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SUNDAY FORUM / SIMON JOHNSON and GARY LOVEMAN

Rise of Small Business in Poland Offers Valuable Economics Lesson

August 27, 1995|SIMON JOHNSON and GARY LOVEMAN | GARY LOVEMAN is an associate professor at the Harvard Business School. SIMON JOHNSON is an associate professor at the Fuqua School of Business at Duke University. They are the authors of "Starting Over in Eastern Europe: Entrepreneurship and Economic Renewal." and

When the new democratic, Solidarity-backed government in Poland implemented a radical economic reform program on Jan. 1, 1990, the country's economic prospects appeared grim indeed. Inflation was soaring, many basic goods were in short supply and the country was heavily indebted to foreign lenders. Most large enterprises were inefficient, vertically integrated behemoths that were far below Western standards in terms of quality and technology. Small businesses and service industries accounted for just a tiny slice of all economic activity.

To the astonishment of most observers, the reform program, known as the Balcerowicz Plan, quickly achieved most of its goals. Inflation was slashed, shortages were eliminated, international trade was liberalized and the Polish currency was made convertible. Politicians, academics and business people then turned their attention to the second--and arguably even more difficult--part of the economic reform equation: restructuring and revitalization at the enterprise level, which would eventually lead to gains in output and wealth.

Here they found an even bigger surprise. Most had expected the privatization and restructuring of large companies to be the central mechanism of economic transformation. But five years of experience have shown that the emergence and growth of small, private businesses has been much more important for Poland's economic development than the overhaul of the former state enterprises.

The unexpected rise of small business as the key catalyst for economic change in Poland has important implications not only for Poland and the rest of Eastern Europe, but for all countries that are trying to move from a state-run economy to a market system. Entrepreneurship is a powerful tool for quickly redirecting incentives toward the efficient use of resources, and we believe it will be the principle mechanism for economic renewal in all post-Communist countries.

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The reasons that small businesses have turned out to be so important lie, in the first instance, in the sheer magnitude of the problems facing the old state enterprises in the post-Communist era.

Imagine a business with no marketing or sales competence, limited distribution channels, outdated technology, scarce financial resources and products facing fierce competition: You have imagined most large state enterprises in post-Communist countries. Large-scale organizational change is difficult in the best of circumstances, and in Central and Eastern Europe, as people joke darkly, "the task may be difficult, but the resources are scarce."

The alternative to restructuring is the creation of new businesses with new organizational forms and work practices. The very helplessness of the old state enterprises in adapting to the new situation--combined with the success of the macroeconomic stabilization measures--created an entrepreneur's dreamland in Poland. The dearth of appealing products or services of any kind meant there were countless profit opportunities.

The new private businesses ranged from simple trading firms like Citrus Wholesale--which in 1990 began importing bananas to a Polish market where fruit had been in short supply for decades--to complicated manufacturing companies like Seces-Pol, which produces industrial heat exchangers.

To understand the evolution of new private business better, we met regularly between early 1990 and 1994 with the owners or managers of 30 businesses in Poland. Most of them were among the most successful new private companies in the Gdansk region, but we also included several large state enterprises. We supplemented these interviews with a survey of 1,000 other businesses.

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Our evidence shows that the emerging Polish small-business sector, far from being limited to street merchants and traders, is very diverse, with dynamic businesses in sectors ranging from manufacturing to business services.

This analysis also provides a unique perspective on the still-controversial Balcerowicz Plan, often referred to as "shock therapy." Critics say the plan should have been accompanied by a more direct state effort to restructure certain industries, or even particular companies. The strong macroeconomic measures, they say, came without the microeconomic policies needed to shield thousands of companies and their employees from disaster.

Yet the Balcerowicz Plan was successful and appropriate not because it laid the foundation for restructuring large state enterprises, but because its sudden stabilization and liberalization measures quickly created conditions conducive to private business development. A more deliberate pace intended to gradually wean state enterprises from the old system would have slowed economic transformation by impeding the rapid growth of entrepreneurial companies.

The primary role of small-business development in economic reform does not imply that the privatization and restructuring of state enterprises is unimportant. Clearly it would be preferable to make a clean break with the previous set of ownership rights in the state sector through, say, a "voucher" privatization program.

But the emphasis for privatization programs should be on moving resources into the private sector rather than on achieving various economic, political and social goals in distributing state assets. The value of those assets, after all, is likely to be quite modest in the long term. On the other hand, the contributions that new private enterprises can ultimately make to the productive capacity--and ultimately the wealth and social stability--of the country can hardly be underestimated. Aspiring market economies around the world would do well heed this important lesson of the Polish experience.

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