Hostages Of Hope. Lithuanian Free Marketeers Scrutinise the World Bank’s World Development Report 1997

It is both symbolic and meaningful that the World Bank’s 1997 World Development Report is devoted to the role of the state. Reform experience in Central and Eastern Europe renders this topic of overwhelming importance. The study demonstrates an array of problems caused by “inefficient government interference in economy”. The conclusions and recommendations presented in the Report are exhaustive and compelling. Yet, one gets an impression that the most significant of them have been left on the margins.
There may be several reasons for that. Even though the attitudes to the state’s role in economic affairs have changed considerably over the past few decades, the illusion that the state can best address economic problems persists. The identification of weaknesses in government action is accompanied by the pursuit of traditional, only “more effective” solutions. It is on these solutions that the World Bank Report centres, while the conclusions that have already matured will continue to be delayed for who knows how long. But we have no right to wait. We must foster a sound attitude towards the state’s role as we lay the foundations for a new economy.
The Report explores how to enhance the state’s efficiency and justly distribute the state’s efforts among its wide-ranging responsibilities. Yet, it pays unjustifiably scant attention to the need of transferring part of public functions to the private sector. Let us look at the examples that are of particular relevance for Lithuania.
Ever since Lithuania restored independence in 1990, regular attempts have been made to better the supervision of commercial banking. If you take a closer look at the niceties of the traditional supervision conducted by the central bank, you will get an impression that there has been a change for the better. Yet, the consequences of banking failures continue to stun the nation. Each failure highlights new faults in supervisory practices and sometimes even a conscious covering-up of banking flaws by the state. One may wonder why no attempts have been made to find private ways of enhancing banks’ operational credibility? The reason is that public anxiety has been quelled by the hope that the central bank’s supervision will eventually improve. The hope that the government will eventually become capable of supervising banks and motivated to do it well, and, in case of failure, will generously compensate losers.
Those who have already abandoned this hope should seek private solutions and massive reform to provide for sound banking. What are these solutions and changes to build on? To begin with, they should build on sound financial principles that will allow bank customers to take precautions against the risks of re-lending their money in case they wish to do so. Second, the banking system should be as transparent as possible and bound by strict disclosure requirements. Third, it is time to rely on private rating agencies, whose assessments will be more worthy in the eyes of people than the tireless toil of the Bank of Lithuania. Finally, the functioning mandatory deposit insurance scheme should be replaced with a voluntary system, a system that will not only guarantee compensations for losses but also reduce significantly the probability of such losses.
It is plausible that under a private solution deposit insurance and independent banks’ rating would eventually coalesce. Private supervision would become inseparable from financial responsibility and would draw on the same market laws as any other area of activity. Unfortunately, people have had no possibilities as yet to choose whether to rely on private measures or on government guarantees. Private solutions are being inhibited by the state’s monopoly and reluctance to share its powers. The citizens are doomed to be the hostages of the hope of creating a more effective state.
The World Bank places a particular emphasis on the state’s “industrial policy”. It holds that the state can help the market “solve information and co-ordination problems”; that it can foster market development. However, if the government is given a right, just like in old days, to influence, through interventions, capital allocation, no market economy will emerge. The authors of the Report seem to be preoccupied with only one concern-whether state institutions possess “necessary” capabilities and are ready to take on these tasks. It is evident that such readiness still exists in most countries, but this is a sign of danger rather than an object of admiration! In saying this I have in mind the leftovers of central planning, which come in all shapes and sizes (territorial, sectional, etc.), and the mentality of central planning, which seems to be the most difficult to reject.
By establishing development priorities for private economy, differentiating taxes and extending political loans and subsidies, the government would order, “from the centre”, what to produce and where and for how much to sell. The success of private owners would depend on whether they manage to acquire the “favoured” status. The success of some would always build on the failure and weaker competitiveness of others. But then, how would one measure the magnitude of people’s dismay at the proclaimed “fair competition”, which the government would translate into protectionist demagoguery? How would one measure the inevitable, nation-wide demoralisation?
The adulation of “the successful” should not mislead people. They have a right to know that this “success” have cost them their own money, their postponed development and their loss of a hope of living in a moral order. Few would dispute that it would have been amoral in the Soviet times to exhibit well-being by showing off the luxurious apartments, “Volgas” and diamonds of the old nomenclature. It is just as amoral to justify political interventions by singling out the enterprises prospering thanks to these interventions.
The Report defines corruption as one of the most alarming problems of the modern state. What measures, in its authors’ opinion, are needed to curb the spread of corruption? The proposed solutions include making laws and rules transparent, removing opportunities for discretionary government decisions, putting in place mechanisms operating on market principles, and contracting private firms to perform public functions. Administrative measures are also regarded as effective. The authors of the Report are right in noting that fighting corruption is impossible without paying attention to other problems. Corruption is a symptom of problems rather than a problem in itself. Since other parts of the study justify, and even advocate, active government involvement in economic affairs, the pursuit of the suggested recommendations will fail to eradicate the scourge of corruption. In order to root it out, it is vital to renounce the participation in economic activity of the state as owner and regulator. The responsibility of officials in the remaining public areas should be embedded within a strict and transparent legislative framework restraining arbitrary action. It is especially difficult to fight corruption after the long years of socialist amorality and perversion. Therefore we must be realistic in what we set out to accomplish. We must opt for solutions designed, not to fight the consequences of problems, but to remove their roots.
The Report is full of justified criticism of the government but at the same time full of hope that government can be good, even better than the market, and worthy of people’s confidence. Nations led by this hope are repeating mistakes made by others. Nations committed to dismantling the old regime are pursuing a free market and limited government as the only alternative to socialism. They are successfully driving away the ghost still roaming around Europe. The 21st century will be the century of these nations.
Basic Statements of World Development Report 1997
The central message of the Report is that for human welfare to be advanced, the state’s capability – defined as the ability to undertake and promote collective actions efficiently – must be increased.
A two-part strategy may be applied to make every state a more credible, effective partner in its country’s development:
·  Matching the state’s role to it’s capability. Here it is a matter not just of choosing what to do and what not to do – but of how to do it as well.
·  To raise state capability by reinvigorating public institutions. This means designing effective rules and restrains, to check arbitrary state actions and combat entrenched corruption. It means subjecting state institutions to greater competition, to increase their efficiency. It means increasing the performance of state institutions, improving pay and incentives. And it means making the state more responsive to people’s needs, bringing government closer to people through broader participation and decentralisation.
Five fundamental tasks lie at the core of every government’s mission:
1. Establishing a foundation of law.
2. Maintaining a nondistortionary policy environment, including macroeconomic stability.
3. Investing in basic social services and infrastructure.
4. Protecting the vulnerable.
5. Protecting the environment.
There is a growing recognition that in many countries monopoly public providers of infrastructure, social services and other goods are not likely to do a good job. The technological and organisational innovations have created new opportunities for competitive, private providers in activities hitherto confined to the public sector.
Coping with household insecurity. Innovative solutions that involve business, labour, households, and community groups are needed to achieve greater security at lower cost. The idea that the state alone must carry the burden of household’s economic security (pensions, health insurance, unemployment insurance) is changing.
Effective regulation. A well-designed regulatory system can help societies influence market outcomes for public ends. Making the best use of the new options emerging for private provision of infrastructure and social services will also rely on a good regulatory framework.
Industrial policy. When markets are underdeveloped, the state can sometimes reduce co-ordination problems and gaps in information and encourage market development. Variety of mechanisms for market enhancement may be used: from highly strategic use of subsidies to less instructive such as export promotion and special infrastructure incentives. Countries that have pursued an activist industrial policy successfully could not have done so without strong institutional capability.
Managing privatisation. The key factors in privatisation are transparency of the process, winning the acquiescence of employees, generating broad-based ownership, and instituting the appropriate regulatory reform. A carefully managed privatisation brings positive economic and fiscal benefits.
Knowing the state’s limits-a good fit between the state’s institutional capabilities and its actions-is the key to predictable and consistent implementation of the state’s mission. Self-restricting rules and working in partnership with firms and citizens are the ways helping to set up the state’s limits. Another key task of the state’s reform is to reinvigorate state’s institutional capability, by providing incentives for public officials to perform better while keeping arbitrary action in check. Effective rules and restraints, greater competitive pressure, and increased citizen voice and partnership are the basic mechanisms to improve capability.
Reform of state institutions is long, difficult, and politically sensitive. But if we now have a better sense of size of the reform challenge, we are also much more aware of the costs of leaving things as they are.