BARRIERS TO ENTRY AND GROWTH OF

NEW FIRMS IN EARLY TRANSITION

BARRIERS TO ENTRY AND GROWTH OF

NEW FIRMS IN EARL Y TRANSITION

A comparative study of Poland, Hungary, Czech Republic,

Albania and Lithuania

edited by

IRAJHOSHI Staffordshire University, Stoice on Trent, u.K.

EWA BALCEROWICZ CASE Foundation, the Centre for Social and Economic Research, Warsaw, Poland

LESZEK BALCEROWICZ President ofthe National Bank ofPoland

Springer-Science+Business Media, LLC

ISBN 978-1-4613-4851-1 ISBN 978-1-4419-9234-5 (eBook) DOI 10.1007/978-1-4419-9234-5

Library of Congress Cataloging-in-Publication Data

BARRIERS TO ENTRY AND GROWTH OF NEW FIRMS IN EARLY TRANSITION Iraj Hoshi, Ewa Balcerowicz, and Leszek Balcerowicz 978-1-4613-4851-1

A C.I.P. Catalogue record for this book is available from the Library of Congress.

Copyright © 2003 by Springer Science+Business Media New York Originally published by Kluwer Academic Publishers in 2003 Softcover reprint ofthe hardcover Ist edition 2003

All rights reserved. No part ofthis work may be reproduced, stored in a retrieval system, or transmitted in any form or by any means, electronic, mechanical, photocopying, microfilming, recording, or otherwise, without the written permission from the Publisher, with the exception of any material supplied specifically for the purpose ofbeing entered and executed on a computer system, for exclusive use by the purchaser ofthe work.

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Printed on acid-free paper.

To our children:Ania, Bijan, Wojtek, Rosa and Stella

With the hope that they will live in less turbulent and more peaceful times thanwe did.

Chapter 2 has appeared in a similar form in an article copyrighted © by The JournalofEast West Business, Vol. 6, No.2, 2000.

Chapter 3 has appeared in a similar form in an article copyrighted © by TheEconomics ofTransition, Vol. 8, No.1, 2000.

This book is based on the research project entitled: 'The Impact ofBarriers to Entryon the Speed ofTransition: A Comparative Study ofCountries in Different Stages ofTransition ', coordinated by Professor Leszek Balcerowicz. The project receivedfinancial support from the European Commission's PHARE ACE programme, grantNo. P95-2047-R, which is gratefully acknowledged.

Table of Contents

List of Figures ix

List of Tables xi

Contributors xvii

1. INTRODUCTION AND OVERVIEW 1Ewa Balcerowicz, Leszek Balcerowicz, Ira} HoshiAppendix 1.1. Enterprise Survey Questionnaire 28

2. FISCAL AND REGULATORY IMPEDIMENTS TO THE ENTRYOF NEW FIRMS IN FIVE TRANSITION ECONOMIES .49Ira} Hoshi, Jan Mlitdek

3. INVESTMENT AND FINANCE IN DE NOVO PRIVATE FIRMS:EMPIRICAL RESULTS FROM THE CZECH REPUBLIC,HUNGARY AND POLAND ,.. , ' " 83Andrze} Bratkowski, Irena Grosfeld, Jacek RostowskiAppendix 3.1. Additional Econometric Results 95

4. FOREIGN DIRECT INVESTMENT IN SMALL FIRMS 99Miklos Szanyi

5. BARRIERS TO ENTRY AND THE UNOFFICIAL ECONOMY...121Jane Christian

viii

6. FROM FOE TO FRIEND IN 10 YEARS: PRIVATE BUSINESSDEVELOPMENT IN HUNGARY 1989-1998 143Miklos Szanyi

7. BARRIERS TO ENTRY AND THEIR IMPACT ON PRIVATESECTOR GROWTH IN POLAND 185Ewa Balcerowicz

8. BARRIERS TO ENTRY AND THEIR IMPACT ON FIRMS'PERFORMANCE IN ALBANIA 243Lindita Xhillari, Shqipon}a Telha}Appendix 8.1. Correlation Matrix 284

9. BARRIERS TO ENTRY OF NEW FIRMS IN THE CZECHREPUBLIC 291Jan Mlddek, Ira} Hoshi

INDEX 323

List of Figures

Figure 2.1 . The main activity of sample firms in five countries. 54Figure 2.2. Date of establishment of sample firms 54Figure 2.3. Distribution of sample firms according to their size

(full time employment in 1995) 55Figure 2.4. Average number of employees in Sample firms in 1995 55Figure 2.5. The legal form of sample firms 56Figure 2.6. Difficulties of different stages of registration and licensing 58Figure 2. 7. Use of professional consultants in registration and Iicensing 59Figure 2.8. Average length of time needed to complete registration and

licensing procedures 60Figure 2.9. Use of bribes to speed up registration and licensing

procedure 60Figure 2.10. Proportion of firms not owning their premises 61Figure 2.11. Proportion of firms facing problems with the lease of their

premises 62Figure 2.12. Nature of changes in real estates regulations 63Figure 2.13. Proportion of firms having problems with employment

laws 64Figure 2.14. The nature of changes in employment laws 65Figure 2.15. Proportion of firms having problems with different aspects

of employment law aspects of employment laws 66Figure 2.16. Average length of dismissal proceedings 67Figure 2.17. Changes in tax burdens 71Figure 2.18. Frequency of changes in regulations on taxes and

contributions 72Figure 2.19. Nature of changes in regulations on taxes and contributions 72Figure 2.20. Compliance costs: changes in management time spent on

x

issues relating to taxes and contributions 73Figure 2.21. Compliance costs: the use of outside tax specialists 73Figure 2.22. Proportions of firms having problems with regulations on

exports and imports 74Figure 2.23. The evaluation of the impact of different rules and

regulations on new firms 75Figure 2.24. The ranking of the impact of different rules and regulations 76Figure 5.1. Private firms per 1000 of the population 124Figure 5.2. The unofficial economy and tax revenues 130Figure 5.3. Unofficial economy as a percentage of GDP 133Figure 5.4. Unofficial economy and Corruption Perceptions Index 134Figure 5.5. Unofficial economy and tax burden 135Figure 5.6. Unofficial economy and Banking & Non-Banking Secto r

Reform Index 135Figure 5.7. Unofficial economy and Financial Institutions Reform Index. 136Figure 5.8. Size of unofficial sector and growth 137Figure 7.1. Share of private sector in total employment and GDP in

Poland (%) 187Figure 9.1. Average number of full-time employees in sample firms ,

1990-1995 309Figure 9.2. Distribution of sample firms by legal form 309Figure 9.3. Distribution of firms by sector in Czech economy (1995)

and in sample 310

List of Tables

Table 1.1. Types of constraints to entry and development of new firms 7Table 1.2. New firm entries in early transition 9Table 2.1. Initial capital requirement for two main legal forms of business

(in US$) 57Table 2.2. Minimum wage as a proportion of average wage (%) 66Table 2.3. Taxes and contributions in five transition economies, 1999 69Table 2.4. Change in corporation tax (%)in early transition 1992-1999 70Table 3.1. Availability of bank credit.. 86Table 3.2. Investment equation - Endogenous variable: log

(investment/assets) 90Table 3.3. Determinants of the supply of credit (logit ML estimation) 91Table 3.4. Determinants of the demand for credit (logit ML estimation) 93Table 3.5. Sources of investment finance in firms which received

credit (%) 95Table 3.6. Sources of finance for working capital in firms which received

credit (%) 95Table 3.7. Sources of initial capital in firms which received credit (%). 95Table 3.8. Ratio of credit to the private sector to GOP (%) 95Table 3.9. Number of commercial banks 96Table 4.1. FDI incentives and impediments 103Table 4.2. Evaluation of difficulties of different stages of registration and

licensing faced by foreign and domestic firms 104Table 4.3. Experience of dismissals in sample firms 105Table 4.4. Evaluation of effect of regulations on the establishment and

growth of companies 106Table 4.5. Size of initial capital and its sources 107

Xli

Table 4.6. Share of the main sources of finance in working capital ofsample firms (%) 108

Table 4. 7. Investment since establishment and its main sources 109Table 4.8. Characteristics of bank loan s obtained by new companies 1l 0Table 4.9. Profitability of sample firms since the ir establishment.. 112Table 4.10. Barriers to growth of new private enterprises 113Table 4.11. Average end-of-year employment in surveyed companies 114Table 4.12. Assets of sample companies (1000 US$) 114Table 4.13 . Business environment and factors influencing it. 115Table 4.14. Evaluation of obstacles faced by foreign companies 116Table 4.15. Evaluation of facto rs facilitating foreign firms' entry and

growth 117Table 4.16. Evaluation of overall environment for fore ign investment

in the five transition economies 118Table 5.1. The Effect of GDP growth on the size of unofficial economy ..138Table 6.1. Establishment and closure of companies, 1988-1994 145Table 6.2. Total number of registered companies, associations and

private entrepreneurs 146Table 6.3. Rate of entry (new establishments as a percentage of previous

year's stock) 147Table 6.4. Number of registered firms by sectors 149Table 6.5. Dynamics of entry by sector (change in numbers of firms as a

percentage of previous year's stock) 149Table 6.6. Size distribution of firms, 1990-1995 (no. of employees) 150Table 6.7. Share of state-owned enterprises in value added by sector,

1992-1996 (%) 152Table 6.8. Share of state-owned enterprises in employment by sector,

1992-1996 (%) 152Table 6.9. Share of foreign-owned enterprises in value added by sector,

1992-1996 (%) 153Table 6.10. Share of foreign-owned enterprises in employment by sector,

1992-1996 (%) 153Table 6.11. Basic information on different entrepreneurial forms. 161Table 6.12. Evolution of taxes and contributions in Hungary,

1990 - 1998 162Table 6.13. Age structure of sample firms 168Table 6.14. Activity breakdown of sample companies 168Table 6.15. The evaluation of the difficulty of different stages of

registration and licensing 170Table 6.16. The evaluation of the impact of various regulations on new

firms 171Table 6.1 7. Initial cap ital and its sources 172Table 6.18. Sources of working capital finance 173

xiii

Table 6.19. Sources of finance for investment (% of total) 174Table 6.20. The evaluation of the impact of various obstacles to

obtaining bank finance 175Table 6.21. No. of firms and their profitability performance .l75Table 6.22. Total liabilities of sample companies 176Table 6.23. Number of firms and their assessment of the importance of

different barriers to the growth of new firms 177Table 6.24. Average employment in sample firms 177Table 6.25. Number of firms and their assessment of the impact of

environmental factors 179Table 6.26. Number of firms and their assessment of the importance of

their main competitors 179Table 7.1. Employment in the national economy by ownership sectors

in 1989 and 1999 (in millions) 188Table 7.2. Private sector employment in different branches of economic

activity (in 1000) 190Table 7.3. Share of private sector in total employment in different

branches of economic activity (%) 191Table 7.4 Average number of employees 1998-1999 including the

shadow economy (in 1000) 194Table 7.5. Share of unregistered employment in the total employment

of small firms, 1995-1999 (%) 195Table 7.6. Number of registered firms by legal form, 1990-1999 (as of

31 December) 196Table 7.7. Net entry: Increase in number of firms , 1991-1999 197Table 7.8. Net rate of entry (%) 197Table 7.9. Number of registered private enterprises and number of active

enterprises, 1995-1999 199Table 7.10. Size structure of the population of enterprises 200Table 7.11. Basic features of legal forms of companies in Poland,

1990-2000 205Table 7.12. Number of natural person businesses by different tax systems

(1999) 211Table 7.13. Personal income tax (PIT) and company income tax (CIT),

1992-2000 213Table 7.14. Evaluation of the registration process 222Table 7.15. Evaluation of the effect of regulations on the establishment

and growth of companies 225Table 7.16. Evaluation of obstacles to obtain finance from banks 228Table 7.17. Evaluation of obstacles to growth 230Table 7.18. Evaluation of the overall environment for development of

private business in Poland 231Table 7.19. Evaluation of obstacles affecting the companies' business 231

xiv

Table 7.20. Main competitors and their competitive power 232Table 8.1. Macroeconomic indicators, 1991-1998 244Table 8.2. Total employment according to sectors (in thousands) 247Table 8.3. Share of private sector in total employment during transition, ..247Table 8.4. Number of registered firms by sector 248Table 8.5. Number of acti ve firms 1991-1998, according to legal status 248Table 8.6. Number of active firms 1991-1998, according to size 248Table 8. 7. The legal status of the sample 256Table 8.8. Number of firms and their assessment of the difficulties of

different stages of registration and licensing 256Table 8.9. Time required to complete the registration process according

to sectors (months) 257Table 8.10. Number of companies experiencing changes in the

complication of laws and regulations 259Table 8.11. The evaluation of the impact of various regulations on new

firms 259Table 8.12. Number of companies benefiting from SME support

schemes 260Table 8.13. Sources of finance for initial capitaI... 261Table 8.14. The initial cap ital for foreign and domestic companies in

different sectors 261Table 8.15. Sources of finance for working capitaI.. 264Table 8.16. Sources of finance for investment (% oftotal) 264Table 8.17. Number of sample firms and their asse ssment of the

difficulty of various obstacles in obtaining bank finance 265Table 8.18. Liabilities of sample companies 266Table 8.19. Number of sample firms and the ir profitability performance..266Table 8.20. Relative age of sample firms ' capital stock 267Table 8.21. Relative wages of workers and managers 268Table 8.22. Number of firms and their asse ssment of the importance of

diffe rent barriers to the growth of new firms 268Table 8.23. Number of firms and their assessment of the impact of

environmental factors 269Table 8.24. No . of firm s and their assessment of the importance of their

main competitors 270Table 8.25. The impact of registration and licensing burden on

profitability (OLS Regressions) 275Table 8.26. The impact of tax burden on firms' profitability and

employment growth (OLS Regressions and Probit Models) 276Table 8.27. The impact oflabour and employment laws and real estate

regulations on firms' profitability and employment growth (OLSRegressions) 277

xv

Table 8.28. The impact of environmental obstacles and competitiveconditions on firms ' profitability (OLS Regressions). 278

Table 8.29. The impact of bribes and corruption on the unofficialeconomy (OLS regression) 278

Table 8.30. The impact ofvarious obstacles on employment growth(OLS regressions) 280

Table 8.31. Correlation matrix of independent variables (No. ofobservations in brackets) 284

Table 9.1. Size structure of Czechoslovak manufacturing firms accordingto employment in 1930 292

Table 9.2. Share of different sectors in net material product, 1948-1983(current prices) 293

Table 9.3. The structure of small privatised units in Czechoslovakia 295Table 9.4. State support to SMEs through CZMRB , 1992-98 (Kc mil) 296Table 9.5. Share of small firms in total economic activity (1992-96) 297Table 9.6. Number of registered firms by sector in the Czech Republic 298Table 9.7. Number of registered firms by legal forms 298Table 9.8. Size distribution of registered firms by employment,

1994 - 1997 299Table 9.9. Net increase in the number of firms by sector, 1993-1996 299Table 9.10. Rate of net entries by sector 1993-1996 300Table 9.11. Net increase in the number of firms by employment,

1995-1997 300Table 9.12. Rate of net entry by employment, 1995-1997 301Table 9.13. Personal income tax rates in Czechoslovakia in 1990 304Table 9.14. Corporate income tax rates in Czechoslovakia and the Czech

Republic 306Table 9.15. Personal income tax rates in the Czech Republic, 1997 307Table 9.16. The evaluation of the difficulty of different stages of

registration and licensing 311Table 9.17. The overall evaluation of the impact ofvarious regulations. 313Table 9.18. Sources of starting capital, working capital and investment

(average % for responding firms) 314Table 9.19. The evaluation of the impact of various obstacles to

obtaining bank finance 315Table 9.20. No. of firms and their profitability performance 3 15Table 9.21. Average liabilities of sample firms at the end of 1995 316Table 9.22. Evaluation of the importance of different obstacles to

growth 317Table 9.23. Evaluation of the impact of environment and competitive

conditions 318Table 9.24. Evaluation of the importance of main competitors 318

Contributors

ANDRZEJ BRATKOWSKI is Vice President of the National Bank ofPoland. Previously he was a researcher at CASE Foundation, the Centre forSocial and Economic Research, in Warsaw, Poland.

EWA BALCEROWICZ is co-founder and Vice-President of CASEFoundation, the Centre for Social and Economic Research, in Warsaw,Poland.

LESZEK BALCEROWICZ was the Deputy Prime Minister and Minister ofFinance in the first two post-communist govenunents in Poland (1989­1991), and then again from November 1997 to June 2000. He wasresponsible for the radical transformation programme implemented inPoland in 1990. Since January 2001, he has been the President of theNational Bank ofPoland.

JANE CHRISTIAN is an econometrician at the MediaCom Ltd., London,u.K.

IRENA GROSFELD is a Professor at the Departement et Laboratoired'Economie Theorique et Appliquee (DELTA), Centre National de laRecherche Scientifiquein Paris, France.

IRAJ HOSHI is Reader in Economics at StaffordshireUniversity, Stoke-on­Trent, United Kingdom.

JAN MLADEK served as Deputy Minister of Economy in the CzechoslovakGovenunent in 1991 - 1992, an advisor to the Minister of Industry and Trade

xviii

of the Czech Republic from 1992 to 1995 and then as the First DeputyMinister of Finance from 1998-2001. In June 2002, he was elected as amember of the Czech Parliament. He is the founder and Director of theCzech Institute of Applied Economics in Prague.

JACEK ROSTOWSKI has served as an economic advisor to the PolishGovernment as well as the authorities in Russia. He is Professor ofEconomics at the Central European University, Budapest, Hungary.

MIKLOS SZANYI is a Senior Researcher at the Institute of WorldEconomics, Hungarian Academy of Sciences, and an Assistant Professor ofEconomics at Budapest University of Economics and Public Administration.

SHQIPONJA TELHAJ was an Assistant Lecturer at the Faculty ofEconomics, Tirana until February 2000. She is now completing her doctoralstudies at Staffordshire University, Stoke on Trent, United Kingdom.

LINDITA XHILLARI is co-founder and Executive Director of HDPC,Human Development Promotion Centre, Tirana, Albania. Previously, shehad been the Director of the National Agency for Privatisation.