The three transitions of the Western Balkans

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The small, open economies of the Western Balkans* are at various stages of progress on three transitions: the transition to market economy, the transition to EU membership, and the transition to high-income status. The first transition started in the 1990s and its ultimate completion will help advance the second. Progress on the second transition, the EU integration, will unleash the EU convergence machine that has seen all but two countries in Europe achieve and sustain high income status. The third transition, overcoming the middle-income trap, remains the most important long-term strategic policy challenge for the Western Balkans. Judged by the past experience of others in Europe and East Asia, even that demanding transition could be achieved in one or two generations.
 
Figure 1. Real GDP growth has weakened
          (percent change year-on-year) 
Figure 2. Progress on structural reforms has stalled
(EBRD transition index)*
Sources: National sources and Bank staff calculations and projections. 
ECA = Europe and Central Asia
 
Sources:  EBRD.  ECA = Europe and Central Asia
Note: */ Scale 1-4+, higher means more advanced.

Progress on the first transition dimension has been the fastest.  Strong progress on structural reforms supported by macroeconomic stabilization helped the Western Balkans grow by nearly 5 percent a year on average during 2000-2008.  The EBRD transition index for the region – a measure of the progress of countries in transition toward a free market economy – rose from an average of 2.3 in 2000 to 3.2 in 2008.  With the 2008-09 economic and financial crisis-induced “new normal” of slower global growth, the rapid expansion of the Western Balkans came to an end: output has expanded by an average of just 1 percent a year since 2009, according to the World Bank’s latest Regular Economic Report on these countries. Employment fell sharply, progress in reducing poverty was halted, and fiscal deficits and debt rose substantially. Much like in many other countries in Europe and Central Asia, progress on structural reforms slowed substantially: EBRD’s transition index has remained little changed for five years.  "Stuck in transition" may be a catchy label for the limited progress on structural reforms, as EBRD's 2014 transition report suggested.  More appropriately, however, the slowdown suggests the challenges to shifting to new institutions more appropriate for the increased per-capita incomes and as the political determination to advance reforms weakens with slower growth and higher unemployment.
 
The second transition, to EU membership, began this century and by now four of the Western Balkans countries are EU candidates and the remaining two (Bosnia and Herzegovina and Kosovo) are potential candidates. Only Montenegro has started the accession negotiations with two chapters out of 35 provisionally closed. The map for the transition to the EU is clear – and it has been travelled by 13 countries in Central and Eastern Europe over the last quarter of a century. It is no less demanding, however, given the substantial adjustment needed in many areas, coupled with EU's resolution to admit countries only after governance issues are tackled decisively.  The latter requires strengthening particularly of the judiciary and of the other institutions that help ensure a fair playing field for all companies and a decent chance for all citizens. Building these institutions took decades in Western Europe – and that brings us to the third transition.
 
The third transition, the transition to high-income status, is likely to be the most challenging.  If there are any lessons from countries that overcame the proverbial “middle-income trap,” both in Europe and in East Asia, it is that while they paid crucial attention to policies, they diligently created and nurtured institutions.  More specifically, it is the institutions that ensure high quality and sustainable accumulation of physical and human capital, and the institutions that provide the environment for economies to shift from imitation to innovation while integrating globally and becoming more inclusive domestically.  In other words, the institutions that enable individuals, companies, and regions to be closer together and more productive.  In the case of the Western Balkans, such lessons are much clearer given the process of EU integration and the prospect of ultimately being part of the EU convergence machine. Putting that machine into full gear is the opportunity for the Western Balkans to seize.  Building and strengthening the institutions for accumulation, integration and inclusion is the key to it.

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*Albania, Bosnia and Herzegovina, Kosovo, FYR Macedonia, Montenegro, and Serbia. 
 
 

Authors

Ivailo Izvorski

Lead Economist, Central Asia

Join the Conversation

Nevila Mullaj
March 15, 2015

I congratulate the author on the very interesting and accurate analysis of the transitory process in the Western Balkans.
I am a Lecturer of Financial Analysis & Audit, currently working on Sustainable Development research and Macro research of Financial Crisis regarding the Western Balkans.
Therefore, I would be very interested to find enclosed the full report or other previous studies.
Thank you very much.

Ivailo Izvorksi
March 17, 2015

Dear Nevilla,

Thank you for your kind comments. All the reports cited in the article are references, and you can click on them to download them in full. The Western Balkans economic report is at

http://documents.worldbank.org/curated/en/2015/01/23837882/coping-flood…

Jasmina Ahmetbasic
April 28, 2015

Dear Mr. Izvorski, I don't agree with sequence of transitions in your text. For newly independent states first transition should have been development of institutions and policies. In that case these countries might had chance to participate in decisions like deciding on privatization, and on general model of market economy they should be developing. Lack of knowledge and confusion on the beginning of transition created wrong perceptions: like we will have market economy as soon as we privatise large enterprises or sell the pieces, or as soon as we get FDI into countries (to buy what in countries without institutional and policy framework?), or when focus and funds were about "small businesses are the answer to unemployment and development" - yes if we have institutional and legal framework capable of creating supporting climate for thousands of new small firms needed to absorb thousands of unemployed and for supporting their growth. End result we know today - we got really "free market" for example here in Bosnia, everybody does what they want, grey economy is 40%, young people jobless and depressed - without system in place we cannot move forward. Countries with developed institutions usually say that institutions are not important in market economy, but transition countries are proving them wrong. EU integration process is definitely key for these countries, but still we need to find our own solutions for economic development, no size fits all and we should finally start to think with own heads and come up with some new ideas. And, your GDP growth percentages are true but based on low baseline - today we are at 70% of GDP from 1990-ies (EBRD Transition report). We don't have time for nice and slow development, we need solutions and responses to crises similar to those in developed countries - stop staring from zero with every project and program. But again, for that we need institutions.

Ivailo Izvorski
May 04, 2015

Dear Ms Ahmetbasic,
 
Thank you for your comment.  Building and strengthening institutions is indeed at the core of economic development and at the heart of the three transitions I discussed in my blog. There is widely shared consensus about the primacy of institutions among economists.  Building institutions earlier rather than later is always more development friendly - but it of course depends on the country, notably the political will and consensus.  These reforms can be supported and facilitated by, say, international organizations, but they have to be driven by governments. The key point of the third transition is that the shift to high income involves different institutions than those for the earlier stages of development and many of them come to fruition only when the basics are covered.