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Prepared for the East Jour Fixe Ukraine
Shifting Economic Horizons and Interlinkages OENB,
Vienna, January 20, 2006
Ukraine One Year After the Orange Revolution
Economic Policy Challenges and Goals
Vladimir Dubrovskiy
CASE Ukraine www.case-ukraine.kiev.u
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Rent seeking vs. profit seeking
Profit seeking
Rent seeking
Creation of the value voluntary apprised by
competitive market
Appropriation of already existing value, e.g.
created by others
A positive-sum game (cooking a pie) increases
the public wealth
A zero- or negative-sum game (cutting a pie)
usually decreases the public wealth
Players can establish certain efficient
institutions, primarily, the property rights by a
voluntary agreement
In many cases players fail to establish the
efficient institutions.
Sonin (2003), Hoff and Stiglitz (2002, 2004),
Polishchuk and Savvateev (2002)
A coercive force is required to arrange
appropriation while preventing the
overappropriation
Rent seeking requires FORCED coordination and
control that can only be arranged by
AUTHORITARIAN POWER
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Arbiter-clients model how it works
Authoritarian arbiter
Distributes the quotas for rent appropriation
arbitrarily, and enforces them in order to
restrain the devastating competition
Rent source
Rent source
client
player
player
client
player
player
client
client
but instead extorts the rent himself, or trades
it for loyalty
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Effects of authoritarian rule
Profit seeking (competitive) sector
Rent seeking sector
Monopoly rent
player
player
client
client
client
client
player
player
Increase in the social wealth
Decrease in the social wealth
Firms earn their incomes mostly as rents
depending primarily on the arbiters discretion
Paternalism (clietnelism) and corruption
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An arbiter
Has an incentive to extract the rent (share the
players rents)
In effect, owns a source of rent
Looks as captured with vested interests
Crowds out and suppresses any other ways of
preventing the overappropriation
Asymmetry The players can motivate their arbiter
with a carrot, but not threaten to him ?
irresponsibility
players are clients of their arbiter
Interested in using his discretionary power for
further weakening the clients residual rights of
control
Rent-maximizing
authoritarian, plutocratic

Arbiters
Power-maximizing
totalitarian

Arbiters and clients form a hierarchy
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Officials not a bureaucracy
Administrative power in Ukraine
Bureaucracy (Weber)
Poorly-paid and dependent upon administrative
rents (in money or barter) Relies upon
discretionary power and vague and arbitrary
informal rules
Highly-paid professional public servants
facilitating rational processes of control.
Implements legislation in a strictly formal
(impersonal) way
Controls politicians rather than vice versa.
Tries to control mass-media to avoid public
scrutiny
Operates under constant public scrutiny and
political oversight
Possesses the political power to magnify
ambiguity and non-transparency in legislation
No decision-making power Clear separation of
powers from branches of State
Uncontrolled and mostly affiliated with business
Strictly controlled and separated from business
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Soft rule of law
Karamsin, 19th century Russian historian
Institutional legacy of the former empire
The severity of the Russian laws is alleviated
only by discretion in their enforcement just
this disorder makes life in Russia possible
Gertzen, 19th century Russian social thinker
Legislation is designed (intentionally?) in such
a way that almost EVERYONE must become a
lawbreaker
Laws are written for the fools
Discretion is the only resort from such a total
guilt
Who are the boss, we or the law?
Every business is subject to the authorities
arbitrary, discretionary power
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Corruption
Legislation (flawed, ambiguous, impracticable)
Discretion
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Blat networks
Forced modernization, especially the Communist
regime Legislation violated the natural law
Normal economic activities were considered
illegal
No contract enforcement was officially available
Ledeneva, 1998
Reputation-based informal networks of
interpersonal mutual exchange with favors of
access (blat) Emerge to facilitate the illegal
transactions of all kinds
Litwak, 1991 (!)
One has to deserve a right to pay a bribe
while
Weak rule of law
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Whither captured state a dead end?
Administrative power Provides protection and
patronage for business
Property rights, rents
Business a Milk cow or a Rent pump for
officials
Sources of rents
Perceived totally rent-seeking
Perceived manipulated
Perceived totally corrupted
A tacit social contract We do not bother
them, they do not bother us
Informal networks of interpersonal exchange (Blat)
Public
PASSIVE PLAYER
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Transition from a rent-seeking society
Evolution and REvolution?
Rent-seeking sector
Profit-seeking sector
Politically responsible government
REVOLUTION?
Profit-seeking sector
Rent-seeking sector
Technology SOCIETAL NORMS
Standard approach applies
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Depletion of the rent sources
Market imbalances
Financial instability
Cheap energy and credit
Subsidies and government contracts
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SATISFACTION with own SOCIAL STATUS (score of
maximum 5, right axis), and SELF-RELIANCE
(percentage of respondents agreed that their life
success depends on themselves, net of the
percentage of respondents agreed that it is
determined mostly by the external conditions
left axis).
source National Academys Institute of
Sociologys survey (Panina, 2005)
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Intolerance to corruption in the state-business
relationships grew up before the Orange Revolution
Percentage of entrepreneurs reported corruption
as substantial impediment
source IFC annual business surveys
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as well as corruption as such
Percentage of respondents reported they had to
pay bribes during the last year
source Partnership for a Transparent Society
household survey
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Whither captured state a dead end?
Administrative power Provides protection and
patronage for business
Property rights, rents
Business a Milk cow or a Rent pump for
officials
Orange Revolution November, 2004
Sources of rents
Perceived totally rent-seeking
Perceived manipulated
Perceived totally corrupted
A tacit social contract We do not bother
them, they do not bother us
Informal networks of interpersonal exchange (Blat)
Public
PASSIVE PLAYER
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As a result of the revolution
Public is not passive anymore, it became a
principal of the politicians
The oligarchs are not the main players anymore
Political market emerges
Executive power officials have lesser impact on
the legislature
Politicians appeal to the broad groups of
population
while
Public consciousness is still immature
does not properly distinguish profits from rents
supports redistributive activities (as
re-privatization)
supports coordination and control (e.g. price
regulation)
Threat of populism and paternalism towards large
groups of population
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The peoples evaluation of two presidents (for
Yushchenko on Apr. 2005)
source National Academys Institute of
Sociologys survey (Panina, 2005)
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Upsurge in the social protection
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Share of transfers in household incomes overgrew
the share of wages for 9 month
pension expenditures
social budget expenditures
Has overgrown the national economy by gt7 - for
the first time!
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Partly due to fair but awkwardly made elimination
of privileges
gt60
tax revenues
dramatic decrease in the current account surplus,
and two-digit inflation
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People's attitude to the privatization of
large-scale enterprises
source National Academys Institute of
Sociologys surveys (Panina, 2005)
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Re-privatization
Yushchenko Krivorizhstal was stolen!
Price six times lower than was paid later at the
transparent and open auction
Revenues actually spent for bribing the voters
for Yanukovich
Finally re-privatized and sold for good price
but
every districts leader will have his own
Krivorizhstal (Paskhaver)
quarrel between members of Orange team in
September, 2005
Decrease in investments
Populist attitudes proliferated
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Balance of attitudes to land privatization
source National Academys Institute of
Sociologys surveys (Panina, 2005)
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Combating the corruption
Rated 107 (out of 158) by the Transparency
International in 2005 with a score of 2.6 (out of
10)
Improved since 2004 (122 out of 145, score 2.2)
but
Giving to the systemic role that corruption
plays, punitive strategies solely cannot
eliminate it, and even their modest success may
be harmful !
Increase in prices
CONTRABANDA-STOP
while
bankruptcies
Increasing demand for improvement of the formal
(legislative!) rules
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Obvious mistakes
Attempts of administrative price regulations
(meat, gasoline, sugar)
Sudden shift in the exchange rate
Attempt of partial abolishment of simplified
taxation for SME
Procrastination of major systemic reforms (tax
system, courts, public administration, health
care and education, etc.)
374 parliamentary votes out of 450 supporting the
Cabinet
WASTED
the period of extraordinary politics
(Balczerovich)
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Real GDP growth (cumulatively, yoy)
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Macroeconomic results of 2005 mixed outcomes and
excuses
drop in investments by 2 due to political
instability and further weakening of the property
rights
household real incomes went up by 20,
FDI increased twofold
Slowdown of growth started due to other factors
before the revolution
economic growth of just 2.4, the lowest since
2000
dramatic decrease in trade balance
balance was unsustainably high and partly fake
still lower than it was in 2004
two-digit inflation
are the positive developments really sustainable,
and the negative ones just transitory ?
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Threats and risks
ratings of both leaders of the Orange team have
decreased four times
possible defeat at the Parliamentary elections of
2006
Yushchenkos current rating is lower than it used
to be for the few years before the Orange
Revolution Our Ukraine is even less popular
but for Timoshenko it is still higher
Timoshenko can possibly become an arbiter of a
new kind the populist dictator
Increasing tensions between East and West
aggravated by the Russian political technologists
Too DANGEROUS to assess
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The strategic challenges
Current economic structure reveals mostly the
Russian competitive advantages of cheap energy
Relatively high human capital is a real
competitive advantage
remains unrevealed due to the poor business
climate
revelation of the entrepreneurial potential of
Ukrainian nation
getting rid of dependence on cheap Russian energy
Relatively high innovation rate
Low domestic demand for innovations
Low capacity to adopt them
Will hardly sustain unless supported in some way
new and more capable elite may be needed that
would be able to respond to these challenges
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Thanks for your attention!