Post-Socialist Transition
And the Post-Washington Consensus
At the end of the 1980s and the beginning of the nineties the so-called
Washington consensus was thought to represent revealed truth on the proper
way to step from stabilization to growth. According to the consensus a
tough financial policy, accompanied by deregulation and trade liberalization,
would be enough to end stagnation and launch economic expansion. The proposals
for reform that were based on the Washington consensus were used to address
structural crises in various regions, despite the fact that they had been
developed mostly as solutions to problems in Latin America. There was also
a crossover effect, a process of learning by doing. This orientation in
policy reform thus came to have an important impact on the course of the
postsocialist transition. Later, the new agenda was introduced, shaped
mainly by the encounter with the difficulties of Latin American economies
in the first half of the 1990s. It did out take into consideration all
the lessons that might have been learned in other regions, including especially
Eastern Europe and the former Soviet republics.
The policies of the Washington consensus were not drafted or initially
proposed in order to solve the crisis in postsocialist countries entering
a period of transition toward a market economy. The early consensus was
actually aimed at economies which were already market economies and not
in transition. For this reason, nations facing other challenges have never
found satisfactory answers to their most pressing questions in the Washington
consensus. The consensus interpretation vis-а-vis the postsocialist transition
economies suggests that it would be sufficient to fix the financial fundamentals
and privatize the bulk of state assets. Subsequently, growth should occur
and be sustainable. This is an oversimplification, and things have not
turned out as expected or promised.
Nonetheless, although the problems of transition countries seem not
to have been a main concern in the policy reforms proposed by the Washington
consensus, the mainstream line of thought that seems to dominate in Washington-based
organizations, including the ones dealing with the international economic
and financial order, have had a significant influence on policy attitudes
toward the transition countries. Moreover, the transition experience has
certainly generated modifications in the policy proposals of the consensus.
This interaction has had both merits and drawbacks.
The Washington consensus has partially failed with respect to the transition
economies because it has neglected the significance of institution-building
even when the other fundamentals are by and large in order. This oversight
explains why so many Western scholars did not at first properly understand
the true nature of the challenge. Institutions can be changed only gradually,
and they exert a very strong influence on economic performance. It was
quite naive to expect robust economic growth so soon after the fundamentals
(but not the institutions) were in place. In fact, in the real economic
affairs, it is not possible to sustain fundamentals if they are not backed
by solid institutions.
Douglass C. North, the 1993 winner of the Nobel Prize in economics,
has written that, because, "Western neoclassical economic theory is devoid
of institutions, it is of little help in analyzing the underlying sources
of economic performance. It would be little exaggeration to say that, while
neoclassical theory is focused on the operation of efficient factor and
product markets, few Western economists understand the institutional requirements
essential to the creation of such markets since they simply take them for
granted."
The problem is also that, if institutions should not be taken for granted
in general, there is all the more reason they must be taken seriously under
conditions of transition.
Rapid growth was anticipated because it was assumed that market institutions,
if they did not appear out of thin air, would rise up quite spontaneously
virtually the next day after liberalization and stabilization. It was thought
that policy need only secure a foothold for stabilization and lay the groundwork
for the sound fundamentals. Thereafter, the economy would regain momentum
on its own, and development would advance quickly.
However, the day after liberalization and stabilization was even more
depressing than the day before. Because of the "neither plan, nor market"
systemic vacuum, productive capacity was being employed even less; savings
and investment were declining, and instead of rapid growth there was rapid
recession. The lack of appropriate institutions turned out to be the key
element missing from the transition policies counseled by the Washington
consensus. Liberalization and privatization, unsupported by well-organized
market structures, generated not sustained growth, but a lengthy period
of contraction. This was not an inherited problem; it was the result of
bad policy.
Under some circumstances, the reasoning of the Washington consensus
may be relevant in dealing with the challenges faced by distorted, less-developed
market economies. However, in these economies, market organizations have
already been in place for years. The postsocialist economies possessed
no basic market organizations, since such organizations had not existed
under the centrally planned regime. Hence, because the absence of these
organizations had apparently gone unnoticed until after the beginning of
the transition, the market had no place to take root and grow. Especially
if the liberalization was rapid and the privatization radical, but in other
cases as well there could be no adequate and timely positive supply response.
The misallocation of resources and of investments merely continued, although
now for different reasons.
Clearly, the Washington consensus underestimated the extent to which
appropriate institutional arrangements were essential early on for a takeoff
in growth in postsocialist countries and in other economies going through
the process of structural adjustment.
The economic policy orientation of the Washington consensus had a tremendous
influence on the theory and practice in Eastern Europe and the former Soviet
republics, as well as in the Asian socialist economies, but from the results
it appears as though these nations did not all draw the same policy conclusions.
A number of less-developed and transition economies realized quickly that
there can be no sustained growth without sound fundamentals.
Lessons were eventually learned in Washington and London also, and since
the mid-1990s the Bretton Woods institutions, that is the International
Monetary Fund and the World Bank, have been paying more attention to the
way market structures are organized and to the behavioral aspects of market
performance. Now they know that liberalization and structural organization
are both required for the market and economic growth. Because of both bitter
experience of transitional contraction it has become clear that there will
be no sustained growth unless the sound fundamentals - a balanced budget,
balance in current accounts, low inflation, a stable currency, liberalized
trade, and a vast private sector - are supported by appropriate institutional
structures. There is now a consensus that the Washington consensus ought
to be reconsidered, revised, and adjusted to reflect the lessons learned
under real conditions.
By Prof. Grzegorz W. KOLODKO,
Washington, January 1999
From The Day's files
Prof. KOLODKO, a key architect of Polish economic reforms, is Senior
Research Fellow at Yale University and Advisor to the President of Poland.
He also has served as a consultant and Visiting Fellow to the World Bank
and International Monetary Fund. In 1994-97 he was First Deputy Premier
and Minister of Finance in Poland.






