Rzeszow, April 28, 2006

1. OVERVIEW OF EXPORT PERFORMANCE OF ‘NEW EUROPE’: Theoretical Underpinnings and Empirical EvidenceThe Second Lancut Economic Forum on ‘New Europe’ Matija RojecUniversity of Ljubljana and IMADmatija.rojec@gov.si Rzeszow, April 28, 2006

2. Objective and contents (1) • Objective: To overview existing theoretical and empirical literature on export performance of CEEC and analyze its determinants • Contents: • Evidence in support of remarkable improvement of CEEC export performance • Theoretical underpinnings: gravity theory, comparative advantages/factor abundancies approach, new trade theory • Complex (model) approach to analyzing CEEC export performance: gravity models, shift share analysis, export competitiveness analysis

3. Objective and contents (2) • Contents: • Improved access of CEEC to EU markets • Structural changes in CEEC exports • Increased levels of productivity in CEEC • The role of FDI in growing export performance of CEEC • Transition from socialist to market economies: complete change of institutional setting • Conclusions • Who is ‘New Europe’: NMS-8, CC-3

4. Evidence in support of improvement of CEEC export performance (1) • Unprecedented increase of exports in value terms • Increase of export intensity (exports to GDP ratio) • Increase of market shares abroad (CEEC exports in world & EU-15 imports) • Changed geographical distribution of exports: increased importance of EU-15 as export destination • Changes in product structure of exports: increased share of medium & high-tech products • Differences between NMS-8 and CC-3: the former show much better trends in export performance • Differences among individual countries but the direction of process is the same in all of them

5. Evidence in support of improvement of CEEC export performance (2)GROWTH OF EXPORTS

6. Evidence in support of improvement of CEEC export performance (3)GROWTH OF EXPORT INTENSITY (exports to GDP ratio)

7. Evidence in support of improvement of CEEC export performance (4)INCREASE OF MARKET SHARES ABROAD (exports as a share of world/EU-15 imports)

8. Evidence in support of improvement of CEEC export performance (5)CHANGED GEOGRAPHICAL DISTRIBUTION OF EXPORTS: increased importance of EU-15 as export destination

9. Evidence in support of improvement of CEEC export performance (6)CHANGES IN THE PRODUCT STRUCTURE OF EXPORTS: increased share of medium and high tech products

10. Theoretical underpinnings for the explanation of CEEC export performance • Market access vs. supply capacity factors/determinants of CEEC export performance • Gravity theory is the most powerful explanatory tool => ‘trade between two countries is positively related to their economic size and development level and negatively to the distance between them’; plus other factors => Opening up of CEEC enabled gravity forces to act • Traditional explanations: Comparative advantages arising from different factor intensities/endowments => most of CEEC trade is still vertical intra-industry trade and inter-industry trade • New trade theory: economies of scale in (horizontal) intra-industry trade => horizontal intra-industry trade represents a smaller part of CEEC trade but is in the increase

11. Complex (model) approach to analyzing CEEC export performance (1) • Gravity models • ‘Upgraded’ gravity models, distinguishing between market access and supply capacity factors • Shift share analysis • Analysis of export competitiveness • More or less descriptive analysis of factors behind growing export performance

12. Complex (model) approach to analyzing CEEC export performance (2): Gravity models • Gravity models are far the most popular and ‘strong’ approach(Collins and Rodrik 1991, Havrylyshyn and Pritchett 1991, Rosati 1991, Hamilton and Winters 1992, Baldwin 1994, Kaminski et al 1996, Jakab et al 2001, Havrylyshyn and Al-Atrash 1998, Egger 2003, Fidrmuc and Fidrmuc 2003, Bussiere et al 2005) • At the beginning of transition, CEEC trade with developed countries was much under the ‘normal’ level because of systemic barriers • Transition allowed gravity forces to act => geographical restructuring of trade along the lines of gravity theory: EU-15 as large, near, highly developed market assumed the role of the dominant trading partner • CEEC gradually approach to the ‘normal’ level of their trade with developed economies, especially the EU-15; differences among countries

13. Complex (model) approach to analyzing CEEC export performance (3): ‘Upgraded’ gravity models • Use of gravity technique to estimate separately the contribution to export growth of changed access to foreign markets and to what extent due to internal supply capacity(Redding and Venables 2003, 2004, Fugazza 2004: standard new trade theory model based on product differentiation derived from a constant elasticity of substitution demand structure) • Market access is further disagregated to particular regional grouping (within region, EU-15, for instance) • Internal supply capacity is regressed to GDP, population, internal transport costs, technological development, institutional factors (exchange rate fluctuations, risk of expropriation, labor market) • Market access seems to be more important than supply capacity for growing export performance of CEEC: • Market access especially relevant in the beginning of transition • Negative influence of post transition recession on supply capacity • Supply capacity offers more room for further improvement

14. Complex (model) approach to analyzing CEEC export performance (3): ‘Upgraded’ gravity models

15. Complex (model) approach to analyzing CEEC export performance (4): Shift-share analysis • Shift-share method decomposes export increase into: • General demand component: Increase of demand in a host country • Structural effect component: Concentration of exports on goods with above average growth of import demand • Competitive effect component: Exports to a host country increase faster than that of competitors. This component is the main indicator of trends in country’s export competitiveness • In 1995-1999 (Havlik et al. 2001) increase of CEEC exports to EU-15 was: • 42.1% due to general demand component • -8.1% due to structural effect component • 66.1% due to competitive effect component • CEEC increased market shares in EU largely by raising competitiveness against other exporters to the EU-15 => this includes market access as well as supply capacity factors

16. Complex (model) approach to analyzing CEEC export performance (5): Index of export performance • Synthetic index of export performance (Kaminski et al 1996) is determined by: • Initial pre-transition conditions • Changes in access to Western markets • Policy stance as reflected in the reform process • The speed and scope of the reform process (stabilization and price liberalization) is the main determinant of CEEC export performance. Accordingly: • Top performers: Visegrad countries and Estonia • Poor performers: Former Soviet republics (except Baltic states). • Other measurement of (export) competitiveness: WEF, IMD, Zinnes et al (2001), Havlik (2000)

17. Improved access of CEEC to EU markets • Gravity theory is the main explanation for increased importance of EU-15 as CEEC main export market => pre-transition level of trade with EU-15 was much under the ‘normal’ level’ • Preferential access to EU-15 through EU integration process: How important for the improved position of CEEC on EU market: • No econometric estimation so far • Three stages: (a) granting of MFN status (elimination of specific measures against state trading economies), (b) GSP (General System of Preferences), (c) Europe Agreements (EAs) • GSP important, EAs the most important and provided competitive edge over competitors from other countries (Kaminski 1994, Kaminski et al 1996) • Still GSP/EAs were not responsible for much of the export growth => Preferential treatment limited by a number of limitations (antidumping procedures, tight rules of origin, delays in liberalizing imports of sensitive products) (Kaminski 1994, Kaminski et al 1996)

18. Structural changes in CEEC exports (1) • Significant structural changes in CEEC exports since the beginning of transition: increased share of medium and high skill/technology intensive manufactures • To what extent has the structural upgrading contributed to the growing export performance? There is no such thing as ‘optimal economic structure’, what matters is the quality of structural changes…. • …. But export growth of CEEC has been based on products that have not been exported in the pre-transition era and on significantly upgraded ‘traditional’ export items(Hoekman and Djankov, 1996)

19. Structural changes in CEEC exports (2):Increased level of intra-industry trade • The level of intra-industry trade (IIT) - driven by product differentiation and economies of scale- is frequently used quality indicator of trade: • Vertical IIT: relatively big difference between unit values of exported and imported goods; inequality of partners) • Horizontal IIT: low difference between unit values of exported and imported goods; equality of partners) • Relatively high level of industrialization, significant stock of human capital, geographic proximity and significantly lower real wages provide significant scope for rapid growth of IIT between CEEC and the EU-15

20. Structural changes in CEEC exports (3): Increased level of intra-industry trade

21. Structural changes in CEEC exports (4):Increased level of intra-industry trade • Aturupane et al (1997): in 1990-95: • 80%-90% of IIT between CEEC and EU was vertical • No trend of increasing share of horizontal IIT; the level of horizontal IIT less than half of that for Austria, Spain etc. • Soss (2002): In 1993-2000, the share of non-inferior IIT in CEEC ranged from 7% to 18% but increased considerably • Aturupane et al (1997), Hoekman and Djankov (1996), and Kaminski and Ng (2001): strong relationship between export performance and growth in vertical ITT with EU (fragmentation of production)

22. Structural changes in CEEC exports (5): Quality upgrading of CEEC exports

23. Increased levels of productivity in CEEC(1)

24. Increased levels of productivity in CEEC(2)

25. Increased levels of productivity in CEEC(3)

26. FDI and growing export performance of CEEC(1) • Contribution of FDI to CEEC exports is remarkable but the causal relationship between export propensity and strategic foreign ownership remains ambiguous • Consensus: Most of the difference between export propensity of foreign subsidiaries and domestic enterprises is explained by other factors, except ownership, including the multinationality (Pfaffermayer and Bellak 2000) • The case of Slovenia and Estonia: differences in export propensity between foreign subsidiaries and domestic enterprises are due to structural differences, which are reflected in different efficiency of factors utilization and productivity level. The superior export propensity of foreign subsidiaries is partly due to the factor of foreign ownership itself, which also embraces the effect of multinationality (Rojec et al. 2004)

27. FDI and growing export performance of CEEC(2)

28. FDI and growing export performance of CEEC(3)

29. FDI and growing export performance of CEEC(4)

30. Transition - complete change of institutional setting - and growing export performance of CEEC(1) • Institutional quality has positive and significant effect on trade integration(Rodrik et al 2002) • Institutions in gravity models: business environment is important determinant of country’s export performance/costs of exporting (protection of property rights, risk of expropriation, labour market institutions, exchange rate etc. (Redding and Venables 2003, Rodrik et al 2002) • Specific situation of CEEC => They have gone through an overwhelming change of the entire socioeconomic system and building of institutions: Measured by EBRD Transition Indices

31. Transition - complete change of institutional setting - and growing export performance of CEEC(2)

32. Transition - complete change of institutional setting - and growing export performance of CEEC(3) • Transformation from a centrally planned to a market economy has been the only really sine qua non of growing export performance => without that, the fundamentals of gravity theory would not be allowed to work • Even beyond this basic sense, the speed and scope of transition reforms have been crucial for the growth of export performance: • Havrylyshyn and Al-Atrash (1998): geographic diversification of CEEC exports to EU is greater more progress a country makes in structural reforms • Kaminski (1993): there is a close link between export performance and the decision to move quickly to a market-based economy

33. Transition - complete change of institutional setting - and growing export performance of CEEC(4) • Kaminski et al (1996): While resource endowments, past patterns of production, and the pace of adjustment in different industries determine the trade patterns of a country, progress in macroeconomic stabilization and in establishing market-supporting institutions was perhaps the single most important factor determining foreign trade performance over the transitional period'

34. Instead of conclusion (1)

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36. Instead of conclusion (3)

37. Instead of conclusion (4)