The Economic Transition and Alternative Institutions

Natalia Lamberova, UCLAKonstantin Sonin, University of Chicago and Higher School of Economics

25 Years of TransitionSITE, Stockholm, December 5-6, 2016

Road map

Some general observations on 25 years of transition

Some puzzles that I derive from these general observations

A very simple exercise on political connections in Russia

Some very general conclusions

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25 Years of Transition

Transition is a giant natural experiment

Does transition experience confirm our hypotheses?

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25 Years of Transition

Formerly socialist economies become market economies

different paths with similar outcomes

There is a whole range of political regimes in formerly communist dictatorships

from stable democracies to sultanistic dictatorships, covering whole spectrum without holes

[Putting the same idea differently:] political institutions are way more dissimilar than economic ones

even controlling for history, oil, proximity to the West

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Politics of Institutions

Political regimes produces institutions

Efficiency requires good institutions

normatively - for an economy to grow, it needs good institutions

positively - people want to get rich

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20 Years Ago

Shleifer (1995): “.. there is simply no political interest in governance

mechanism before privatization. This interest emerges during privatization, as large outside shareholders are created and come to realize their needs ... Pressure from these new owners can then convince the government to adopt regulations that foster corporate governance. Under pressure, the government begins to protect property rights. ... The transfer of control rights from politicians to private parties gives the process of establishing property rights a jump-start by creating the political demand for the protection of property rights.”

Aslund (1995): ''... [once] the fundamental issues [of] the mutual independence of enterprises from one another (as well as from the state) and their profit orientation [have been addressed], under such conditions owners will forcefully try to ascertain their property rights''.

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Alternative Institutions

Taking a step back, demand for good economic institutions needs to result in a demand for good political institutions

which is obviously not there

So, demand for economic institutions should result in alternative institutions

as there are certainly some institutions

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A Small Exercise

“Crony capitalism” as an example

Institution: leaders appoint cronies

instead of building up impersonal institutions

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Why Appoint a “Crony”?

An easy question to a lay person (or a journalist ), but a difficult one for an economist

Naïve: a crony will give your more benefits, than a non-crony

economics: that’s naïve

Coasian logic

total surplus is higher under non-crony

you could get more from having a higher total surplus

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“Dictators and their Viziers”

Egorov and Sonin (2011)

loyalty as equilibrium behavior

dictator appoints vizier to guard his door against enemy

competence is ability to distinguish strong enemy from weak one

incompetent vizier cannot be bribed into betrayal

Does “dictators and viziers” logic help when appointing oil or railroad monopolist head?

yes, as “betrayal” might be money to support opposition

no, as competence in running business is not same as political acumen

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The Exercise

Russia, Putin

list of “inner circle” members

business elite (top-200 Forbes list)

stack two lists

for each pair of people scrap joint mentions in news section of top Russian search engine for 2004-2005

controlling for positive coverage

check whether or not early connections matter

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Connections 2004-05

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What is “a Connection”?

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Connections

1 and 2 are inner circle members

A,B,C, and E are businessmen

3 is member of both groups

Proximity

A has 3-step connection

B has 2-step connection

C and E are directly connected

D is unconnected

Connections 2014-15

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Density of Network Increases

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Summary Statistics

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At a Glance

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First Results, OLS

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Effect of Oil

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KLRS

Misspecification?

OLS assumes that marginal effect remains the same at all levels.

logistic regression assumes that log-odds remain constant across different levels of other variables

Kernel Regularized Least Squares (Hainmuller, 2013)

to use leverages similarity between observations, so that the closer are two observations, the more weight it has

with infinitely many higher-order terms and interactions in the model, should be penalty on complexity to avoid overfitting

KRLS helps to address the misspecification bias, yet does not protect from he omitted variable bias; also does not allow clustering of standard error

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KLRS Results

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Direct Connections and Oil

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Connection to Foes Always Bad

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Conclusion

Alternative institutions such as personal connections work when appropriate institutions would not develop

Their existence reconciles similarity of economics and dissimilarity of politics in transition

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