Slapping the Grabbing Hand: Credible Commitment and Property Rights in Russia

1. Slapping the Grabbing Hand: Credible Commitment and Property Rights in Russia Timothy Frye Frye.51@osu.edu Ohio State University

2. Hobbes Private predators are the greatest threat to property. Effective state is central to secure property rights. To make property secure, increase state capacity.

3. Locke State agents uniquely positioned to threaten property rights. A government that is strong enough to protect property and enforce contracts is also strong enough to confiscate the wealth of its citizens. To make property secure, place constraints on state agents.

4. Preview Russian legal system is not uniformly weak. Managers said that arbitration courts do not work badly in cases involving private agents, but are ineffective in disputes with state agents. Constraints on state officials are central to secure property. Managers who said that courts could protect their interests in disputes with state officials were more likely to invest controlling for a range of factors. Other factors associated with secure property rights. Membership in business organizations. Confidence in President Putin’s commitment to a market economy.

5. Property Rights Bundle of rights that include the power to consume, obtain income from, and alienate assets, such as land, labor, or capital. Important Dimensions of Property Rights Clarity of allocation Ease of alienability Security from trespass Credibility of property rights – how likely are property rights to be subject to arbitrary change over time.

6. Importance of Property Rights The most significant lesson of the postsocialist transition is that without the appropriate transformation of the legal infrastructure and the enforcement of the law, a market economy cannot function properly. Janos Kornai 2002. No challenge in Russia today seems greater to me than the establishment of property rights and contract enforcement. Lawrence Summers 2000. The lack of a market-oriented legal structure appears to have been the Achilles heel of the first dozen years of transition. Jan Svejnar 2002.

7. Not everyone agrees Who is the Master: We (the Party) or the Law? We must use the Law to allow us to shoot the speculators when necessary. Khrushchev

8. Roots of Secure Property State Institutions Because administering justice is a public good, effective state institutions are essential to defend property against private predators, including competitors, mafias, and various frauds. Need well-funded, well-equipped, well-trained, and technically proficient courts and police to create secure property rights. If this view were correct, then ineffectual or corrupt state agencies should be associated with insecure property rights.

9. Credible Commitment Arbitrary use of state power may attenuate property rights. A government that is strong enough to protect property and enforce contracts is also strong enough to confiscate the wealth of its citizens. State agents uniquely positioned to threaten property rights. To make property secure, place constraints on state agents. If this Lockean view were correct, then constraints on state power should lead to more secure property rights.

10. Discretion Commitment may come at the cost of flexibility. One of the main priorities in Eastern Europe today is to preserve the government’s capacity to readjust to changing circumstances. Politicians must therefore be able to renegotiate the rules while they are playing the game. Holmes 1995 Advocates of the “China model” for transition countries. This “Helping Hand” model suggests tight constraints on state powers may reduce the security of property rights.

11. Societal Factors Social Trust: Create norms of extended reciprocity. Civic Participation: Members of business organizations may be better placed to punish state officials who violate property rights. Countervailing power rather than trust is critical to secure property rights.

12. Committed Political Leaders “Washington Consensus” emphasizes having a political leader committed to a market economy. Creating secure property rights requires short-term costs in order to get long-run economic gains so one needs committed “marketizer” in power to defend property. If this view were correct, then business managers who believe that government officials are committed to building a market economy should view their property rights as more secure.

13. The Survey 500 Firms in 8 Regions in Russia in November 2000. Moscow, Nizhnii Novgorod, Novgorod, Smolensk, Tula, Ufa, Voronezh, Ekaterinburg. 10 Economic Sectors – not agriculture. Talked with CEO or CFO. At least 60 firms per region.

14. Survey Details Firms stratified by size and sector in each region then selected at random within each strata. Response Rate (completed interviews): 56% Call Back Rate: At least 20% in each region. Many Pilot Surveys Survey Conducted By VCIOM.

15. Firm Characteristics Average number of employees 840 Industrial Firms 55% Retail Trading Firms 20% Construction/Transport/Communications 25% Owned their Building 61% Members of Business Association 31% Average Age of the Manager (yrs) 46 Average years as director of the firm 6-10 Privatized firm 65% State-owned firm 15% Denovo private firm 20% Members of Financial-Industrial Group 2% Autonomous Firm 72%

16. Property Rights Indicator % Yes Build new buildings 21 Credit to customers or suppliers 40 Major investment in the in the coming year 33

18. Credible Commitment Question “In the case of an economic dispute with the local or regional government do you believe that the state arbitration courts could protect your legal interests?” 1) yes 2) no 3) it is hard to say. “In the case of an economic dispute with a business partner do you believe that the state arbitration courts could protect your legal interests?” 1) yes 2) no 3) it is hard to say.

19. Credible Commitment Yes (%) Courts can defend interests against local/regional government 39 Courts can defend interests against business partner 76

20. 70% of all firms had a dispute sufficiently serious to consider taking to court in the last two years. Of those who had a dispute with: The Regional Government: 44% took at least one to court. A Private Firm: 66% took at least one to court.

21. Societal Factors Trust In general can one trust business people in your region to fulfill their contractual obligations in their dealings with other business people? (%) • Yes, one can generally trust 13 • More or less yes, 61 • More or less no, 25 • No, one cannot trust others 2 Civic Participation Membership in a Business/Professional Organization 31%

22. Elite Commitment “What do you think, what type of economic system is most appropriate for Russia today: One based on state ownership of property and central planning or one based on private property and market-based exchange? Please place yourself on a 5-point scale where 1 indicates a strong supporter of state ownership and central planning and 5 indicates a strong supporter of private property and market relations.” And how do you think that President Putin would answer this question? 1 = state 5 =market Self-Placement 3.7 (1.30) President Putin 3.3 (.93)

23. Market-Specific Factors Obstacles (1-small, 5 large problem) Strong competition 2.90 Difficulty finding credit 2.74 Corruption in the state bureaucracy 2.43

26. The Impact of Credible Commitment on Property Rights

27. Robustness Checks Split the sample into respondents who had and had not: • experienced any property rights violation • experienced a property rights violation by the state Political Power might be associated with both ability to take state to court and investment. Proxies for political power in the model, e.g, size, profitability, sector. Also asked directly about firm’s ability to influence legislation as a proxy for political power. Added control for firms that used courts. Re-estimated the model dropping Arbitration Court and Corruption.

28. A Survey of Small Firms 190 small businesses in three cities in Russia: Ulyanovsk, Smolensk, and Moscow in 1998. Between 4 and 50 employees. Indicator of Secure Property Rights: • Renovation of their place of business: 63% Can take local government to court 35% Can take a business partner to court 55%

29. Comparative Data Sibiu Warsaw Warsaw 1997 1996 1998 Can take 53 41 62 Government to Court Can take 69 45 83 Business Partner to Court N (45) (50) (50)

31. Caveats Data are snapshots. Need replication of these surveys. Potential for survivor bias in the small firm sample. Measuring Perceptions

32. Findings Not so much “incapable” state institutions, but state agents unconstrained by legal regime that threaten property rights. Civic participation in business organizations associated with stronger property rights. Confidence in President Putin’s commitment to a market economy was associated with stronger property rights.

33. Implications For Role of state in developing economies. Commitment valued over discretion. State predators more troubling than private threats. Treatments of state capacity should factor in constraint as well as discretion. For Property Rights: Secure property rights are neither seized from below or granted from above, but emerge through interaction of state and market actors. For The Postcommunist State: That managers exhibited confidence in courts in disputes with private agents suggests that purported ineffectiveness of Russian state is exaggerated. Courts are more important than many realize. Results hold in both Yeltsin and Putin eras.

34. Policy Analyses should distinguish between capacity of courts in disputes with private and state agents. Technocratic approach of training and equipping is insufficient. Put judges in jurisdictions which overlap electoral districts.

36. WhoPuts Pressure on Judges? % Yes Responses • The Governor 42 • The Regional Duma 18 • The Regional Bureaucracy 40 • Federal Bureaucracies 33 • The Mayor 15 • The Security Forces (Siloviki) 32 • Influential private citizens, such as businesspeople 54 • Criminal Structures 27