Productivity Growth and Job Creation in Eastern Europe and the Former Soviet Union

1. Productivity Growth and Job Creation in Eastern Europe and the Former Soviet Union Pradeep Mitra Chief Economist Europe and Central Asia Region Presentation at a plenary session of a conference on “Modernization of Economy and the State” organized by the State University Higher School of Economics in Moscow, April 4-6, 2006 Views expressed are mine and do not necessarily represent those of the World Bank.

2. Distribution of Population by Poverty Status Growth and (mostly) no increase in inequality have moved 40 million people out of poverty in Eastern Europe and the Former Soviet Union during 1998-2003 • Where roughly 20 percent (or 1 in 5) were poor, today 12 percent (1 in 8) are poor • Poverty has fallen almost everywhere • Much of this poverty reduction has occurred in the populous middle-income countries in the Region (Kazakhstan, the Russian Federation, and Ukraine) Source: Staff estimates based on World Bank (2005a)

3. Working adults and children continue to form the bulk of the poor in the region, so that much of the impact of growth on poverty reduction has been transmitted through the labor market Note: EU-8 $4.30 a day at 2000 PPP as a poverty line; others $2.15 a day at 2000 PPP Source: World Bank (2005a)

4. Overview of the Argument (arrows run from determinants to outcomes) Labor market institutions (employment protection legislation, system of wage bargaining, unemployment benefits) Public transfers (pensions, social assistance) Poverty Reduction among Working families

5. Growth in GDP per capita from 1998 to 2003 owes more to growth in labor productivity (GDP/EMPL) than improved employment rates (EMPL/Working POP) or demography (Working POP/POP) Growth in GDP/POP) = (Growth in GDP/EMPL) +(Growth in EMPL/Working POP) + (Growth in Working POP/POP) Average annual growth in GDP per capita and its components, 1998-2003 1 Working age population covers the age range 15-64 Source: Labor Force Survey, World Development Indicators

6. Growth in labor productivity was reflected in real wage growth across all consumption quintiles, while . . . .

7. . . . . the employment rate continued to fall in many countries after 1998. The employment rate is generally higher in CIS countries, but many jobs are in low-productivity occupations partly because . . . . Employment Rates: Early Transition, 1998 and 2003 Note: The earliest years (blue bars) for each country are as follows: 1990:Azerbaijan, Belarus, Bulgaria and Estonia 1992: Hungary, Russia 1993: Armenia, Czech Republic, Kazakhstan, Poland and Slovenia 1994: Albania, Lithuania, Romania and Slovak Republic. 1995: Moldova and Ukraine. Source: Labor Force Survey, World Development Indicators Note: The employment rate in Moldova between 1998 and 2003 shows a decline based on LFS but an increase based on household survey data (previous slide) on account of a likely more restrictive definition of informal sector employment in the LFS.

8. . . . . de-industrialization in low income CIS has been accompanied by a large labor transfer into low-productivity agriculture in the absence of adequate social safety nets. Not so in Central Europe where there has been a reduction in agricultural and industrial employment, with jobs moving to market services Kyrgyz Republic Czech Republic Source: World Bank (2005b)

9. Shifts reflected in declining share of skilled labor- and capital-intensive exports in low income CIS and move towards natural resource exports. In EU-8, increased share of skilled labor- and capital-intensive exports. Source: Computations based on UN COM Trade Statistics adapted from World Bank (2005c)

10. The drivers of productivity growth: the change in aggregate labor productivity is decomposed into (i) within-firm, (ii) between-firm, and (iii) cross components, and the contribution of (iv) entrants and (v) exiters Sources of Productivity Growth in Transition, Emerging, and OECD Countries Labor Productivity decomposition shares – Manufacturing Five-Year Differencing, Real Gross Output For Hungary and Romania the decomposition refers to a three-year differencing which, given significant learning and selection by new entrants, Underestimates the contribution of entry to productivity growth. Source: Staff estimates based on Bartelsman, Haltiwanger and Scarpetta (2004)

11. Firm entry and exit are more important in transition countries, contributing between 20 to 45 percent of productivity growth

12. The drivers of employment: firm entry contributed strongly (25-50 percent) to job creation. Job creation1/ and job destruction2/ rates increased dramatically in transition countries 1/ Employment gains during a year divided by average employment during the year. 2/ Employment losses during a year divided by average employment during the year.

13. The business environment has been improving steadily in the transition countries, but is generally still more difficult than in the cohesion countries of Western Europe The business environment was assessed on a scale from 1 (no obstacle) to 4 (major obstable) Source: Business Environment and Enterprise Performance Surveys 1999, 2002, 2005 Cohesion countries include Greece, Ireland, Portugal and Spain

14. Business environment in 2005 more difficult for de novo than privatized and state firms in regulation and institutions and property rights, particularly in SEE and CIS and in taxation The business environment was assessed on a scale from 1 (no obstacle) to 4 (major obstable) Source: Business Environment and Enterprise Performance Survey, 2005

15. Re: potential exiters, higher fraction of state and privatized firms (than de novo) have arrears to utilities the budget, employees and suppliers, which retards their exit The business environment was assessed on a scale from 1 (no obstacle) to 4 (major obstable) Source: Business Environment and Enterprise Performance Survey, 2005

16. FDI Stock per Capita and Share of Skilled Labor and Capital-Intensive Exports, 2003 • Business environment difficulties reflected in FDI stock per capita • EU-8, some SEE: skilled-labor and capital-intensive exports and better jobs • CIS, some SEE: natural resource or unskilled labor-intensive exports and lower quality jobs

17. Conclusions • Continued poverty reduction will depend on growth in labor productivity and job creation, together with a targeted program of public income transfers • Entry of new firms and exit of obsolete firms important for the growth of labor productivity, while entry of new firms also important for job creation in the transition countries • The business environment continues to be more challenging in the transition countries (esp. SEE and CIS) than in the cohesion countries of the EU, particularly for new firms compared to state and privatized firms • The business environment also retards the exit of state-owned and privatized firms

18. Conclusions (cont.) • Difficulties in the business environment, not illiberal trade regimes, limit the FDI that would integrate CIS and parts of SEE into global networks, expand the share of skilled labor- and capital-intensive exports and better jobs • Continued improvements in the business environment, and a level playing field for de novo firms are critical for productivity growth and job creation • Labor market institutions not the primary cause of low labor market performance but job creation can be helped by reform of employment protection legislation, firm-level wage determination, and reform of social assistance schemes to encourage labor turnover