DP640 | Incentives and the Management of Enterprises in Economic Transition: Capital Markets Are Not Enough

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This paper examines the changing incentives for the efficient management of firms in Eastern Europe. It contrasts the internal constitution of the firm (its governance and reward structures) with the various constraints imposed on the firm's activities by external conditions in capital, labour and product markets. Public policy pronouncements in the Central European economies have tended to emphasize the overriding importance of capital market competition, but theoretical considerations and experience elsewhere in the world suggest that, while important, its effect will be limited in the absence of other internal and external reforms. Empirically, the paper examines progress towards enterprise restructuring in Eastern Germany and Poland, contrasting the direct intervention in the structure and constitution of firms (which is characteristic of the former) with the hopes for capital market reform (upon which much emphasis is being placed in the latter). The contrast is less stark than it first appears, however, since even in Poland there has been active competition policy, some direct industrial restructuring, and significant new firm entry. Finally, the paper examines the potentially perverse consequences of inefficient enterprise management for the progress of macroeconomic reform.