Ten Years of the Transition

by Robert J. McIntyre

When the transition began in 1989 in the former Socialist economies it was widely assumed that the small enterprise sector would play the predominant role in their transformation into free market economies. According to the new WIDER study Small and Medium Enterprises in Transitional Economies, directed by Professor Robert McIntyre and co-edited with Professor Bruno Dallago, the events of the first decade of ‘transition’ have shown these expectations to be false, or premature, for a number of reasons.

This book, published by Palgrave Macmillan, draws conclusions about what happened and why, across a range of important countries and provides direct policy-relevant analysis. Chapters in the volume examine developments in most of the transition countries, with particular attention to China, Hungary, Poland and Russia. The role of small and medium enterprises (SMEs) in advanced capitalist countries and within various earlier centrally planned systems are also considered.

RF EPA / Lehtikuva Anatoly Maltsev
Metal worker at the Arsenal machine-building plant in St Petersberg. © RF EPA / Lehtikuva Anatoly Maltsev

The fundamental conclusion that emerges from this now decade-long experience is that the small enterprise sector is not by itself enough to create successful economic growth. Unless the surrounding large enterprises have been successfully commercialized (meaning that privatization has either been delayed or done in a way that preserved already-existing networks and working relationships) and overall demand conditions are not severely restrictive, sustained SME growth cannot be expected. The SME sector needs the large enterprise sector as a source of inputs, as a market for its outputs and also (it unexpectedly turns out) as the major source of individual entrepreneurial leadership. What is needed is a synergistic SME-large enterprise relationship.

It was unrealistic to assume that healthy markets would emerge, be dominated by small-scale individual entrepreneurship and achieve ‘self-organization’. Ideological preferences and hopeful expectations interacted to deflect policy attention from essential institution-building tasks. The authors of the chapters of this study are not pessimistic, but they agree that automatic market processes are not enough to bring a viable SME sector into existence. The successful development of SMEs (beyond the subsistence sector, small-scale trading and service activity) requires a complex set of surrounding institutions and patterns of behaviour that: only emerge slowly. It requires an active state role in creating both markets and market Ten Years of the Transition: What Success in Building the ‘Small Enterprise Essence’ of a Market Economy? by Robert J. McIntyre institutions, and conversely are largely thwarted by the rampant criminality that appears wherever a weak or ideologically delegitimized state fails to create relatively predictable law-governed conditions.

‘Development from below’ was expected to play a transformational role and there was an eager audience for statistical good news. This expectation that successfully functioning markets would automatically emerge played a key role in the largely uncritical reception accorded reports of the rapid growth of ‘small trader’ and ‘shuttle trader’ activity. Much of this measured growth represented pursuit of (individually admirable) survival strategies that have little cumulative developmental effect. Very small-scale activity (excluding traditional skilled trades and professions) has a ‘dead-end’ and essentially subsistence character that is highly unlikely to provide the foundation for successful system-level growth. It is more properly understood as a symptom of the rapid increase in poverty and a contributory factor to the transition health crisis.

‘New SMEs’ that never actually came into operation were counted, while real SMEs that failed and stopped operating were never removed from the reported total population. Pervasive over-counting of registrations and statistical immortality once registered produced a fairytale picture of both the level and evolution of the SME sector. Further, many successful ‘emerging SMEs’ were not really new but had a pretransition existence as part of large service, craft and distribution co-operatives or State-owned Enterprises (SOEs). The ‘new’ sector of relatively small organizations is thus a mixture of many privatized sub-units of co-operatives or SOEs, entirely de novo entities and surviving pre-transition SMEs.

The illusory reports of ‘immediate’ SME success delayed or diverted attention from the serious policy issues that must be addressed before markets can be expected to yield good results. Many of the papers in this study look for ways of pointing transition economies toward policies that will allow them to capture some of the ‘secrets’ of Italian, or Japanese or south German ‘small enterprise systems’. It is an uncomfortable fact that the most successful SME development has occurred in countries which either already had a relatively substantial SME sector during the central planning period (Poland, Hungary, Slovenia, the new German states) or where small-scale entities were nationalized in a way that made their physical reconstitution relatively easy (Czech Republic and Slovak Republic). The authors of this volume are divided on the question of the fate and future significance of these ‘pre-transition legal entrepreneurs’, but agree that this is a form of path dependence in which the pre-transition existence of the sector within a society seems to have a large effect regardless of the fate of its original operators.

A number of authors reject obsessive concern with the elimination of inflation, because the resulting depressed aggregate demand conditions are especially destructive to non-criminal small business. Larger entities, even when badly damaged, have proved better adapted than small autonomous entities to survival in a barter or largely non-cash environment. This applies with particular force whenever we turn our attention to the productive SME sector. These macroeconomic findings resonate at a new level with earlier WIDER research.

It is important to acknowledge that innovative, technologically progressive SMEs are not a significant aspect of any of the current transitional economies. Hopeful expectations proved to be false in part because they reflected a misunderstanding of the environment within which successful productive small enterprises actually function in advanced countries. They require: successful large enterprises as customers and suppliers; government conduct (or subsidies to support the conduct by other public or private entities) of both fundamental and applied research; large corporations with research laboratories; and a whole array of informal support and co-operation structures.

Industrial districts and clustering are indeed promising alternatives, but their modern forms also presuppose a surrounding institutional structure, considerable organizational and promotional activity by local government, and national government financing, along with the slow accumulation of trust and interdependency among the small-scale rivals/collaborators.

Local and regional governments have a central role in stimulating SME growth, including both the creation of a local finance system and directly para-entrepreneurial functions (including equity ownership), consistent with the model of the local developmental state. Real-world experiences point to the centrality of small-enterprise systems for both micro- and macro-level success and a wide range of possible organizational and ownership forms. Incomplete privatization often leaves local government with de facto ownership rights, raising the possibility of the development of Chinese-style ‘core-TVEs’ in other countries. There is a natural synergy between credit co-operatives and production units with co-operative or partial employee ownership, which can help to fill the still gaping (directlyproductive) small enterprise ‘black hole’.

The small enterprise sector will not by itself create successful economic growth. Successful SME policy interventions must deal with its real conditions and needs, not depend on idealized folk images of solitary entrepreneurship. Unless local-level support institutions are articulated, surrounding large enterprises are successfully revived, and overall demand conditions are not severely restrictive, significant and sustained SME growth cannot be expected.

Robert J. McIntyre is Professor of Economics and Senior Researcher at the Institute for International Economic and Political Studies, Russian Academy of Sciences, Moscow, and directs the Local Economic Development in Transition project at the Massachusetts Institute for Social and Economic Research. He has published numerous articles and books on transition and comparative economics.

Bruno Dallago is Professor of Political Economy and Comparative Economic Systems at the University of Trento, Italy and directs the Masters in Local Development for the Balkans, University of Bolzano, Italy. He is the author and editor of numerous books and articles and has been a consultant to many international organizations.

The study Small and Medium Enterprises in Transition is presented at UN Headquarters, Dag Hammarskjöld Library Auditorium, 26 June 2003, by the co-editors Robert J. McIntyre and Bruno Dallago.