In the post-war period, from the 1950s to the 1980s, the USSR controlled what happened in Eastern European countries such as Poland and East Germany. They had control of the economic and political systems. M. Gorbachev was the new Russian leader in the 1980s and it was with him that change began. He followed two policies, one called ‘glasnost’, which worked towards political freedom and the other, was called ‘perestroika’, and that was to do with the beginnings of economic change. He began to see the importance of freedom in speech and was described as a ‘reformer’ who also loosened Russia’s grip on Eastern European countries. The symbolic end of communist rule and the central planning system in Eastern Europe was in November 1989 with the ‘destruction’ of the Berlin Wall. Since then there has been the transition from centrally planned economies to mixed economies.
The transition process into a mixed economy has an effect on output. In the early nineties, there was a fall in output as measured by GDP and the average fall was nearly thirty per cent. The fall in output in Eastern Europe was to an extent that had never been seen in Western Europe or in the USA. Some countries in Eastern Europe did see, on average, an economic growth return from the mid-1990s and by 2000, their output was about the same as it was in 1990. Ukraine and Moldova had levels of output that were at one third of their 1989 levels, before the transition began. Both of these countries had suffered from gross economic mismanagement. Romania’s GDP decreased drastically in 1991 by 12.9%, but then the GDP began to slowly rise and in 1995 the GDP increased by 7.1%. A transition in the market economy is bound to initially reduce output because in the old centrally planned economy, the government allocated resources, whereas now the economy is being reformed into a market economy. This means that individuals have to make their own decisions about production and may prefer to be cautious and produce less at the beginning so they do not over produce and lose money. They are not used to having to make important decisions for themselves and need to learn from their own experiences about exact quantities that they need to produce.
The industries had difficulty obtaining the raw materials that they need and may also have problems transporting their products to the markets. There was disruption across other countries, which were also in the transition process, because of the fact that certain factories and shops cut down on imports due to the uncertainty of being able to pay for them. Also, the option of importing for less from countries in the West was now open when it had previously been banned, which meant that countries had the whole world to choose imports from. The countries that were worst affected by falls in GDP generally saw a large growth in their informal sectors. Ukraine, for example, had an informal sector that was approaching the size of its formal sector in 1998.
The large falls in output led to sharp rises in unemployment. One of the advantages of a command economy was that it ensured almost no unemployment, and the shift to a market system led to a change in the employment situation. Many enterprises went out of business and factories and plants were closed, which created unemployed workers. Enterprises were also pushed to be more efficient as they were competing against imports from the West. This efficiency was obtained by keeping on fewer workers, and making those that were kept on to work harder and be more productive. Some countries had to pay higher costs of unemployment in order to achieve transition. For example, Bulgaria had higher unemployment through the 1990s with figures such as 16.4% of the labour force in 1993 and in Moldova, rates were quite low, with the highest figure being 1.8% in 1996.
The transition from one type of market to another resulted in high inflation. There is bound to be a rise in prices when an economy moves towards the free market system because resources are allocated by the price mechanism. In the command economy, consumers had been rationed so the price was lower than in the new economy. This meant that when the market system was introduced, prices rose until demand was equal to supply. Goods were freely available from private shops and stalls but as they were more expensive than they had been in the past and the demand for free market produce was low.
These higher prices triggered a wage price spiral where workers in Eastern Europe reacted to the higher prices by demanding higher wages. How well an economy manages its transition is shown by how well it controls inflation. Bulgaria, for example, had inflation of 1082% from 1996-7, whereas Moldova only had inflation of 12% between these two years. Low inflation is a sign that the government is not bailing out inefficient enterprises and that market forces are determining the allocation of resources. In transition economies, budget deficits cannot be financed by borrowing from the non-bank private sector through the sale of government bonds, as they do not have a bond market. Therefore, in some countries governments had to borrow from abroad, increasing the debt.
The move from a control economy to a free market economy involved the sale of state assets to private individuals or companies. There were many ways in which this was done but the different ways had different effects. A select few became powerful where the state gave out property and capital to the individuals or the companies employing them. Politicians acquired state assets for themselves, their friends and family because the legal systems of Eastern Europe were not able to deal with the concept of property ownership. A method of privatisation used in the Czech Republic was where the state put all the assets it wanted to sell into a fund with each citizen getting a share in the fund and physical assets were replaced with cash.
The model that was used in most Eastern European countries, was where the assets were sold to either domestic individuals or producers, or to foreign companies. Some businesses had to be closed, as they were not making any profits. The speed of privatisation differed from country to country, and was broadly completed by 2000 in the Czech Republic, but in some countries such as the Ukraine; many enterprises were still under state ownership ten years after the reform started.
The transition led to a shift in the distribution of resources. In free markets, resources are allocated to those with spending power. Those with the most spending power are likely to be those with the greatest wealth. Due to the differences in peoples’ wealth, the distribution of wealth became less equal. Wage inequalities increased the gap between wealth differences. Also, as a market economy rewards those with higher levels of human capital, when in the past coal miners were paid more than doctors were, in a mixed economy this switched around.
The transition period lasted different lengths of time for different countries. Where some countries, such as the Ukraine, failed to transform into a market economy. By 2000, the official GDP had fallen to one third of its level in 1989. Government provided services such as education and healthcare are under-funded, as the tax base is very low. Since 1990, all those people who rely on the state for their income, such as doctors and pensioners, have seen a fall in their real income. Criminal activity has been encouraged and investment has been discouraged due to the lack of rule of law in the economic sphere. Therefore, long term growth prospects do not look promising in the Ukraine.
In general, Eastern European countries have managed their transitions relatively well, and they are all aiming to join the European Union. To do this they need to match their legal systems with the rest of the EU law and need to have stable currency along with low inflation.
As we can see, there have been many effects of the transition away from central planning in Eastern Europe. There have been effects on output, unemployment, inflation, ownership and wealth, the distribution of resources and government finances. In most cases these have not been positive changes to begin with but have over time improved and now have a better prospective for the future economy.
