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Transitional progress and business challenges.

Article Excerpt
Abstract Eight Central European and Baltic countries have joined the European Union in May 2004. Transitioning economies need to develop a business environment with a healthy financial sector to realize economic growth. This paper uses two classification methods, the discriminant analysis and taxonomic measure, to investigate the possibility of the South Eastern European and Commonwealth of Independent transitional countries to develop an enterprise and business environment that is compatible with the newest European Union (EU8) members. This paper found that the EU8 countries are correctly classified as having transitioned successfully in their business development. Bulgaria and Croatia have transitioned closely to the EU8. However, Romania, Ukraine, and the Commonwealth of Independent counties are not close to the EU8 in achieving a compatible business environment.

Keywords Transition countries Enterprise reforms Business structures Taxonomic methods Discriminant analysis

JEL 057 C10

Introduction

Transitional economies have been striving to transform to a market economy for nearly two decades. Countries like Poland, Czech Republic and Hungary have made more progress and been more successful. By May 2004, eight of the Central European and Baltic countries (EU8) had transitioned sufficiently to become members of the European Union (EU): Poland, Czech Republic, Hungary, Estonia, Lithuania, Latvia, Slovakia and Slovenia. Candidate countries like Croatia are currently making determined efforts to become an EU member, and January 2007 saw Romania and Bulgaria achieve membership status. Other countries of the Commonwealth of Independent States like Ukraine and Moldova, although not currently pursuing EU memberships, nevertheless, are looking west. The transition countries are restructuring their economy to a capitalistic business environment that will be attractive to foreign direct investment and integration into the global business community. The pursuit of a market-based business structure has resulted in remarkable real GDP growth for some of the countries, attracted increased inflow of foreign direct investment and integrated the transition countries into the world markets.

Because the EU8 had been so successful in transforming their business environment, their transition effort is a success story that other aspiring transition countries can emulate. The convergence of the EU8 with the old EU indicates that their economy has transitioned to accommodate market business practices in the enterprise, legal and financial environment sectors.

Restructuring and Business Environment Characteristics

Enterprise restructuring is an important process in enhancing productivity and profit margins. Numerous studies have investigated the theories and benefits of enterprise restructuring (Grosfeld and Roland 1997; Aghion and Schankerman 1999; Bornstein 2000; Djankov and Murrell 2002). Previous studies have also looked at the different methods of privatization in the transition countries (Claessens and Djankov 1997; Barberis et al 1996; Bornstein 2000).

Regardless of the method of privatization, the heavy debt burden inherited from the former socialist era made it difficult for most of the newly privatized state-owned enterprises (SOEs) to operate efficiently and profitably. Management and employee owners alike have little incentives or management skills for long-term value maximization goals. Asset-stripping was a greater incentive after obtaining ownership of the privatized firm when the long-term benefits are more uncertain for the managers-employee owners in an evolving uncertain market economy (Foo and Michelson 2003).

The emerging markets offer strategic opportunities for multinational corporations and the restructuring of the enterprise sector has attracted foreign direct investment. The benefits to the transitional countries from inviting foreign investors are the needed capital infusion, managerial and technical skills, corporate governance and the internationalization of the emerging countries. In particular, the central, eastern and southeastern countries bordering the EU would experience increased linkages of trade and investment across borders with the EU countries.

Transitional countries are unique in that the transition from a socialist planned economy to a market economy is unprecedented. The business environment immediately after the dismantling of the socialist economy is one of uncertainty and with institutions and organizations in flux. The lack of a developed financial and legal sector to bind business transactions and a price mechanism to allocate resources efficiently increased transaction costs (Choi et al. 1999). Transitional economies lack human capital skills and expertise in managing a privatized firm. Government directed policies, budget subsidization and protection were an integral part of early business transactions. Although legal reforms and regulations, such as entry and exit of firms, have been enacted, consistent enforcement of commercial laws is still inadequate and inefficient. The ability to settle legal claims smoothly and on a timely basis is still a concern for doing business. The lack of long-term incentives for managers and an adequate corporate governance system engenders a lack of commitment to sound business practices and long-term business goals. Studies find that entrenched management and too much government involvement have a negative impact on the business sector (Djankov and Pohl 1997; Youssef 2003). Radulovic (2004), using pooled observations, finds that (1) local businesses face greater domestic and foreign competition, (2) the entry of new innovative firms, and large and export firms are the leaders in the new transitional economy.

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