The Economist

POLAND PREPARES FOR EUROPE

Unfinished business

W A R S A W A N D R Z E S Z O W

On September 21st Poland will elect a new parliament. The next government’s main job will be to prepare the country for membership of the European Union. It is a daunting task

JANUSZ RAMSKI would like to be Poland’s pretzel king. ZPT, the business he started during a socialist thaw in 1984, is still something between a bakery and a factory. Upstairs a gleaming new American machine squirts out elegant knots of batter. Downstairs white-hatted workers loop larger pretzels by hand, the technology of 1932, laments Mr Ramski. He is thriving nonetheless. ZPT now employs 30 people, nearly ten times the number it started with; he expects this year’s sales of 2m zlotys ($580,000) to be double those of last year. That feat, repeated hundreds of thousands of times, is why Poland’s economy is growing faster than that of any other ex-communist country in Europe and why it is likely to be one of the five invited to join the European Union early next century.

Yet Mr Ramski is not the pretzel king and wonders whether he ever will be. Bahlsen, a big German firm that bought a state-owned rival of ZPT, can afford equipment that makes his $70,000 machine look like a child’s bakery set. And state-of-the-art bakeries may march in from Western Europe, he fears, as soon as Poland joins the EU. So should Poland join? Yes, says Mr Ramski, but with a transition long enough to give medium-sized companies like his time to adjust. “We should join as partners, not to become just a sales market,” he says.

Mr Ramski’s misgivings are common in Rzeszow, a provincial capital in Poland’s south-eastern corner where Ukrainian mafiosi are a more common sighting than German industrialists. Once part of Austria-Hungary’s tolerant empire, Rzeszow and the region surrounding it have made fewer concessions to modernity than much of Poland. Two-fifths of the workforce still lives off the land, compared with a quarter for the country as a whole. Its Catholicism is rock-ribbed. All this makes Rzeszow a stronghold of the right-wing opposition, which hopes to regain power in the forthcoming election.

The vote may well decide what sort of partnership Poles will have with the EU. They are electing a parliament whose main business will be to answer the big questions about European integration. How swiftly will Poland become a full member of the EU? Will the economy be fit enough to stand up to western competition? How will adoption by the European family change a nation that continues to think of itself as history’s orphan?

This is not, to be sure, what candidates and voters are talking about, except by implication. Their gaze is directed inward, to a battle about culture and economic clout between a secular left with communist roots and a religious, fiercely anti-communist right that wears the mantle of Solidarity, the trade-union movement that broke communism. EU membership is broadly popular: a natural sequel, it is believed, to entering NATO, which Poland was invited to join this summer. But over the next four years—the term of the next parliament—the cuddly idea of “joining Europe” will shed its baby-fat and put on muscle. The voters may not know it, but Sunday’s election will decide how eagerly Poland embraces the European Union and how warmly that embrace is returned.

Come to mother

Bringing Poland into the EU will be a delicate operation on both sides. Neither has done anything like it. When it last took in poor countries (Spain and Portugal in 1986), the European Community, as it was then called, was not a single market for goods, services, labour and capital. Though poor, those earlier newcomers were market economies. Poland and four other ex-communist countries tipped for membership by the European Commission—Hungary, the Czech Republic, Estonia and Slovenia—will be joining a more-liberal Union, and only 15 years or so after discarding a system that was the very antithesis of liberalism.

For Poland, with 39m people the biggest of the aspiring entrants by far, European integration will feel like a muted reprise of the 1989 revolution, which turned a supposedly classless stasis into a capitalist melee of winners and losers. That is because the revolution is incomplete. Poland may be a “functioning market economy”, as the European Commission says in its verdict on the application to join, but much of it is hobbled by statist habit. Hundreds of thousands of workers in state-owned enterprises will have to find other jobs when their industries are fully exposed to market forces. Millions of pensioners can expect smaller benefits than they had hoped for. Thousands of firms will be hurt by the advent of fully free trade with Western Europe. The prospects for millions of farmers are uncertain at best.

With or without Europe, Poland would have to confront these difficulties: the prospect of EU membership merely forces the pace. Other costs of accession, though, will do more harm than good.

Danuta Hubner, who is in charge of the government’s preparations, guesses that adopting the worker-protection rules in the EU’s social chapter will cost 2-3% of GDP a year. Scrubbing the environment to EU standards will cost 2% of GDP over 10-15 years. Applying the common agricultural policy could cost Polish consumers a lot or a little, depending on the gap between market prices and the EU’s guaranteed prices to farmers. The acquis communautaire—the body of EU law that all members must adopt—demands thousands of other refurbishments, some of which will hurt the competitiveness of an economy that needs growth above all. Poland will have to secure long transition periods for the most burdensome requirements, like the social chapter, though Polish unions as well as the EU may resist. “We have to negotiate membership with the Poles,” Mrs Hubner points out, “not just with Brussels.”

Agenda 2000, the European Commission’s proposed blueprint for admitting new members, was published in July. It suggests denying most direct support payments to farmers in incoming countries—that is, depriving them of what will be the bulk of agricultural subsidies. Such payments, the commission says, are intended to compensate farmers for cuts in guaranteed prices: this affects only western ones. In Poland, with Central Europe’s biggest farming population by far, this proposal will be “political dynamite”, says an adviser to the agriculture ministry. The easterners have also been told to expect a ceiling on structural funds (regional aid) of 4% of GDP. More dynamite. In agricultural subsidies and structural funds, Ireland received aid of up to 8% of GDP. Besides, the Poles will argue, the commission’s formula would lavish extra money on relatively rich countries, like the Czech Republic.

Give us more aid, the Poles are likely to say, or more time to upgrade our factories to rich-country standards. Europe, reluctant to pay more or to trade freely with countries with lower social and environmental standards, may counter with threats of transition periods even longer than those for Spain and Portugal. They had to wait seven years before their citizens could work freely elsewhere in the EU and a decade for full access to the food market.

Is it worth all this trouble and expense? Emphatically, yes. As the World Bank points out, accession prompted an investment-led boom in Spain and Portugal as the risks of investing diminished and freer trade led to shifts in production*. What feels like a threat to Mr Ramski will be a boon to other entrepreneurs.

Consider Haste International, one of Poland’s biggest furniture manufacturers. Its main supplier is the state forestry firm, which used its monopoly to raise prices. Unable to import easily (because of tariffs and poor transport), Haste has sold one of its factories, sacked 200 people and is shifting production to Ukraine. Stefan Lewandowski, Haste’s proprietor, supports EU membership but thinks it will make little difference to him because he can already export freely. He is wrong. To join the EU Poland will have to light a bonfire of economic malpractice in which the forestry monopoly may well be consumed.

Nothing much can be wrong, you may think, with an economy doing as well as Poland’s. The first to recover from the slump that followed the collapse of communism, it is now growing at 5.5% a year, one of the fastest rates in Europe. The private sector produces more than 60% of GDP, inflation has dropped from 249% in 1990 to 14.5% and this year’s budget deficit is expected to be less than 3% of GDP. After a slow start, foreign investment is pouring in. Poland revels in its reputation as the tiger of ex-communist Europe.

Yet to lift Poland’s living standards to the EU average from less than a third now, growth will have to be three or four percentage points higher than Western Europe’s for 40 years. A poor Poland threatens the EU with onerous welfare payments and unwanted immigration. “The EU may be reluctant to take Poland in”, says Stanislaw Gomulka, an economist at the London School of Economics, “if it thinks reforms are unlikely to produce significantly higher growth rates than in the rest of Europe.” To achieve them, he reckons, Poland must raise its investment by half to 30% of GDP and domestic savings by a similar factor.

Poland’s economy is said to be above politics. Growth has forged ahead despite four years of house-of-cards coalitions built around Solidarity and its successor parties followed by four of relative stability under two parties, the Democratic Left Alliance (SLD) and the Peasants’ Party, that were the bulwark of the socialist order. The pillars of recovery—disciplined budget and monetary policies and relatively free trade—are still in place, on the whole. But reform has largely stalled.

Too little of late

The past four years have been a particular waste. The left-of-centre coalition came to power by promising to slow the economic revolution. Keeping its word required it to neglect the basic task of reform: defining what the state should and should not do. Paralysis has not been complete. A new central-bank law, for example, puts monetary policy on a sounder footing; some 500 firms have been privatised through an innovative scheme that gives ordinary citizens a stake and the pace of sell-offs has lately picked up. But Poland’s soft-focus state still makes mischief in both the public and private realms. What’s more, it has created a political backlash. If the current coalition loses this Sunday’s elections, a big part of the reason will be ordinary Poles’ resentment of the patronage with which their former oppressors have rewarded themselves. Whatever its colour, the next government faces a mountain of unfinished business.

• Pensions. Poland’s 9m pensioners receive 16% of GDP in benefits, one of the highest ratios in Europe, leaving the government with little to spend on education and investment. Without reform, the burden will grow even bigger. The government has proposed a new design that would trim the current system of funding pensions with payroll taxes, and add two layers of investment-funded pension. Parliament has passed just four of the 11 laws needed to put the new system into effect.

• Privatisation. Although the private sector now generates more than half of the national income, state-owned enterprises still account for 37%, compared with an average for industrial countries of 7%. The state owns half of industry, half the banking capital, three-quarters of the capital in insurance and almost all the basic infrastructure in transport, energy and telecoms.

• Finance. Insurance is dominated by a bankrupt state-owned firm, PZU. Banking is in better shape. Most commercial banks have dealt with their bad loans and several have been privatised, sometimes to foreigners with capital and know-how. But it is unclear whether Polish banks can survive the competition that will come when restrictions on foreign ones are lifted in 1999. Supervision, according to the World Bank, is “far from perfect”. Especially now that banks are lending heavily, that is worrying.

• Trade. Explicit import barriers are low, and will fall further with the phasing out of most restrictions on trade with the EU. But Poland has found other ways to keep foreign goods out—for instance, with new product standards and certification rules.

• Agriculture. For the EU, this is Poland’s least digestible part. Poland has 4m farmers working tiny plots of land with far lower productivity than their western counterparts. Investment in storage, transport and marketing will be needed to ready Polish agriculture for free trade. Eventually, market forces may force the consolidation of farms and erode Poland’s peasantry as they have done in other European countries. That process may not be as traumatic as it sounds, since the farming population is relatively old and up to two-thirds of farmers are part-timers. Nonetheless, the government will have to cut subsidies and encourage land sales if it is to happen at all.

• Education. Public spending on education has dropped by a fifth in real terms since 1989. The World Bank guesses that two-thirds of students in secondary schools are learning skills that are too narrow to be transferred from one industry to another. Kazimierz Sowa, an educational reformer in Rzeszow, thinks teachers’ salaries should be doubled but that school directors should be able to sack incompetents. It is a bargain unions have refused to accept.

• Civil service. One big foreign investor describes Poland’s bureaucracy as “thousands of non-educated older people sitting in dirty dark offices with only one thing left—a stamp”. They use it, of course, to extract favours. Poland needs a civil service of honest professionals to smooth the path of enterprise and enforce EU law. A new law aims to depoliticise the civil service; but the opposition says it will merely reserve the upper ranks of the bureaucracy for former communist apparatchiks.

The list is far from exhaustive. But the new government’s first big test will be the balance of payments. The current account moved from a surplus of 4.6% of GDP in 1995 to a deficit of 1% last year. Soaring wages, a credit boom and some pre-election give-aways are expected to swell the deficit to 5% of GDP this year. In 1998, with no change in policy, it may reach 7%—at which point Poland will begin to be vulnerable to the same sort of crisis that struck Thailand this summer and, in milder form, the Czech Republic. Marek Belka, the finance minister, insists that the deficit is stabilising and that the budget he proposes for next year will slow domestic spending. Exports, he thinks, will take up the slack, allowing the economy to keep growing strongly. Perhaps so. First, however, Poles must elect a government willing to adopt that budget and to make sure it sticks.

Today’s electorate is not the reform-weary one of four years ago. The economic boom has reduced poverty, though unemployment is still high at 12% of the labour force. People seem reasonably cheerful these days, quite a feat in pessimistic Poland. New industries are creating a middle class with a stake in liberal policies. (A Middle Class Association, founded last year, has 35,000 members.) The SLD, once the champion of capitalism’s losers, now announces itself as the party of winners. Its slogan is “Good Today, Better Tomorrow”.

Oddly, though, many Poles who share that sentiment will not be voting for the SLD, the leading left-wing party. Optimists will instead split their votes between left and right, which means that the next government could be a coalition of those with a stake in further reform and those who fear it. Mr Ramski, one of capitalism’s winners, albeit a nervous one, is a parliamentary candidate for Solidarity Electoral Action (AWS), the main right-wing grouping.

Coalition conundrums

A few days before the vote, the two main parties were close to even in opinion polls, each with the support of about a quarter of the electorate. Poland’s foreign advisers were quietly rooting for the SLD, which has transformed itself from a party of apparatchiks into one of technocrats and gives the impression that only the ignorant stubbornness of its coalition partners, the Peasants’ Party, curbs its reforming zeal. AWS, a messy grouping of 36 populist and liberal parties united mainly by a fierce resentment of the old nomenklatura and dominated by a trade union, looks to them a scary alternative.

The balance of power in parliament will be held by one or more of half-a-dozen smaller parties, some of which are struggling to beat the 5% threshold needed to win seats. The complexion of the next government may well depend on which of these comes out on top.

The Peasants’ Party wants to repeat its role as king-maker. It fell out with the SLD during a fractious four-year partnership, though not so badly that it would refuse a share of power again. But it would be just as happy to govern with AWS, which shares its attachment to the sturdy, subsidised Polish farmer. Add in two smaller parties that may cross the 5% barrier—the right-wing Movement for the Reconstruction of Poland and the Pensioners’ Party—and you have a reformists’ nightmare: a quartet suspicious of foreign influence and free markets. A repeat of the current SLD-Peasants’ coalition, with, perhaps, the Pensioners’ Party thrown in, might be little better.

But there could be happier outcomes. Freedom Union, a centrist party led by Leszek Balcerowicz, the unloved hero of Poland’s early economic reforms, is now running third in the polls. It could govern with either of the two big blocks. Pundits reckon that an SLD-Freedom Union team, unlike almost any other, would reform zealously and embrace the EU enthusiastically. But Freedom Union, an anti-communist party, would rather govern with Solidarity and, perhaps, with Labour Union, a small left-wing party with Solidarity roots. That idea looked promising until September 16th, when AWS’s leader, Marian Krzaklewski, suggested that Freedom Union would not be welcome in any coalition he puts together, at least not initially.

Stalin once described Poland as a saddled cow. This election may decide whether the European Union finds her an equally awkward beast.

*“Poland: Reform and Growth on the Road to the EU.” World Bank, July 1997.