A Decade of Conflicts in Czech Economic Transformation

By Tomass, Mark | Journal of Economic Issues, June 1999 | Go to article overview

A Decade of Conflicts in Czech Economic Transformation


Tomass, Mark, Journal of Economic Issues


Critics of economic liberalism insist that Western capitalism did not evolve spontaneously through the propelling forces of individual free market initiatives. Accordingly, they argued in the past decade that economic transformation in the formerly centrally planned economies cannot achieve desirable outcomes without government-led planning. They argued that the rejection of central planning has led to an institutional vacuum, which in turn caused re-industrialization and macroeconomic growth to fall below their potentials. They credited the poor economic performance of post-centrally planned economies to the failures of the reform packages prescribed by economic liberals and international lending institutions. The major components of these packages were a set of policies designed for macroeconomic stabilization, privatization of the means of production and distribution, and the establishment of self-regulating markets. Accordingly, critics of economic liberalism made recommendations of massive state intervention to reverse the current trend of liberalization.(1)

While this assessment of the current state of economic conditions is correct regarding most transformation economies, the recommendations prescribed for them are too sweeping and ignore the peculiarities of individual economies. To make this case, I present a retrospective analysis of Czech economic transformation as we approach the tenth anniversary of its "velvet revolution." By examining the intended and unintended outcomes of transformation policies, I conclude that massive state intervention in the Czech economy is unwarranted, unattainable, potentially devastating to wage earners, and politically unfeasible.

Prevailing Conditions

The rapid industrial and urban expansion of the 1840s in the Bohemian and Moravian provinces of the Austro-Hungarian empire was accompanied by increasing Czech participation in cultural and political life and, subsequently, by the rise of Czech nationalism that challenged Austro-German domination.(2) In the 100 years preceding the eve of the Nazi invasion of 1939, the population of Prague increased from 140,000 to 1 million with per capita income rivaling that of France.(3) However, in late 1989, on the eve of the transfer of power to the reformist government, Czechoslovak per capita income relative to the economy of France was one-fifth of its pre-1939 level.(4) The decline of the relative standard of living of Czechs left a scar in their memory, the consequences of which became apparent once they broke away from the Soviet orbit. The most important of these consequences were a disinterest in continuing economic ties with the Soviet Union, rejection of central planning, distrust of an omnipotent state, and sensitivity to foreign involvement in domestic industrial development. Under such conditions, along with fear of a counterrevolution, the reformist government's political objective to weaken the state apparatus could not be separated from its economic objective of a quick transformation of the economy from one where prices and output were set administratively to one that is governed by self-regulating markets.

On the supply side, the new government inherited an economy where industrial enterprises were wholly state-owned and agricultural output was produced by state farms and heavily regulated cooperatives. At the end of 1989, GDP growth was 1.4 percent, and unemployment was presumed to have been zero. While the economic objective of transforming the supply side was to improve efficiency, the political objective was to generate mass support for reform by making people actual shareholders through a voucher privatization scheme. On the demand side, the budget deficit was 0.9 percent of GDP, inflation was 2.6 percent, M-1 money supply growth was 4.7 percent, real wage growth was 0.9 percent, external debt was $5.8 bln ($0.4 bin per capita), and household savings were almost zero.(5) Although these figures presented an optimistic state of demand conditions, prices that would have prevailed with market rationing were nevertheless far above the administrative ones. …

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