Abebe Aemro Selassie
The Polish economy is emerging from a rough patch. After a period of strong growth—at about 5¼ percent in the late 1990s, the highest in east and central Europe—the last couple of years have been more disappointing. Reflecting the slowdown in Germany, exogenous shocks, and tight macroeconomic policies, growth in 2001, and for much of 2002, has been on the order of 1 percent. The tightening of policies in mid-2000 was in response to signs of overheating, with inflation and private consumption growth accelerating rapidly, and a burgeoning current account deficit starting in late 1999. Recent IMF research on Poland has focused accordingly on inflation dynamics and current account sustainability issues. There has also been extensive work on labor market issues and other structural reforms. This article provides an overview of recent IMF research on Poland.
With the attainment of broad macroeconomic stability, Poland proceeded to adopt an inflation targeting (IT) framework in late–1998. Whether inflation dynamics and the monetary transmission mechanism would allow the successful implementation of such a framework has been the subject of a number of studies.1 Christoffersen and Wescott’s (1999) study confirmed the continued existence of considerable volatility in the inflation process late in the transition process. Previous research (Griffiths and Pujol, 1996) had pointed to the skewed distribution of price increases as being a source of inflation persistence.2 In the early transition years, administrative price hikes and large relative prices swings contributed to non-normality. More recently, this pattern is attributable to the large weight of foodstuffs (which tend to be more volatile) in the CPI basket and excise tax changes.
Beyond contributing to inflation persistence, non-normality makes modeling headline inflation extremely difficult. This is problematic because an important prerequisite for a successful IT framework is the ability to produce inflation forecasts and, indeed, have some understanding of how changes in policy instruments affect inflation (Debelle and others, 1997).3 Consistent with the literature, Christoffersen and Wescott sought to establish a link between policy instruments and a number of measures of core inflation. By and large, their efforts to establish this link were not successful, partly because of the monotonic decline in both inflation and short-term policy interest rates over the sample period (1992–98). Doyle (2001) sought to model inflation over a longer sample period (1992–2000), but concludes that the challenge to identify a parsimonious representation of inflation in Poland remains.
These findings have influenced IMF staff advice in a number of ways. In particular, the absence of a sufficiently robust understanding of the link between policy rates and inflation, as well as volatility of the headline inflation rate, has led staff to argue for wider bands around a central inflation target in Poland, placing greater emphasis on core measures of inflation and lengthening the target horizon. Interestingly, Mourmouras (2002) concludes that, relative to a peer group of eight emerging market inflation targeters, Poland’s inflation targeting performance has not been unfavorable.4 Despite missing all three of its annual targets to date (overshooting them in 1999 and 2000, and undershooting in 2001), Poland was able to disinflate successfully.
Another recurring theme on research on Poland in recent years has been the sustainability of the large current account deficit that emerged in the late 1990s. Following a sharp decline early in the transition period, non-government savings rebounded strongly, reaching 22 percent of GDP in 1998. Their subsequent decline from this high level, coupled with continued rapid investment growth, was behind the widening of the current account deficit to about 8 percent of GDP in early 2000. Jiang’s (2000) study concludes that the likely path for savings in the comings years will be highly uncertain, with most of the factors that influence savings expected to offset one another.5 Rising income levels, for example, will likely raise savings, but expectations of higher permanent incomes could also likely lead to higher consumption in the short-run. Jiang’s empirical results confirm that both these effects are important, leading him to conclude that prudence dictates that the government internalize these uncertainties in determining its path for fiscal consolidation.
In a somewhat different vein, Daseking (2001) considers how large a current account deficit Poland might be able to sustain.6 Using a simple growth accounting framework, the author explores the magnitude of the current account deficits that Poland would incur if it were to achieve convergence to EU income levels. Daseking concludes that current account deficits in the range of 4–6 percent are feasible, and would permit convergence to EU income levels in a reasonable time frame. From a risk perspective, Poland’s external vulnerability indicators are found to be relatively robust, including, because it maintains a floating exchange regime, its high levels of reserves and modest external indebtedness.
Two other studies have focused on the flip side of current account sustainability—the composition and sustainability of capital flows.7 This is motivated by the fact that at least part of the increase in the current account deficit was an endogenous response to higher capital inflows (mostly in the form of FDI, Wagner, 1999). Selassie’s (2002) study finds that the impending end of large-scale privatization is unlikely to lead to a decline in FDI. Because Poland’s net foreign liabilities are relatively low compared to similar emerging market countries, there is reason to expect a higher level of inflows in all forms of capital in the coming years, particularly in light of its large market size. Furthermore, the study notes that the composition of capital inflows may not matter much—receiving capital only, or largely in the form of FDI, could reflect, among other things, poorly functioning credit markets.
Recent IMF research has also focused on developments in the labor market, an issue of increasing importance as the unemployment rate has risen back to the high teens. Selassie (2001) looks at the impact of Poland’s uniform national minimum on wage dispersion and unemployment.8 The study finds that this floor on wages serves to compress the lower end of the pay scale, and may partly explain the high level of youth unemployment as well as the large regional disparity in unemployment rates. In a series of papers, Keane and Prasad (2001, 2002a, 2002b) have challenged the conventional wisdom that the transition process has led to a substantial increase in inequality.9 In the case of Poland, the authors argue that earnings dispersion has indeed increased since the start of the transition, but find this to have been offset by higher government transfers, leaving overall income and consumption inequality broadly unchanged between 1988 and 1997. This high level of government transfers and subsidies has been documented in a couple of studies (Daseking, 2000; and Christou and Daseking, 2002).10 These show that, even by Western European standards, transfers to households in Poland are very high and could partly explain the high level of non-participation in the labor force.
Other research on Poland has focused on the factors behind the remarkable growth spurt that followed the sizable contraction of the early transition years. De Broeck and Koen (2000) find that, in the early years, improved resource utilization was the paramount determinant of growth, with factor accumulation partly induced by FDI’s gaining importance later in the 1990s.11 The authors also note that manufacturing was the main engine of growth, in contrast to the widespread perception that overindustrialization under planning would imply that services would be the main growth area.