THE TEACHING ECONOMIST - William A. McEachern 
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Issue 5, Fall 1992
William A. McEachern, Editor
Privatize and Stir?
Although political and judicial decisions may change formal rules overnight, informal constraints embodied in customs, traditions, and codes of conduct are more immune to deliberate policies. Respect for the law relies more on the beliefs of the population than on legislative acts. A reliable system of property rights and enforceable contracts are prerequisites for creating incentives that could support a healthy market. Policy makers must develop a deeper appreciation for the institutions that nurture and support impersonal market activity. Supportive institutions are essential to economic reform, yet there is no unified economic theory explaining how to grow the institutions that are central to the success of market activity.
Most economists employed in Soviet-type systems had been trained to regard the "anarchy" of the market as a primary defect of capitalism. Most of them did not understand even the basic principles of the working of markets. But a more fundamental problem is that though Western economic theory focuses on the operation of efficient markets, most market economists do not understand the institutional requirements of such markets. Market economists simply take the necessary institutions for granted. Thus, privatization alone is not necessarily enough for a successful transition to a market economy. Impersonal market exchange must be supported by formal and informal rules of the game. This institutional tissue cannot be easily transplanted.
Some argue that because the credibility of the leadership in the former Soviet republics has been so thoroughly undermined, recent events may have actually moved these transitional economies further away from the institutional requirements needed to support a market economy. Some western economists expect rising unemployment, more inflation, and a continuing erosion of production. Critics of U.S. foreign policy have argued that Russia's problems stem, in part, from a lack of U.S. aid. But the institutional infrastructure cannot be built with foreign aid. The billions of U.S. aid that went to Poland during the 1970s disappeared without a trace.
The danger for Western economists is overselling the power of market forces. Psychologists point out how difficult it is for a person to change even one deepseated habit. The transitional economies are attempting to change habits and customs practiced for decades. By claiming too much for market forces, economists lay market economics open to attack when the transition to a market economy is threatened by ethnic violence, the absence of a legal system, the absence of a well defined system of property rights, opportunistic behavior by enterprise directors and workers, or the deep distrust of government.
Incidentally, there is an ironic contrast between the dissolution of the Soviet Union and the formation of the European Community. Republics in the former Soviet Union are losing their special trade relations with one another, their single currency (the ruble), and their ease of mobility across republics. Countries of the European Community are trying to form a union with special trade relations, a single currency (the ecu), and free resource mobility. More generally, market-oriented economies are forming trade alliances such as the North American Free Trade Agreement, while formerly socialist economies are coming apart.
No question, much remains unclear. Governments and jurisdictions are changing, reliable data are hard to come by, and reports and analyses are colored by normative views about the appropriate role for government. But considering how difficult it sometimes is to find out what is going on with our own economy--with the most sophisticated system of record-keeping in the world--we should not be surprised we don't always know what's going on half way around the world. The good news for professors is that the literature on transitional economies is exploding. (See "The Evidence File" on last page for some recent references.)