Economic crisis responses from a governance perspective in Eastern Europe and Central Asia

RCPAR

Regional Centre for Public Administration Reform

Economic crisis responses from a governance perspective in Eastern Europe and Central Asia: Regional Report

March 2011

Economic Crisis Responses from a Governance Perspective in Eastern Europe and Central Asia: Regional Report1 March 2011

I.

Introduction

The global economic crisis has affected countries in Eastern Europe and Central Asia 2 significantly more than Western countries and indeed countries worldwide 3 . On the other hand, the impact of the crisis on governance systems in the region has been quite varied.

Given the importance that governance can have for effective responses to such an economic crisis, it is timely to take stock of what has occurred so far. This will aid in exploring alternative solutions for better preparing countries to withstand future crises. a. Context While Eastern Europe and Central Asia are part of the global economic system and have progressed rapidly over the past 20 years, the States of this region have some unique features that are not apparent elsewhere in the world. First, all of these countries (with the exception of Turkey) transitioned from a communist system at the start of the 1990s. Under communism, these states functioned with planned and highly centralized economies that provided extensive social benefits to their populations but saw little government accountability. Today, these countries have broken with this past to varying degrees: in the Baltic States, one sees few if any remnants of that model, while some parts of Central Asia still resemble the communist system in many ways. But even in the most economically liberal states the legacy remains, as the actions of politicians and voters continue to be shaped by these memories – whether that leads them to purposely break with those policies or to reinstate them.

1

Sarah Repucci, an independent consultant, is the lead author of this report. The paper is based on research carried out in 2010 and benefited from country case studies developed by independent consultants – Erik Gyulazyan (Armenia), Zoran Jachev (Former Yugoslav Republic of Macedonia), and Sergei Souglobine (Ukraine) – the main findings of which are integrated herein. It was further informed by debates at the Regional Policy Roundtable in Eastern Europe and Central Asia on Economic Crisis Responses from a Governance Perspective, Chisinau, 6-7 July 2010, (http://www.rcpar.org/contents_en.asp?id=307). It has also received input from UNDP staff Annie Demirjian (Democratic Governance Practice Leader, Bratislava Regional Centre); Dan Dionisie (Public Administration Reform and Anti-corruption Specialist, Bratislava Regional Centre); and Panos Liverakos (Team Leader, Regional Centre for Public Administration Reform). The views expressed herein do not necessarily represent those of the United Nations, including UNDP, or its Member States.

2 This paper covers the following countries: Albania, Armenia, Azerbaijan, Belarus, Bosnia and Herzegovina, Bulgaria, Croatia, Czech Republic, Estonia, Former Yugoslav Republic of Macedonia, Georgia, Hungary, Kazakhstan, Kosovo, Kyrgyzstan, Lithuania, Latvia, Moldova, Montenegro, Poland, Romania, Russian Federation, Serbia, Slovak Republic, Slovenia, Tajikistan, Turkey, Turkmenistan, Ukraine, and Uzbekistan.

3 Ben Slay, “Socio-economic impact of the crisis in the region” presentation at Regional Policy Roundtable in Eastern Europe and Central Asia on Economic Crisis Responses from a Governance Perspective, Chisinau, 6-7 July 2010, http://www.rcpar.org/contents_en.asp?id=307.

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Economic Crisis Responses from a Governance Perspective in Eastern Europe and Central Asia

It is generally accepted that the original causes of the global financial crisis were tied to weak regulation. While the specific problems in Eastern Europe and Central Asia were often a spillover from the effects of poor regulation elsewhere, the region did have its own regulatory challenges. Public sector weaknesses were manifest in limited State capacity for regulation and oversight. However, a few countries, such as the Czech Republic, had recently reformed their financial supervision, helping them resist the impact of the crisis 4.

The former government centralization of the region has evolved to varying levels of decentralization over the past two decades. Even where decentralization was a priority, this process was not yet complete at the start of the economic crisis. As a result, economic uncertainty and the need to respond inevitably had some impact on reforms under way. Figure 1 shows the level of decentralization in different countries of the region.

Figure 1: Level of decentralization in Eastern Europe and Central Asia

Note: Darker green indicates less decentralization.

Source: “Decentralization in the Europe and CIS region”, UNDP Bratislava Regional Centre, April 2008

Another unique feature of a significant portion of this region is the proximity to the European Union (EU) and the prospect, or even completed process, of membership. The EU can serve as an incentive for countries to implement reforms, and it also has some limited power of shaming or delay of reward when its prescriptions are not followed. Even for those countries for whom membership is distant or wholly improbable, the EU is a major trading partner and job market for expatriates. For these reasons, the economic prospects of the EU have a major impact on this region.

4

See, for example, Pradeep Mitra, Marcelo Selowski, Juan Zalduendo, ‘Turmoil at Twenty’, World Bank, 2010; “Regional Policy Roundtable in Eastern Europe and Central Asia on Economic Crisis Responses from a Governance Perspective: Summary of deliberations”, Chisinau, 6-7 July 2010, http://www.rcpar.org/contents_en.asp?id=307.

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Economic Crisis Responses from a Governance Perspective in Eastern Europe and Central Asia

b. The economic crisis in Eastern Europe and Central Asia Eastern Europe and Central Asia have faced significant challenges since the global economic crisis began in 2008. The imprudent lending practices of Western banks not only caused instability in their home countries but also in many eastern economies where these banks had operations. In addition, many Eastern European and Central Asian countries are dependent on remittances or on revenues from natural resources, all of which sharply decreased with the downturn. These developments tested vulnerable former Communist economies in many different ways.

The difficulties were not the same across the region. Latvia and Hungary were especially badly hit; Hungary’s financial system was over-leveraged, with reckless lending and citizens without savings, and Latvia had one of the only EU bank bailouts. Tajikistan has more than 1 million workers abroad and remittances fell by 30 percent. But Poland maintained growth and has even been in a position to help its trade partners. Uzbekistan, which is largely isolated from the global economy, has seen strong growth as well. In a region that was far from homogenous to start, countries have seen widely varying impacts of the crisis (see Figures 2a and 2b).

Figure 2a: Financial integration and impact of the economic crisis

Note: Financial integration (darker blue indicates more integration) Sources: Pradeep Mitra, Marcelo Selowski, Juan Zalduendo, ‘Turmoil at Twenty’, World Bank, 2010; “Transition Report 2009: Transition in crisis?” European Bank for Reconstruction and Development, November 2009.

The reactions and outcomes have varied as well. Latvia saved its failing currency through heavy cuts in wages and public spending. Kazakhstan and Uzbekistan launched economic stimulus programs, which the latter combined with a series of devaluations. Ukraine required outside intervention amid political infighting. It is too soon to tell what the full course of the crisis will turn out to be, although stabilization appears to be under way across the region –

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Economic Crisis Responses from a Governance Perspective in Eastern Europe and Central Asia

despite predicted GDP decline in 2010 in some economies of South Eastern Europe and especially the European Union’s new member states.

This paper will cover the economic crisis that began in 2008, through 2010. It will review the regional governance trends in the region, followed by key governance implications. It will conclude with some recommendations for how to improve governance and help prevent weaknesses in future crises. Such lessons learned will support policy debates to outline a new governance reform agenda for Eastern Europe and Central Asia, during and after the economic crisis.

Figure 2b: Financial integration and impact of the economic crisis

Note: Impact of the economic crisis (darker red indicates greater impact of the crisis) Sources: Pradeep Mitra, Marcelo Selowski, Juan Zalduendo, ‘Turmoil at Twenty’, World Bank, 2010; “Transition Report 2009: Transition in crisis?,” European Bank for Reconstruction and Development, November 2009.

II.

Regional trends in governance a. Types of response

When addressing an economic crisis in any country, governments select from a standard basket of responses: they can engage in fiscal tightening through public spending cuts, currency devaluation, tax reforms, etc, or conversely they can boost the economy through public sector spending, increased production, industry protection, etc. The 2008-2010 economic crisis was not an exception, and the region as a whole saw all of these measures instituted in various places at various times. The approaches ranged from more noninterventionist, with minimal government involvement in countries such as the Czech Republic, to an increased role for the State, for example in Kazakhstan.

Underneath this variety, however, a number of regional trends can be discerned. First, anticrisis policies changed over the course of 2008-2010. In the early days, when the crisis was beginning to manifest itself across Europe and the United States but few hard indicators were -4-

Economic Crisis Responses from a Governance Perspective in Eastern Europe and Central Asia

available, several countries in the region did not publicly acknowledge any problem. This could be seen in such diverse contexts as the Czech Republic, Romania, Turkey, Ukraine, Serbia, Moldova, Albania, and Kazakhstan. The reasons behind the delay in recognition were part political and part administrative. To some extent, governments did not announce the crisis because they genuinely thought it might pass them by without necessitating the tough decisions a true recession would demand. There can also be a benefit to remaining optimistic in order not to needlessly push markets down. Domestic political situations also stalled recognition of the crisis in some countries (see “political fragmentation” below). But most governments also underestimated the extent of the crisis due to overly optimistic economic forecasts. Throughout the region there was a “lack of timely and policy-relevant statistical data that could provide the information necessary for sound, evidence-based policy formulation, implementation, and impact assessment” 5. That is, most governments did not have the numbers at their disposal to help them understand what needed to be done. A lack of monitoring and analysis of economic trends left countries such as Kazakhstan, Hungary, and Serbia without an understanding that the crisis would ultimately affect them. In fact, the deficiency in analytic capacity continued through the crisis and affected the targeting and prioritization of spending 6.

As the impact of the crisis was eventually recognized, the response in most countries was to increase spending. In fact, some governments acknowledged the crisis very quickly and acted rapidly. The Russian Government acted as early as September 2008 with $150 billion in support pledged for companies and lenders, and an additional $36 billion in loans for banks in October 7. This speedy response buoyed the currency and supported those who had borrowed heavily from foreign banks. Kazakhstan’s President, who is generally seen to have nearly sole control over the political sphere 8, set the ball rolling in October 2008 in his country by giving the Prime Minister free rein to handle the crisis in whatever way necessary 9. By early 2009 only five or six countries had no clear policy of increased spending.

However, as the crisis developed across the globe, some of those countries that had increased spending reversed course and opted for fiscal austerity. For example, Croatia began with a spending program that resulted in a fiscal deficit, but in April 2010 it passed a recovery program that included public sector job cuts, tax reform, and privatization. Romania launched a €13 billion stimulus package, originally pegged for infrastructure, in February 2009, but in early summer 2010, under pressure from the International Monetary Fund (IMF), it cut public sector wages by a full 25 percent and raised the VAT to 24 percent 10. In the Former Yugoslav Republic of Macedonia, the Government rejected IMF support and its anti-crisis policies were completely locally developed. Nevertheless, it also chose to switch from stimulus to austerity (see Box 1).

5

“Regional Policy Roundtable in Eastern Europe and Central Asia on Economic Crisis Responses from a Governance Perspective: Summary of deliberations”, Chisinau, 6-7 July 2010, http://www.rcpar.org/contents_en.asp?id=307.

6 “Regional Policy Roundtable in Eastern Europe and Central Asia on Economic Crisis Responses from a Governance Perspective: Summary of deliberations”, Chisinau, 6-7 July 2010, http://www.rcpar.org/contents_en.asp?id=307.

7 “Russia Providing $200 Billion for Banks, Builders”, Bloomberg, 7 October 2008, http://www.bloomberg.com/apps/news?pid=newsarchive&sid=a16BnNfBwIkw 8 Freedom in the World, Freedom House: http://www.freedomhouse.org/template.cfm?page=22&year=2010&country=7850.

9 “Astana Acts Aggressively to Contain Financial Crisis”, Eurasia net, 20 October 2008, http://www.eurasianet.org/departments/insightb/articles/eav102108.shtml.

10 “Statement by IMF Mission Chief for Romania”, 4 August 2010, http://www.imf.org/external/np/sec/pr/2010/pr10307.htm.

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Economic Crisis Responses from a Governance Perspective in Eastern Europe and Central Asia

Box 1: The Case of the Former Yugoslav Republic of Macedonia The Former Yugoslav Republic of Macedonia has a small economy, representing about 0.01 percent of total world outputi. A relatively low standard of living, high unemployment rate, unsteady economic growth, and lack of direct foreign investment are the central economic problems. Because the structure and characteristics of Former Yugoslav Republic of Macedonia’s financial sector are not very dependant on changes in the EU and other developed countries, the effects of the crisis were felt later than elsewhere in the region.

At first, the Government denied that Former Yugoslav Republic of Macedonia would be affected by the crisis, claiming that the country’s financial markets were stable and sufficiently sequestered. When it became clear that the crisis was inevitable, the first package of anti-crisis measures, valued at more than €300 million, was introduced at the end of 2008.

As the effects of these measures were limited and the economic situation continued to deteriorate, the Government announced a second package of anti-crisis measures in March 2009. This package was worth €8 billion for a period of 8 years (2009-2016) and encompassed investments in infrastructure and social projects.

In May 2009 the Government announced a third package of anti-crisis measures encompassing 70 measures in three areas: rebalancing of the 2009 budget, credit support for companies, and other measures aimed at reducing barriers and costs of doing business. This package included some cuts, in contrast to earlier spending. A fourth anti-crisis package was adopted in March 2010, targeting tax policy, credit, land policy, agriculture, construction, and social policy. It also expanded the so-called Regulatory Guillotine aimed at improving the business climate.

The anti-crisis measures were almost solely the product of the ruling party, which held an absolute majority in Parliament throughout the crisis period. While the opposition did criticize the way the Government announced and implemented anti-crisis measures, political debates had minimal effect. In addition, civil society was absent from the debate.

In order to finance its anti-crisis measures, the Government borrowed funds through treasury bills and Eurobonds while avoiding cooperation with the IMF as long as possible. This meant higher interest rates and was criticized by the opposition. The decision may have been made because the Government wanted to maintain the impression among potential foreign investors that the country no longer needed such resources. In contrast, the opposition has alleged that the government’s unwillingness to borrow money from the IMF was due to the desire to avoid monitoring of how money is spentii. In early 2011, the Government reversed course and agreed with the IMF a loan of €480 million over two years. However, the interest owed from previous borrowing will continue to have repercussions for some time.

The impact of the Government’s response to the crisis has been mixed. The ambitious investment looks impressive but it appears to be more of a wish list as it lacks tangible sources for financing. Similar projects in the past were far less expensive and complex and yet they are dormant. The real effectiveness of the Government’s anti-crisis measures can be objectively assessed only in the long run. However, at the level of statistical indicators, it appears that at least for now the country is recovering from the crisisiii. i

“Macedonian Economy at a Glance,” U.S. Embassy in Skopje, http://macedonia.usembassy.gov.

Statement of Zoran Jovanovski, Vice-president of SDSM, May 2010, http://www.utrinski.com.mk/?ItemID=675769F7CC25F748AE4F1438C05CCDCD. iii Interview with Alexander Tieman, IMF Resident Representative in Macedonia, Kapital, April 2010, http://imf.org/external/country/MKD/rr/2010/041310.pdf. ii

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Economic Crisis Responses from a Governance Perspective in Eastern Europe and Central Asia

Such shifts from increased spending to cutbacks seem to have been tied to a broader change in the global perception of the crisis and the appropriate response to it. This change was related most prominently to the debt crisis in Greece, which explicitly manifested itself in late winterearly spring 2010. After Greece’s euro zone colleagues provided emergency aid in April 2010 and faced their own domestic fallout, deficit spending as an anti-crisis measure was increasingly criticized as profligacy. The richer countries of Europe favored cuts both within their own economies and among those economies over which they have the most influence.

This had a chilling effect in Eastern Europe in particular, leading to the policy shifts.

Another trend in policy responses is public sector reform and in particular downsizing. This was often pushed by the IMF, but it took place in other countries as well. Countries such as Bulgaria, Croatia, and Hungary reformed their tax systems. In Georgia, the October 2009 “Act on Economic Freedom” institutionalized neoliberal economic policy through caps on spending and limits on the ability to raise taxes. Belarus embarked on privatization. Much of these reform agendas is in line with ongoing post-Communist reforms.

However, in some countries post-Communist reforms were reversed. For example in Kazakhstan the country’s largest bank was nationalized in February 2009, and the State increased its role in management of the natural resources sector 11 . In October 2009 Kyrgyzstan’s President further consolidated his power through a decree for administrative reform that included significant restructuring of state institutions 12 . In Serbia, prior privatization was reversed 13. Many of the development and reform initiatives that were in progress when the crisis hit in Armenia slowed down (see Box 2). And all three Baltic countries increased centralization through merging or abolishing local government agencies 14.

Thus the crisis had a mixed impact on ongoing reform agendas.

Amidst these changes, it is interesting to note the impact on social spending, which was slightly different from past economic crises, such as that in the late 1990s. Previously, there had been a tendency to pursue reforms without regard to their social impact, especially if these reforms were imposed from the outside: in the past a Government might institute strict public sector spending cuts regardless of their impact on the poor or other vulnerable groups, especially if it was seeking an IMF loan. In 2008-2010, governments in many instances have protected social spending despite cuts. In fact, such social protection was even requested by the IMF in some cases. For example, in Armenia, the Government’s November 2008 anticrisis plan made welfare programs and the State’s social commitments a priority. This dovetailed with the IMF program approved in March 2009, which included protection for social spending as a key element (see Box 2). Similar protection was included in agreements with Belarus, Bosnia-Herzegovina, Moldova, and Tajikistan. In Kazakhstan, which did not receive IMF funds, social spending was 17.6 percent higher during the crisis over previous

11

“Regional Policy Roundtable in Eastern Europe and Central Asia on Economic Crisis Responses from a Governance Perspective: Summary of deliberations”, Chisinau, 6-7 July 2010, http://www.rcpar.org/contents_en.asp?id=307.

12 “Kyrgyz President Names New Prime Minister”, Radio Free Europe/Radio Liberty, 21 October 2009, http://www.rferl.org/content/Kyrgyz_President_Names_New_Prime_Minister_/1857005.html.

13 Miroljub Labus, “The Credit Crunch and Structural Adjustments: The Case of Serbia”, presentation at Regional Policy Roundtable in Eastern Europe and Central Asia on Economic Crisis Responses from a Governance Perspective, Chisinau, 6 July 2010, http://www.rcpar.org/contents_en.asp?id=307.

14 B. Guy Peters, Jon Pierre, Tiina Randma-Liiv, “Economic Crisis, Public Administration and Governance”, http://europeandcis.undp.org/uploads/public1/files/Peters,%20Pierre,%20Randma%20%20Crisis,%20PA%20&%20Governance.doc.

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Economic Crisis Responses from a Governance Perspective in Eastern Europe and Central Asia

years 15. In the Former Yugoslav Republic of Macedonia, budget cuts explicitly spared health, social aid, and pensions, which in fact received increased funding 16. This proven protection for social spending indicates a change in thinking from traditional neoliberal economics, and demonstrates a greater concern for the human development impacts of economic downturn.

Box 2: The Case of Armenia Armenia was one of the countries hardest hit by the 2008-09 global economic crisis. The impact of the crisis has been felt on multiple fronts, including a sharp decline in foreign direct investment, falling demand for Armenian commodity exports, dwindling remittance inflows, and reduced availability of and increased cost of domestic credit. For 2009 as a whole, the Armenian economy was estimated to have shrunk by about 14 to 15 percenti.

The crisis affected all layers of the population, and especially those in most need. For many families in Armenia foreign remittances from relatives and family members working abroad were the only source of income. Many of these people lost their jobs and returned home, adding to the number of unemployed.

The Government of Armenia, led by the Prime Minister, was the primary body responsible for tackling the crisis. On 12 November 2008, the Government submitted the anti-crisis program to the National Assembly, including targets for improvement of the business environment, mobilization of lending to small and medium-sized enterprises, implementation of infrastructure-oriented projects, and priority for welfare programs and state social commitments.

The Armenian Government negotiated loans with the IMF, the World Bank, the Asian Development Bank (ADB), the EU, and the Russian Federation to cover the deficit in the 2009 budget. The IMF agreement amounted to about USD 540 million in support of the country’s anti-crisis program, to restore confidence in the currency and financial system, and to protect the poor. The Government of Armenia embedded the IMF requirements into its Anti-Crisis Action Plan.

To implement the anti-crisis plan, the Government appointed an Operative Working Group to select investment proposals. The Government also provided credit to businesses amounting to around USD 260 million. These measures helped reduce the harm to the Armenian financial sector: no financial institution went bankrupt or requested assistance from the state to maintain stability. The Government was helped in its efforts because the Armenian financial system is relatively small (22 banks). In addition, the Central Bank effectively monitored the financial system using efficient early warning systemsii. The Government of Armenia also supported the mining industry, which accounts for around 40 percent of exportsiii.

At the same time, many of the development and reform initiatives that were in progress when the crisis hit slowed down. In particular, tax and customs reforms aimed at simplifying procedures and reducing the tax and customs burden halted. There was also a significant slowing in activities aimed at development of new workplaces through state-funded construction and other activities. The Government has pledged to continue with reformsiv.

Developments of late 2009 and early 2010 indicate that the Government anti-crisis measures (particularly support to the mining industry) and more favorable global prospects have 15

“Residual Effects of Global Crises”, UN General Assembly, 5 October 2010, http://www.un.org/News/Press/docs/2010/gashc3974.doc.htm.

16 “Macedonia Adopts Budget Cut”, Balkan Insight, 15 July 2010, http://www.balkaninsight.com/en/article/macedonia-adopts-budget-cut.

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Economic Crisis Responses from a Governance Perspective in Eastern Europe and Central Asia

contributed to stabilizing the economy, although as of the end of 2010 the Government was continuing anti-crisis measures. However, there are signs that the economy is slowly recovering. i

Armenia Country Brief, World Bank, 2010.

Based on interview by Erik Gyulazyan with Vahe Vardanyan, Head of Financial System Policy and Analysis Department. iii Interview with Aristomenes Varoudakis, 27 November 2009, http://www.armenialiberty.org/content/article/ 1889521.html. iv “Tigran Sargsyan takes part in ‘Post-crisis Armenia: challenges and opportunities’ conference,” Government of Armenia, 11 September 2010, http://www.gov.am/en/news/item/5299/. ii

However, social spending was not protected in all instances. In Hungary, although the November 2008 IMF stand-by agreement made some references to mitigating social impacts 17, the Government made repeated cuts to social services 18. Latvia and Romania saw similar cuts despite language in IMF agreements. In fact, reports say that the October 2010 World Bank public expenditure review warned that Latvia’s health and education sectors have borne the brunt of fiscal adjustment in the 2009 and 2010 budgets 19. Moreover, early evidence suggests that social inequality and exclusion increased during the crisis period. In Latvia, the ratio between the incomes of the top and bottom 20 percent of the population significantly worsened during the crisis period, although in Romania the same ratio as well as the Gini coefficient in fact improved 20. Romania’s summer 2010 cuts did not specifically target social spending, but part of its obligations to the IMF has included controversial reform of the pension system 21 . Thus, emphasis on protecting vulnerable groups appears to continue, although in some cases it may be little more than rhetoric. b. Origins of response The anti-crisis measures selected by each government depended on a number of domestic and international factors. For example, in Russia and Kazakhstan, ample reserves from oil revenues in particular allowed the governments to freely design their responses with little concern for how they would be financed. Therefore it is not surprising that both chose the more popular and less challenging option of increasing spending, which also is supported by many economists: in the first four months of 2009 Russia’s general government expenditure rose to 37 percent, from 28 percent a year earlier, relative to GDP 22. In the first seven months of that year expenditure in Kazakhstan rose by 8.2 percent year on year 23 . In fact in Kazakhstan the Central Bank has estimated that the share of GDP devoted to the anti-crisis plan is as high as 14 percent, far above most countries in the world 24.

17

“IMF Executive Board Approves €12.3 Billion Stand-By Arrangement for Hungary”, 6 November 2008, http://www.imf.org/external/np/sec/pr/2008/pr08275.htm.

18 “Back from the brink”, 24 September 2009, http://www.economist.com/node/14512527.

19 “World Bank has several hundred recommendations on how Latvia can achieve the necessary budget consolidation for 2011”, Baltic Course, 10 October 2010, http://www.baltic-course.com/eng/analytics/?doc=32534.

20 “CEE: Priority for now is recovery not social equality”, Oxford Analytica, 15 October 2010. The Gini coefficient is a measure of inequality, with 0 representing total equality and 1 representing total inequality.

21 “Basescu rejects parliament bill on pension reform”, New Europe, 10 October 2010, http://www.neurope.eu/articles/Basescu-rejects-parliament--bill-on-pension-reform/103169.php.

22 “Russia’s Contraction Eases but Knife-Edge Risks Remain for 2010”, Seeking Alpha, 15 July 2009, http://seekingalpha.com/article/149038-russia-s-contraction-eases-but-knife-edge-risks-remain-for-2010.

23 “Kazakhstan finance: Back to the debt markets”, Economist Intelligence Unit, 15 November 2009, http://www.thewatcher.kz/en/internation/2009/11/15/378/.

24 “14% of GDP spent for anti-crisis measures”, Kazinform, http://www.inform.kz/eng/article/2285651.

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Economic Crisis Responses from a Governance Perspective in Eastern Europe and Central Asia

On the other hand, not all countries had such fiscal space. Albania, Kosovo, Montenegro, Slovakia, and Slovenia are examples of countries that increased spending without a larger cash flow. Such governments clearly saw a benefit in increasing the budget deficit in order to boost spending. The change in budget deficits in all countries in the region is shown in Table 1.

Other countries opted for spending cutbacks to keep deficits low. Among these, the Baltic States imposed a unique level of fiscal austerity. These three countries had high consumer debt and considerable foreign debt, which left them highly vulnerable when the economic crisis hit Europe. However, they had also all maintained tight fiscal discipline in the years leading to the crisis, and all three governments were determined to continue this despite the change in conditions. They did so both because their currencies were pegged to the euro and maintaining fiscal discipline is required to meet criteria for euro adoption, but also to reassure lenders and investors 25. This meant that while in the early days of the crisis most of Europe and Central Asia was making plans for industry support, infrastructure projects, and social protection, the Baltic States cut budgets, lay off public sector workers, and raised taxes. These policies were, at least at first, supported in all three states, allowing governments to force populations to swallow these bitter pills without much political fallout (although some protests did subsequently occur, and Latvia’s government ended up falling) 26.

Other governments that wished to increase spending turned to international aid for help, in most cases the IMF (often with related donors contributing as well). Twelve countries in the region had loans approved by the IMF between late 2008 and October 2010 27. This allowed them a bit of fiscal space in order to pursue stimulus policies that would otherwise have led to large budget deficits. But the loans themselves also had a strong influence on the policies that were pursued, as the IMF and other donors set conditions for loan allocation. For example, Armenia committed to fiscal and monetary policies as well as structural reforms. Ukraine’s authorities said they would engage in monetary and exchange rate policy shifts, bank recapitalization, and fiscal and incomes policy adjustments. In some cases the IMF confirmed policies that had already been planned, but in others the design of the anti-crisis plan was largely shaped by these external actors.

International support was not equally forthcoming to all countries that may have needed it, and not all found themselves with similar deals. Larger than any loan given in the region was the IMF stand-by arrangement with Greece, an EU member state that is also part of the euro zone. The IMF agreed to €30 billion over three years for Greece, complemented by EU funds in addition. Moreover, Greece’s loan was “front-loaded,” so €20 billion was available from the start 28. Romania, a non-euro EU member, signed an agreement with the IMF and other lenders for a total of just €19.9 billion over 24 months, with just €4.9 billion available up front.

Countries farther afield, such as Moldova, Armenia, and Tajikistan, barely grazed half a million euro. As a result, these countries faced fiscal constraints imposed by the IMF while working with far less money.

25

B. Guy Peters, Jon Pierre, Tiina Randma-Liiv, “Economic Crisis, Public Administration and Governance”, http://europeandcis.undp.org/uploads/public1/files/Peters,%20Pierre,%20Randma%20%20Crisis,%20PA%20&%20Governance.doc.

26 B. Guy Peters, Jon Pierre, Tiina Randma-Liiv, “Economic Crisis, Public Administration and Governance”, http://europeandcis.undp.org/uploads/public1/files/Peters,%20Pierre,%20Randma%20%20Crisis,%20PA%20&%20Governance.doc.

27 Poland received a flexible credit line from the IMF, which was specifically geared for countries that had not had major fiscal problems during the crisis, and explicitly was not conditioned on policy targets.

28 “IMF Executive Board Approves €30 Billion Stand-By Arrangement for Greece”, 9 May 2010, http://www.imf.org/external/np/sec/pr/2010/pr10187.htm.

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Economic Crisis Responses from a Governance Perspective in Eastern Europe and Central Asia

Table 1: Budget deficits in Eastern Europe and Central Asia, 2007-09

Albania Armenia Azerbaijan Belarus Bosnia & Herzegovina Bulgaria Croatia Czech Republic Estonia FYR of Macedonia Georgia Hungary Kazakhstan Kyrgyzstan Lithuania Latvia Moldova Montenegro Poland Romania Russian Federation Serbia Slovak Republic Slovenia Tajikistan Turkey Turkmenistan Ukraine Uzbekistan

2007 -3.50 -2.30 2.40 0.40 -0.10 3.50 -3.10 -0.60 2.60 0.60 -4.20 -4.90 4.70 -0.30 -1.00 -0.40 -0.30 6.40 -1.90 -3.10 6.00 -1.90 -1.90 0.50 -6.20 -1.70 4.00 -2.00 5.70

2008 -5.70 -1.40 25.50 1.40 -3.00 3.00 -2.50 -1.40 -2.70 -1.00 -6.20 -3.40 1.10 -0.10 -3.20 -4.00 -1.00 1.50 -3.90 -4.90 4.80 -2.40 -2.20 -0.90 -6.10 -1.90 11.30 -3.20 10.50

2009 -6.30 -1.50 9.20 0.00 -4.00 -0.10 -1.40 -2.50 -3.00 -2.80 -9.40 -3.90 -2.00 -3.80 -9.00 -10.00 -7.00 -3.00 -6.00 -7.30 -8.80 -4.50 -5.50 -5.50 -8.90 -7.00 5.30 -11.40 2.00

Source: “Transition Report 2009: Transition in crisis?”. European Bank for Reconstruction and Development, November 2009.

It is not surprising, therefore, that several of these countries also turned to Russia. Russia pledged money to countries such as Armenia, Moldova, and Kyrgyzstan. Russia’s conditions tended to be more political than economic. For example, when Kyrgyzstan’s President secured the loan in early March 2009, he also committed to order the closure of the U.S. military base on his territory. Both Kyrgyzstan and Moldova’s original deals fell through after political changes in their governments.

An interesting new development during this economic crisis has been the role of China. In July 2009 China signed an agreement with Moldova for a $1-billlion loan for construction and infrastructure, by far the largest loan that country received. It also agreed that year to invest in infrastructure in Tajikistan, and to engage in a currency swap with Belarus. Unlike in Africa, - 11 -

Economic Crisis Responses from a Governance Perspective in Eastern Europe and Central Asia

in Eastern Europe so far China has invested in resource-poor countries. This indicates that the motivation may be China’s foreign policy priorities, especially with respect to Russia 29. China has also invested in bonds from suffering euro zone countries such as Greece and Portugal.

Possible governance implications of China’s financial dealings in the region remain to be seen.

Conversely, some countries explicitly rejected international support because of the constraints it would impose. For example, in Former Yugoslav Republic of Macedonia, the Government chose not to accept IMF funds until late 2010 (see Box 1). Instead, it shaped its own crisis response that included tax forgiveness to penalty interest for companies and tax cuts for farmers; such policies might not have been approved by strict IMF conditions. Turkey also shunned IMF funds, as the IMF had become unpopular in a country that had labored under many previous IMF loans and their conditions. Turkey’s anti-crisis policy involved tax cuts, support for small and medium-sized enterprises, and social spending.

It is also interesting to note the response at the local government level, where the impact of the crisis was generally less than at the national level but still significant. The crisis had a direct effect at the local level, both in terms of loss of revenues and especially in tighter credit for investment. Council of Europe data from 2009 showed absolute declines in local government revenues in 13 countries of the region compared to 2008, with declines of more than 10 percent in the Republika Srpska (one of the two entities comprising Bosnia and Herzegovina), Latvia, Serbia, Russia, and Ukraine. This may not reflect the full impact of the crisis at the local level, as there is a time lag for publication of local data and also for full repercussions to be felt below national level. Some sources of local income proved more volatile, in particular personal income taxes, which are generally the most important income source for local governments. While these governments have made some attempt to increase efficiency and reduce costs, most rely on transfers from the national level. However, high budget deficits in the region may mean that local budgets are vulnerable in the long term as obligations for social expenditure increase and meanwhile revenues and transfers from national level do not 30. c. Degree of political fragmentation From a governance perspective, the level of political fragmentation in a country was one of the key determining factors in how the government responded to the economic crisis.

Countries with a high degree of fragmentation faced much greater challenges in both devising and implementing anti-crisis measures. On the other hand, countries with high consensus were able to respond quickly and forcefully.

The region revealed a full spectrum of degrees of political fragmentation as the crisis hit in 2008 and early 2009. High levels of consensus were in some cases brought about by a fully unified government, such as in the more single-party systems of Central Asia. In addition, as previously noted, the Russian Government moved to stabilize the banking sector as early as September 2008. In the Former Yugoslav Republic of Macedonia, where the ruling party held a majority in Parliament, a series of anti-crisis measures passed easily (see Box 1). Consensus was also seen in countries that had high public cohesion on economic policy, both among politicians and the general population, such as in the Baltic States. In Lithuania, after winning second-round parliamentary elections on 26 October 2008 on a platform of maintaining fiscal 29

“China's new foreign policy takes shape—in Moldova”, Reuters, http://www.reuters.com/article/idUSTRE61140D20100202.

30 “The Impact of the Economic Downturn on Local Government in Europe”, Council of Europe, 2010, https://wcd.coe.int/wcd/com.instranet.InstraServlet?command=com.instranet.CmdBlobGet&InstranetImage=165 6970&SecMode=1&DocId=1637216&Usage=2.

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Economic Crisis Responses from a Governance Perspective in Eastern Europe and Central Asia

discipline, the ruling coalition had already passed an anti-crisis plan by 17 November, before the Prime Minister was even confirmed. The package included tax increases and public sector wage cuts.

These cases contrast with the deadlock witnessed in other countries of the region. Stalemates concerning responses were rarely the direct result of the economic crisis itself, but rather they were generally due to domestic political matters. However, they nevertheless had an impact, as the wide-ranging policies necessary to respond to economic challenges on this scale could not be enacted without broad political support. For example in Moldova parliamentary elections were scheduled for April 2009, leading politicians to be focused more on winning popular support than combating longer-term economic ills when they hit in late 2008.

Furthermore, the election results prompted protests from the opposition, leading to Parliament’s failure to elect a President and to fresh elections in July. The new Government did not succeed in electing a President either, and consequently elections were pending in Moldova for nearly the entire crisis period. In January 2009 Albania and Montenegro also called elections. As in Moldova, decisive action became impossible while politicians were primarily concerned with their election prospects.

In Ukraine, deadlock was only partially related to elections. Rivalry among the Government, the President, and the Parliament hampered most any political action, including in response to the economic crisis (see Box 3). Although to a lesser extent, political disagreements stalled responses in Serbia, Romania, and the Czech Republic as well. For example in the Czech Republic, although a stimulus package was announced in February 2009, the Prime Minister lost a confidence vote the following month, reflecting a lack of consensus both among leaders and the broader population; an interim government led until elections were held more than a year later. The stimulus package was implemented, but consisted mostly of temporary measures that ceased at the end of 2009 31.

Romania went through a serious political crisis in late 2009, at the height of the economic crisis. Two months before the presidential elections in December 2009, Parliament dismissed the Government. The replacement designated by the President was opposed by a hostile majority and failed to secure a confidence vote. During that period, a weak interim government could not enact any meaningful anti-crisis response. The presidential elections were extremely close, with the incumbent retaining power only due to an overwhelming vote from Romanians abroad, while losing the vote in the country itself. Political realignments in Parliament after the presidential elections allowed the establishment of a Government and in May 2010 sweeping austerity measures were announced that included a 25-percent cut in public sector salaries and a VAT increase from 19 percent to 24 percent.

A correlation of political fragmentation is politicization of the civil service. Politicized public servants are seen throughout the region, leading to weaker policy responses. Countries such as the Baltic States saw a further increase in politicization during the crisis, as ruling parties pressured their bureaucracies in face of public discontent and the need for urgent action 32.

31

“The Czech Republic: Improving external conditions support the recovery”, European Commission, spring 2010, http://ec.europa.eu/economy_finance/eu/forecasts/2010_spring_forecast_en.htm.

32 “Regional Policy Roundtable in Eastern Europe and Central Asia on Economic Crisis Responses from a Governance Perspective: Summary of deliberations”, Chisinau, 6-7 July 2010, http://www.rcpar.org/contents_en.asp?id=307.

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Economic Crisis Responses from a Governance Perspective in Eastern Europe and Central Asia

Box 3: The Case of Ukraine Of all countries in Eastern Europe and Central Asia, Ukraine was perhaps hit hardest by the latest global economic and financial crisis. Several years of rather strong economic growth and relative financial stability were quickly followed by a resounding decline in production and the crash of the local currency. By mid-2009, Ukraine had lost about one-fifth of its GDP and almost one-third of overall industrial output.i The domestic political crisis revealed the persistence of serious weaknesses and constraints in the way the system of high-level state governance was functioning at the time. The 2008-2009 period was characterised by, in effect, three competing sources of power: the President, the central Government and the Parliament. Each of the three was keen to promote its own relevance and independence, often by blocking policy action pursued by others. Because of the threat of possible snap elections during much of 2008, Ukraine faced near-constant political uncertainty during the initial phase of the economic crisis. As time went on, the political struggle was increasingly focused on the presidential elections scheduled for 2010.

The focus on the presidential election gave rise to further political uncertainty, as it became clear that the would-be President would effectively control both the executive and legislative branches of power.

The above two factors seriously constrained authorities’ capacity for efficient anti-crisis action. Many of the adopted laws and measures designed to counter the crisis were poorly considered, indecisive, and, at best, populist. Although the global economic downturn affected Ukraine quickly, it took some time for the Tymoshenko Government to accept it publicly. Ultimately, the Tymoshenko cabinet failed to secure adoption by Parliament of what was presented as an anti-crisis program.

On 5 November 2008, the IMF formally approved a 24-month stand-by credit line in the amount of USD 16.4 billion, designed to help Ukraine cover its current account deficit and restore financial and macroeconomic stability in the country. The Tymoshenko Government employed a rather flexible approach to fulfilling the loan commitments, in which not all measures were taken. This stalled the second tranche of funds, which arrived after an almost three-month delay. Lending was resumed not so much due to Ukraine’s improved compliance (which hardly occurred), but rather due to a more compromising position on the part of the IMF. However, for the fourth tranche the Tymoshenko Government failed to meet the IMF’s conditionalities irrevocably. Based on the IMF’s commentsii – which contained references to the need for consensus among Ukrainian policymakers as well as the overall domestic political uncertainty – it was clear that the lending programme had been suspended until at least after the presidential elections.

The victory of the opposition’s candidate, Victor Yanukovych, over Yulia Tymoshenko in the second round of the presidential race in February 2010 led to the appointment of a new Prime Minister in March 2010. In early June 2010 President Yanukovych presented his administration’s “Program of economic reforms for 2010-2014.” The overall goal set by the program is for Ukraine to become one of the world’s 20 most developed nations by 2020.

During the first stage, lasting until the end of 2010, the main priority was to improve economic legislation by producing a tax code as well as a new version of the budget code and the law on state procurement (the latter two tasks have now been completed).

Negotiations with the IMF resumed after a new budget was adopted in late April 2010.

Ultimately the IMF resolved to open a new lending programme for Ukraine for another 24 months.

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Economic Crisis Responses from a Governance Perspective in Eastern Europe and Central Asia

In addition, the new Yanukovych political team quickly and efficiently consolidated its grip on power inside the country. Constitutional changes announced on 1 October 2010 strengthened the position of President Yanukovych. Presidential powers are now re-instated as they had existed in 1996-2004.

The Tymoshenko cabinet can be praised for quickly securing multilateral financial assistance.

However, this early-bird advantage was squandered in 2009 due to the continued political uncertainty, the ever-growing infighting within the ruling camp, and the Government’s failure to meet the conditions attached to the IMF loan. The successor Government has obviously benefited from the return of what could be described as domestic political stability – as well as from the consolidation of political power. Yet, it remains to be seen whether the planned reforms can be implemented in practice. i

State Statistics Committee of Ukraine: Statistical information, http://www.ukrstat.gov.ua.

See “IMF Urges Ukraine to Stick With Recovery Policies,” http://www.imf.org/external/pubs/ft/survey/so/2009/ int110409a.htm. ii

d. Governance structures used for response Given the variation in political and economic systems as well as in the impact of the crisis, it is unsurprising that the region saw many different governance structures used to respond. In most countries, established governance frameworks were mobilized. Thus, the Government, Parliament, or Head of State initiated a policy within constitutional bounds and the other branches of government contributed and approved it through established processes. However, in some countries the authorities initiated new measures to handle the situation, making changes to the governance framework that were specially designed for this instance.

For example in Kazakhstan, where there are substantial revenues from natural resources, the Government chose to merge the state assets holding company with the sustainable development fund. The aim of this was to increase competitiveness and sustainability of the national economy. The State also took greater control of management of the natural resources sector. New rules were set for use of assets of the fund that collects revenues from natural resources, especially through an April 2010 presidential decree. In fact, in Kazakhstan there was a general drift towards stronger authoritarian rule and less openness and transparency; perhaps a natural development in a time of crisis in a country whose balance of power was already skewed in favor of the executive branch 33.

Some other countries altered the governance framework but to a lesser extent. For example Latvia instituted a public sector reform agenda called the “Optimization Plan” that aimed to minimize the State 34. This change demonstrates a perception that the established system was inadequate for handling the strain of the crisis (as well as a preference for neoliberal ideology).

What is unclear is whether the reform has strengthened the system for future crises, or was merely political expediency that will require further change in the future.

Finally, there were three notable cases of intervention by the Constitutional Court when the government strained the limits of the governance framework. In Latvia, the parliament voted 33

Lyaziza Sabyrova, “The Kazakhstan experience”, presentation at Regional Policy Roundtable in Eastern Europe and Central Asia on Economic Crisis Responses from a Governance Perspective, Chisinau, 6 July 2010, http://www.rcpar.org/contents_en.asp?id=307.

34 B. Guy Peters, Jon Pierre, Tiina Randma-Liiv, “Economic Crisis, Public Administration and Governance”, http://europeandcis.undp.org/uploads/public1/files/Peters,%20Pierre,%20Randma%20%20Crisis,%20PA%20&%20Governance.doc.

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Economic Crisis Responses from a Governance Perspective in Eastern Europe and Central Asia

in December 2009 to further shrink the 2010 budget through spending cuts and tax increases, including a 10 percent decrease in pensions and a 70 percent decrease for working pensioners.

Later that month the Constitutional Court ruled the pension cuts unconstitutional on the grounds that they violated residents’ right to social security. As a result, the cuts had to be reversed. In April 2010 the Court also struck down cuts to prosecutors’ pensions. In Romania, 15-percent pension cuts proposed in May 2010 were declared unconstitutional the following month. Pensions partly funded by worker contributions are protected by the constitution; the Government had bypassed this provision on the grounds of a separate constitutional article allowing the temporary limitation of certain rights in order to defend national security 35. And the Czech Republic saw a series of Constitutional Court decisions regarding the ability to call early elections: first the Court delayed elections called for October, which led the Parliament to approve a constitutional amendment in September to hasten the otherwise cumbersome process for holding the poll; the Court then struck down this amendment. The entire process reflected the extreme measures politicians were willing to take under economic conditions that had left only an interim government in power 36.

All three of these cases are demonstrations of the rule of law prevailing over pressure for strong action during the economic crisis, something that is valuable regardless of economics.

They show that some countries had a limit to the acceptability of fiscal austerity, even in the economically liberal Baltic States. On the other hand, they may also reveal weaknesses in the democracies of these EU member states. All democracies have laws struck down by their court systems, and this is a healthy sign. But in the Czech Republic for example, the President called the Court’s decision “wrong.” As political analyst Jiri Pehe said, “It is really not healthy for our democracy if ... the president of the country [is] not only criticizing the Constitutional Court but basically rejecting the ruling.... I can't imagine anything of the sort in any developed democracy” 37. Court appointments can also be politicized, leading judges to rule in favor of those who appointed them. In Romania, the ruling party had stirred controversy through its resolute and ultimately successful push for its candidates to fill three empty Constitutional Court seats in 2010. The June 2010 court decision notwithstanding, the new judicial composition has generally brought favorable judgments for Romania’s ruling party 38.

Hungary presents a further troubling case. Since winning a two-thirds majority in April 2010 elections, the ruling Fidesz party has made a series of moves that consolidate its power over previously independent institutions such as the fiscal council established in 2008 to monitor compliance with balanced-budget targets. Moreover, in November 2010 Parliament voted to limit the jurisdiction of the Constitutional Court over fiscal matters following a ruling against a 98-percent tax passed on large severance payments in the public sector. Rather than risk further cases against its budget measures, Fidesz preferred to clear potential checks on its power 39.

35

“Romania pension cut ruled illegal” BBC News, 25 June 2010, http://www.bbc.co.uk/news/10421118.

Jiri Pehe, presentation at Regional Policy Roundtable in Eastern Europe and Central Asia on Economic Crisis Responses from a Governance Perspective, Chisinau, 6 July 2010, http://www.rcpar.org/contents_en.asp?id=307.

37 “Constitutional debate erupts as early elections are canceled”, Global Post, 17 October 2009, http://www.globalpost.com/dispatch/czech-republic/090929/constitutional-debate-erupts-early-elections-arecanceled 38 “New Constitutional Court head – the President’s man” Nine O’clock, http://www.nineoclock.ro/index.php?issue=4703&page=detalii&categorie=politics&id=20100617-512245.

39 “Hungary curbs constitutional court’s powers” Financial Times, 16 November 2010, http://cachef.ft.com/cms/s/0/9ac8db2a-f1af-11df-bb5a-00144feab49a.html#axzz1ArsIj6NJ. 36

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Economic Crisis Responses from a Governance Perspective in Eastern Europe and Central Asia

e. Regulatory framework It is generally accepted that the original causes of the global financial crisis were tied to weak regulation. While the specific problems in Eastern Europe and Central Asia were often a spillover from the effects of poor regulation elsewhere, the region does have its own regulatory challenges. The public sector weaknesses described above were also manifest in limited State capacity for regulation and oversight. In the Baltic States, for example, Governments relied too heavily on the market as a regulating force, without developing State mechanisms as a backup 40. In Kazakhstan, the crisis revealed ongoing weaknesses in financial regulation and supervision 41.

Regulatory weaknesses left the region vulnerable in several ways. Profligate lending practices were not held in check, leaving local borrowers (sometimes literally) out in the cold when the bubble burst. In addition, to the extent that weak regulation made investment in the region a higher risk, it exacerbated already tightening foreign credit when the region was no longer seen as a sound investment. The economic crisis made clear that while the region is relatively exposed to the fluctuations of the global economy, the Governments were not prepared to manage this exposure.

On the other hand, some countries were relatively prepared for the regulatory challenges the crisis posed. The Czech Republic, for example, had consolidated its financial supervision in 2005 to bring all segments of the financial system under one oversight body. This was a strong contributor to that country’s resilience in the crisis 42 . Thus regulatory reform can prepare Governments for responding to a stress of this kind.

The regulatory framework can also become a tool of economic ideology. Georgia’s “Act on Economic Freedom,” announced in October 2009, banned the creation of new regulatory agencies as part of its plan to promote economic liberalism. In a region where there is no consensus on which ideology yields the best economic results, Georgia, similar to the Baltic States, has taken a strong stance in favor of minimal regulation. Former Yugoslav Republic of Macedonia has done so as well, to a lesser extent. There the Government implemented a “Regulatory Guillotine” to reduce procedures and requirements for doing business. Such measures were expanded as part of anti-crisis policy (see Box 1). f. Level of engagement with the public Even in the absence of a crisis that may derail normal processes, there is considerable variation among the countries in the region in terms of the inclusiveness of their political processes. Table 2 shows comparative scores across the region on the NGO Sustainability Index, which evaluates the ability of NGOs to function freely and participate in policymaking.

The scale ranges from 1 (very advanced NGO sector) to 7 (low or poor level of development).

However, these indicators do not necessarily correlate with official engagement with nongovernmental actors on policies related to the economic crisis. For example, the Government of Latvia, which received a score of 2.7 meaning it has an advanced NGO sector, has been criticized for negotiating the IMF loan in a very opaque and rapid process. The agreement, under which the Government committed to structural reforms and budget cuts that had serious consequences for the population, was drawn up without consultation with civil society and 40

Tiina Randma-Liiv, “The impact of the crisis on the governance in the Baltic States” presentation at Regional Policy Roundtable in Eastern Europe and Central Asia on Economic Crisis Responses from a Governance Perspective, Chisinau, 6 July 2010, http://www.rcpar.org/contents_en.asp?id=307.

41 Index of Economic Freedom, Heritage Foundation, 2011, http://www.heritage.org/index/country/kazakhstan.

42 Pradeep Mitra, Marcelo Selowski, Juan Zalduendo, ‘Turmoil at Twenty’, World Bank, 2010.

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Economic Crisis Responses from a Governance Perspective in Eastern Europe and Central Asia

remained confidential for several months thereafter. Analysts Guy Peters, Jon Pierre, and Tiina Randma-Liiv have concluded that the economic crisis was used by political elites to legitimize rapid and non-consultative decision-making 43.

Kazakhstan is much weaker on NGO sustainability, with a score of 4.0. However, there is some space for civil society to function and it has contributed to the policymaking process.

Yet, Kazakhstan also saw a tightening during the economic crisis, with fewer civic participation measures developed and implemented 44.

Table 2: NGO Sustainability Scores Country Estonia Poland Czech Republic Latvia Slovak Republic Hungary Lithuania Croatia Bulgaria Romania Ukraine FYR of Macedonia Bosnia & Herzegovina Slovenia Albania

Score

Country

2.0 2.2 2.7 2.7 2.7 2.8 2.8 3.1 3.2 3.5 3.5 3.6 3.7 3.8 3.9

Kosovo Armenia Kazakhstan Kyrgyzstan Montenegro Georgia Moldova Serbia Russian Federation Azerbaijan Tajikistan Turkmenistan Uzbekistan Belarus Turkey

Score 3.9 4.0 4.0 4.1 4.1 4.2 4.3 4.3 4.4 4.7 4.8 5.7 5.7 5.9 N/A

Note: Scores range from 1 to 7, where 1 represents a very advanced NGO sector and to 7 represents a low or poor level of development.

Source: “2009 NGO Sustainability Index for Central and Eastern Europe and Eurasia,” USAID, June 2010.

Another example worth mentioning in the context of engagement with the public is Kyrgyzstan. Kyrgyzstan’s environment for civil society is also restrictive; it received 4.1 on the NGO Sustainability Index. Consultation with NGOs during the economic crisis did not break with this trend. However, it is notable that the Government did create a formal process for engagement with the business community in the development of its anti-crisis plan in 2009. While business interests do not represent the general population and it would therefore have been preferable if grassroots CSOs were engaged as well, this does represent a form of engagement – although one that likely reflects the priorities of the Government towards business rather than popular interests.

In sum, there has been limited inclusiveness in the process of development of crisis responses, due not only to a lack of engagement by Governments but also in some cases weak civil 43

B. Guy Peters, Jon Pierre, Tiina Randma-Liiv, “Economic Crisis, Public Administration and Governance” http://europeandcis.undp.org/uploads/public1/files/Peters,%20Pierre,%20Randma%20%20Crisis,%20PA%20&%20Governance.doc.

44 Lyaziza Sabyrova, “The Kazakhstan experience” presentation at Regional Policy Roundtable in Eastern Europe and Central Asia on Economic Crisis Responses from a Governance Perspective, Chisinau, 6 July 2010, http://www.rcpar.org/contents_en.asp?id=307.

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Economic Crisis Responses from a Governance Perspective in Eastern Europe and Central Asia

society. While this may not be surprising, it is nevertheless lamentable. Exclusion of civil society not only decreases policy effectiveness but also causes mutual distrust between CSOs and governments 45.

Lack of engagement was not universal, however. An exemplary case is Moldova, whose Government following July 2009 elections brought more than 30 NGOs into the consultation process when developing the anti-crisis legislation. This allowed for more citizen ownership of the results and for the measures to better reflect the needs and concerns of the public 46.

There is also little correlation between the presence of relevant think tanks and the level of engagement in the policy processes to develop crisis responses, indicating that some Governments have underutilized the capacity of their NGO sector in this regard. Think tanks not only balance government authority, but they also provide policy information independent of official data. Not surprisingly, think tanks are stronger and more numerous in the more democratic societies of Central and Eastern Europe than they are in Central Asia 47. Within this, however, there is considerable variation. The 2010 Global “Go-To Think Tanks” report from the Think Tanks and Civil Society Program at the University of Pennsylvania found 54 think tanks in Romania, as compared to just 18 in Slovakia. In contrast to its strong scores on the NGO Sustainability Index, Latvia, with just 11 think tanks, has about the same number as some of its former Soviet neighbors (12 each in Azerbaijan, Georgia, and Belarus).

Meanwhile, Russia dwarfs any other State in the region with 112 think tanks. Moreover, Russian think tanks reported receiving more national funding, in contrast to the international sources used in most other countries 48 . However, Russia’s low score on the NGO Sustainability Index may indicate severe pressures faced by these groups. When it comes to the quality of the think tanks, which indicates their potential contribution to the policy process, the situation is even more uneven across the region: of the 25 top think tanks in Central and Eastern Europe, no less than six are from Poland, four from Russia, three each from Hungary and Ukraine, two each from the Czech Republic and Slovakia, and one each from Azerbaijan, Bulgaria, Lithuania, Montenegro and Serbia.

An additional measure of some relevance here is how active citizens are civically. Gallup put together a “Civic Engagement Index” based on how likely individuals are to volunteer their time and give assistance to others (the maximum score was 60 and the minimum score was 11). Out of 130 countries included, 6 of the 11 with the lowest levels of civic engagement are in Eastern Europe (Albania, Bosnia and Herzegovina, Bulgaria, Croatia, Lithuania, and Serbia). Some of the better performers in the region were, surprisingly, the Central Asian States of Tajikistan (score of 38) and Uzbekistan (score of 37), as well as Slovenia (score of 41); however, their scores were still relatively weak where 60 represented the highest level of civic engagement. Overall, only 7 out of 30 countries in the region scored in the top half of all

45

“Regional Policy Roundtable in Eastern Europe and Central Asia on Economic Crisis Responses from a Governance Perspective: Summary of deliberations” Chisinau, 6-7 July 2010, http://www.rcpar.org/contents_en.asp?id=307.

46 Ruslan Codreanu, “Moldova country experience” presentation at Regional Policy Roundtable in Eastern Europe and Central Asia on Economic Crisis Responses from a Governance Perspective, Chisinau, 6 July 2010, http://www.rcpar.org/contents_en.asp?id=307.

47 See Think Tank Directory, Freedom House, 2005, http://www.freedomhouse.hu/index.php?option=com_content&task=view&id=46; James McGann, “The Global ‘Go-To Think Tanks” University of Pennsylvania, Philadelphia, 2011, http://www.gotothinktank.com/wpcontent/uploads/2010GlobalGoToReport_ThinkTankIndex_UNEDITION_15_.pdf 48 Think Tank Directory, Freedom House, 2005, http://www.freedomhouse.hu/index.php?option=com_content&task=view&id=46.

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Economic Crisis Responses from a Governance Perspective in Eastern Europe and Central Asia

countries, indicating very low levels of civic engagement as compared to a global scale 49.

Weak civic engagement across the region, manifested in low levels of civic activism and of organized social protest, is a factor that allows for some of the tough austerity measures that were more strongly opposed by the populations in other regions, especially Western Europe. g. Level of public trust Economic crises are often a time during which the population becomes disillusioned with their government, perhaps the inevitable result of people facing more challenging circumstances and looking for someone to blame. From 2008-2010, several countries in the region saw changes in government as a result of popular dissatisfaction. This happened in countries as diverse as Kyrgyzstan, Moldova, Albania, Bulgaria, and Hungary. While most countries in the region select new governments through elections, extra-electoral means are also used in some cases. For example in Georgia there was an alleged coup attempt in May 2009, although the Government remained in power 50.

A stronger example is Kyrgyzstan, which faced violent protests in spring 2010 that ultimately pushed the President from power. Public unrest there was spurred by a government plan for electricity and natural gas that would have increased prices by as much as 15 times over two years. Subsidies were promised in some regions to help them cope, but these allegedly were not received at the source of the protests; it was unclear whether this was due to lack of capacity or corruption 51. Protests soon spread around the country, eventually reaching the capital and turning violent. As a result, the government resigned and the President fled the country. Thus, the regime was taken down through a clear demonstration of lack of public confidence.

Even without a change in government, many countries in the region saw a decline in public trust for their authorities. When asked in the Euro barometer survey whether or not they tend to trust their national Government, most populations saw a decline in trust and an increase in lack of trust from before the crisis (April 2008) to the period of its full impact (November 2009) (see Figure 3). Among those countries included in the Euro barometer from the region, Croatia, Estonia, Latvia, Lithuania, Former Yugoslav Republic of Macedonia, Poland, Slovenia, and Slovakia confirm this trend; only Bulgaria, Hungary, and Turkey do not 52. Trust in Bulgaria may have been boosted by the election of a new Government in July 2009, and in Hungary by the appointment of a new prime minister in April 2009 after the collapse of the Government. Turkey is often an outlier, where the Government has remained broadly popular and the economic crisis did not have as great an impact as elsewhere in the region.

The International Labour Organization has published similar findings based on Gallup poll data. According to that report, confidence in government in the region declined from 43 percent in 2006 to 38 percent in 2009 53.

Another indicator of trust in government is how citizens perceive the level of corruption in their country. While perceptions of corruption are not necessarily an accurate evaluation of levels of corrupt activity itself, they do indicate how the population views public institutions and thus public trust. Transparency International’s 2010 Global Corruption Barometer asked respondents how the level of corruption has changed in the past three years, which happens to 49

“Civic Engagement Highest in Developed Countries” Gallup, 18 January 2011 http://www.gallup.com/poll/145589/civic-engagement-highest-developed-countries.aspx.

50 “Georgian troop rebellion ‘over” BBC, 5 May 2009, http://news.bbc.co.uk/2/hi/8033366.stm.

51 Personal correspondence with UNDP, 22 May 2010.

52 Eurobarometer, http://ec.europa.eu/public_opinion/archives/eb/eb73/eb73_en.htm.

53 “World of Work Report” International Labour Organization, 2010

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Economic Crisis Responses from a Governance Perspective in Eastern Europe and Central Asia

fall over the crisis period. In nearly all of the 21 countries covered in the region, more people thought corruption had increased than decreased (the exception was Georgia). Some of the countries with the greatest portion of the population that thought corruption had increased were Hungary (76 percent), Romania (87 percent), Slovenia (73 percent), and Kosovo (73 percent) 54.

Figure 3: Percentage of Public Reporting That They Tend Not to Trust Their Government, April 2008 and November 2009 90% 80% April ’08

70%

November ’09

60% 50% 40% 30% BGR

HRV EST

HUN

LVA

LTU

MKD

POL ROM SVK SVN

TUR

Source: Euro barometer, April 2008 and November 2009, http://ec.europa.eu/public_opinion/index_en.htm.

The Economist Intelligence Unit’s 2010 Democracy Index found low levels of public confidence and trust in political institutions throughout the region. It highlighted Slovenia, where a decline from its 2008 status at the bottom of the list of full democracies resulted in a change of status to flawed democracy. According to the report, “Scarcely more than one-third of Slovenes are satisfied with the way democracy functions in their country – a significantly lower proportion than in any west European state.” While Slovenia happened to cross a status threshold from 2008 to 2010, all other countries in the region with the exception of the Czech Republic ranked even lower 55.

54

Global Corruption Barometer 2010, Transparency International, http://www.transparency.org/policy_research/surveys_indices/gcb/2010/results.

55 “Democracy Index 2010”, Economist Intelligence Unit, 2010, http://www.eiu.com/public/democracy_index.aspx.

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Economic Crisis Responses from a Governance Perspective in Eastern Europe and Central Asia

Figure 4: In the past 3 years, how has the level of corruption in this country changed?

100%

80%

60%

..increased ..stayed the same ..decreased

40%

20%

ja n l a er ru ze s go vi n Bu a lg ar ia C ze Cr ch oa t FY Re ia pu R b M ac lic ed on G ia eo rg ia H un ga r Ko y so vo La Li t via th ua n M ia ol do v Po a la n R om d an ia R us si a Se rb ia Sl ov en ia Tu rk ey U kr ai ne

Bo

sn ia

&

H

Be

ba i

m Ar

Az

er

en ia

0%

Source: Global Corruption Barometer 2010, Transparency International, http://www.transparency.org/policy_research/surveys_indices/gcb/2010/results

III.

Key governance implications

Taken together, the trends described in the previous section have had a range of implications for governance in the region. Despite the differences among political contexts as well as crisis responses, a number of patterns emerge. a. The crisis led some governments to turn away from democratic processes The main governance implication of this economic crisis has been a decline in democratic processes in several countries in the region. Some governments justified this shift in the name of efficiency, such as in the non-transparent IMF negotiations in Latvia. Others used effectiveness as an excuse for more centralized and less transparent decision-making. For example in Kazakhstan, the State increased its role in the direct management of the natural resource sector, to the detriment of its regulation and monitoring functions. Ukraine after the 2010 elections and Kyrgyzstan prior to the 2010 regime change also saw a consolidation of power in the presidency. Even some of the consolidated democracies in the region saw a centralization of decision-making, as described above in all three Baltic States. Freedom House’s Nations in Transit found governance declines in 2009 in six of the ten new EU member states it covers, which it said was “due in part to fallout from the recent economic downturn” 56 . In the Economist Intelligence Unit’s 2010 Democracy Index, the most pronounced decline in democracy worldwide since 2008 was exhibited by Eastern Europe, a fact the report attributes to some degree to the adverse effects of the economic crisis. Ukraine had the greatest decline, from 6.94 to 6.30 where 10 represents full democracy 57.

56

“Democracy and Dissent,” Nations in Transit, Freedom House, 2010, http://www.freedomhouse.org/template.cfm?page=17.

57 “Democracy Index 2010,” Economist Intelligence Unit, 2010, http://www.eiu.com/public/democracy_index.aspx.

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The Baltic States saw a particular impact of the extreme cutbacks they imposed, which went beyond those in any other country of the region. The small, dynamic public sector that has been promoted in these countries has led to a “hollowing out” of the State: that is, the government has laid off all but the most crucial personnel and shed all but the most essential functions, leaving only what is minimally required for operations. The result has been a loss of institutional memory and weak in-house expertise to design and carry out reforms. This leaves these countries less prepared to handle any future crisis, whether political or economic. 58 As such it is a particular loss in some of the region’s most democratic societies.

Hungary has also been a disturbing example of democratic decline in the region since the consolidation of power of the ruling Fidesz party. Hungary’s score on the Democracy Index declined by 0.23 from 2008 to 2010 59.

Any crisis can serve as cover for a retreat from democracy, and vulnerable democracies are more likely to be weakened by the strain of financial shock; it is unsurprising that the present crisis has been no exception. However, the general turn from democracy in a region where many states are still demonstrating authoritarian tendencies is ominous. Moreover, it appears to have had an impact on public trust in government institutions. As seen above, perceived levels of corruption and tendencies not to trust national governments have increased during the crisis period. For example in the Baltic States, Estonia saw 10 percent more people who tended not to trust the national government in November 2009 than in April 2008 60 ; in Lithuania, 63 percent of respondents thought that corruption levels had increased in the past three years. 61 Such increases have a distinct link to a country’s democracy. As stated by the Economist Intelligence Unit, “A political malaise in east-central Europe has led to disappointment and questioning of the strength of the region’s democratic transition” 62. Thus, the governance failures manifested by the crisis have had a considerable effect on democracy and public trust in the region. b. Efficiency requires consensus for action A basic pattern, but one that should all the same be noted in planning for future crises, is that an efficient response requires political consensus for action. This generally involves both the legislature and the executive, and often the support of the general population as well.

Authoritarian systems generate such consensus easily (often through coercion or fear), but it can occur in democracies as well. For example Lithuania was able to pass anti-crisis measures less than a month after October 2008 elections gave the Government a popular mandate. The new coalition agreed that tax increases and wage cuts were necessary to keep the deficit below the euro zone limit of 3 percent and maintain a competitive economy. While there has been debate about the merits of the plan, the election demonstrated popular support, and the smooth passage of the measures was exemplary.

Slovenia also had a new Government form in November 2008, as the crisis was becoming increasingly difficult to ignore. Although the economy had not been a major campaign issue 58

B. Guy Peters, Jon Pierre, Tiina Randma-Liiv, “Economic Crisis, Public Administration and Governance” http://europeandcis.undp.org/uploads/public1/files/Peters,%20Pierre,%20Randma%20%20Crisis,%20PA%20&%20Governance.doc.

59 “Democracy Index 2010” Economist Intelligence Unit, 2010, http://www.eiu.com/public/democracy_index.aspx.

60 Eurobarometer, http://ec.europa.eu/public_opinion/archives/eb/eb73/eb73_en.htm.

61 Global Corruption Barometer 2010, Transparency International, http://www.transparency.org/policy_research/surveys_indices/gcb/2010/results.

62 “Democracy Index 2010” Economist Intelligence Unit, 2010, http://www.eiu.com/public/democracy_index.aspx.

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Economic Crisis Responses from a Governance Perspective in Eastern Europe and Central Asia

two months earlier, the Government was able to pass a package of anti-crisis measures by December. Slovenia chose stimulus spending as the preferred solution, and the package included increasing bank liquidity and job protection.

While this crisis has not been the first to demonstrate the utility of consensus in decisionmaking, it is relevant to note here because weak governance systems can create obstacles to consensus (see next subsection). The fact that free and fair elections brought accountable governments to power in Lithuania and Slovenia laid the groundwork for agreement, and well-functioning governance frameworks then facilitated the follow-through to pass and implement anti-crisis measures. c. Unstable political environments encourage populism or inaction The consensus described above contrasts with certain unstable political environments elsewhere in the region. Instability could be the result of political infighting, turnover in ruling parties, popular unrest, or other factors that leave leaders in a precarious situation when determining policy. In these cases, in place of decisive action, populism or inaction were the result.

Ukraine is the clearest example of political instability during the economic crisis (see Box 3).

Where Ukraine had had consensus after the Orange Revolution of 2004, in 2008 it was left with feuding political parties and an environment interpreted by all sides as a zero-sum game.

The Government first thought this could be solved through early elections, but when its opponents blocked that option it had to settle for largely ineffectual tweaks. For more than a year Ukraine’s governance framework failed to provide the means for parties to trust each other and cooperate, or for one side in the three-party triangle of the Parliament, the President, and the Prime Minister to take control.

Another form of instability was that caused by elections. As described above, in Moldova and Montenegro politicians failed to pass full anti-crisis plans while polls were on the horizon.

Moldova did end up taking action, but only after a new Government was elected in July 2009, more than six months after the impact of the crisis had become clear.

In Serbia, the ruling coalition was made up of six different parties. This inhibited consensus and watered down decisions. Moreover, coalition in-fighting lent support to the opposition, further dividing the political landscape. As a result, the Government was unable to address structural deficiencies such as high inflation, a low savings rate, and an economy based largely on non-tradable goods 63.

In Romania, the Prime Minister lost a confidence vote in October 2009; while this was not directly due to the economic crisis, it became a pressing political issue. He was re-elected in December, but faced continued challenges from the opposition and public protests that continued through 2010. As a result it was not until December 2010 that pension reform, which was a condition for Romania’s IMF loan and was first tabled in spring 2009, was finally adopted.

In other instances, the government’s response to an unstable political environment was to please the population rather than grounding policies in economic reasoning. For example, with elections pending in Albania in June 2009, the Government announced increases in

63

Miroljub Labus, “The Credit Crunch and Structural Adjustments: The Case of Serbia” presentation at Regional Policy Roundtable in Eastern Europe and Central Asia on Economic Crisis Responses from a Governance Perspective, Chisinau, 6 July 2010, http://www.rcpar.org/contents_en.asp?id=307.

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Economic Crisis Responses from a Governance Perspective in Eastern Europe and Central Asia

salaries and pensions that were criticized by the IMF as tending towards populism 64. In the Federation of Bosnia and Herzegovina – one of the two entities comprising Bosnia and Herzegovina – fiscal reforms on which IMF and World Bank loans were contingent were stalled by public protests. A parliamentary vote in October 2009 against cutting veteran’s benefits, which was contrary to the agreement with the IMF, was in direct response to violent protests outside parliament 65 . The budget was finally agreed in February 2010, including reforms and cuts to social spending. The budget agreement triggered release of loan payments that had been on hold from international lenders.

As these examples show, the ad hoc measures that were passed during periods of political fragmentation were insufficient to address the economic challenges governments faced. In some of these cases, such as Ukraine, Moldova, and the Federation of Bosnia and Herzegovina, unstable situations were exacerbated by weak governance systems. If these systems are not strengthened to improve consensus-building, these countries will be susceptible to problems in future crises. While consolidation of power as has been seen in Ukraine since the 2010 presidential election is certainly one method for this, preferable would be mechanisms to build trust among political factions and between them and their supporters such that each minor political gain is not seen as coming at the expense of the other side. d. Governments generally chose between short- and long-term anti-crisis policies The economic crisis exposed structural weaknesses in many countries that had been hidden or irrelevant during stronger economic times. When the impact of the global downturn became clear, however, governments had to decide whether to address recession symptoms in the short-term, or tackle the deeper structural problems with longer-term solutions. In terms of policy, this generally meant a choice between on the one hand economic stimulus through spending, and on the other structural measures, such as reform of social benefits or administrative restructuring, which would reduce costs.

Most governments in the region chose short-term responses: they increased spending to address the economic challenges that arose and help bring the economy out of recession. In most cases, this policy was more popular than cutbacks and therefore had the added benefit of increasing popular support for the government. Examples of straight stimulus packages without attempts at structural reform include Albania, Kazakhstan, and Kyrgyzstan before the regime change.

Another feature of programs that focused only on the short-term was that they were often no more than a series of ad hoc measures rather than a concerted and comprehensive anti-crisis plan. This was the case in Ukraine before presidential elections (see Box 3), and in Serbia. By spring 2010 the Serbian Government had passed a series of measures for fiscal adjustment but failed to institute durable spending reforms or address structural deficiencies 66.

In contrast, some governments engaged in serious efforts to improve underlying deficiencies exposed by the crisis, with an eye to the long term. For example the Government of Latvia agreed with the IMF on a series of structural benchmarks such as pension reform and reforms to reorient growth towards the tradable sector. In Croatia, the 2010 Economic Recovery Program included public sector staff rationalization and merit-based salary, restructuring of 64

“IMF Warns Albania on Pre-Election Spending” Albanianeconomy.com, 2 March 2009, http://www.albanianeconomy.com/news/2009/03/04/imf-warns-albania-on-pre-election-spending/.

65 “Bosnia Rebuffs IMF, Refuses To Cut War Benefits” Radio Free Europe/Radio Liberty, 2 October 2009, http://www.rferl.org/content/Bosnia_Rebuffs_IMF_Refuses_To_Cut_War_Benefits/1842195.html.

66 “IMF speaks on Serbia” Sophie Echo, 1 April 2010, http://sofiaecho.com/2010/04/01/881947_imf-speaks-onserbia.

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Economic Crisis Responses from a Governance Perspective in Eastern Europe and Central Asia

state-owned enterprises, and strengthening of the bankruptcy system. Kazakhstan was an example of a country that addressed weaknesses in regulatory mechanisms of the financial sector, increasing monitoring and supervision and introducing new instruments for bank regulation. All of these measures are intended to have implications beyond the course of the recession.

In fact, it may be a balance of both short- and long-term measures that can best improve a country’s economic prospects. Croatia’s program aims to support economic recovery and growth in addition to laying the groundwork for a more secure future. For example it will facilitate the exit of large corporate loss-makers, improve the investment climate, and promote infrastructure investments. If the plan has the desired effect, it will both hasten the end to Croatia’s recession and better prepare the country to withstand similar crises in the future. e. International intervention has a dual impact on domestic governance The countries in the region that accepted international loans or other assistance saw multiple governance implications. On the one hand, international intervention in a context of domestic will and capacity can be an opportunity for instituting tough reforms. For example in Bosnia and Herzegovina, despite delays and public protests, veteran’s benefits were reformed and a slimmer budget passed. This was as required by the IMF, which argued that social spending in the country was bloated: Bosnia and Herzegovina has one of the highest rates of social spending in the region, and yet very low coverage of its population 67 . While the reforms might not have been popular, the Government was able to push them through because they were imposed from the outside. According to the IMF, the stabilization program helped mitigate the impact of the global financial crisis on the economy. The IMF projects a modest recovery in 2010 and a rebound in 2011 68.

In contrast, under the previous Government, Ukraine’s leaders lacked the ability to come together to bring about the reforms required by the IMF, or in truth any genuine reform at all.

As a result, for more than a year Ukraine lacked a consolidated anti-crisis plan. Moreover, the IMF granted waivers for nonobservance of performance criteria, as Ukraine had not met its commitments but needed the second disbursement. Thus, the Ukraine case demonstrated that external conditionality can only help a government improve if there is also sufficient internal pressure for reform (see Box 3).

On the other hand, international intervention has the potential to undermine domestic governance. This is because it imposes policies from the outside that may not reflect the will of the people or their democratically elected representatives. For example, in Latvia the IMF imposed conditions that would inevitably impact large portions of the population, such as spending cuts. As described above, this decision was made behind closed doors and then imposed on the Latvian people, undercutting Latvia’s democracy. Romania saw a similar effect, with critics complaining of a lack of transparency during the negotiation process. 69 Thus, while external pressure can be used as justification to pass necessary but otherwise unpopular reforms, it can also be interpreted as a means by which a non-elected body (such as the IMF) imposes policy on elected officials.

67

Pradeep Mitra, Marcelo Selowski, Juan Zalduendo, “Turmoil at Twenty” World Bank, 2010.

“IMF Executive Board Concludes 2010 Article IV Consultation with Bosnia and Herzegovina,” 3 December 2010, http://www.imf.org/external/np/sec/pn/2010/pn10154.htm.

69 John Horvath, “The IMF and Romania: A Road Well Travelled” 18 April 2009, http://www.heise.de/tp/r4/artikel/30/30129/1.html.

68

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f. Vulnerable groups have been better protected than in the past, but have suffered nonetheless In the past, when the IMF would intervene during troubled economic times, the policy was generally to impose spending cuts and the so-called neo-liberal model on those governments that accepted its loans. This resulted in criticism that the IMF did not take sufficient account of vulnerable groups such as women, minorities, and the poor, who are generally hit hardest by crises as well as by spending cuts.

In the crisis of 2008-2010, there has been considerable reversal. The IMF has in fact imposed conditions on governments to increase social spending and give particular focus to vulnerable groups. For example the IMF press release on Romania says, “The effects of the fiscal adjustment and budget reforms will be cushioned by boosting social safety net spending” 70.

The fact that all countries that received recent loans saw similar language is a welcome development.

However, vulnerable groups still suffered in the crisis. While the full impact is not immediately clear – as the effects of recession on human development tend to lag the economic consequences – there are already signs that these groups have suffered 71. This is despite the explicit measures that were put in place in some countries, such as the Romania example just cited. In that country, a representative of the main trade union confederation has argued that the IMF program in his country “deepened the recession, financial crisis, and poverty and led to a dramatic reduction in employment” 72. A particular problem in this regard is ineffective state administrations that prevent increased spending from reaching those in need.

Several governments in the region cut social spending as the crisis progressed, especially after the debt crisis in Greece caused a shift towards austerity among donor countries. Thus, we see the pension cuts in Romania (in addition to other reductions such as in benefits for children and the disabled) and in Bosnia and Herzegovina described above. However, the implications of these cuts are not always straightforward, as many post-communist societies have retained bloated social sectors that may merit some restructuring (e.g. Bosnia and Herzegovina). More time is required to view these cuts in the larger context of social impacts when they fully manifest themselves.

IV.

Conclusions and recommendations

Eastern Europe and Central Asia have seen profound governance implications as a result of the economic crisis during 2008-2010. Some of these are similar to what has occurred in other places and at other times, but this region also has unique features that make the impacts distinctive. Moreover, the challenges faced in this region require that governments and their partners give special consideration to what can be learned in order to better prepare for economic and other shocks in the future.

Because of the scale of this crisis in the region, governments have an unusual opportunity to self-examine and learn from the governance weaknesses that have revealed themselves. They 70

“IMF Executive Board Approves €12.9 Billion Stand-By Arrangement for Romania” 4 May 2009, http://www.imf.org/external/np/sec/pr/2009/pr09148.htm.

71 Balázs Horváth, Andrey Ivanov, and Mihail Peleah, “The Human Development Impact of the Global Crisis in Central, Eastern and Southern Europe and the CIS” 14 January 2010, http://europeandcis.undp.org/uploads/public1/files/Crisis_impact_on_HD_in_CSEE-CIS--14_January_2010.pdf; “CEE: Priority for now is recovery not social equality,” Oxford Analytica, 15 October 2010.

72 “Saying one thing but meaning another” Bretton Woods Project, 30 September 2010, http://www.brettonwoodsproject.org/art-566653.

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should use this new understanding to design fundamental reforms that strengthen governance systems to promote democracy and accountability, depoliticize and strengthen the capacity of the civil service, and improve financial regulation while protecting vulnerable populations.

Based on the findings of this report, the following recommendations can be made: •

•

•

•

•

•

•

Officials must ensure that the external constraints imposed by a crisis of this kind are not used as justification for a reversal of democratic and other reforms.

While some processes may need to be postponed in favor of more pressing concerns, the overall effort should remain in place. Moreover, international intervention should not create opportunities for circumventing democratic processes.

When designing crisis responses, Governments must resist the temptation to implement only short-term responses that may be popular but do not address underlying weaknesses. Medium- and long-term strategic measures will better prepare a governance system for future shocks. While this may be challenging in fragile political contexts, the population can be convinced of the benefit of preventive measures through clear explanation of the link between such measures and stopping future crises. The particular measures necessary depend on the country context; examples include pension reform in Latvia and public sector staff rationalization in Croatia.

Given the key role of decision-making mechanisms in the development of effective anti-crisis responses, countries with weak systems and a tendency for political fragmentation should take steps now to prepare themselves against future strain. For example, trust can be built among political factions through institutionalized dialogue. Stronger and more inclusive governance processes will increase confidence in the system and reduce the tendency towards a winner-take-all approach in politics.

While some countries have improved regulatory mechanisms for the financial sector, more remains to be done to strengthen state oversight and capacity to ensure that excessively risky practices are held in check. Regulatory systems should be reviewed and modeled on best practices, both within the region (e.g. the Czech Republic) and elsewhere.

Institutional capacities in the public sector and civil service professionalism must be strengthened in order to provide the support governments require in crises such as this. In particular, statistical analysis and monitoring must be available for timely and evidence-based policy to be developed. This is crucial regardless of whether there is a broader push for a smaller state structure, as excessive cuts can lead to a hollowed-out state that lacks the ability to respond in times of economic (or political) strain.

While efforts to protect vulnerable groups when responding to economic problems have improved, more remains to be done. Governments must understand the populations that will be most impacted by a crisis and its responses (e.g. women, ethnic minorities), and devote particular attention to mitigating the effects. Working with organizations that represent these populations can help.

On a related point, engagement with civil society is crucial for designing policies that address the needs of the population and helping to gain citizen support. Civic engagement sustains democratic values and the quality of governance. Although it can slow policymaking processes, it is the only viable

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Economic Crisis Responses from a Governance Perspective in Eastern Europe and Central Asia

•

•

way to maintain an inclusive process. Governments can and must ensure engagement even when facing acute policy contexts.

Meanwhile, civil society must remain vigilant in face of the possibility that crises will be used as a pretext for opaque decision-making. Civil society members should maintain contact with those inside the Government or Parliament who are supportive of engagement, and lobby those who are not.

They must stress the importance of accountability for strong democracy, not only to keep the general population abreast of key changes that will affect them but also to ensure that authorities are informed of popular concerns that could lead to opposition or protests.

Governments must strive to regain the social capital that they lost during the crisis. This will require engagement with populations through civil society as well as through transparent processes that allow citizens to understand the decisions and actions being taken. Meaningful anti-corruption measures are necessary in nearly all countries, with competitive civil service exams, zero tolerance for petty bribery, and an end to high-level impunity. This requires genuine political will from the top leadership.

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