When does private property work?

Interesting to think about what initial conditions are needed to make private property work well. There is no point making a religion of it. A lot of things need to be in place, in particular, courts that can enforce contracts, free of all corruption.

Authored by sociologists at the University of Cambridge and Harvard University, the study, which appears in the April issue of the American Sociological Review, is the first to trace a direct link between the mass privatization programs adopted by several former Soviet states, and the economic failure and corruption that followed.

Devised principally by western economists, mass privatization was a radical policy to rapidly privatize large parts of the economies of countries such as Russia during the early 1990s. The policy was pushed heavily by the International Monetary Fund, the World Bank, and the European Bank for Reconstruction and Development (EBRD). Its aim was to guarantee a swift transition to capitalism, before Soviet sympathizers could seize back the reins of power.

Instead of the predicted economic boom, what followed in many ex-Communist countries was a severe recession, on par with the Great Depression of the United States and Europe in the 1930s. The reasons for the economic collapse and skyrocketing poverty in eastern Europe, however, have never been fully understood. Nor have researchers been able to explain why this happened in some countries, like Russia, but not in others, such as Estonia.

Some economists argue that mass privatization would have worked if it had been implemented even more rapidly and extensively. Conversely, others argue that although mass privatization was the right policy, the initial conditions were not met to make it work well. Further still, some scholars suggest the real problem had more to do with political reform.

In their new study, Lawrence King, a Reader in sociology at the University of Cambridge, David Stuckler, a Lecturer in sociology at the University of Cambridge, and Patrick Hamm, a doctoral candidate in sociology at Harvard University, test for the first time the idea that implementing mass privatization was linked to worsening economic outcomes, both for individual firms, and entire economies. The more faithfully countries adopted the policy, the more they endured economic crime, corruption, and economic failure. This happened, the study argues, because the policy itself undermined the state’s functioning and exposed swathes of the economy to corruption.

The report also carries a warning for the modern age: “Rapid and extensive privatization is being promoted by some economists to resolve the current debt crises in the West and to help achieve reform in Middle Eastern and North African economies,” said King. “This paper shows that the most radical privatization program in history failed the countries it was meant to help. The lessons of unintended consequences in Russia suggest we should proceed with great caution when implementing untested economic reforms.”

Mass privatization was adopted in about half of the former Communist countries after the Soviet Union’s collapse. Sometimes known as “coupon privatization,” it involved distributing vouchers to ordinary citizens which could then be redeemed as shares in national enterprises. In practice, few people understood the policy and most were desperately poor, so they sold their vouchers as quickly as possible. In countries like Russia, this enabled profiteers to buy up shares and take over large parts of the new private sector.

The researchers argue that mass privatization failed for two main reasons. First, it undermined the state by removing its revenue base—the profits from state-owned enterprises that had existed under Soviet rule—and its ability to regulate the emerging market economy. Second, mass privatization created enterprises devoid of strategic ownership and guidance by opening them up to corrupt owners who stripped assets and failed to develop their firms. “The result was a vicious cycle of a failing state and economy,” King said.