Structural Changes in CEE Countries Vilém Semerák November 24, 2006 Institute of Economic Studies Charles University, Prague

Outline of Presentation Background Background The need for structural changes in CEE countries The need for structural changes in CEE countries Structural problems and their symptoms Structural problems and their symptoms Overall structural changes Overall structural changes Structural changes in industry Structural changes in industry Impact on the economies Impact on the economies

Background Information “Work in progress”, cooperation with ECNU Shanghai “Work in progress”, cooperation with ECNU Shanghai Questions: Questions: Future role of CEE economies in the EU Future role of CEE economies in the EU Type of structural changes and “rationality” of the changes Type of structural changes and “rationality” of the changes Possible policy implications and implications for welfare Possible policy implications and implications for welfare Analyzed countries: Analyzed countries: New member states + other former CPEs New member states + other former CPEs Here data just for the CR, Hungary, and Poland Here data just for the CR, Hungary, and Poland

CEE Countries at the End of 1980s Centrally planned economies with very weak economic performance Centrally planned economies with very weak economic performance Economies with obsolete economic structures Economies with obsolete economic structures Macro level Macro level Disproportionately high share of industry and agriculture, low share of services (both in GDP and employment) Disproportionately high share of industry and agriculture, low share of services (both in GDP and employment) Within industry – too high share of heavy industry and traditional industries (textile), low share of advanced, knowledge-based sectors (both in GDP and trade) Within industry – too high share of heavy industry and traditional industries (textile), low share of advanced, knowledge-based sectors (both in GDP and trade) Specific pattern of trade flows – reliance on trade with countries of the soviet block Specific pattern of trade flows – reliance on trade with countries of the soviet block Micro level - Inefficient structures at the firm level Micro level - Inefficient structures at the firm level Large firms with oligopoly or monopoly positions Large firms with oligopoly or monopoly positions Vertical and horizontal integration – but often not on sound economic foundations Vertical and horizontal integration – but often not on sound economic foundations  Low productivity of labor, low quality of produce, low efficiency, low competitiveness

Structural Changes in CEE Countries Three important motives: Three important motives: Transition Transition Changes necessary to turn the countries into developed competitive economies Changes necessary to turn the countries into developed competitive economies European integration European integration Changes induced by the need to adopt European legislation and integration into the common market Changes induced by the need to adopt European legislation and integration into the common market Adjustment to changes in the world economy Adjustment to changes in the world economy Problem: the three phases overlap in time, it is not possible to delineate exact borders between them and their effects Problem: the three phases overlap in time, it is not possible to delineate exact borders between them and their effects Countries analyzed: Countries analyzed: Czech Republic, Poland, Hungary Czech Republic, Poland, Hungary

Old EU NMS 8 Rest of the World

Causes of the Changes Demand side Demand side Changes in the export demand Changes in the export demand Reorientation to western markets Reorientation to western markets Changing real incomes in the East Changing real incomes in the East Changes in domestic demand Changes in domestic demand Income effects Income effects Supply side Supply side Changing structure of domestic relative prices/costs Changing structure of domestic relative prices/costs Changes in real exchange rates (relative prices at home/foreign market) Changes in real exchange rates (relative prices at home/foreign market) Changes in regulation Changes in regulation Uncertainty, noisy information Uncertainty, noisy information

Sectors and Changes Impacts of the changes are differentiated: Impacts of the changes are differentiated: Non-tradables Non-tradables Tradables Tradables Differentiated commodities Differentiated commodities Two-way trade Two-way trade More homogeneous products More homogeneous products Volume of investment (and perceived risk) Volume of investment (and perceived risk)

Costs of the Changes “Costless” structural change “Costless” structural change “Statistical” structural change caused by “Statistical” structural change caused by Changes in statistical methodology Changes in statistical methodology Break-up of large industrial firms Break-up of large industrial firms “Costly” change “Costly” change Decline of non-performing sectors Decline of non-performing sectors

Expected Future Structure Detailed economic structure of the CEE countries does not have to mimic the structure of other EU members Detailed economic structure of the CEE countries does not have to mimic the structure of other EU members While convergence in real income is likely to lead to convergence in the structure of individual demand, this does not have to hold for supply While convergence in real income is likely to lead to convergence in the structure of individual demand, this does not have to hold for supply Economic geography models Economic geography models Geographical distribution of industrial activities sensitive to real barriers to mobility of goods and services Geographical distribution of industrial activities sensitive to real barriers to mobility of goods and services

Macroeconomic Structures CEE used to have very high share of Agriculture and Industry in both their GDP and employment CEE used to have very high share of Agriculture and Industry in both their GDP and employment Structural changes Structural changes Decreasing share of agriculture Decreasing share of agriculture Decreasing share of industry Decreasing share of industry Increasing share of services Increasing share of services

Economic Structures in 1990 Source: WDI (2006)

CR: C hanges in the Structure of GDP Source: WDI (2006) Relative shares of the sectors in the total value added

Poland: Changes in the Structure of GDP Source: WDI (2006) Relative shares of the sectors in the total value added

Hungary: C hanges in the Structure of GDP Source: WDI (2006) Relative shares of the sectors in the total value added

Structural Changes in Industry Overall trends Overall trends Dramatic changes in the structure of production and employment Dramatic changes in the structure of production and employment Changes seem to be positive, i.e. they seem to follow differences in growth of productivity of labor in the sectors Changes seem to be positive, i.e. they seem to follow differences in growth of productivity of labor in the sectors Sectors with highest growth Sectors with highest growth Electrical and optical equipment Electrical and optical equipment Transport equipment Transport equipment Sectors with fastest decrease Sectors with fastest decrease Textiles and textile products Textiles and textile products Leather and leather products Leather and leather products Note: Growth/decline measured by the share in the total production of manufacturing industry Note: Growth/decline measured by the share in the total production of manufacturing industry

Changes in Degree of Industry Specialization measured by Herfidahl index Source: Based on data from WIIW Handbook of Statistics 2005

Czech Manufacturing – Winners and Losers Source: Based on data from WIIW Handbook of Statistics 2005 Relative Changes in the Importance of Sectors

Hungarian Manufacturing – Winners and Losers Source: Based on data from WIIW Handbook of Statistics 2005 Relative Changes in the Importance of Sectors

Polish Manufacturing – Winners and Losers Source: Based on data from WIIW Handbook of Statistics 2005 Relative Changes in the Importance of Sectors

CR, Hungary and Poland - Winners and Losers Source: Based on data from WIIW Handbook of Statistics 2005 Relative Changes in the Importance of Sectors Simple average used

CR – Structure of Production and Productivity Source: Based on data from WIIW Handbook of Statistics 2005

CR – Structure of Employment and Productivity Source: Based on data from WIIW Handbook of Statistics 2005

Hungary – Structure of Production and Productivity Source: Based on data from WIIW Handbook of Statistics 2005

Hungary – Structure of Employment and Productivity Source: Based on data from WIIW Handbook of Statistics 2005

Poland – Structure of Production and Productivity Source: Based on data from WIIW Handbook of Statistics 2005

Poland – Structure of Employment and Productivity Source: Based on data from WIIW Handbook of Statistics 2005

Macroeconomic Aspects of Structural Changes Distribution of impacts in time = basic problem of structural changes Distribution of impacts in time = basic problem of structural changes Succesful structural changes will stimulate growth of GDP and welfare in the long run Succesful structural changes will stimulate growth of GDP and welfare in the long run But there may be substantial costs in the short run But there may be substantial costs in the short run

Further Extensions Econometric analysis of determinants of structural changes Econometric analysis of determinants of structural changes Use of firm-level data for the Czech Republic Use of firm-level data for the Czech Republic