CHAPTER 1

The European Context for Integration and Accession

Europe will not be made all at once, or according to a single plan. It will be built through concrete achievements, which first create a de facto solidarity.

—Robert Schuman

Overview

Nearly seven decades ago, six countries in Western Europe (Belgium, France, West Germany, Italy, Luxembourg, and the Netherlands) decided to take economic cooperation to the next level. The vision of the European Union (EU) founding states, epitomized by the Schuman Declaration in 1950, was to tie their economies—including the re-emerging West German economy—so closely together that war would become impossible.

In 1973, Denmark, Ireland, and the United Kingdom joined what was then referred to as the “European Community.” The period of 1970s was also a decade of deep social and political transformations in Greece, Portugal, and Spain, where military regimes and dictatorships were overthrown. Inspired by the prosperity and stability of the European Community, these countries joined the European project within 10 years, strengthening their emerging democracies. The countries benefited enormously from free trade and common economic policies, in particular structural funds designed to foster convergence by funding infrastructure and investments in poorer regions.

Despite these significant cooperative achievements, the most significant episode in Europe’s postwar political and economic integration was symbolized by the fall of the Berlin Wall. A defining moment in the collapse of the centrally planned economic systems of the 1980s, the collapse of the Wall and the Soviet Union ushered in a multifaceted process of liberalization.

On one hand, the fall of communism broke countries apart, with the dissolution of the Soviet Union and Yugoslavia, followed in 1993 by the “Velvet Divorce” of the Czech and Slovak Republics. On the other hand, less than a year after the Berlin Wall came down, East and West Germany reunified. More than 20 countries emerged from communism in a new, more democratic Europe. The integration of these states presented the greatest opportunities and also the greatest challenges of the post-World War II era. In this context, this chapter provides the reader with an introduction to the broader context of European integration and accession, with special attentions to economic, political, and social challenges across the region. It concludes with a series of short case studies that introduce the reader to the process of transition in the individual Central and Eastern European (CEE) states.

The Effects of History and Geography on Regional Identity

As depicted in Figure 1.1, several scholars writing about the CEE regions are faced with the unique challenge of identifying and “naming” a series of states in the process of “a return to Europe.” Some who study the region suggest that the “English language lacks an appropriate and widely acceptable collective name” for the regions that form the Balkans and East Central Europe.¹ In German language, for example, they are referred to as Zwischeneuropa (in between Europe). Global political and economic integration, as well as redefined political communities within each state, present new opportunities to construct communities of belonging. Katalin Fábián² writes,

The Baltic states of Estonia, Latvia, and Lithuania, as well as several stateless people, divided sub-regions, and ethnic, linguistic, and religious minorities (the Russian territory between Ukraine, Poland, Slovakia, Hungary, or Muslims in Bulgaria, for example) keenly illustrate how previously submerged political and cultural identities can re-emerge and create themselves.

Figure 1.1 CEE political bloc

Source: Kubilius (2016).

As a consequence of these shifting identities and politics, scholars who focus on the study of CEE states struggle with how or what to call this region, given the historical context and changing political affiliations.³ Use of the term “Central Europe” typically refers to Germany and Austria (formally the “Central Powers”) and excludes the Baltic States and the South Eastern European countries that can be included in an analysis of transition and accession. Use of the term “East Europe” delineates the states from the “West” of Europe in the post-World War II Cold War context and aligns them more closely with the Soviet sphere of influence. Historians, political scientists, economists, and other researchers writing about the region emphasize one or the other signifier as a matter of political choice. Geography has very little to do with the choice to employ Central or Eastern Europe. It is a matter of selective inclusion and exclusion.

With these considerations in mind, our study will cast a broader net by referring to the collective region as CEE, unless referencing a specific organization or regional alliance. This includes: the Baltic States (Estonia, Latvia, Lithuania), Poland, the Czech Republic, Slovakia, Hungary, Romania, Slovenia, Croatia, Bosnia and Herzegovina, Serbia and Montenegro, Bulgaria, Macedonia, and Albania. Other studies of the region integrated the Baltic countries alongside Poland, Hungary, and former Czechoslovakia as part of their analysis of CEE economics and politics because the two areas achieved independent statehood within the eastern zone of Europe between 1918 and 1940.⁴

Global Influences on the Transition

The distinctions in the history and geography that impact “naming” also signal that these states each had very different relationships to communism. Slovenian scholars, for example, protest the use of “post-communism” to describe their state, arguing that the ruling regime was clearly not a true communist system. Rather, “it relied on oppression and never reached the level of material abundance required for this stage of development according to Marxist theory.”⁵ For this reason, it is important to discuss the broad economic and political trends that influenced the transition of CEE states beyond the fall of the Berlin Wall.

The End of National Planning

Many of the “national economic” models employed after World War II began to pull apart by the 1970s. This included Soviet-style state capitalism, national planning in the West, and import-substitution industrialization in developing countries. The decade witnessed a “loosening” of capital controls in the United States and Britain, and a deregulation of stock exchanges. These changes “facilitated a spectacular growth and centralization of international banking, insurance, and securities markets.”⁶ The restructuring of finance capital and the deregulation of national capital markets created the first “wave” of the demise of the national planning systems.

It should be noted that from 1973 to 1978, while the Western world experienced economic recession in response to the staggering increases in oil prices of Organization of the Petroleum Exporting Countries (OPEC), the CEE and eastern Balkan states continued to grow. In some cases, this growth was even faster than the previous decade.⁷ Increasing dependency on the Soviet market and imports of underpriced Soviet oil, gas, power-generating equipment, and technology were accompanied by exports of agricultural and manufactured goods back to the Soviet Union. This type of Soviet “assistance” insulated these economies against adverse trading trends and the potentially damaging effects of recession and higher oil prices, but impaired their future capacity to export successfully to the West.

Despite continuing reliance on the Soviet Union, the 1970s East-West détente did facilitate an increase in the flow of Western capital and technology into the CEE economies. Many of the states “eagerly accepted” Western investments, joint ventures, loans, industrial installations, and “technology transfers” as substitutes for fundamentally altering their economic systems.⁸ Economic historians note that excessive reliance on increased Western capital technology and firms had two significant consequences for the CEE states: (1) increased contact with Western visitors and products helped to diffuse Western values, consumerism, and pop culture, particularly among younger generations; and (2) reliance on these transfers created equally serious economic hazards.⁹ The Westernization of CEE values, dress, leisure activities, and worldviews among young people living in the region contributed as much to the demise of the communist system as systemic reforms. Through their clumsy attempts to curb the grown influence of rock concerts, Western pop music, blue jeans, and consumerism, the ageing dictators made them seem increasingly old fashioned, puritanical, out of touch, and ridiculous, especially in the eyes of the young.¹⁰

Further, capital and technology transfers created serious economic problems. Debt-service payments were burdensome and drained much-needed resources for infrastructure. As CEE credit ratings fell in the 1970s, the states had difficulty continuing to import goods, including materials needed for existing Western projects within their states. Jeff Sommers, Jänis Bērzinš, and Adam Fabry¹¹ argue that financialization and economic globalization were linked as a response to the crises of the mid-1970s.

These factors were further complicated by another slowdown of global economic growth and return of crises in the 1980s. From 1979 to 1983, the economies of the CEE states suffered acute economic recessions. Whereas economists noted per capita annual global growth in the 1960s and 1970s at a rate of roughly 3 percent, the 1980s and beyond have seen a rate of nearly half that amount. In the more extreme cases of Romania and Poland, the economies experienced severe economic contractions and significant reductions in living standards.

The Rise of Neoliberalism

Daniel Gros and Alfred Steinherr¹² championed the progress of CEE states in the mid-1990s, writing, “Like Western Europe after World War II, Eastern European countries now have the historic opportunity to create ex nova optimal economic and social institutions and thereby free their latent energies.”¹³ Persuaded by the merits of neoliberal ideology, the scholars championed CEE countries potential to “leapfrog those Western countries whose oligarchic and inward-looing politico-institutional framework [had] not had the chance to be dynamited away.”¹⁴ By the mid-1990s, most CEE countries had liberalized prices and witnessed the collapse of intra-Comecon trading. But with outdated technology, poorer quality commodities, few established marketing connections, and facing the protectionist policies of major powers, CEE manufacturers found it difficult, if not nearly impossible, to break into external markets. The comparison to Western Europe also neglected the important historic context of the post-1945 political and economic world—economic boom and Marshall Aid that overwhelmingly benefitted Western European states, as well as infrastructure development and tariff protection for industries in those states. Nearly 90 percent of Marshall Aid was issued in grant form, yet only 10 percent of that aid was received by post-communist European states, in part because Stalin prevented many states from receiving this assistance.¹⁵ Historians note that only Poland received significant support from Western allies in the form of debt cancellation to both public and private creditors and EU assistance with a preferential status for agricultural imports.¹⁶ Jan Drahokoupil¹⁷ writes that Hungary, on the other hand, possessed the world’s highest per capita debt and was obligated to earmark revenue raised by privatizing state-owned corporations.

The Expansion of Liberal-Democratic Government

Beginning in the mid-1970s, a significant number of states around the globe, including Southern Europe, adopted parliamentary government. In terms of the Second and Third Worlds, John Walton and David Seddon identify three potential pragmatic explanations for these shifts.¹⁸ First, democracy provides a relatively stable environment for business. Second, the neoliberal ideology noted above is promoted by international financial organizations and favors noninterventionist states. Liberal democratic governments fulfill this role because they “dilute state power to a level acceptable to diverse coalitions, just as they give greater power to the free play of markets.”¹⁹ Finally, debt and austerity can lead to “partial state breakdown,” as the measures required by structural adjustment programs impede the ability of authoritarian governments to extend patronage, and austerity policies require the support of large portions of the polity.

One of the major potential impediments to mature liberal democracy in the CEE countries during the early 1990s was the fact that independent and impartial political and civil institutions barely existed (with the exception of the Czech lands). As Robert Bideleux and Ian Jeffries²⁰ write,

Even those [institutions] that did emerge had been largely destroyed by the combined effects of intolerant “ethnic” nationalism and authoritarianism, the 1930s Great Depression, fascism, the Second World War, the Holocaust and neo-Stalinist dictatorship, all of which had helped to decimate, emasculate, or drive abroad the ethnic and social groups that were most capable of producing or recreating autonomous, pluralistic and liberal-minded “civil societies.”

In other words, “No bourgeoisie, no democracy.”²¹ An example of this in the CEE context of transition is Poland in 1989. As General Jaruzelski noted, after initial steps toward democracy were taken “we tried economic reforms time and again. But we always met with public resistance and explosions. It is very different now. Now, with a government that enjoys public confidence, it has become possible to demand sacrifices.”²²

The Collapse of Labor and the Left

Another trend impacting the transition of CEE countries was the global downturn and the effect on the labor movement and social movements of the political Left. Control over industrial production shifted toward full-time officials, and as their industrial strength waned, labor groups turned to leftist political parties for assistance. G.M. Tamás and Stuart Shields argue that both groups “accepted” the present defeat of their vision for political and economic life and the idealization of Western institutions that would shape the post-1989 global environment.²³ In parts of CEE, democratic reformers promoted a market-fundamentalist agenda, encouraged by Western foundations and governments.²⁴

Post-Communist Economic Transformations

Economists and historians studying the transformations argue that it is misleading to label the post-communist economic transformations as moving from “socialism” to “capitalism.”²⁵ Rather, they should be understood as movements from “state capitalism” to more liberalized and marketized versions of capitalism. Those changes involved major shifts from effectively “vertical” economic power structures to more “horizontal” relationships in which parties interacted more with one another than the state bureaucratic organizations. The broad steps to shifting the economies in this direction included emphasizing (and sometimes introducing) the rule of law, encouraging stricter fiscal discipline, creating market institutions, encouraging greater competition and a more “level playing field,” and investing in new infrastructure and technology, all while supporting privatization.

Essentially, the change from centrally planned command economies to more market-oriented economies required “not only proper macroeconomic policies and institutions but also well-defined behavioral rules for integrating the decisions of decentralized agents... Perhaps of utmost importance is rule certainty for all economic agents.”²⁶

In each state, the initial challenge for the transition was stabilization. High hopes in late-1989 and the early-1990s were quickly deflated by realities of falling output, soaring inflation, rising unemployment, fiscal retrenchment, infrastructure decay, and simmering interethnic tensions, particularly in the Balkans and Slovakia. Many economists and politicians advocated mobilizing Western aid to the CEE states on a scale of the Marshall Plan and rejected the notion by skeptically contending that these countries were incapable of using it effectively. They argued that the CEE states could become Europe’s “tiger economies,” possessing substantial reserves of cheap, underemployed, skilled, and educated labor with a “strong drive to prosper.” Jeffrey Sachs, who served as an economic advisor to Poland between 1989 and 1991, argued that Western aid could help sustain political support for the reforms long enough for them to take hold. The Marshall Plan did not provide Europe with the funds for economic recovery. It provided governments with enough financial backing to achieve economic and political stability, give hope to the population, and thus make economic recovery possible.²⁷ Economists, such as Sachs, warned that if the West failed to provide short-term assistance, it would be faced with the choice of having to “do business” with lackluster states and economies, rife with corruption.

Western states did not provide large-scale grants of aid, however, and CEE states felt the impact of this almost immediately in their attempts to recover from the early-1990s economic collapse. According to reports by economic historians and global institutions, such as the World Bank, the collapse of traditional trade and investment links and dislocation of domestic demand contributed to large output collapses in the early years of transition, ranging from about 10 percent in Poland and Hungary to some 40 percent in countries such as Latvia and Lithuania. As prices were liberalized, they tended to skyrocket, partly as relative prices were set by supply and demand rather than central planning, but with especially steep increases, where state revenues dried up and governments had few sources of finance other than turning to central banks to print money. In 1994, the United Nations Children’s Fund (UNICEF) released a report claiming the collapse of European command economies had precipitated a slump in birth rates and major increases in poverty, death rates, mor-bidity rates, malnutrition, truancy, family breakdown, and violent crime. The result was such that by 1993, conditions in the eastern half of the European continents were worse than those in Latin America during the “lost decade” of the 1980s or in Western Europe during the 1930s depression.²⁸

According to Bideleux and Jeffries, partially reconstructed ex-communists continued to operate Romania until 1996, Slovakia and Bulgaria until 1998, Croatia until 1999, and Serbia until 2000. Similar problems were evident in Poland and Hungary, while large sectors of the economies of Serbia, Montenegro, Bulgaria, Macedonia, Bosnia, and Albania fell under the control of “organized criminal networks, black marketeers, armed thugs, and traffickers in fuel, drugs, arms, cigarettes, and prostitutes.”²⁹

In many ways, the post-1989 political and economic transformations of the CEE countries were even more fraught with difficulties than the post-1918 and post-1945 efforts. Although the Balkan and CEE economies suffered severe human losses, war damage and dislocation in both of the prior postwar periods, they were comparably less industrialized than in 1989 and did not have to contend with “extensive closures of industrial capacity.”³⁰ Historians note that even if they were subject to wartime controls, they were still already market economies. This prevented them from undergoing simultaneous economic reconstruction, stabilization programs, and the profound reordering of their economic systems.

When CEE countries began their post-1989 transformations, most of them were already burdened with large foreign debts (see Table 1.1) and heavy debt-service payments inherited from the outgoing communist regimes. In 1918 and 1945, they had the opportunity to begin their new states with relatively clean slates.

Despite the many challenges outlined in the 1994 UNICEF report, the CEE post-communist states, with the exceptions of Bosnia and Macedonia, were achieving significant economic growth. Their efforts to establish market economies were more or less effective, again with the exception of Bosnia. As discussed in more detail in the subsequent country case studies, the initially high levels of inflation were largely brought under control through monetary policy by most CEE states in 1993, in Latvia and Albania by 1994, in Estonia, Romania, Croatia, Bosnia, and Macedonia in 1995, in Lithuania by 1996, and in Serbia-Montenegro and Bulgaria by 1998.

Even with measurable progress in the 1990s, the figures presented in the tables below illustrate the significance of the technical and economic gap between the EU-15 and CEE states.³¹ Table 1.2 presents data on the numbers of cars, personal computers, and computers connected to the Internet per 100 inhabitants as of 1999.

Table 1.1 Hard-currency debts of European communist states, 1979 (in $)

	Total ($ billion)	$ per inhabitant
Yugoslavia	17	780
Hungary	7.5	700
Poland	19.5	557
Romania	7	320
Bulgaria	4	455
Czechoslovakia	3.5	233
USSR	10.2	39

Source: Bideleux (1987, 270).

Table 1.2 Cars, personal computers, and computer linked to Internet per 100 inhabitants (1999 to 2000)

	Cars	PCs	PCs linked to Internet
EU-15 average	46.1	24.8	2.3
Slovenia	42.6	25.3	1.2
Estonia	33.9	13.5	2.1
Czech Republic	36.2	10.7	1.2
Latvia	23.5	8.2	0.8
Hungary	23.5	7.4	1.2
Slovakia	23.6	7.4	0.5
Poland	25.9	6.2	0.4
Lithuania	31.7	5.9	0.4
Bulgaria	24.4	2.7	0.2
Romania	13.9	2.7	0.2

Source: European Commission. December 13, 2003. Press Release, State/01/129, p. 4.

Table 1.3 provides figures on the percentage of the workforce employed in “knowledge-intensive services” and tech manufacturing. Finally, the data on disparities in hourly labor costs between the EU-15 states and the accession states, as depicted in Table 1.4, reveals the extent of the gap between the two regions in a way not fully captured by others studies utilizing per capita gross domestic product (GDP).

Foreign Direct Investment

Foreign direct investment (FDI) entails investing directly in production in another country, either by buying a company there or establishing new operations of an existing business. This is done mostly by companies as opposed to financial institutions, which prefer indirect investment abroad such as buying small parcels of a country’s supply of shares or bonds. FDI grew rapidly during the 1990s before slowing a bit, along with the global economy, in the early years of the 21st century. Most of this investment went from one member-country of the OECD to another, but the share going to developing countries, especially in Asia, increased steadily.³⁴

Table 1.3 Percentage of workforce employment in knowledge-intensive services and medium- or high-tech manufacturing (2002)

	Knowledge-intensive services	Medium- and hightech manufacturing
EU-15 average	33.3	7.4
Estonia	30.9	3.4
Hungary	26.4	8.5
Lithuania	24.7	2.6
Latvia	24.7	1.9
Slovakia	24.0	8.2
Czech Republic	23.9	8.9
Slovenia	22.8	9.2
Bulgaria	22.2	5.3
Romania	12.8	5.5

Source: European Commission. November 7, 2003. Press Release, STAT/03/127, pp. 1–2. No data available for Poland.

Table 1.4 Hourly labor costs in industry and services (2000)³²

EU-15 average33	22.70	Accession states’ average	4.21
Sweden	28.56	Cyprus	10.74
Denmark	27.10	Slovenia	8.98
Germany	26.54	Poland	4.48
France	24.39	Czech Republic	3.90
United Kingdom	23.85	Hungary	3.83
Austria	23.60	Slovakia	3.06
Netherlands	22.99	Estonia	3.03
Ireland	17.34	Lithuania	2.71
Spain	14.22	Latvia	2.42
Greece	10.40	Romania	1.51
Portugal	8.13	Bulgaria	1.35

Source: EU Press Release. March 3, 2003. STAT/03/23, p. 2.

There was a time when economists considered FDI a substitute for trade. Building factories in foreign countries was one way of jumping tariff barriers. Now economists typically regard FDI and trade as complementary. For example, a firm can use a factory in one country to supply neighboring markets. Some investments, especially in services industries, are essential prerequisites for selling to foreigners. Who would buy a Whopper in London if it had to be sent from Chicago?

Governments used to be highly suspicious of FDI, often regarding it as corporate imperialism. Nowadays they are more likely to court it. They hope that investors will create jobs, and bring expertise and technology that will be passed on to local firms and workers, helping to sharpen up their whole economy. Furthermore, unlike financial investors, multinationals generally invest directly in plant and equipment. Since it is hard to uproot a chemical factory, these investments, once made, are far more enduring than the flows of money that whisk in and out of emerging markets.

Although FDI was restricted before 1989, foreign investors started entering the region after the fall of the communist regimes and it has been considered particularly important to CEE economies.³⁵ Economists and international financial organizations have cited FDI as “an engine for transition” to a market-based economy and a “powerful force for integration” of this region into the larger global economy.³⁶ Absent “massive inflows of foreign capital,” they believed “successful transition [from planned to market economies] in CEE is unlikely.”³⁷ Many believed that FDI would prove to be the catalyst in a transition away from socialist economies and positively affect macroeconomic indicators such as balance of payment and unemployment. Foreign investors would introduce technological and managerial resources, along with financial capital, and encourage corporate restructuring and privatization of state-owned firms.³⁸

As Table 1.5 shows, the initial FDI inflows were minimal, but rapidly grew after 1995. Between 1995 and 2004, average FDI stock as percent share in GDP for CEE countries has been higher than the world average. By 2004, it was almost twice as high, contributing on average to 39 percent GDP. This placed the CEE among the world’s top regions in terms of foreign capital penetration at that time.⁴⁰

Table 1.5 FDI Trends During the Transition (1970 to 2004)

	FDI inflows ($ billion)		Average FDI stock as % GDP
	CEE	World	CEE	World
1970	0	13	0	-
1980	0	55	0	5
1989	<1	193	0	8
1990	<1	208	0	8
1991	2	161	2	8
1992	3	169	5	8
1993	4	228	7	9
1994	4	259	9	9
1995	10	341	10	9
1996	9	393	12	10
1997	10	488	16	12
1998	18	701	19	14
1999	19	1,092	23	16
2000	21	1,397	27	18
2001	22	826	31	20
2002	25	716	35	21
2003	17	633	37	22
2004	28	648	39	22

Note: CEE in this table includes Bulgaria, Croatia, Czech Republic, Estonia, Hungary, Latvia, Lithuania, Poland, Romania, Slovakia, and Slovenia.
Source: UNCTAD (2006).³⁹

Although these inflows formed a significant portion of the CEE economy, for the entire CEE region, FDI between 1989 and 1994 amounted to only two-fifths of the flow to China in 1993 alone. These differences in regional FDI are partially explained by differences in investor countries of both the regions. As displayed in Table 1.6, the primary regional investors in the CEE countries during the transition were not identical to the top worldwide investors.

Germany and the Netherlands rank higher than the United States based on total stock of investment in the region as of 2000, while France and the United Kingdom had a much less significant presence. Austria and Sweden, although ranked 23rd and 13th respectively, were much more prominent investors.

These relationships are further complicated when one examines the presence of significant worldwide investors in individual CEE countries during the transition. Table 1.7 highlights these disparities in percent share of total FDI stock across the CEE region nearly 10 years after the fall of the communist regimes. The Czech Republic and Poland received the greatest share of investment to CEE states. German corporations were heavily invested throughout the central part of Europe, (Czech Republic, Hungary, Poland, Romania, and Slovakia) more so than the Baltic states of Estonia, Latvia, and Lithuania. Comparing the latter, Estonia received the greatest investment from Finland, while Denmark and Sweden invested in Lithuania and Latvia. In 2000, the U.S. investment amounted to nearly 20 percent of FDI stock in Croatia, but less than 5 percent in nearby Slovenia. Investments by Latin American, South African, and Asia countries were negligible across the region.

Table 1.6 Top investor countries in 2000

	World	CEE
1.	United States	Germany
2.	United Kingdom	Netherlands (#7 in the world)
3.	France	United States
4.	Germany	Austria (#23 in the world)
5.	Hong Kong	Sweden (#13 in the world)

Note: Rankings are based on outward FDI stock as of 2000.
Source: UNCTAD (2001).

Table 1.7 Investments by Significant Worldwide Investor Countries in CEE (Percent Share of Total FDI Stock in Host in 2000)

World Ranking	Investor Country	Bulgaria	Croatia	Czech Republic	Estonia	Hungary	Latvia	Lithuania	Poland	Slovakia	Slovenia
1	US	12	21	6	5	8	9	10	10	7	4
2	UK	11	2	3	2	1	5	7	3	3	4
3	France	3	2	4	1	7	<1	1	12	3	11
4	Germany	19	22	26	3	26	11	7	19	28	12
5	Hong Kong	0	0	0	<1	0	1	<1	<1	0	<1
6	Belgium/Luxembourg	6	6	5	<1	5	<1	4	2	2	<1
7	Netherlands	4	4	30	2	23	3	1	25	24	3
8	Japan	<1	0	<1	<1	2	0	<1	<1	0	<1
9	Switzerland	3	1	4	1	2	2	5	2	<1	4
10	Canada	<1	<1	<1	<1	<1	<1	<1	<1	<1	<1
11	Italy	2	2	<1	<1	3	<1	<1	4	2	5
12	Spain	3	<1	<1	<1	<1	<1	<1	2	<1	0
13	Sweden	<1	2	<1	40	<1	13	17	3	<1	<1
14	Australia	<1	1	<1	0	0	0	<1	<1	0	<1
15	Singapore	<1	0	0	1	<1	1	0	<1	0	<1
16	Finland	<1	<1	<1	30	<1	6	6	<1	<1	<1
17	Taiwan	0	0	<1	0	0	0	0	<1	0	0
18	Denmark	<1	<1	1	4	<1	10	18	2	<1	1
19	Norway	<1	<1	<1	4	<1	6	4	<1	<1	0
20	South Africa	0	0	0	0	0	0	<1	<1	0	0
21	China	<1	0	<1	<1	<1	0	<1	<1	0	0
22	South Korea	<1	0	<1	0	<1	<1	<1	<1	0	0
23	Austria	6	25	11	<1	12	<1	<1	3	14	46
24	Argentina	0	0	0	0	0	0	0	<1	0	0
25	Malaysia	0	0	<1	0	0	0	0	0	0	0

Source: UNCTAD (2001, 2006), percentages tabulated manually.

How do we explain the difference in investment patterns across the region? Scholars writing in economic sociology argue that the pre-existing social and cultural relationships shared across these regions facilitated these economic patterns.⁴¹ Nina Bandelj writes,

In cases where uncertainty surrounding economic transactions is high, such as in post-communist Europe during the transition period, the role of social relations and pre-existing knowledge of potential partners in facilitating FDI transactions is even more pronounced.⁴²

Bandelj argues that scholars can trace the inflows of FDI to pre-existing international relations and cultural affinities between investor and recipient countries, even when measured against geographic proximity.⁴³

Despite the optimism surrounding the power of FDI by economic advisors, when examining the transition period between 1990 and 2010 as a whole, economic data reveals that a significant portion of the CEE region experienced a regional Great Depression. Currencies across the region devalued rapidly and banking crises were widespread. In terms of GDP, nearly two decades were lost.⁴⁴ In some cases, where there was adequate political and institutional support for fiscal and monetary discipline, stabilization was achieved within a couple of years; others faced longer or multiple attempts to establish low inflation and sustainable public finances.

Following a period of stabilization, the new member states focused on institution building to improve the functioning of the economies, using Western Europe and other democratic states as models. Many of these countries, however, faced significant challenges in privatization, public sector reform, and establishment of an environment conducive to reform. Scholars credit the creation of credible monetary and exchange rate frameworks—whether involving floating or different types of fixed-rate arrangements—as key to the success of transition. Reza Moghadam, Director of the International Monetary Fund (IMF’s) European Department, argues, “integration has been particularly evident in the financial sector, with western European banks dominating in most of the transition countries.”⁴⁵ This relationship has had both positive and negative consequences for transitioning states. On one hand, it brought critical expertise in financing. On the other hand, the unrestricted flow of capital into the region in the early- to mid-2000s inflated bubbles that burst in the ensuing global financial crisis.

Many experts take the position that integration has also contributed to strong convergence of incomes. Average GDP per capita across emerging Europe relative to advanced economies in Europe rose by about 50 percent between 1995 and 2013, despite the recent crisis. Sizable trade and investment links with western Europe were key to the growth and convergence progress that brought emerging Europe’s income levels to just under half of those in their advanced economy neighbors.

Conclusion

The CEE states experienced several significant periods of transition in the 20th century, marked by the events of 1918, 1945, and 1989. In both 1918 and 1945, the CEE and Balkan economies were suffering from devastating losses, destruction, and dislocation. Although they needed to focus on economic restructuring and stabilization, they did not have to profoundly reinvent their economic and political systems. The post-1989 transformations, however, were complicated by large foreign debts and debt-service payments inherited from the outgoing communist regimes. They were not in the process of recovering from a World War, but did struggle to recover from a state of economic collapse, high levels of inflation, severe infrastructure neglect and decay, environmental crises, the political anxieties of the Cold War, and in some cases, internal ethnic conflict.

This chapter concludes with a brief introduction to each state explored in the text. Chapter 2 will proceed with an analysis of the role of the EU and economic integration in CEE economies, followed by a discussion of current market trends in each of the regional blocks in Chapter 3. Chapter 4 examines the integration of East and West through the establishment of supply chains and manufacturing satellites in the region, while Chapter 5 will assess the economic impact of the recent global economic crises on the CEE economies. Finally, the text will conclude with a discussion of the challenges and divergence among the CEE, Southeastern Europe (SEE), and Commonwealth of Independent State (CIS) countries, including individual case studies analyzing political risk within each state.

Brief Country Introductions

Bosnia and Herzegovina

Bosnia and Herzegovina is a country in SEE on the Balkan Peninsula. A mountainous country, it borders Croatia, Serbia, and Montenegro and has a small Adriatic Sea coastline. The government system is an emerging federal democratic republic. Three members (one Bosniak, one Croat, and one Serb) make up the presidency but the chief of state is the chairman of the presidency, a rotating position between the three. The head of government is the chairman of the council of ministers. Formally a planned economy, Bosnia and Herzegovina, member of the Central European Free Trade Agreement (CEFTA), is transitioning to an economic system built on private-enterprise and combined government regulation.

Bulgaria

Bulgaria, located in Southern Europe situated on the eastern Balkan Peninsula, is a mostly mountainous country surrounded by Greece, Macedonia, Romania, Serbia, and the Black Sea. With strategic access to Turkish Straits, it also controls key land routes to Europe and the Middle East. The government system is a parliamentary democracy. The chief of state in the president and the head of government is the prime minister. Bulgaria has transitioned to a market economic system and is a member of both the EU and the Black Sea Economic Cooperation (BSEC).

Croatia

Croatia is a country in Central Europe and SEE on the Adriatic Sea and members of CEFTA. With a combination of flat plains, mountains and small islands, the country also shared borders with Bosnia and Herzegovina, Hungary, Montenegro, Serbia, and Slovenia. It controls most land routes from Western Europe to the Aegean Sea and Turkish Straits. The government system is a presidential or parliamentary democracy. The chief of state is the president and the head of government is the prime minister. Croatia has a mixed economic system in which the economy includes private enterprise, centralized economic planning, and government regulation.

Czech Republic

The Czech Republic, strategically located along some of the oldest land routes in Central Europe, is a landlocked country with rolling hills and plains that borders Poland, Germany, Austria, and Slovakia. The government system is a parliamentary democracy. The chief of state is the president and the head of government is the prime minister. Czech Republic has successfully transformed from a centrally planned economy to a market economy in which the prices of goods and services are determined in a free price system. The Czech Republic is a member of the EU.

Estonia

Estonia is a country located in Eastern Europe that includes bays, straits, inlets, and an estimated 1,500 islands. Bordered by Russia, Latvia, the Gulf of Finland, and the Baltic Sea, the mainland is flat and heavily forested. The government system is a parliamentary republic. The chief of state is the president and the head of government is the prime minister. Estonia has a market-based economy in which the prices of goods and services are determined in a free price system. Estonia is a member of the EU.

Hungary

Hungary, an EU member, is located in Central Europe bordering Austria, Croatia, Romania, Serbia, Slovakia, Slovenia, and Ukraine. A landlocked state, Hungary’s landscape consists of flat to rolling plains divided in two by its main waterway, the Danube. The government system is a parliamentary democracy. The chief of state is the president and the head of government is the prime minister. Hungary has made the transition from a centrally planned economic system to a market economy.

Latvia

Latvia, located in the Baltic region of Northern Europe, is bordered by Estonia, Lithuania, Russia, Belarus, and the Baltic Sea. Across the Baltic Sea lies Sweden. The government system is a parliamentary democracy. The chief of state is the president and the head of government is the prime minister. Latvia has transitioned to a market-oriented economy and is a member of the EU.

Lithuania

Lithuania, also located in Northern Europe, is situated on the southeastern shore of the Baltic Sea. It shares a border with Latvia, Belarus, Poland, and the Russian enclave of Kaliningrad. Across the Baltic Sea lies Sweden and Denmark. The government system is a parliamentary democracy. The chief of state is the president and the head of government is the prime minister. Lithuania has transitioned from a command economy to a market economy, with the private sector accounting for the majority of GDP. Government regulation is transparent and efficient, and Lithuania is a member of the EU.

Montenegro

Montenegro, with both mountainous and coastal plain regions, is a country located in SEE. It has a coast on the Adriatic Sea and is bordered by Croatia, Bosnia and Herzegovina, Serbia, Kosovo, and Albania. The government system is a republic. The chief of state is the president and the head of government is the prime minister. Montenegro has a service-based market economy and it is a member of the CEFTA.

Poland

Located in Central Europe, Poland is bordered by Belarus, Czech Republic, Germany, Lithuania, Russia, Slovakia, and Ukraine. The government system is a republic. The chief of state is the president and the head of government is the prime minister. Poland has a mixed economic system in which the economy includes a variety of individual liberties, combined with centralized economic planning and government regulation. Poland is a member of the EU.

Romania

Located at the crossroads of Central and SEE, Romania has a coastline on the Black Sea and borders Bulgaria, Hungary, Moldova, Serbia, and Ukraine. Mountain ranges running from north and west in the interior, collectively known as the Carpathians, form a significant portion of the state’s geography. The government system is a republic. The chief of state is the president and the head of government is the prime minister. Romania has a mixed economy and is a member of the BSEC.

Serbia

As part of the central Balkans, Serbia is a landlocked country located at the crossroads of Central and SEE. It shares borders with Bosnia and Herzegovina, Bulgaria, Croatia, Hungary, Kosovo, Macedonia, Montenegro, and Romania. The geography of Serbia is varied and includes fertile plains, limestone ranges, and in the southeast, the Dinaric Alps and on its border with Romania, the Carpathian Mountain range. The government system is a republic. The chief of state is the president and the head of government is the prime minister. A member of CEFTA, Serbia has a mixed economic system in which the presence of the state in the economy is still considerable, but there is limited private sector freedom.

Slovakia

Known for its beautiful mountains, Slovakia is a landlocked country in Central Europe that shares borders with Austria, Czech Republic, Hungary, Poland, and Ukraine. The government system is a parliamentary democracy. The chief of state is the president and the head of government is the prime minister. A member of the EU, Slovakia has a mixed economic system in which there is political liberty, combined with centralized economic planning and government regulation.

Slovenia

Bordering the Mediterranean Sea, Slovenia is a country in Central Europe. The Alps dominate the northern portion of the state and numerous rivers lie in the east, while it shares borders with Austria, Croatia, Hungary, and Italy. Despite its small size, Slovenia controls some of Europe’s major transit routes. The government system is a parliamentary republic. The chief of state is the president and the head of government is the prime minister. A member of the EU, Slovenia has a mixed economic system in which the state is considerably involved in centralized planning, but there is private-sector freedom.

 

¹  Bideleux and Jeffries (2007, xiii).

²  Fábián (2007, 6).

³  Kubilius (2016).

⁴  For examples of these inclusive studies see Crampton (1994) and Rothschild (1974).

⁵  Humer (2007).

⁶  Dale (2011, 11).

⁷  Bideleux and Jeffries (2007, 511–12). Two notable exceptions existed at this time: the increasingly nationalist Albanian and Romania communist regimes were denied Soviet “assistance,” despite their rapidly diminishing domestic mineral resources. Albania began receiving significant support from China in return for its support of that state during the Sino-Soviet disputes of the 1960s and early 1970s, and at that point no longer participated as an active member in Comecon.

⁸  Bideleux and Jeffries (2007, 513).

⁹  Stokes (1991).

¹⁰ Bideleux and Jeffries (2007, 513).

¹¹ Sommers and Bērzinš (2011, 119–42).

¹² Gros and Steinherr (1995, 86).

¹³ Gros and Steinherr (1995, 86).

¹⁴ Gros and Steinherr (1995, 86).

¹⁵ Outhwaite (2010, 92).

¹⁶ Dal (2011, 11).

¹⁷ Drahokoupil (2009, 102).

¹⁸ Walton and Seddon (1994, 334–35). See also Hoogvelt (1997) and Derluguian (2005).

¹⁹ Walton and Seddon (1994, 334–35). See also Hoogvelt (1997) and Derluguian (2005).

²⁰ Bideleux and Jeffries (2007, 540–41).

²¹ Moore (1969).

²² Quoted in Haynes and Hasan (1998). See also Dale (2004, 274–75).

²³ Tamás (2011) and Shields (2011).

²⁴ Bandelj (2008, 115).

²⁵ See Sachs (1994); Sjöberg and Wyzan (1991); Taras (1992).

²⁶ van Brabant (1989).

²⁷ “Crossing the Valley of Tears in East European Reform,” Challenge, September October 1991; “Jeffrey Sachs: My Plan for Poland,” in The International Economy, December 1989/January 1990, Volume III, Number 6; “Eastern Europe’s Economies—What is to be done?” in The Economist, January 13, 1990. PDFs of all articles are available at: www.earth.columbia.edu/articles/view/1023

²⁸ The Independen (1994, 10).

²⁹ Bideleux and Jeffries (2007, 551).

³⁰ Bideleux and Jeffries (2007, 554).

³¹ The EU-15 is composed of Austria, Belgium, Denmark, Finland, France, Germany, Greece, Ireland, Italy, Luxembourg, the Netherlands, Portugal, Spain, Sweden, and the United Kingdom.

³² Note: The average hourly labor costs are total annual labor costs divided by the total number of hours worked during the year.

³³ Excluding Italy and Belgium, no available data.

³⁴ For more information on studying foreign direct investment (FDI), see www.economist.com/economics-a-to-z#2DI6CRzKPkRSqArm.99

³⁵ Along with efforts to reform their socialist regimes, Hungary, Poland, and Yugoslavia allowed joint ventures with foreign investors prior to 1989. The provisions, however, only really began to see the effects of FDI beginning in 1989, as demonstrated by the data in Table 1.5, “Foreign Direct Investment Trends.”

³⁶ IMF (1997); UNCTAD (1998).

³⁷ Schmidt (1995).

³⁸ Meyer (1995); Meyer (1998); Lankes and Venables (1996); OECD (1998); Bevin and Estrin (2014).

³⁹ http://unctadstat.unctad.org/EN/Index.html

⁴⁰ According to the The United Nations Conference on Trade and Development (UNCTAD) (2006), data for the period revealed only one other region higher in FDI stock as percent of GDP, “Developing America, other.” This category by their definition included island states of Central America where FDI stock as percent of GDP was 43.

⁴¹ Smith-Doerr and Powell (2005).

⁴² Bandelj (2007, 45).

⁴³ Bandelj (2008).

⁴⁴ Dale (2011, 11).

⁴⁵ www.imf.org/external/pubs/ft/fandd/2014/03/moghadam.htm