transition in slovakia and other cee countries jan pokrivcak [email protected]

Transition in Slovakia and other CEE countries

Jan Pokrivcak

[email protected]

Contents

• Communist years: some theory and empirics

• The case of Slovakia

• CEE Agriculture in the historic perspective

• CAP and Rural Development

Communist years: some theory and empirics

Part I

• Communist economic system EQUALS

central planning PLUS

state ownership of production factors

General Overview of Communist Economic System

Behind Iron Curtain

Source: DeLong: Macroeconomics


• It turned out that communist economic system is less efficient than free market system


Planned Economy vs. Market

Source: DeLong: Macroeconomics


There were still some positive outcomes of communist economies

• equitable distribution of incomes,

• general access to education, health care,

• job security,

• industrialization (from agrarian countries)

• growth of production (in early years)


But negative outcomes prevailed• shortages or surpluses, • slow economic growth in later periods• technological backwardness because of slow

innovation• environmental damage by heavy industry• stagnating social indicators, health, life expectancy,…• intrusive government due to lack of private incentives• governments NOT maximizing social welfare but

seeking own advantages (principal-agent problem)• lack of freedom – dictatorship


Why communist economies poorer than market economies?

– Initial conditions (communist countries were poorer in the first place)

– Communist economies generated lower rates of economic growth


Economic growth in communist period (% per capita p.a. )

Period EAST WEST

1950s

1960s

1970s

1980s

4.5

3.6

2.8

0.8

3.7

4.5

2.8

2.0

Communist economy good at mobilizing resources in short term, not able to sustain growth in long term.

General Overview of Central Planning

What caused poor growth rates of communist economies?

• Central planning

• Property rights


Problems with central planning Imbalances NOT eliminated by price adjustments. Prices do not send signals.

Central planners managed the whole economy like a single firm: poor info and incentives.

PRICE MECHANISM PERFORMS BETTER THAN CENTRAL PLANNING, FREE MARKETS NECESSARY FOR A POSITIVE DEVELOPMENT OF AGRICULTURAL MARKETS, NOT SUFFICIENT THOUGH.


Problems with property rights

• Rights to use assets and enjoy income from the use of assets

• In communism all assets owned by the state

• Prices and profits irrelevant.

• Managers not motivated to make profit but to fulfill quantitative plans, punishment for increasing efficiency and innovation.

• Inability to motivate people to work hard


Collapse of communist experiment and transition• Communist system failed and was followed by TRANSITION

from central planning to market economy

• During TRANSITION all “rules of the game” (constitution, laws, codes of behavior, habits, property rights) changed.

i.e., Market economy based on profit seeking entrepreneurial behavior while entrepreneurship in communism is considered to be speculation and trying to avoid hard work and therefore illegal.

Transition

Outcome of transition depends on • Initial conditions

Some countries remembered pre-communist period and had market skills

Some countries implemented institutions from the scratch (Slovakia)

Some countries started transition with stable economy while others from macroeconomic imbalances

Transition

Outcome of transition depends on • Liberalization and stabilization policies

– In general the stronger the liberalization the faster recovery of production

– Stabilization macroeconomic policies crucial

– Important to establish hard budget constraint

Transition

Outcome of transition depends on • Privatization and regulation

Private firms more efficient than state owned

Financial regulation, labor code, regulation of pension system, taxation

Enforcement of contracts

Functioning of legal system

Transition

Outcome of transition depends on • Political system

Avoidance of government failure

Elimination of redundant redistribution and rent seeking

Economic and legal predictability

Sequencing of reforms

EU accession

Transition

The Case of Slovakia

Part II

Slovak Republic

Area: 49 036 km2

Population: 5.4 million

Pop. density: 109 per sq km

Pol. system: parl. democracy Ethnicity of the population: Slovak (86%)Hungarian (10%), Romany (2%), Czech (1%), Rusyn, Ukrainian, Russian, German, Polish and others(1%)GNI per capita (2005): US$ 7,600GDP growth (2007): 8.7%

The Slovak Experience

Short history

• Before 1918 Slovakia a part of Austro-Hungarian Monarchy

• 1918 -1992 Slovakia part of Czechoslovakia.• 1948 -1989 - communist country.• 1993 - Independent Slovakia in 1993.• 2004 - a member of the European Union.


Short economic history – communist years

• Most of Slovakia agrarian before 1948

• 1950s – industrialization and economic growth

• 1960s – 1980s – economic stagnation

• 1990s – transition to market system and democracy


Short Economic History – Transition Years

• Initial decline of output caused (1990 – 1992)

- Creative destruction• Economic recovery (1993 – 97)

- Fruits of economic reforms / stabilization and liberalization

• Slowing down and fiscal problems (1999 – 01)

- Lack of institutional reforms and bad politics• Strong economic growth (2002 – current time)

- Institutional market reforms and EU accession


Current economic performance

• Currently, Slovakia is a fast growing economy with GDP growth of about 10 % in 2007

• Unemployment rate remains high but declining (around 10 % in 2009).

• Regional differences: rich Western Slovakia, poor Eastern Slovakia.

• ABOVE OPTIMISTIC DATA SHOW REALITY BEFORE THE FINANCIAL CRISIS


GDP Growth in Slovakia


Economic growth

3.94.0

3.6

5.2

0.0

1.0

2.0

3.0

4.0

5.0

6.0

2001 2002 2003 2004 2005 2006f 2007f 2008f average

Czech Republic Hungary Poland Slovak Republic


Unemployment rate

10%

11%12%

13%14%

15%

16%17%

18%19%

20%

93 94 95 96 97 98 99 00 01 02 03 04 05

Core Unemployment (average) LT average


Structure of Economy

Agriculture 3,5 Industry;

29,4

Services; 67,1


• In the world perspective, SLOVAKIA is a high income country with a Gross National Income per capita of US$ 19 340 in 2007.

• In European perspective, Slovakia achieves about 72% of average income of 27 countries of the EU in 2008


GDP (EURbn)Relative to

German market

Populat.(m)Relative to

German population

US (1) 10,119 513 265.6 324

Germany (4) 1,973 100 81.9 100

Poland (22) 403 20.4 38.7 47

Czech Republic (40)

170 8.6 10.3 13

Hungary (44) 139 7.0 10.1 12

Slovak Republic (50)

62 3.1 5.4 7

Note: GDP adjusted by Purchasing Power Parity, 2004 data. Source: EUROSTAT

Size of the market


US 108

Germany 100

Austria 99

UK 94

Hungary 52

Slovakia 49

Czech Republic 45

Poland 41

Mexico 32

Productivity comparisonGDP per hour worked Germany = 100

Source: OECD


# of hours OECD Rank Germany=100%

Czech Republic 1 972 2 136%Poland 1 956 3 135%Slovakia 1 814 7 125%USA 1 792 12 124%UK 1 673 16 116%Italy 1 591 18 110%Austria 1 550 21 107%Germany 1 446 24 100%France 1 431 25 99%Netherlands 1 354 26 94%

Working habitsHours worked per year

Source: OECD


Education% of population 25-64 having completed at least

upper secondary education

Percentage Rank

Czech Republic 87.8 1

Slovakia 85.8 3

Germany 83.0 5

UK 81.7 7

Poland 80.8 9

Austria 78.2 11

Hungary 71.4 14

Netherlands 67.6 15

France 64.1 17Source: Eurostat, 2002 data


Economic freedom

2 2.2 2.4 2.6 2.8 3

P oland (41)

Hungary (40)

Slovakia (34)

Czech Republic(21)

2003 2004 2005 2006

big improvement in 2004

The lower the value, the greater the economic freedom.

Source: The Heritage Foundation and Wall Street Journal, Index of Economic Freedom.


Doing business

0

20

40

60

80

100

120

140

Ease of DoingBusiness

Starting aBusiness

Dealing w ithLicenses

Hiring andFiring

RegisteringProperty

Getting Credit

Slovakia Czech republic Hungary Poland Germany

The smaller the number, the better

Source: World Bank, Doing Business 2006


Informal economy% of GNI

Informal economy (% GNI, 2003)

Slovakia 18.9

Czech Republic 19.1

Hungary 25.1

Poland 27.6

CE average 23

Germany 16.3


FDI inflow

0.0

1.0

2.0

3.0

4.0

5.0

6.012% of GDP


FDI inflow: CE comparison

-1,000 1,000 3,000 5,000 7,000

Czech Republic

Hungary

P oland

Slovakia

1989-1999 2000-2008US$


Most attractive sectors in CE in the future according an Ernst&Young Survey

7%9%9%

10%11%11%

12%12%

16%19%

27%28%28%

0% 5% 10% 15% 20% 25% 30%

PharmacyFinancial industry

Real estate/constructionHi-tech equipment

ChemicalsHi-tech services

TelecomTourism&leisure

TransportTelecommunication

Heavy industryMass consum

Car industry


Hourly labor costs in EUR1996 2004E Feb-06

% of CE avg

% of EU15

Czech Republic

2.6 5.5 6.5 116.3 24.6

Hungary 2.7 5.2 5.7 101.0 21.3Poland 2.7 4.2 5.1 91.4 19.3Slovakia 2.3 4.4 5.1 91.3 19.3

CE Average

2.6 4.8 5.6 100.0 21.1

EU Average

20 25.9 26.6 100.0

Germany 25.3 30.4 31.0 116.4


Corporate profit taxation2004 Corp tax rate(%)

2006 effective tax rate(%)

Tax on dividends(%)

Hungary(*) 17.6 18.1 20.0

Slovakia 19 16.7 0.0

Poland 19 18.0 20.0

Czech Republic 28 21.1 15.0

Germany(**) 39.35 36.0 23.5

Netherlands 34.5

France 34.3

Austria 34

EU15 average 31.3


Personal tax rate

2004 marginal tax rate

Slovakia 19

Czech Republic 32

Hungary 38

Poland 40


Government’s role in the economyrevenues as % of GDP

30

35

40

45

50

55

Czech Republic Hungary Poland Slovakia

1998 2003


Government’s role in the economyrevenues as % of GDP

25

30

35

40

45

50

55


Conclusions

• Communist experience taught us that:– Government failure bigger problem than market

failure– Governments lack information and incentives to

manage economy appropriately– Property rights play an important role, common

property invites shirking, hinders activity

Conclusions

• Transition taught us that:– Free market mechanism indispensable– Soft budget constraint invites irresponsible behavior– Private property rights important– Institutions “rules of the game” that reward

productivity rather than redistribution of income are crucial, “people respond to incentives”

– Good legal system “enforcing contracts” decisive – Transparent politics promotes economic growth

CEE Agriculture in the historic perspective

Part III

Introduction

• In communist countries (before 1989) all economic activities directly regulated by state, the whole economy like a single firm.

• Central planners set:– What firms have to produce– Trade flows among companies – Allocation of resources among companies

• Prices set centrally and did not send right signals to producers and consumers.

Introduction cont.

• Agriculture centrally regulated too.• Land and farms (cooperatives) de facto

owned by state. Decisions made centrally.

• Land concentrated into large cooperatives.

• Average farm size 1 457 ha in Poland 124 770 ha in Turkmenistan.

• Farm size in market economies (USA, EU, …) much smaller.

Average farm size Workers per 1000 ha Tractors per 1000 ha

Workers/Tractors per 1000 ha (B/C)

Albania 1 907 628 20 32

Bulgaria 19 464 156 10 15

Czechoslovakia 2 988 156 24 6

Hungary 3 559 158 10 16

Poland 1 157 259 29 9

Romania 2 696 209 15 14

Estonia 4 490 92 16 6

Latvia 4 041 102 15 7

Lithuania 3 094 109 15 7

Armenia 1 621 167 10 16

Azerbaijan 2 765 164 10 17

Belarus 3 417 125 14 9

Georgia 2 148 209 10 21

Kazakhstan 75 555 9 1 7

Kyrgyzstan 21 626 41 3 14

Moldova 2 519 279 25 11

Russia 8 473 50 7 7

Tajikistan 8 352 114 9 12

Turkmenistan 124 770 7 1 10

Ukraine 3 930 145 11 13

Uzbekistan 13 637 77 7 11

Farm size during communism

Average farm size

(ha)

Average farm size

(ha)Albania 1 907 Armenia 1 621

Bulgaria 19 464 Azerbaijan 2 765

Czechoslovakia 2 988 Belarus 3 417

Hungary 3 559 Georgia 2 148

Poland 1 157 Kazakhstan 75 555

Romania 2 696 Kyrgyzstan 21 626

Estonia 4 490 Russia 8 473

Latvia 4 041 Tajikistan 8 352

Lithuania 3 094 Turkmenistan 124 770

Ukraine 3 930

Uzbekistan 13 637

Farm size in market economies

Average farm size (ha)

Japan 1.24

EU-15 18

USA 197

Introduction cont.

• 1989 – The Fall of Berlin Wall – collapse of communist regimes in CEE and FSU

• Transition from centrally planned economy to market economy.

• Transition involves institutional change (change of rules of the game in the form of laws, regulations, property rights, norms, …).

• Institutions constrain behavior of individuals and through this have impact on productivity of the economy.

• Market institutions support private incentives. Communist institutions hinder private incentives.

Introduction: cont.

• Transition of agriculture involves: 1. Privatization2. Farm restructuring3. Price liberalization4. Formation of market institutions

Privatization

• During communism land and cooperatives owned by state. State ownership inefficient. Incentives to work higher in the case of private ownership of resources.

• To increase efficiency property rights transferred from state to private hands – privatization.

• Privatization in agriculture: – Privatization of land– Privatization of assets of cooperatives and

state farms

Privatization cont.

• Privatization of land in FSU and CEE: – Restitution to former owners– Distribution to farm workers– Combination of restitution and distribution

• Restitution to former owners: – Land restituted to owners from before

nationalization and collectivization. Historical injustice caused by communism undone.

– Restitution took place in CEE (except Albania) and in Baltic States.

– Restitution feasible because nationalization and collectivization took place in recent past (after WWII), documentation exists and former owners or their children still alive.

Privatization cont.

• Distribution of land among farm workers : – Land distributed among farm workers in order

to create equitable land ownership. – Applied in FSU and Albania. – Restitution infeasible in FSU because of

search costs, missing documentation. Communist regime introduced in FSU after WWI.

– Combination of distribution and restitution : – Some land restituted to former owners and

some land distributed among farm workers. – Applied in Hungary and Romania.

• In some countries (Byelorussia, Kazakhstan, Turkmenistan) privatization limited.

Distribution Restitution Distribution and restitution

Albania

Bulgaria

Czech R.

Hungary

Slovakia

Romania

Estonia

Latvia

Lithuania

Armenia

Azerbaijan

Georgia

Kyrgyzstan

Russia

Ukraine

Belarus Limited privatization

Kazakhstan Limited privatization

Turkmenistan Limited privatization

Privatization cont.

• Privatization of farm assets : – Privatized by restitution and distribution. – Restitution served to undo former injustice

while distribution compensated workers for their contribution to farm surpluses created and invested back into cooperatives.

Farm restructuring• During communism cooperatives and state

farms centrally managed. Farms had to fulfill central plan.

• Restructuring aim was to transform farms such that they would react to market signals (prices and competition).

• Two approaches to restructuring: – New owners could withdraw land from

cooperatives (cooperatives could be dissolved) and establish family farm, these are the farms prevalent in developed market economies.

– Remaining cooperatives transformed. Communist cooperatives changed into cooperatives of owners of property, joint stock companies or limited liability companies.

Farm restructuring cont.

• During restructuring process the average farm size declined.

• In Slovakia, Czech Republic and in most FSU countries there are transformed cooperatives after restructuring.

• In Albania, Baltic States family farms are dominant.

• Both types of farms present in other countries.

Family farms Transformed coops

Share on land (%) Farm size (ha) Share on land (%) Farm size (ha)

Albania 96 4

Bulgaria 44 1 55 861

Czech R. 28 20 72 937

Hungary 59 4 41 312

Poland 87 8 13

Romania 55 2 45 274

Slovakia 12 42 88 1185

Slovenia 94 6

Estonia 63 2 37 327

Latvia 90 12 10 297

Armenia 32 68

Azerbaijan 9 91

Belarus 16 84

Georgia 24 76

Kazakhstan 20 80

Russia 11 89 6 100

Tajikistan 7 93

Turkmenistan 0.3 99.7

Uzbekistan 4 96

Ukraine 17 83 2 100

Price liberalization• Prices are important in market economy.

Prices provide signals to market participants how scarce commodities are.

• High price may signal high demand. Profit maximizing firms therefore increase production. Firms allocate resources to goods with the highest demand which results in efficient allocation of resources.

• In communism prices regulated by the state. Prices actually used only as an accounting tool to monitor state owned firms. Communist regimes therefore created surpluses of some goods and shortages of other goods.

Price liberalization cont.

• Price liberalization was an integral part of reforms.

• Generally price liberalization lead to increase of price level.

• The highest increase of prices observed for agricultural inputs while prices of agricultural outputs increased less. The reason was shortage of inputs and surplus of outputs prior to liberalization.

Development of prices in Slovakia

Development of prices in Hungary

Development of prices in Russia


• Ag. prices increased in East Asia (China, …) in transition causing raising production.

• Ag. prices declined in CEECs and CIS leading to decrease of production.

• Price (terms of trade) development affected production development.

• In both cases the allocation of resources has improved. Why?

(Production therefore not a good measure of transitional success, productivity a better one)


• Development of subsidies paralleled price development.

• In most countries subsidy cuts at the start of transition, they pick up later. Why?

• An example: In Baltic States subsidy cuts were more pronounced than in the CEECs. The effect was that in CEECs output fall was smaller than in Baltic States.

Formation of market institutions

• Former communist countries had to create institutions supporting market system.

• They include the creation of safe private ownership rights, regulations supporting competition and contract enforcement.

• Many countries, especially FSU, adopted laws preventing sales and renting of land which lead to inefficient allocation of resources.

Formation of market institutions cont.

• Some countries lacked full definition of ownership rights.

• For example, in FSU new owners received shares of cooperatives not entitlement to a particular parcel. Direct relationship between land and individual was not created.

• Better informed managers could constrain rights of less informed owners.

• There was less of the problem in CEE.


• In overall, in CEE and Baltic States ownership rights and law enforcement was stronger than in FSU.


• Socialism characterized by state controlled large farms with workers earning wage – farms the same as factories.

• What is wrong with this?• Incentives, shirking

• Bad incentives = POOR PERFORMANCE

• Workers exert minimal effort. Why?

• Is there a difference between industrial firm and agricultural farm?

• Yes, the nature of production.


• Facing problems government reformed property rights (control and income rights)– Reforms to realign incentives

• Privatization (establishing better incentives).

– Forms of privatization (restitution/distribution)

• The impact of privatization on performance?


• Restructuring of farms follows (reducing information requirements – size) – different structures Slovakia vs. Albania, Bulgaria.

• Property rights in the CEECs are better defined and protected than in the CIS, which implies that farms in CEECs face harder budget constraints than farms in CIS.

• Owners of agricultural assets are therefore better motivated to increase efficiency than owners of agricultural assets in CIS.


• Family farms solve monitoring problem easier than transformed cooperatives – output increase in Albania, Rumania.

• Economy of scale reduced in family farms.

• Economy of scale vs. ease of monitoring.

The impact of transformation on agricultural production

• All transition countries experienced the fall of agricultural production in the first years of transition.

• After 4 years of transition agricultural production decreased by 40% in Baltic States, 30% in FSU, and by 20% in CEE.

• The initial fall reflected the destruction of the old system of exchange of commodities while the new system was just being implemented.

• After the initial fall stabilization ensued. Production in many countries started to rise. The biggest increase occurred in Albania, Slovenia and Romania.

The impact of transformation on agricultural production

cont.• Agricultural production reached pre 1989

level only in Albania, Slovenia, and Romania.

• In FSU decline of production was bigger than in CEE and the subsequent rise smaller. The reason is that property rights were better defined and law enforcement was stronger in CEE. Agricultural resources were therefore more efficiently used in CEE than in FSU.

Development of agricultural production in transitive countries

30

100

0 1 2 3 4 5 6 7 8 9 10 11 12

Inde

x

Kazakhstan

Russia

BRSZ

Albania

Czech R.

Poland

Romania

KVSE

Estonia

Baltic States

Počet rokov od začiatku transformačného obdobia

Growth of GAO in Transition Countries (index equals 100 in first year of reform)

CountryCountry Years after Years after start reform start reform with lowest with lowest GAOGAO

GAO index in GAO index in year of lowest year of lowest GAOGAO

GAO index GAO index after 5 years after 5 years of reformof reform

GAO index GAO index after 10 years after 10 years of reformof reform

Czech Czech RepublicRepublic

HungaryHungary

PolandPoland

SlovakiaSlovakia

AlbaniaAlbania

BulgariaBulgaria

RomaniaRomania

SloveniaSlovenia

EstoniaEstonia

LatviaLatvia

LithuaniaLithuania

BelarusBelarus

MoldovaMoldova

RussiaRussia

UkraineUkraine

55

66

55

1010

22

77

33

33

88

99

99

99

99

88

99

7575

6969

7777

6868

7777

5757

7575

6565

4141

3737

6464

5757

4242

5858

5151

7575

7070

7777

7777

100100

6363

9393

8181

5555

5050

6969

6161

6666

6464

6969

7777

7373

8585

6868

113113

6262

9393

7979

5555

5050

6969

6161

6666

6464

6969

Growth of ALP (Output per Farm Worker) (index equals 100 in first year of reform)

CountryCountry Year with Year with lowest ALPlowest ALP

ALP index in ALP index in year of lowest year of lowest ALPALP

ALP index ALP index after 5 years after 5 years of reformof reform

ALP index ALP index after 8 years after 8 years of reformof reform

Czech Czech RepublicRepublic

HungaryHungary

PolandPoland

SlovakiaSlovakia

AlbaniaAlbania

BulgariaBulgaria

RomaniaRomania

SloveniaSlovenia

EstoniaEstonia

LatviaLatvia

LithuaniaLithuania

BelarusBelarus

MoldovaMoldova

RussiaRussia

UkraineUkraine

11

11

33

00

22

99

99

33

11

88

55

44

88

55

88

9999

9999

9696

100100

7777

6060

5959

6161

7676

4949

6262

6969

4141

6363

5252

126126

175175

9999

110110

108108

6969

6767

8585

139139

5454

6262

7171

5858

6363

6565

177177

220220

144144

132132

104104

6363

6363

NaNa

163163

6565

7777

8787

4141

6565

5252

Growth of Input Use Indexes in Transition Countries (index is 100 in first year of reform)

CountryCountry FertilizersFertilizers TractorsTractors LandLand LaborLabor Animal Animal StockStock

55 1010 55 1010 55 1010 55 88 55 1010

Czech Rep.Czech Rep.

HungaryHungary

PolandPoland

SlovakiaSlovakia

AlbaniaAlbania

BulgariaBulgaria

RomaniaRomania

SloveniaSlovenia

EstoniaEstonia

LatviaLatvia

LithuaniaLithuania

BelarusBelarus

MoldovaMoldova

RussiaRussia

UkraineUkraine

2929

1515

3535

1717

1919

2525

2727

5656

1717

2121

1010

2525

4242

1111

2424

2424

1818

3838

1515

1414

1414

1717

5252

2020

5353

1616

4040

22

99

1111

5858

7272

114114

8989

7474

6969

106106

5656

106106

8282

118118

9292

9393

8282

9292

8282

6161

113113

7777

6868

5151

110110

118118

109109

8989

137137

6262

7878

6161

6868

103103

9494

9999

100100

101101

9898

100100

9191

107107

9999

100100

9898

102102

9898

100100

103103

9595

9898

100100

102102

9898

100100

8383

106106

9797

100100

9797

102102

9898

9999

5454

4343

8989

7171

9292

9292

118118

9595

4040

7979

113113

88

114114

100100

106106

4444

3737

9797

6060

107107

9999

110110

8787

3535

7777

103103

7373

111111

9292

102102

6969

5959

8181

6565

121121

4747

6363

8686

5050

3838

5252

7979

6464

7474

7575

5353

5151

6969

4646

107107

4242

5050

8282

3232

66

4141

6464

3232

4747

4141

Growth of Index of Agricultural Yields in Transition Countries (100 in first year of reform)

CountryCountry Average agricultural Average agricultural yield after 5 years of yield after 5 years of transitiontransition

Average agricultural Average agricultural yield after 10 years of yield after 10 years of transitiontransition

Czech Rep.Czech Rep.

HungaryHungary

PolandPoland

SlovakiaSlovakia

AlbaniaAlbania

BulgariaBulgaria

RomaniaRomania

SloveniaSlovenia

EstoniaEstonia

LatviaLatvia

LithuaniaLithuania

BelarusBelarus

MoldovaMoldova

RussiaRussia

UkraineUkraine

96.396.3

79.779.7

87.387.3

92.392.3

94.094.0

68.768.7

100.7100.7

NaNa

86.086.0

82.782.7

80.780.7

72.372.3

NaNa

72.372.3

78.378.3

115.3115.3

98.098.0

100.0100.0

107.3107.3

100.0100.0

75.775.7

102.7102.7

NaNa

100.3100.3

103.7103.7

91.391.3

75.375.3

NaNa

74.774.7

71.071.0

CAP and Rural Development

CAP developmentCAP development

• Before the creation of CAP each Before the creation of CAP each Member State had its own Member State had its own agricultural policiesagricultural policies..

• The Treaty of Rome created CAP in The Treaty of Rome created CAP in 19571957. . Main objectives:Main objectives:– Increase productivityIncrease productivity– Increase income of farmersIncrease income of farmers– Stabilize marketsStabilize markets– Adequate supply of foodAdequate supply of food

CAP Development cont.CAP Development cont.

Two (three) stagesTwo (three) stages::• „ „OLDOLD“ “ CAPCAP: : from creation to 90sfrom creation to 90s

• MacSharry reform MacSharry reform aa Agenda Agenda 20002000:: partial decoupling partial decoupling..

• MTRMTR ofof 2003 ( 2003 (or decoupled CAor decoupled CAP): P): fromfrom 2005. 2005.

OLD CAPOLD CAP

Main instruments of old CAMain instruments of old CAP:P:

• Price supportPrice support::• ImportImport tariffs/quotas tariffs/quotas• EExport subsidiesxport subsidies

Old CAPOld CAP : : cont.cont.

Old CAPOld CAP::• EU prices high, above world prices.EU prices high, above world prices. • Behavior of farmersBehavior of farmers? ? • Price support affects directly production. Price support affects directly production. • OLD CAP is coupled. OLD CAP is coupled.

0

100

200

300

400

500

1980 1982 1984 1986 1988 1990 1992 1994 1996 1998 2000

Inte

rven

tion

pric

e/wo

rld

pric

e

Wheat Barley SugarBeef meat Maize

Old CAPOld CAP : : cont.cont.

Comparison of EU prices and world pricesComparison of EU prices and world prices ((Ratio of EU and world pricesRatio of EU and world prices))

DD PD

PW

PD

QD QPQ

P

P*

Q*

Supply

Demand

World Price

Domestic eq. no trade and CAP

Export subsidy= (PD - PW)*(QP – QD)

QD = Production with price support

QD = Consumption with price support

Export = QP - QD

Price Support

IMPACT OFIMPACT OF OLDOLD CAPCAP• Growth of production due to high Growth of production due to high

prices. Incomes upprices. Incomes up..• Consumers worse ofConsumers worse of..• Government expenditures upGovernment expenditures up..• World markets distortions and angry World markets distortions and angry

trading partnerstrading partners..• Environmental damageEnvironmental damage

Impact of old CAP cont.Impact of old CAP cont.

0

100

1960 1964 1968 1972 1976 1980 1984 1988 1992 1996 2000

Pro

du

kci

a/s

po

treb

a

Psenica Jacmen Kukurica

SeSelf-sufficiency growing until 1990slf-sufficiency growing until 1990s

SSelf-sufficiencyelf-sufficiency

Impact of Old CAP cont.Impact of Old CAP cont.

Expenditures on CAPExpenditures on CAP

0

20

40

60

80

100

1980 1982 1984 1986 1988 1990 1992 1994 1996 1998 2000

Mli

ard

Eu

ro

0

20

40

60

80

100

Pod

iel S

PP

na

celk

ovom

roz

poč

te (

%)

Výdavky SPPCelkový rozpočet EUPodiel SPP na celkovom rozpočte (%)

MacSharry ReformMacSharry Reform

Reasons for reformReasons for reform::

• Old CAP created distortions because it Old CAP created distortions because it was coupled.was coupled.

• High expenditures on CAPHigh expenditures on CAP..

• WTO negotiationsWTO negotiations, UR GATT., UR GATT.

• EU enlargementEU enlargement..

• Unjust distribution of incomeUnjust distribution of income

MacSharry ReformMacSharry Reform cont. cont.

1992 1992 MacSharry ReformMacSharry Reform..

Main elements of the reformMain elements of the reform::• Reduction of intervention pricesReduction of intervention prices..• Introduction of compensatory Introduction of compensatory

paymentspayments..

MacSharry ReformMacSharry Reform cont.cont.

MacSharry Reform MacSharry Reform aand decouplingnd decoupling::• Instead of high prices farmers received Instead of high prices farmers received

direct payments. Direct payments were direct payments. Direct payments were paid on number of hectares or animals, paid on number of hectares or animals, not on unit of production. not on unit of production.

• Total number of hectares and animals was Total number of hectares and animals was set at the average of years 1989-1991. So set at the average of years 1989-1991. So the support was partially decoupled from the support was partially decoupled from production. production.

• Farmers in order to obtain direct Farmers in order to obtain direct payments had to produce some payments had to produce some commodities or animals. But the incentive commodities or animals. But the incentive to increase production was lowered.to increase production was lowered.. .. .

MacSharry ReformMacSharry Reform cont.cont.

MacSharry Reform MacSharry Reform aand nd rural development:rural development:• Three schemes introducedThree schemes introduced

– Early retirement of farmersEarly retirement of farmers– Agri-environmental paymentsAgri-environmental payments– Afforestation of agricultural landAfforestation of agricultural land

– Meassures to improve structure of farming and Meassures to improve structure of farming and reduce productionreduce production

1993 1996 1998 1999 2001 2002-2004

Cereals euro/t 25 54 54 54 63 63

Oilseeds euro/t 70 90 94 94 72 63

Suckler cows eur/unit 84 84 84 84 84 84

Sheep eur/unit 21 17 23 22 13 20

Direct PaymentsDirect Payments

Agenda 2000Agenda 2000

Next reform took place in Next reform took place in 1999, 1999,

Known asKnown as Agenda 2000Agenda 2000..

MainMain Reasons: Reasons:• Surpluses: UR GATT limits export subsidies Surpluses: UR GATT limits export subsidies

and EU enlargement.and EU enlargement.• Budget: limits set by Berlin CouncilBudget: limits set by Berlin Council• DDA WTO.DDA WTO.• Preferences of citizens change: Preferences of citizens change:

environment, education, research rather environment, education, research rather than primary agriculturethan primary agriculture

Agenda 2000Agenda 2000

Main ElementsMain Elements::• Agenda 2000 Agenda 2000 continued MacSharry continued MacSharry rreformeform..• Intervention prices further reducedIntervention prices further reduced..• Higher support through direct paymentsHigher support through direct payments..• Financial framework 2000-2006Financial framework 2000-2006• SAPARD for new member statesSAPARD for new member states• Voluntary modulationVoluntary modulation• TWO PILLARSTWO PILLARS

– Market and income policiesMarket and income policies– Rural DevelopmentRural Development

• Agrienvironmental measuresAgrienvironmental measures• Voluntary cross-compliance on national levelVoluntary cross-compliance on national level

Impact ofImpact of MacSharry reform MacSharry reform aandnd Agenda 2000 Agenda 2000

• EU prices converged to world EU prices converged to world prices, imbalances reducedprices, imbalances reduced..

• Consumers better oConsumers better offf.f.• Budget expenditures increasedBudget expenditures increased, ,

howeverhowever..• Expenditures on CAP under checkExpenditures on CAP under check..• Enlargement possibleEnlargement possible..• WTO pressure remainsWTO pressure remains..

Impact of old CAP cont.Impact of old CAP cont.

0

100

1960 1964 1968 1972 1976 1980 1984 1988 1992 1996 2000

Pro

du

kci

a/s

po

treb

a

Psenica Jacmen Kukurica

SeSelf-sufficiency growing until 1990slf-sufficiency growing until 1990s

SSelf-sufficiencyelf-sufficiency

Impact of Old CAP cont.Impact of Old CAP cont.

Expenditures on CAPExpenditures on CAP

0

20

40

60

80

100

0

20

40

60

80

100

1980 1982 1984 1986 1988 1990 1992 1994 1996 1998 2000 Pod

iel S

PP

na

celk

ovom

roz

poč

te (%

)

Mli

ard

Eu

ro

Výdavky SPPCelkový rozpočet EUPodiel SPP na celkovom rozpočte (%)

ReformReform of CAP in of CAP in 2003 - Fischler 2003 - Fischler

Reasons for further reforms of CAPReasons for further reforms of CAP::

• Partially decoupled CAP still creates distortionsPartially decoupled CAP still creates distortions. . • WTO negotiations.WTO negotiations.• Citizens demand environmentally friendly Citizens demand environmentally friendly

agriculture and stressing countryside agriculture and stressing countryside maintenance.maintenance.

• CAP loosing support in Commission and societyCAP loosing support in Commission and society– Farmers = polluters, Farmers = polluters, – Tougher competition for EU funds in CommissionTougher competition for EU funds in Commission

• MTR agreed on in MTR agreed on in 20032003, came into effect in , came into effect in 2005.2005.

DDecoupled CAecoupled CAPP : : cont.cont.

Main Elements of MTR ReformMain Elements of MTR Reform::• Total direct payments computed on hectare Total direct payments computed on hectare

and farmers receive direct payments and farmers receive direct payments irrespective of production, farmers obtain irrespective of production, farmers obtain Single Farm Payment. Single Farm Payment.

• Stress on environmentStress on environment: CROSS-COMPLIANCE: CROSS-COMPLIANCE• Greater emphasis on rural development: Greater emphasis on rural development:

environment, quality, animal welfare, environment, quality, animal welfare, production standardsproduction standards

• Farmers receive direct payments because Farmers receive direct payments because they look after the environment and maintain they look after the environment and maintain countryside. countryside.

MTRMTR::• FarmFarmars obtain direct payments even ars obtain direct payments even

without production. Have to keep land without production. Have to keep land in good condition. in good condition.

• Farmers have to react to price signals Farmers have to react to price signals and produce what is profitable. and produce what is profitable. Reaction to signals of consumers not Reaction to signals of consumers not signals of Brussels’ civil servants and signals of Brussels’ civil servants and politicians.politicians.

• Modulation: 5 percentModulation: 5 percent• Farm Advisory SystemFarm Advisory System• Financial framework untill 2013Financial framework untill 2013

DeDecoupled CAcoupled CAPP : : cont.cont.

EUEU Enlargement Enlargement

• In 2004 EU accepted 10 new In 2004 EU accepted 10 new members and in 2007 additional 2 members and in 2007 additional 2 members. members.

• In new members national In new members national agricultural policies replaced by agricultural policies replaced by CAP.CAP.

EUEU Enlargement Enlargement: : cont.cont.

Direct payments in new member Direct payments in new member statesstates::

• New member states had to implement New member states had to implement post AGENDA 2000 CAP. post AGENDA 2000 CAP.

• AGENDA 2000 CAP administratively AGENDA 2000 CAP administratively intensive requiring investmentintensive requiring investment. .

• Single Area Payment Scheme offeredSingle Area Payment Scheme offered. . • PPayment per hectareayment per hectare..

EUEU enlargement enlargement: : cont.cont.

Direct payments in new member Direct payments in new member statesstates::

• FarmFarmers in the new members do not ers in the new members do not obtain full direct paymentsobtain full direct payments. .

• Two sources of direct paymentsTwo sources of direct payments::– EUEU budget budget– National budgetNational budget

EUEU enlargement enlargement: : cont.cont.

Distribution of direct payments in new Distribution of direct payments in new member states relative to old member states relative to old EU-15EU-15

EU budget National budget

(‘top-up’)

Total

2004 25 30 55

2005 30 30 60

2006 35 30 65

2007 40 30 70

2008 50 30 80

2009 60 30 90

2010 70 30 100

2011 80 20 100

2012 90 10 100

2013 100 0 100

EU enlargement and decouplingEU enlargement and decoupling::• Payments per hectare irrespective of Payments per hectare irrespective of

productionproduction. . • No requirement to produce, just to No requirement to produce, just to

keep land in good conditionskeep land in good conditions..• Full decoupling.Full decoupling.

EUEU Enlargement Enlargement: : cont.cont.

ConclusionsConclusions

• Old CAP fully coupledOld CAP fully coupled..• MacSharry reform MacSharry reform aand Agenda 2000 nd Agenda 2000

partially coupledpartially coupled..• CACAP reform 2003P reform 2003 fullyfully decoupleddecoupled..• CACAP P in NMS fully in NMS fully decoupleddecoupled..• Shifting emphasis on Rural Shifting emphasis on Rural

Development due to change of Development due to change of preferences preferences

Externality and public goods

Externality

• Economic development causes smog, acid rain, polluted water, air or soil. WHY? Must unhindered markets lead to environmental degradation?

• Pollution is a side effect of production of goods. If we want to consume goods we have to accept by-products.

• Is there too much pollution caused by unregulated markets? YES.

Externality

• While benefits of pollution accrue to the firm costs are incurred by the whole society, they are external to the firm.

• External cost (externality) is uncompensated cost that an individual or firm imposes on others.

• Market system produces inefficient outcome in the presence of externality, because MSC of market level of pollution exceed MSB.

Externality

• When externality exists there is a divergence between private and social costs (Pigou).– Either government involvement is necessary.

– Or markets should be established and externality internalized.

• Why are there then externalities which are not internalized?– Because the costs of making transactions to internalize

externality are higher than expected benefit.

• Externality exists only in the presence of TRANSACTION COSTS

Externality – Private solution

• Ronald Coase (1960) argues in what is known Coase theorem that even in the presence of externalities an economy can always reach an efficient solution provided that the transaction costs of making a deal are sufficiently low.

• Coase theorem: If parties affected by externality can negotiate at zero transaction cost the outcome is efficient solution irrespective of the initial assignments of property rights.

• Externality is the problem of non-existence of property rights, nobody or everybody owns air, clean water, ….

• The efficient outcome is not dependent on distribution of property rights if there are no transaction costs.

Coase example 1There is a firm which has annual net revenue of 100 and Union of Fishermen with annual revenue of 120. Fishermen need clean pond while firm pollutes the pond. Irrespective of the assignment of property rights net revenue will be 120 and the firm closes down.

Net revenue

Firm Fishermen Total Property right lies with

0 120 120 FishermenP; 120<P<100 120-P 120<P<100 120 Firm

Coase example 2There is a firm which has annual net revenue of 120 and Union of Fishermen with annual revenue of 100. Fishermen need clean pond while firm pollutes the pond. Irrespective of the assignment of property rights net revenue will be 120 and the fishermen leave the pond.

Net revenue


120 0 120 Firm120-P 120<P<100 P; 120<P<100 120 Fishermen

Coase example 3

Same as example 1, but there is an option to buy filters that eliminate negative effects of pollution.

Net revenue


70 120 190 Fishermen100 90 190 Firm

Externality – solution through standards, taxes, permits

• Private solution to externality suffers from the problem of high transaction costs.

• Government steps in by setting environmental standards – rules that specify actions of polluters like installing catalytic converters, filters, building sewages, ….

• These standards reduced pollution, but according to economists at high costs.

• Emission taxes can achieve the desired outcome at lower cost.

Externality – private versus social costs

• Sometimes we cannot directly control pollution but only the amount of activity that causes pollution.

• There is then a difference between private and social costs.

• Production of livestock produces methane gas.

• To decrease the amount of methane gas we have to reduce production of livestock. No filters or similar devices exist for this problem.

Pigouvian Subsidies in Agriculture

• Many agricultural economists argue that agriculture production provides positive externality, benefits to the society like landscape maintenance, rural social network, and …

• Difficulties:– Measurement difficulties

– Political difficulties

Public goods

• Private goods are excludable (individuals who do not pay will not get it) and rival in consumption (the same unit can be consumed by one person only).

• Most goods like cars, bread, house are private.

• There are however some public goods

Classification

Rival in consumption

Nonrival in consumption

Excludable Private goods

(food)

Artificial scarce goods

(software)

Non-excludable

Common res.

(fish in ocean)

Public goods

(defense, research)

Public goods

• Rational consumers do not pay if the good is non-excludable, they free ride.

• In a large group where individual members of the group are more or less unanimous and unidentifiable, it is impossible to reach a voluntary arrangement to cooperate.

The Free-Rider Problem

• Assume all individuals are identical. To provide the public good everybody has to pay the same (voluntary) tax amount. Each individual understands that contributing his tax will not significantly affect the total amount of tax revenue that is collected, and therefore, will not affect the provision of the public good. S/he therefore has every incentive to behave opportunistically and not contribute. Since each individual will act in this way, nobody will contribute, and hence, the public good will not be provided.

The Prisoner’s DilemmaAgent B Pay-off

(A,B) Coop Cheat

Coop -1, -1 -5, 0 Agent A

Cheat 0, -5 -3, -3

Free-rider problem

• Private individuals can sometimes overcome free-rider problem

–Donations to finance research

–TV financed by advertisement

–Social pressure

Ways to cope with market failure – private initiative

• Sometimes market failure can be solved by private initiative.

• Families or charities help poor people and provide public good to the society.

• If government steps in private initiative can be hindered.

Ways to cope with market failure – doing nothing

• Doing nothing (except for taxing) is better than banning negative externality causing drinking, drug use, or smoking.

• Some regulatory mechanisms (like regulating supermarkets that are supposed to abuse its monopsony power in dealing with producers) caused more harm than solved problems.

Ways to cope with market failure – improve the working of market

• Governments foster the flow of information (grading food, collect information on economic activity, accredits institutions, set health and safety standards, enforce product warranties) and thus improve functioning of the market.

• Legal system enforces contracts and protects property rights.

• Governments engage in antitrust actions (price collusion of food processors in Slovakia).

Ways to cope with market failure – measures requiring certain behavior

Govts. can dictate what should be produced, how, and sold at what price, what cannot be consumed– Well known price regulation (fixed prices)– Product quality regulation (use of food additives)– Regulation of production process (environmental

reasons)– Regulation of workplace safety, because of financial

externality

Ways to cope with market failure – Government Incentives

Payments to individuals who create positive externalities and taxing individuals creating negative externalities (education vs. pollution)

Provision of public goods (including redistribution of income)

Government failure• In many instances the effort of the government to rid of market

failure leads to even bigger disruptions (government failure) Stiglitz (1997) states 4 reasons for government failure:

• Limited access to information. Outcomes of many decisions are complicated and unpredicted. The government cannot predict the consequences of its decisions.

• Limited control over reactions of private sector. • Limited control over bureaucracy which has different goals as

the government. • Limitations due to the essence of political process

characterized by decision-making process in a representative democracy and approach of politicians to max. of their own welfare.

Thank you

[email protected]

transition in slovakia and other cee countries jan pokrivcak [email protected]

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