"Soft-Infrastructure"

[Kevin Robert Dean]

University of Arkansas 
20-Jun-01 

http://www.newswise.com/articles/2001/6/ECONOMY.UAR.html

Lack of "Soft Infrastructure" Kills Developing
Economies

Library: BIZ 
Keywords: INTERNATIONAL ECONOMICS RUSSIA DEVELOPING
COUNTRIES CAPITAL MARKETS

FOR RELEASE TUESDAY, JUNE 19, 2001 

CONTACT: Raja Kali, assistant professor of economics, 
(501) 575-6219; rkali at walton.uark.edu 

Carolyne Garcia, science and research communication
officer, 
(501) 575-5555; cgarcia at uark.edu 

LACK OF "SOFT INFRASTRUCTURE" KILLS DEVELOPING
ECONOMIES 

FAYETTEVILLE, Ark. --Ten years ago Russia chose its
first elected leader in more than 1000 years and had
high hopes for a prosperous future. Today the economy
is in shambles and everyone wants to know why.
University of Arkansas economist Raja Kali has the
answer -- Russia lacks "soft infrastructure." 

"Some of the most significant economics lessons of the
past decade have been learned from the grand
experiment of entire economies trying to move from a
system with more government intervention to a more
market-driven system," Kali said. "Economies don't
function in a vacuum. An important part of the problem
is that the Russian economic system, like many
emerging countries, lacks "soft infrastructure' -- the
basic legal and financial institutions that we take
for granted." 

Kali and Maitreesh Ghatak of the University of Chicago
have studied the economies of developing countries
from giants such India and Mexico to smaller countries
in southeast Asia, Latin America and the countries of
the former Soviet Union and found striking
similarities. Their findings will appear in an
upcoming issue of the journal Money and Finance. 

"While Russia and Mexico seem very different, they
have some of the same problems, including an
inadequacy of soft infrastructure and a preponderance
of diversified business groups," explained Kali.
"These diversified business groups may both facilitate
and hinder the development of market economies in many
countries, depending on their position in the
transition process." 

Diversified groups are remarkably similar in different
countries. They often emerge from a family business
and have financial interlinkages, trade ties and
personnel exchanges. Although they cover diverse
industries, they usually are not integrated like a
conglomerate, but they are not independent
subsidiaries, either. For example, India's House of
Tata includes firms in industries such as steel,
watches, trucks, tea and computer software and Chile's
Grupo Luksic has interests in banks, hotels, mining,
beer and pasta. 

"These groups seem to defy the modern management
mantras about core competence and focus," said Kali.
"This may be why little research has been done into
their function in the economies of developing
countries." 

Early studies focused on the sociological aspects of
group interdependence. However, Kali found that these
groups arise when the legal, financial and educational
infrastructure of a country does not support the
efficient function of a market economy. For example,
if a country has a corrupt, slow or unreliable legal
system that does not support or enforce contracts,
diversified business groups make doing business safer.


Diversified business groups are also a response to
labor market problems. In India and Argentina, where
laws make it difficult to fire people, workers can be
moved around between group members as company needs
dictate. Through management training programs, these
groups can overcome shortfalls in the educational
system and provide their own supply of skilled
managers, which are often in critically short supply
in developing countries. 

These groups can also develop their own distribution
channels, thus overcoming the inadequate
communications infrastructure often found in
developing countries. And they may compensate for
weaknesses in financial institutions, serving as
venture capitalists to fund potentially risky projects
that banks and other financial institutions cannot
support. 

However, diversified business groups also present
problems as a developing country moves from the third
world to a market economy. They are inherently rigid
and do not adjust easily to changes in the economic
environment. And because the can operate as
monopolies, they can have a negative effect on other
companies seeking to enter a market. 

"Firms are often hesitant to experiment with firms
outside the network even when outside firms have more
favorable offers," Kali explained. "Persisting with a
high-priced supplier because of the trust that was
developed can generate inefficiencies as new entrants
have difficulty in competing. These rigidities may
have serious macroeconomic implications and may
explain some of the problems of recovery from recent
crises in several emerging economies." 

While diversified business groups may impede the
development of a market economy, Kali is quick to
point out that the soft infrastructure of legal,
financial and education institutions that developed
countries take for granted are an important
prerequisite to establishing a market economy. Until
this soft infrastructure develops, Kali believes that
"there may be sound economic reasons to allow
diversified business groups to flourish." 

"We saw these types of groups in the United States in
the past, but there is no longer a need for them. They
serve a useful role at a particular stage of economic
development," said Kali. "As changes in the economy
lead to modernization, they begin to unravel. But it
is a painful transitional process, particularly for 
[article cuts off here]

### 


=====
Kevin Dean
Buffalo, NY
ICQ: 8616001
http://www.yaysoft.com

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