Strong institutions, strong economy

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Student protests, which last almost three months, they ask that institutions in Serbia they are doing their job, and in particular they are looking for the rule of law and a dramatic reduction in corruption. The educators who joined them point to the neglected education system, asking for its reform. The fulfillment of these requirements - the establishment of independent institutions and quality education - would lay the foundations for a strong and sustainable economic prosperity of Serbia. They would lead to the liberation of the domestic private economy and the transition from the current low level of income, conditioned by the low rule of law, high corruption, etc. to a higher one that corresponds to the potential of the economy. Society would thus be put on the path of high and sustainable growth of income and standards, driven by the strong expansion of the domestic private sector, based on new technologies, knowledge and innovations, supported by an educated workforce.

On the other hand, the status quo is unsustainable in the medium term - the current state growth model is being exhausted, and high corruption and low level of rule of law will continue to stifle the domestic private sector, and occasionally lead to a collapse such as the one in EPS or the tragedy in Novi Sad. Therefore, the eventual, transitory economic costs of these protests are negligible compared to the economic prosperity that would be made possible by the fulfillment of their demands.

STATE OF AFFAIRS

Currently, the economy of Serbia is dominated by the state, while the domestic private sector is pushed aside. The state does this through several channels. Of the total investments in the country, the state, including public enterprises, accounts for as much as 42 percent. After the state, the most important role in the Serbian economy is played by foreign investors, who are largely attracted by state incentives. They provide an additional 22 percent of investments in the country. The domestic private economy is neglected in such a system and generates only 18 percent of investments, with its relative importance declining in the previous decade. How little that is, shows that even households invest almost as much in apartments and the like. (17 percent). Within the domestic private sector, there are certain "islands" that have strengthened in previous years, for example construction, but it is indicative that these jobs related to the state were obtained mainly in a privileged way, without public tenders and other procedures.

This model of economic growth is bad in many ways. First of all, large state investments are most often carried out outside of institutional control and do not go where they should. Huge funds are invested in projects of dubious economic profitability such as Expo, the national stadium or in military equipment that does not generate economic development. On the other hand, the construction of the metro is postponed indefinitely, there is not enough investment in the educational infrastructure, nor in the environment, which is in a catastrophic state - the air is dangerous to health in most cities, fires are frequent even in the few sanitary landfills that have been built, Belgrade does not have sewage on the left bank of the Danube and is the only European capital that pours waste water into the Sava and Danube without any treatment, etc.

Furthermore, state investments are carried out with insufficient transparency, bypassing tenders and other standard legal regulations. This is done by adopting special laws (lex specialis) or through interstate treaties. This accelerates investments, but the question is whether the justified price of the projects is achieved, what is the efficiency, quality, and safety of the works. By publishing the documentation related to the reconstruction of the Railway Station in Novi Sad, the local public for the first time got the opportunity to gain a detailed insight into how this system works. Due to the poor quality of the works, sloppy project management and possible price gouging, the prosecutor's office launched an investigation into possible corruption. That's why it sounds incredible that only three months after the tragedy that caused the whole society to rise to its feet, the Government is now proposing a new relaxation of the law related to the Expo. By special law after special law, it is now practically said that this project can be done without a use permit, without consent to an environmental impact assessment study - as long as it arrives on time.

The state also runs public companies badly. The Fiscal Council, as well as the State Audit Institution, drew attention to problems in the implementation of public procurement in EPS and potential corruption. Thus, a few years ago it was determined that the number of bidders dropped sharply from around 3 to only 1,7 per tender, with the frequent appearance of several companies in different combinations, which indicates a cartelized market. The recent arrest of the former acting director of EPS on suspicion of corruption confirms the suspicions expressed by some experts and the general public years ago. The bill for political influences in the management of this company was delivered at the end of 2021, when the EPS thermal power plants collapsed, and all citizens paid for it - about half a billion euros were paid from the budget for the import of the missing electricity.

A healthy part of the domestic economy, which bases its competitiveness on efficiency and innovation, suffocates in such an environment. An example is the sector of modern information technologies. In most countries in the region, large domestic companies, so-called "unicorns" worth more than one billion euros. In our country, this sector is mainly reduced to labor force services for the foreign market and foreign companies. This is because the development of high-tech entrepreneurship requires a free economy, good protection of property rights, efficient judiciary and low corruption, which is not the case in Serbia. Therefore, it is not surprising that the IT sector, along with lawyers and education, gave the strongest support to the protests that demand strong institutions.

photo: lazar novaković / fonet

WHAT SCIENCE SAYS

All of the above suggests that the Serbian economy is currently trapped by a system in which business success depends less on the competitiveness and innovation of entrepreneurs, and more on the connections of the business "elite" with the state. The consequence of such a model is the essential orientation of the economy towards traditional branches, with low added value. The data clearly show a significantly higher participation of traditional sectors in the economy and employment of Serbia than in other countries of Central and Eastern Europe (CEE). The previous situation is synthetically reflected by the analysis of the sources of growth of the Serbian economy - the dominant source is high state and related foreign and domestic investments, which did not bring new technologies, knowledge and innovations. In contrast, CEE countries base their growth precisely on technical progress and the resulting increase in productivity.

In order to change the situation, it is necessary, first of all, to strengthen the institutions, which is the basic demand of the students. Serbia never did too well there, but until 2014 it was at least moving in the right direction. After 2014, measurements by relevant international organizations indicate a deterioration in the quality of institutions, and the trends are particularly devastating in the area of ​​the rule of law and corruption control. An important factor for the economic prosperity of the country and the development of advanced branches of the economy is the degree of democracy. Serbia is not doing well in that field either.

According to Freedom House's assessment, in 2019, Serbia moved from the group of partially consolidated democracies to the so-called hybrid mode. This actually means that from a country where there are democratic institutions and processes (although not yet firmly established), we have come to a system where there are only external outlines of democracy, while the reality is often marked by the limitation of rights and freedoms, electoral manipulations and a large concentration of uncontrolled political power.

In the latest Freedom House report for 2024, Serbia was in an unenviable group of 15 countries that had the greatest decline in freedoms in the previous decade.

The previous description of the economy of Serbia, trapped at a low level of income, without technical progress, innovation and significant productivity growth, is not a unique case. In fact Adzemoglu, with his co-authors Robinson and Simon, recent winners of the Nobel Prize in Economics, shows in a series of papers that this case has already been seen many times throughout history. What is important for us is their finding, based on appropriate economic models, that the political and related economic elite that control the institutions have a strong interest in preventing their improvement as well as the technical progress of the economy, as this would threaten their position and thus the size of the funds they appropriate. Therefore, they have a strong interest in maintaining the status quo and preventing changes that otherwise lead to higher incomes and economic well-being of the population.

The findings of Adzemoglu and co-authors are confirmed by empirical (econometric) analysis, showing that countries with good institutions have high per capita income, while those with weak ones have low, and that this is not a simple correlation, but that the quality of institutions really affects the economic prosperity of society. For this purpose, the authors formulate an appropriate empirical model that enables them to use a complementary econometric method to isolate the effect of institutions on the size of income per capita, which represents their basic empirical contribution. Then, using the same procedure, they confirm their second theoretical result that good institutions enable innovation, the spread of knowledge and advanced technological procedures, while bad institutions stifle the former. Isolating the effect of the quality of institutions, the authors show that they positively affect the technological level of the economy. And finally, Adzemoglu and a group of co-authors manage to econometrically isolate the effect of the degree of democracy on economic prosperity, showing that it has a positive impact on the size of the income per inhabitant of a given country. This result fits in with the previous theoretical analysis when the degree of democracy is included in the quality of institutions.

Previous empirical findings on the crucial role of the quality of institutions for economic prosperity are also confirmed in the case of Serbia, where the co-authors and I determined that the low rule of law and high corruption represent a basic brake on the growth of the economy, and thus on the economic prosperity of the society. We presented the results at the Kopaonik Business Forum back in 2019, and since then the quality of institutions has further deteriorated.

SUPPORT FOR STUDENT AND CITIZEN REQUESTS

The ongoing student and civil protests have given a rare chance for society to focus on building sound foundations for the first time in the last three decades: strong institutions and quality education, which will enable stable economic and social prosperity. Therefore, these student and civil demands should be absolutely supported.

However, as the previous analysis shows, the possible losers of the changes will be the current political and associated economic elite, which will therefore fight fiercely to maintain the status quo. Excessive emphasis on the economic costs of protests, which, even if they occur, are negligible compared to the described economic benefits of the alternative, actually represent a form of struggle for the status quo.