Mladek, Jan

Policy Documentation Center

INEKO (Slovakia) + ICPS (Ukraine): Transfer of Economic Reform Know-how to Ukraine, 
SlovakAid project Oct 6, 2004 
 
 1 
Policy Brief nr.5 
 
 
Business Environment Reforms in Central Europe 
 
Jan Mladek, Member of Parliament (Czech Republic) 
 
 
 The aim of such reforms is to improve productivity of a given country and to increase 
GDP growth. Those issues have been addressed from very beginning of the transformation of 
postcommunist countries after 1989. The right to be owner of capital assets, land and to 
employ people have been first rights restored after the end of communism. However, during 
the last 15 years of economic transformation it has been discovered that many processes are 
more complex than many people believed. There have been three main ways how to create 
viable enterprises: 
 
1. Creation and development of Small and Medium Enterprises (SMEs) 
2. Privatization and transformation of large (larger) state enterprises 
3. Support to Foreign Direct Investment (FDI) 
 
With certain simplification it can be said that for relative success of central European 
countries mainly SMEs and FDIs are responsible. The policy of FDI promotion has been 
started in Hungary already in late eighties. The other countries have joined Hungary in full 
scale competition after 1998. The competition in FDIs can be seen in following picture: 
 
 
Graph Nr. 1: 
 
Cumulative Investment in mil. USD
0
5000
10000
15000
20000
25000
30000
1993 1994 1995 1996 1997 1998 1999 2000 2001
m
il.
 U
SD Czech Republic
Hungary
Source: Czech Ministry of Finance and OECD. 
INEKO (Slovakia) + ICPS (Ukraine): Transfer of Economic Reform Know-how to Ukraine, 
SlovakAid project Oct 6, 2004 
 
 2 
 
 The other success story are SMEs. Economic freedoms obtained after fall of 
communism allowed the development of SMEs. Starting from scratch, very natural selection 
of entrepreneurial talents is something externally beneficial for postcommunist countries. The 
SMEs are of crucial importance in two areas: employment and political stability. SMEs, 
mainly those in services and manufacturing were helpful in absorption of labour surplus form 
old state sector. SMEs are also one of the pillars of stability and democracy. Only democracy 
with large class of entrepreneurs and owners can be really stable. There can be market 
economies with efficient large companies and tiny class of owners, which may tend to lack of 
stability and lean toward authoritative regime. 
  
Privatization and transformation of large enterprises can be hardly described as a 
success. The results of those companies are fluctuating between average performance and the 
failure. One research in the Czech republic from 1999 has shown that FDIs are clearly 
outperforming companies privatized by voucher, to local entrepreneurs or those once still 
state owned: 
 
Graph nr.2: 
 
Value Added per Employee in the Czech Companies after Privatization in ths. of 
Crowns:
0
100
200
300
400
500
600
700
800
1996 1997 I/1998
State owned
Vouchers
Sales for money
FDIs
 
Source: Mládek, J.: „Nejhorší výsledky mají kupónově zprivatizované podniky“, 
Hospodářské noviny (Voucher privatized companies have the worst results), 15.2.1999  
 
Despite all efforts to improve management and  corporate governance in those 
privatized or still state owned enterprises, the stories about success are rather rare. 
  
It seems that the best results can be reached by stimulation of FDIs and SMEs. Here is 
however useful to ask questions: 
 
1. For whom the new companies will produce goods and services? 
INEKO (Slovakia) + ICPS (Ukraine): Transfer of Economic Reform Know-how to Ukraine, 
SlovakAid project Oct 6, 2004 
 
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2. Where they will produce? 
3. How they will produce? 
 
The excellent business environment can be for nothing, if there is not market for the 
products. It means that from FDIs are the best ones those serving foreign markets. Those 
serving domestic markets are usually improving quality of products, productivity, but they are 
also in direct competition with domestic enterprises. Even more acute are the markets for 
SMEs. The success stories of quick development of SMEs is connected with those regions 
where the consumers are foreign tourists or generally foreigners. Those are capital cities and 
boarder areas with easy access from wealthier countries. To get those wealthy consumers is 
necessary to create for them as easy as possible visa regime (preferably no visa), easy access 
by all means of transport, large number of border crossing points (Czech-German boarder has 
every 15 km crossing point) and large but not least the offer of hotels, pensions etc. 
 
Where to produce is another important issue. Foreign companies do prefer Greenfield 
investment, to build new factories on the green field. The aim of the countries should be 
brownfield investment, but this is the target for future. Companies do prefer green field 
because they are afraid of the problems connected with take over of existing assets, mainly of 
hidden liabilities. Those can be of different types, but ecological ones are major nightmare of 
brownfield investment. To get FDIs in current harsh global competition is necessary to 
prepare for them the possibility to buy the land for new companies construction. Long term 
lease (50 years, 99 years) can be substituted for land ownership, but it is clearly SECOND 
BEST OPTION. The buy out of the land from private owners in order to sell it to foreign 
investor can be nightmare sometime as was seen recently in Slovakia in purchase by the state 
from private owners for carmaker. The nationalization of the land by the state should be 
avoided if possible. Protection of the private ownership is one of the cornerstones of market 
economy. Nationalization with compensation to private owner can be used in public interest 
(highway, railway) but is a bit questionable if is used in favor of other private owner 
(carmaker). Generally country should provide for FDI not only land for reasonable price, with 
demanded infrastructure,  qualified labour force and some tax holiday. The last thing is the 
most questionable, because creating unequal conditions between FDI or large investors and 
the rest of the economy (this is the case in the Czech Republic). The second option is so called 
equal tax that is decreasing tax burden for all companies. The prices of this approach is the 
increase in indirect taxation (VAT, excise taxes). 
  
For SMEs  the question where to produce even more acute. Here the experience of 
Central Europe is saying the most efficient way how to obtain the assets were restitution or 
better reprivatization in kind. The old owners or their heirs have got back restaurants, hotels, 
service facilities, production sites etc. Contributing to it had been small privatization that has 
been used for small assets. The other source of those facilities were bankruptcies and 
liquidation of large companies. 
  
When there is a market for the company products and a company has where to 
produce, we are coming to the conditions for business. There are two areas where the 
government can act directly: telecommunication and banking. Phone connection, fax and 
internet are minimum conditions to be in business. This can be reached by privatization of 
telecom to strategic investor and/or by development of competition in this area. More difficult 
is banking sector. All banks in the country should be run by international standards, 
competition encouraged and thus to solve the problems with time needed for money transfer 
and the time needed for creation of the account. Licensing of the businesses is the permanent 
INEKO (Slovakia) + ICPS (Ukraine): Transfer of Economic Reform Know-how to Ukraine, 
SlovakAid project Oct 6, 2004 
 
 4 
trouble. There is no easy solution. Some activities must be licensed, but too much of licensing 
is undermining the economic activity. Partial solution are classes of licensing. Some trade 
should be free, some licensed moderately and some heavily. The aim is to have as much as 
possible free trades, but the distribution of trades is question for political debate. Taxation is 
another important issue. Overall taxation or tax burden in Central Europe is rather low. The 
issue for discussion is distribution of tax between direct taxation (inclusive so called health 
and social insurance or payroll tax) and indirect taxes. There is a belief that low direct 
taxation can stimulate economic growth, the pioneer of the approach is Slovakia with 19% flat 
income tax. The other countries in Central Europe are following with certain delay. 
  
Specific problems is misusing the social benefits and sick insurance. Slovakia in 2004 
took drastic measures to minimize of those benefits and to increase incentives to work. Even 
the Czech Republic, having more cautious approach in last years, is following this trend. Sick 
payment was reduced and more controls, including criminal investigations are done. There 
were companies whose only business was to suck sick insurance from the system. Another 
step are  obligatory public works (8 hours per week) for unemployed people. It should 
stimulate their activity to look after job or to get out of the scheme. 
  


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