatisation may cause a fall in real wealth for a majority of the population. Savings will increase due to the widening gap between actual wealth and long-term wealth positions. However if unemployment is rising, then there will be an aggregate fall in savings (because unemployed people are usually dissaving). 'Labour supply of most individuals will increase and with a capital shortage sustaining at least in the medium term one would consequently expect rising unemployment rates.' One can see the effect that privatisation can have on the economy; in Poland transfers to households have risen by ten points of GDP since 1989.
It is evident that privatisation is a process fraught with social, political and economic danger. It is a process that requires great care and great thought. The author now proceeds to examine the process in Poland and look at the various methods used and their success so far.
Privatisation in Poland
The 'big bang' reforms have had quite an effect on Poland. Unemployment doubled between 1989 and 1992. At the same time real GDP fell, by as much as 11.6% in 1990. It subsequently recovered and is projected at 5% for 1996.
Poland also experienced severe inflation in this period, peaking at 585.8% in 1990. In comparison with other Visegrad countries Polish inflation has been very high. It is evident that some control on prices has begun, with the inflation projection for 1996 being 18%. Poland has been referred to as being the 'tiger economy' of Eastern Europe due to its growth figures. Privatisation, however, has been very slow in getting off the ground in Poland. Weak governments and the return to power, in 1993, of the ex-communists have been largely to blame. At the same time private sector share of GDP had risen to 55% by 1994. This has been due mainly to new firms rather than newly privatised state firms. By 1993 only 200,000 jobs had gone from the state sector to the private sector, while the new private sector had created 3.5 million new jobs. The potential for real growth is obviously there.
The State Structure
When the new Government came into office in 1989, a governmental office was established to oversee the privatisation process. The first office established was the Government Plenipotentiary for Ownership Transformation, this became a full ministry in 1990. One of its most important tasks was to stop the spontaneous privatisation of state enterprise, and to reinforce state control over the whole process. Other important bodies are the founding organs of state enterprises, The Ministry of Industry or the local authorities. Their consultation is required in most privatisation cases.
The first form of privatisation examined here is 'spontaneous privatisation.' This is the name given in Poland to the unsupervised, uncontrolled conversion from state to private ownership by members of the communist elite. Not all of these practices were illegal, yet many were corrupt. Many of the ex-communists who still held a position of power, abused their positions. Enterprises were stripped of their assets; bank loans were taken out for the enterprises and then pocketed. Finally the enterprises in question would be declared bankrupt. The process was severely slowed down in 1992 when many of the state enterprise directors were ousted by the Solidarity-led Government. The whole period shows why there is a need for some form of state control over the privatisation process and why the Polish Government sought to gain such control.
Capital Privatisation
There are different forms of capital privatisation and Poland has tried different ones. A public offering was one such method tried. This is a very complex and time consuming method of privatisation and can only be applied to a small number of firms. Nevertheless it held a lot of attraction for the Poles. 'It promised an immediate move into the prestigious world of quintessentially capitalist finance: the introduction of stock exchanges, a myriad of financing instruments, banking institutions, mutual and pension funds, etc.' Indeed foreign advice was sought and legislation adopted to open a stock exchange in Warsaw. Unfortunately it did not quite work out. The selected companies had no experience of a market economy. Coupled to this were the centrally based prices of inputs and outputs. Due to this Western accounting methods were quite useless in valuing the firms. In the end the figures used were arbitrary. In 1990 only five firms were privatised this way and receipts fell well short of projections. Six more firms joined in 1991.
Trade sales is a way of selling large blocks of shares through public tender or a public auction. In deciding upon the sale, the Ministry of Privatisation weighs up several factors: price, the readiness to bring in new capital and the ability to maintain employment levels. The effects of this process have not been great, the number of firms privatised this way is still in double figures. Likewise management/employee buy-outs have not taken off. The reason for this is that there is another process; 'privatisation through liquidation' which has proven far more popular.
Privatisation Through Liquidation
So far 'privatisation through liquidation' 'has been the most successful Polish privatisation programme outside the field of very small units.' It has been very popular because of the advantages it offers to the insiders. The process begins with a decision to liquidate a state enterprise. It can be used either for viable or bankrupt state enterprises. In the viable cases a successor always emerges. The interesting part of the process is that in addition to selling the assets, they may also be leased.
The leasing aspect has proven to be very popular. It has given an outlet to those who wanted the 'spontaneous privatisation'. 'Thus privatisation has had a very one-sided character both with respect to the form - leasing arrangements - and with respect to the final owners - predominantly the employees of the former state enterprises.' At the beginning of March 1992 1,055 state enterprises had been liquidated, 545 new companies had been formed, of these 384 were formed by the employees leasing the assets of the liquidated enterprises. This has been a successful process in a couple of ways. As mentioned above, it has been a release valve for those seeking to engage in the 'spontaneous' process. Secondly, it has given many workers the chance to become their own bosses, thus adding a great incentive to succeed; the penalty of failure is shut-down and unemployment.
Small Privatisation
By far the greatest success in Poland has been small privatisation. 'Small privatisation concerns shops and other small units which are the property of local, rather than central, authorities.' There has been no formal programme of small privatisation. Local authorities have been given a free rein on the subject. One of the problems faced was to decide whether communal property should be rented at market rates or at set prices. The pressure from insiders entailed that 90% of the rents were set at administrative prices, even though market rates were thirty to forty per cent higher. However, by the end of 1990 the Ministry of Privatisation published a report showing that 80% of 100,000 small and medium sized retail stores had been privatised. This has been a success story for privatisation in Poland, even if revenue from rents has been very low. What it does though is bring private property and business in at a grassroots and nation-wide level. It has helped enormously in spreading a privatisation and enterprise culture.
Corporatisation
At the beginning of the reforms in Poland, the Government wanted to move quickly and install a traditional capitalist system of corporate governance. This was to have been accomplished by corporatisation. It would impose a new legal regime and recentralise decision making. This was then to be followed by a British style sell-off. In Poland corporatisation is the 'transformation of state enterprises into wholly state-owned joint-stock or limited-liability companies governed by the rules of the Commercial Code.'
Of critical importance to this was the reorganisation of corporate institutions and the reassertion of the state's ownership rights. More than this it was meant to be the first stage on the way to the change of ownership. Unions and insiders were opposed to the corporatisation process. They did not see much future in it for themselves, and feared future foreign take-over. The law enacted in the Summer of 1990 ended up being a series of compromises. Article 5 of the Act states that for the transformation to occur, the consent of the director and the workers' council is required. Basically it means that workers have a veto over any decision. The Act also provided that 20% of the shares of each company could be purchased by the workers at a discount of 50%.
The idea of corporatisation was correct but it too failed in its goals. By the end of February 1992 only 407 enterprises had become wholly state-owned, just 5.3% of firms in the state sector. More interesting though is that 139 of these firms were being prepared for the mass privatisation programme.
Mass Privatisation
The Polish mass privatisation scheme has been years in the making. When the former communists regained power in 1993, the plans were shelved because of the new Government's distaste for market reform and its suspicion of foreign investors. However in July 1995 the mass privatisation programme finally began. The Guardian said 'it bore a striking resemblance to the annual talent draft in American professional sports.' The whole process relies on fifteen government appointed National Investment Funds (NIFs). The funds are run by a consortia of foreign and local institutions. They are mostly staffed by Westerners, a condition of The World Bank which is providing one hundred million dollars in support. Five hundred and fourteen state enterprises (with a book value of $2.6 billion) were distributed amongst the fifteen NIFs, hence The Guardian's description. Each fund has 33% control of twenty eight companies and a 2% stake in each of the four hundred plus others. This means that 60% of all of the enterprises are owned by the NIFs. 15% is given free to employees and another 15% to pensioners and social funds. This leaves just 10% with the Government.
Twenty-seven million members of the public are entitled to buy a voucher for 20 zloty (approximately $8.15). The vouchers can later be sold or exchanged for a share in each of the NIFs. Unfortunately opinion polls showed that only one half of the population were interested in taking up their option, which was launched on November 23rd, 1995. There is, however, a whole year in which to buy them. The only worry is that people will not see the long term value of the vouchers. People may wish to realise their vouchers, like in Russia, for a couple of bottles of vodka.
There are advantages and disadvantages to this scheme. Firstly, the funds will promote the fledgling capital markets. They are likely to list their best companies on the stockmarket to raise cash and to add value to their portfolios. The vouchers will also be listed and a separate market created for them. Secondly, the funds will bring a level of corporate governance to the market. Thirdly, the scheme brings the expertise and knowledge of some of the Western World's best banks and financial institutions to Poland. There will be incentives for the Westerners to stick with their portfolios. The fees earned will be based on the fortunes of their company. Indeed 'over ten years managers will be paid 15% of the value of the funds' shares.' Finally, the scheme will get millions of Poles playing, and taking a vested interest in, the markets.
There are also some difficulties with this scheme. All of the funds are saddled with government appointed supervisory boards, that are more concerned with the strong Polish unions. There have already been some clashes with Western investment banks like Yamaichi/Regent. Another problem is that the scheme is actually very small, it will only control 5% of state industry. The voluntary nature of the scheme may need, in the future, to be changed to a Czech style give-away. Finally, there has been a great lack of interest from the public who have got fed up waiting for the mass privatisation programme. 'If it is a failure at the beginning it will be a failure at the end.' The next twelve months will give us the answer.
Conclusion
'The fundamental weakness of post-communist Poland's political infrastructure has made it extremely difficult to attain a workable social consensus about the nature of privatisation. In conditions approaching something like a political vacuum, it is very hard for social groups to articulate their opinions, interests, and political positions.' This is probably an accurate description of privatisation in Poland. Even though Poland was the first East European country to dismiss communism it has been slowest on the privatisation wagon. Undoubtedly the continuous change of governments and parliament has meant that many plans have been severely delayed. Ironically it is the strong unions that brought about change in 1989 that oppose it most now.
Perhaps the piecemeal Polish approach has been more successful than it looks from the outside. Certainly the mass privatisation scheme is anything but mass, but when one looks at Polish economic performance compared to the rest of Eastern Europe, it has been good. Inflation is dropping, employment is increasing and GDP is growing at a steady rate. While much privatisation has taken place in Poland, there is still much more to be done. However maybe due to accident, rather than design, the slow approach seems to be the right one. The voucher scheme should be particularly interesting to observe, as will be the performance of the NIFs, as this could well be the groundwork for a truly mass privatisation of state enterprises. The next twelve months will tell. Nevertheless the dithering and the waiting may well have been worthwhile, as foreign investors' willingness to participate proves. If opposition from the unions and the former communists can be pushed aside, then there is a good chance of success. One thing is important and that is that Poland does not take too much more time in its quest for privatisation.
Bibliography
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