Can the problem be corrected?

In many transition countries with weak institutions, privatization's promise has not been fulfilled. Some therefore argue that the best course of action for such countries is to postpone further privatization until competitive forces and an enabling institutional/governmental framework are in place. With regard to what has already been done, there have been calls for the renationalization of some or many divested firms, with the intention of undoing the damage inflicted and managing these assets more in the public interest, through greater state involvement—possibly with these firms being "reprivatized" at some later date.

Renationalization may not appear to be a highly likely option, but it has been proposed in and for Russia and Ukraine and even by some officials of the present government of the Czech Republic. Despite its prima facie appeal, it would be a desperate measure, with a high likelihood of failure, particularly in those countries of the former Soviet Union where its adoption is most likely to be strongly urged. Renationalization would involve selecting some or all of the most egregiously misprivatized firms; putting them back into the state's portfolio; managing them adequately while there; and then, eventually, selling them again, this time correctly.

The problems are obvious. How many transition governments outside (or even inside) Central and Eastern Europe could reasonably be expected to undertake this process and handle it well? How many can prevent asset stripping in state-owned companies or have demonstrated a capacity to divest firms in an open, transparent manner, in accord with the established standards of international practice? Regrettably, there are few. The irony is that countries with the skills and will to run state-owned firms effectively and efficiently are usually the same ones that can privatize well. Conversely, the forces and conditions that lead governments to botch privatization are the same ones that hinder decent management of state-owned enterprises. The conclusion: renationalization is not the alternative; instead, ways must be found to privatize correctly and to set and enforce performance standards for those firms that are already privatized. The crucial question, of course, is how this can be done.

One view runs as follows: in institutionally weak and politically fractured transition countries, long removed from or never fully integrated into the Western commercial tradition, privatization of the remaining portfolio (majority or minority stakes) should be halted and efforts shifted toward strengthening market-supporting institutions. The goal of such efforts would be to channel present "wild east" commercial activity into socially productive and acceptable modes, and to impose discipline on, and competition in, the remaining public enterprises. These steps should be accompanied or followed by staged, incremental shifts in ownership patterns, in a more or less evolutionary manner, as has been done in China. This proposed solution, too, has a prima facie appeal. But, again, it assumes the existence of the end at which it aims—an effective state mechanism and institutional framework.

The overall assessment thus appears bleak: privatize incorrectly and the result will not be increased production, job creation, and increased incomes but rather stagnation and decapitalization. But keeping enterprises in the hands of a weak and venal state is likely to lead to much the same thing. In both instances, the evident medium-to-long-term solution is to build up the administrative, policymaking, and enforcement capacities of the government.

Can anything be done in the shorter term? Several transition governments have tried to compensate for managerial and institutional deficiencies and a lack of political consensus by contracting out much or all of the privatization process to private agents and advisors. Armenia, Bulgaria, Estonia, Poland, and Uzbekistan are among the countries that have tried or are contemplating this approach, the Estonians with documented success. These efforts attempt to circumvent political constraints and find technical solutions to perceived political and institutional difficulties by turning over significant responsibility and decision-making power to the agents employed. This delegation or contracting out is an option well worth considering, but it is far from a general—or, indeed, a speedy—solution (as Poland can attest). And the effectiveness of the effort will, as always, depend heavily on the existence of a modicum of governmental capacity.

Based on experience with privatization in Poland, Romania, Russia, and Uzbekistan, the World Bank's Itzhak Goldberg (1999) argues for a particular form of reprivatization. He suggests that the principal obstacle to progressive restructuring in privatized firms in Russia and elsewhere is the excessive concentration of ownership in the hands of insiders, who lack the means and incentives to lead the firms forward. Goldberg accepts the futility of renationalization and argues instead for increasing the capital in privatized firms and then immediately diluting the stakes of insiders by selling the new shares to external investors.

Once again, the political and institutional deficiencies elaborated above deeply affect both the likelihood that a government will undertake reprivatization or will succeed in implementing it, even if the government makes a sincere effort to do so. The implication is that the reforming elements in the transition governments and the international assistance community—international financial institutions, the European Union, and bilateral donors—should abandon efforts to privatize firms as rapidly as possible and instead attempt to carry out slower, case-by-case and tender forms of privatization following established international procedures.

Conclusion

It is time to rethink privatization, but only in those transition countries where history, geography, and politics have resulted in seemingly laudable economic policies producing clearly suboptimal outcomes. In Russia and elsewhere, too much was expected of privatization.

But admissions of error should not be overdone. When it can be carried out correctly, privatization is clearly the right course of action. Recall that in a number of Central and Eastern European transition countries the policy is an undoubted success, far superior to letting the firms remain in state hands. It was not clear at the outset of transition how difficult privatization would prove in institutionally weak countries (and those commentators who claim they have long perceived this did not offer a clear alternative strategy), or that a fair amount of time was available in which to carry out reform.

One must continually ask what was and is the alternative to privatization. It is not clear that Russia would be better off today had it not undertaken the mass privatization program of 1992–94. Several other institutionally weak transition economies that avoided or delayed privatization or approached it more cautiously—such as Belarus, Bulgaria, Romania, and Ukraine—have made little economic progress (though in no case, of course, is privatization or its absence the whole explanation). Armenian officials, for example, vigorously argue that despite the problems their privatized firms have experienced, the absence of domestic or foreign purchasers gave them no choice but to proceed with voucher privatization. They insist that even weak private owners are better than state ownership. Were they still in state hands, these firms would be making irresistible claims on nonexistent public resources, threatening all the hard-won progress Armenia has made in developing a market-oriented economy. The same argument could be made for other transition countries.

So, in sum, privatization is the generally preferred course of action, but its short-term economic effectiveness and social acceptability depend on the institutional underpinnings of capitalism described earlier. If these underpinnings are missing but government is effectively working toward their construction or reinforcement, then delaying privatization until the government's efforts have borne fruit might be the optimal course of action. Hungary and Poland offer cases in point.

The heart of the matter is whether and how privatization can be achieved where governments are unwilling or incapable. The necessary long-term course of action is to support measures enhancing governments' will and capacity (assuming that one knows what these are). The reasonable short-term course of action is probably to push ahead with case-by-case and tender privatization and reprivatization, along the lines espoused by Goldberg and in cooperation with the international assistance community, in hopes of producing some success stories to emulate.