IFI Lessons for Reformers How to Launch Implement and Sustain Regulatory Reform

8/14/2019 IFI Lessons for Reformers How to Launch Implement and Sustain Regulatory Reform

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Investment Climate Advisory Services

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June 2009


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Acknowledgements

This report was produced by a team led byGokhan Akinci and Peter Ladegaard of themultidonor Investment Climate Advisory

Services of the World Bank Group. It wasproduced as a synthesis of important lessonsderived from case studies about Hungary, theRepublic of Korea, Mexico, and Australia/Italy/the United Kingdom. The team designed theapproach and provided inputs for the cases andsynthesis, which were authored by a team atScott Jacobs and Associates: Cesar Cordova,Jong Seok Kim, Tae Yun Kim, Junsok Yang,Scott Jacobs, Ali Haddou-Ruiz, Carlone Varley,Rex Deighton-Smith, and Luigi Carbone.

The team was comprised of Gokhan Akinci,Peter Ladegaard, Vincent Palmade, FatimaShah, Zenaida Hernandez, Ksenija Vidulic, andDelia Rodrigo Enriquez. The report benefitedfrom the contributions from external experts onthe topic: Michael Barzelay (the London School

of Economics), Andrew Bennett (GeorgetownUniversity), and Tom Kenyon (World BankGroup consultant). In addition, the project

benefited from the inputs of Laszlo Csaba,Zsofia Czoma, Imre Verebelyi, and Hungarianrefugees who wish to remain anonymous

The team is grateful for comments provided byEtienne Kechichian, Kathy Lalazarian, GregoryKisunko, Joel Turkewitz, Randi Ryterman,Stoyan Tenev, Andrew Stone, Roger Grawe,Vivien Foster, Bernard Drum, Jose Eduardo L.Campos, and Warrick Smith.

Neil Roger, Suzanne Smith, Nigel Twose, andSunita Kikeri provided guidance to the team indesigning the approach. Paul Holtz, AlisonStrong, Patricia Steele, and Amit Burmanprovided editorial support and comments infinalizing the draft for publication.


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Contents

Executive Summary .............................................................................1

1. The Search for Effective Reform....................................................... 5

2. Defining and Measuring Effective Reform........................................ 8

Defining Effective Reform 8

Measuring Effective Reform 10

3. Summary of Reforms in Six Countries ........................................... 12

Hungary 12

Republic of Korea 15

Mexico 15

High-Income Countries 15Australia 15

Italy 16

United Kingdom 16

4. Drivers of Change: Theory and Experiences ................................. 17

Globalization or Competitiveness 18

Crisis 19

Political Leadership 19

Unfolding Reform Synergies 22

Technocrats 23

Changes in Civil Society 24

External Pressure 25

5. Critical Factors for Successful Reform ............................................ 26

Exploiting Drivers of Reform 26

Setting the Reform Agenda 27

Implementing Reforms 30

Monitoring Reforms 32

Sustaining Reforms over the Medium Term 33

6. Lessons for Reformers .................................................................. 35

References ......................................................................................... 39

Acronyms and Abbreviations ............................................................. 40


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Tables1 Drivers of Regulatory Reform in Hungary, Mexico, and the Republic of Korea ........... 4

2 Regulatory Reform Timeline in Six Countries........................................................ 13

3 Key Drivers of Regulatory Reform in Six Countries................................................ 20

4 Critical Factors for Reform Success in Six Countries.............................................. 28

Box1 What Are the Drivers of Change?........................................................................ 2


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This paper focuses on core aspects of the politicaleconomy of reform, drawing on case studies ofthree economies transitioning to strongerbusiness environments (Hungary, the Republicof Korea, and Mexico) and three countries withwell-developed business environments (Australia,

Italy, and the United Kingdom). The purpose isthreefold: first, to identify so-called drivers ofreform among successfully reforming countries;second, to explore how a reform strategy canmake optimal use of the opportunities providedby the drivers of change; and third; to suggesthow these lessons can be proactively used byother reformers to design and guide reforms.

The case study findings suggest that, regardlessof the content of reform, success is influenced

by an evolving mix of seven drivers of change:i) globalization or competitiveness; ii) crisis;iii) political leadership; iv) unfolding reformsynergies; v) technocrats; vi) changes in civilsociety, and vii) external pressure. (See Box 1 fora short description of the drivers, and Table 1 atthe end of the Executive Summary for an outlineof how they played out in the subject cases.)

Governments around the world are basing theireconomic development and poverty reductionstrategies on efforts to expedite and expandreforms that improve their countries business envi-ronments. Reforms of the enabling environmenthave become the norm in developing countries

seeking higher, sustainable growth. The enormousinefficiencies constraining growth must be ad-dressed mainly at the microeconomic level, such asthrough broad legal and regulatory reforms.

Yet broad reforms are difficult to implement andsustain. Successful reform requires overcomingvested interests in the public and private sectors,fears of change, and the complexities anduncertainties of change in dynamic economicand social environments.

In recent years, considerable knowledge hasbeen accumulated on implementing successfulregulatory reforms in developing countries,including a body of research based on theexperiences of the World Bank Groups DoingBusiness and FIAS programs. The case-studyevidence documents the factors leading to goodreforms and the results of these reforms.


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crisis. The case studies provide little support forthe champion model of reform.1

The studies show a similar pattern in howdrivers of change were sequenced:

Step 1. A crisis, or a sense of impendingcrisis, or pressures from external obligationswere important at the start of reforms.These drivers redefined the political econ-omy of launching change, weakened defend-ers of the status quo, and emboldenedreformers inside government.

Step 2. The first wave of reforms came onlywhen politicians set reform agendas withoutregard for traditional insider interests.Agendas were imported from other countries,or politicians permitted reform-mindedtechnocrats to define the specific goals andcontent of reformssometimes in a stealthmode that caught opponents off-guard.

The paper then asks how a reform strategy canmake optimal use of the opportunities providedby the drivers of change. The case studiessuggest that few factors are truly exogenous.With proper sequencing, governments can do alot to create conditions for change.

The case studies also suggest that reformers caninfluence the direction and pace of change bymobilizing and exploiting drivers of it. Ratherthan a cause-and-effect scenario in which a singledriversuch as a crisiscreates and defines thesuccess of a body of reforms, what happens is anunfolding series of events in which various driversbecome more and less important in definingphases of the reform process. For example, byitself crisis does not create reform, nor doespolitical leadership. Although reformers oftenapplaud crisis, it is a risky approach to reform if itis not quickly supported by other drivers. More-over, reforms launched on the back of a crisis aredifficult to sustain, and there is no guarantee thatleaders will make the right decisions in the face of

BOX 1

What Are the Drivers of Change?

Drivers of change are forces within a countrys political economy that expand opportunities for reform. The

seven main drivers of change are: Globalization or competitiveness. As capital and corporations move more freely across national boundar-

ies, governments are forced to engage in regulatory competition.

Crisis. Crisis, or a sense of impending crisis, can be important at the start of reforms and can provide anopportunity to stimulate action.

Political leadership. Whatever the other drivers, political leadership is the yeast that makes them rise.Opportunities for reform are maximized when crisis leads to political shakeup.

Unfolding reform synergies. Market-oriented reforms in one area can increase pressures for reform in otherareasand even change the political economy so that voices for reform emerge.

Technocrats. Reform can be driven by technocratsthat is, politicians and senior civil servants withtraining in economics or other fields who develop rational policies to lead the country forward.

Changes in civil society. Reform is not a task only for governments, even in countries with weak civilsocieties. Other stakeholders, such as firms and workers, can help build and sustain support for reform.

External pressure. External commitments and pressures are often essential to reform, even in developedcountries. External obligations allow reform-minded governments to shift responsibilityand hence thepolitical costs of reform.

1 The champion model of reform uses a single strongreformer to achieve sustainable results.


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reform to succeed. Weakness in one area maybe compensated for in another area.

Active management and support of thereform process are essential, primarily throughdedicated, day-to-day leadership in the public

administration. Governments that strength-ened capacities for promoting, monitoring,encouraging, and assisting reforms across theentire administration seemed to do a betterjob of implementing them.

Implementation is stronger when there iscontinuous learning. It is important tobenchmark based on good practices insimilar countries and to assess, pilot, inno-vate, and learn from past experiences.

Monitoring and evaluation at all levels ofimplementation should be a priority inorder to capture a complete record of pastexperience to improve upon.

Aim for systemic change, but use one-offreforms to build momentum. One-off andvisible projects can contribute to systemicchange. Early results help build credibilityand momentum, and success breeds success

Put transparency at the heart of the process

and reform contents. Transparency is notonly a tool for strengthening reform drivers,it is also crucial in reducing regulatoryrisksone of the main goals of reform. Strictadherence to principles of transparency andaccountability is vital to market confidencein a modern regulatory state. Reforms shouldinclude developing new transparency habitsacross the public administration. Newtechnologies such as electronic registries canalso support openness, and at lower cost.

These case studies primarily focus on reformdynamics, rather than the technical aspects of theapplied regulatory reform tools, procedures, andtechniques. Knowledge about the relevance andadaptability of these tools, however, is as critical forsuccessful reform as the reform dynamics describedin this paper. For further guidance on regulatorygovernance tools and their application for

Step 3. The first wave of bold reforms increasedmomentum for further change by creatingnew pressures and allies, and new institutionswere built that gave technocrats more powerand influence. Reforms were embedded in

international agreements, limiting backtrack-ing. And some reforms increased the costs ofnot reforming. For example, opening marketsled to deeper domestic reforms as domesticbusinesses faced external competition.

Step 4. Reforms became sustainable onlywhen they were institutionalized into themachinery of government and constituen-cies for change were mobilized and includedin policy processes. Reforms were moresuccessful when governments built widernetworks of reform-minded institutionsthroughout the public administration.

How these steps unfold defines the reform path.Strategically exploiting successive drivers ofchange appears crucial to achieving sustainablereform. This does not suggest that the reformpath can be controlled or even anticipated, sincemuch that happens is beyond reformers control.But it does suggest that better understanding ofthe drivers of change and their sequencing canincrease the chances of broad, successful change.

This paper concludes with a series of recom-mendations on how these lessons can be appliedproactively in the design and management ofreforms. Among the most important:

Use a crisis (if available) to stimulate reform,but sustain reform by locking in politicalleadership and bipartisan political supportthrough formal agreements, legislation,

international agreements, and newinstitutions.

Success factors seem to be interrelatedmoresuccessful governments seem to invest simul-taneously in strategies such as managing thereform program, ongoing public-privatedialogue, and results monitoring. All thesefactors do not have to be highly developed for


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adapting regulatory governance tools such asRegulatory Impact Analysis, tools to review theregulatory stock, regulatory reform institutions, andindicators for regulatory quality.

transitional and developing economies, pleaseconsult www.fias.net for activities under the BetterRegulation for Growth (BRG) program. The BRGprogram focuses on synthesizing, reviewing and

Driver Hungary Korea, Rep. of Mexico

Globalizationor competitive-ness

Reform was triggered by theneed to create a market-based economy and join theEuropean Union.

To increase foreign direct invest-ment, reforms had to remove explicitinvestment barriers and excessiveregulations.

In the 1980s competition for interna-tional capital and investment wasgrowing, and leaders saw the benefitsof liberalizing trade for assembly plantsexporting primarily to the U.S. market.

Crisis An unprecedented changein political regime and

collapse of the economycreated new elites andgrowing expectations forreal change.

The 1997 crisis produced the mostpainful economic contraction in

OECD history: 1998 was the firstyear since 1979 in which Koreahad negative growth.

In the 1980s a collapse in oil pricesand default on massive external debt,

followed by five years of economicstagnation, triggered privatization,trade liberalization, and regulatoryreform.

Politicalleadership

Successive prime ministersactively backed reforms tosecure democracy, the ruleof law, open markets, andeventually EU membership.

The president elected in 1997supported reforms. The NationalAssembly provided support byenacting legislation needed toimplement them.

The president and a small group ofadvisers initiated extensive reformsusing a top-down approach based ontraditional command and controlmechanisms. The resulting backlashslowed reforms.

Unfoldingreformsynergies

So many reforms werelaunched in such a shortperiod that reform could beslowed, but not stopped

without disaster.

Initial top-down reforms producedimpressive results, but lack ofincentives for regulatory reformwithin the government slowed further

reforms after a few years.

Market-opening reforms increasedstakeholder pressures for economicliberalization, which increased publicsector capacity for good regulation.

Technocrats The strongly independent,professionally staffedHungarian CompetitionOffice played a vigorousrole in privatization.

The Regulatory Reform Committeestaffed partly with academics,supported by civil servants, andco-chaired by the prime ministerisresponsible for examining new andexisting regulations and maintainingregulatory quality.

In 2000 an agency was created in theMinistry of Economy to impose qualityand transparency on the public sector,and highly trained technocrats(economists) had legal authority andpolitical backing to drive reforms

Changes incivil society

Reform was legally based,with active involvement byParliament and extensiveconsultation with stakehold-ers such as businesses, tradeunions, and disadvantagedsocial groups.

Political support for reform was builton a popular campaign to eliminatecorruption, which coincided with anupsurge of NGOs focused on theissue. In the 1990s NGOs grewvery quickly: by 2000 there wereup to 8,000, providing a new forcefor political change.

Early reforms were not transparent,which limited reformers ability to gainsupport from private stakeholders. Later,as political support wavered, specialprivate bodies were created to overseethe reforms and provide sustainedsupport.

Externalpressure

Close relationships betweengovernment officials andoutside think tanks andinternational organizationshelped reforms throughinflows of new ideas, sharedexperiences, and funding.

OECD membership brought newdemands for openness and goodregulatory practices. In 1997 thegovernment, in cooperation with theIMF, began deregulating thefinancial sector.

Mexicos close relationship with theUnited Statescultivated throughNAFTAhelped it recover quickly fromthe 1995 liquidity crisis.

Note: This table itemizes the drivers of reform in the three developing countries only.

TABLE 1

Drivers of Regulatory Reform in Hungary, Mexico, and the Republic of Korea


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private sector performance. In countries withlegacies of instability, rent-seeking behaviors,excessive government intervention, and weakpublic and market institutions, better privatesector performance demands better performanceby the public sector as wellparticularly in how

the public sector relates to the private onethrough its legal and regulatory functions.Reforming these functions is part of the body ofreforms sometimes referred to in discussions ofthe enabling environment for private sectorperformance.

This paper does not review why reforming theenabling environment is important. The role ofsuch reforms in stimulating economic perfor-mance through productivity growth has been

widely analyzed. It is sufficient to note that, justas regulatory reform became the norm formicroeconomic policy in the 1990s in Organisa-tion of Economic Co-operation and Develop-ment (OECD) countries, reforms of theenabling environment have become the norm inthe 2000s in developing countries seekinghigher, sustainable growth. The enormousinefficiencies holding back growth must be

Governments everywhere are basing theireconomic development and poverty reductionstrategies on efforts to expedite and expandreforms that improve their countries businessenvironments. Such broad reforms can bedifficult to implement and maintain across the

entire public administration and over severalyears.

What strategy for broad regulatory reformmaximizes the chances for genuine, enduringsuccess in environments hostile to reform? Andhow can a reform strategy best use the opportu-nities provided by drivers of change? This paperprovides a qualitative assessment that linksexogenous factors with the choices available toeach government. It concludes that very little is

truly exogenous, and that success involveschanging what can be changed and using whatcannot to best advantage.

Successful development depends on making theright changes quickly, and achieving betteroutcomes than have been achieved throughprevious approaches. Achieving sustained highergrowth requires fundamental improvements in


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As a result, reformers often tackle the easiestor most isolated issues, with marginal andunsustainable results.

For these reasons many attempts at reform havebeen disappointing. Results have usually failed tomatch expectations, leaving reformers exhaustedand disillusioned. Reformers often underestimateor are intimidated by the scale of problems, andisolated, one-off reforms usually do not producelasting benefits for the private sector.

Those who believe that public sectors in devel-oping countries are slow to act have neverconsidered the regulatory function. In 2005,Kenyas government estimated that there wereup to 600 business licensing requirements. In2006, it became clear that businesses actuallysuffer from more than 1,300 licensing and otherfees imposed by 178 state bodies. Moldovasreformers originally estimated that its 67inspectorates had created 300500 regulationsfor businesses; the actual number was more than1,100, many illegal and never published.2

Reforms aimed at achieving single processes andrules will never catch up with the capacities andincentives of governments to create regulations

and controls. The issue is systemic in nature.

The challenge is to find ways swift ways ofchanging the complex system of instrumentsand behaviors, enabling the economic growthneeded to achieve the ambitious poverty reduc-tions promised and sought in many countries.There are always lags between market and legalchanges, but the lags need to be shortened sothat legal systems catch up with market needs.

Governments that have managed to effectmeaningful reforms have reaped the benefits.Countries that have succeeded in managingbroad reform programs over several yearsevenover several administrationshave shown thefastest changes and greatest gains in economicdevelopment. In just 10 years, Hungary moved

addressed mostly with microeconomic ratherthan macroeconomic policy.

The obstacles to successful reform are equallyfamiliar. To succeed, reform must overcomevested interests in the public and private sectors,fears of change, and the complexities anduncertainties of change in dynamic economicand social environments. For three reasons,transforming how the public sector conducts itsregulatory and administrative functions isextremely difficult:

First, it is a far-reaching agenda, requiringgovernments to make the transition fromstate- to market-led growth. Transformationof the public sector goes beyond changingpolicies and legal mechanisms, because therole and style of regulation in society aredeeply embedded in traditions, capacities,interests, and the distribution of power.Making extensive change to the regulatoryfunction stretches from legal instruments togovernment institutions, processes, andcapacitiesand even further, to the rule oflaw and changing relationships between thestate, markets, and society. Because the

culture of governance is relatively path-determined, reforms can often be reversedor ignored.

Second, existing incentives strongly favorthe status quo. Interest groups inside andoutside the public sector have organized itfor their benefit. Reform often encountersmassive resistance, both passive and orga-nized, that delays implementation orundermines its results.

Third, capacities and strategies for changeare often insufficient. Even if a governmentdecides to move forward, weak politicalleadership, poor coordination, fragmentedpolicy jurisdictions, low skill levels, andlimited accountabilitywithin the largercontext of a weak rule of lawconspire tomake successful reform extremely difficult. 2 Scott and Astrakhan (2006).


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less developed countries.3 But highly developedcountries can also summon the energy andsupport to embark on major new directions.

The question is, how? How can genuine, lastingsuccess be achieved in a governing environmentresistant or hostile to change? Can generallessons be learned from the countries discussedabove? This paper analyzes the political econ-omy and institutional mechanisms of successfulreforms to help governments implement goodpractices based on international experiencesnot only in Hungary, Korea, and Mexico, butalso in Australia, Italy, and the United Kingdom.It focuses on how governments can speed upand broaden reforms to improve the business

environment by building capacity to plan,organize, implement, and sustain a government-wide, multi-year reform strategy. The paper alsoassesses the relationship between the design ofreforms and the constraints posed by a countryspolitical economy.

from having planned to market-led economies,with larger roles for the private sector than inmost Western European countries. This transi-tion required massive deregulation and re-regulation, complete rebuilding of the countries

institutional frameworks, and the creation ofstrong transparency and accountability mea-sures. The success of these effortsincludingHungary and Polands rapid achievement ofmembership in the OECD and EuropeanUnionwas due to the adoption of strategicand systemic approaches for building regulatorypolicies, tools, and institutions, backed byexternal pressures and political flexibility.

But success is not limited to the extraordinary

transformations in Eastern Europe. Korea elimi-nated half of its regulations in less than a yearthrough a national reform program, while Mexicoreversed 70 years of economic controls by revisingmore than 90 percent of its national legislation inabout six years, opening and transforming itseconomy. Results from Kenyas licensing reformsuggest that similar processes can be initiated in 3 Jacobs, Ladegaard, Musau (2007).


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Before identifying lessons of reforms to improvethe business environment, it is essential to firstdefine and then measure what is meant byeffective reform.

Defining Effective ReformViewed as a whole, the business environmentgoes far beyond the impacts of regulatory andadministrative practices, and includes a range ofissues such as infrastructure, natural resourceendowments, political risk, and macroeconomicstability. But regulatory and administrativeissues require their own policy agenda, so thediscussion here is limited to them.

How should success in improving the regulatoryand administrative environment for business bedefined? The most advanced countries workingon regulatory reform have taken a broad socialwelfare approach to measuring regulatoryimprovements. This approach uses varioustechniques to assess the net social gain from thegovernments regulatory function. No countryhas developed a way of making such assessments

on a national scale, but a few countries areslowly improving their understanding of howregulatory systems change over time in deliver-ing net benefits.

A measure of success, then, would be a steady

increase over time in net social benefits from allregulatory and administrative practices. But thismeasure goes beyond the impacts of regulatoryand administrative practices on business, andincludes the wider societal benefits of regulation.As a practical matter, it is not necessary to takesuch a wide scope to measure success for thebusiness environment. And methodologically, itis impossible to adopt a net benefit approach atthis time. Over time though, reformers mustincreasingly balance regulatory costs and benefits,

since improvements in regulatory benefitssuchas higher health, safety, and environmentalstandardsare crucial even in countries withterrible business environments.

Instead, a measure of success in improving thebusiness environment could focus on thespecific impacts that the regulatory and adminis-trative environment have on business decisions.


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These impacts can be divided into two catego-ries: costs and risks.

Regulatory costs for businesses fall into threecategories:

Operating or transaction costs. Sometimescalled administrative costs, these includecosts imposed by paperwork, formalities,corruption, and operating procedures such asinformation disclosure. Such costs usuallylast for the life of the company, so their netpresent value tends to be high. These costsalso have a fairly high fixed component, andare particularly hard on small and medium-size enterprises. Unless they can be passed onto consumers, these costs reduce profitability.

Capital costs. Capital costs usually refer tothe costs of buying new equipment andland. Though often high upfront, they fallover time as new equipment characteristicsare built into equipment design and invest-ment planning. In the early years of abusiness, capital costs can distort basicdecisions such as on the trade-off betweenlabor and capital. Regulations imposingcapital costs diminish investment in produc-

tive activities and so reduce firm innovationand productivity.

Reductions in the value of business assets byeliminating opportunities for higher returns.Regulators can impose such costs by allow-ing monopolies or imposing other barriersto market entry, slowing innovation, reduc-ing business flexibility (say, in labor deci-sions), or forcing businesses to spendresources on strategic behavior. These lost

opportunities force investment decisionsinto lower-return activities.

Regulatory risksthat the rules of the game willchange or be understood only once an invest-ment is sunkreduce the amount, return, andsocial value of business investments. Investmentswill fall because their projected returns decrease.The more uncertain and risky the legal and

administrative environment for economicactivity, the more likely it is that aggressive rentseeking and short-term profit taking will replacelonger-term investment. This is the main reasonit is difficult to attract infrastructure investments

in uncertain regulatory environments.

When regulatory and administrative impacts onthe investment environment are discussed, it isusually specifically in terms of how regulatorycosts and risks affect businesses themselves. Theassumption is that as regulatory costs and risksrise for a company, its projected return oninvestment declines. That is not always the case,because some regulatory costssuch as con-sumer protectionmay produce higher gains

than losses for companies. But if governance ispoor and public services are of low quality, thisrelationship is indeed almost always inverse.

Thus a reasonable definition of success forreform of the enabling environment, and theone used in this paper, is: reform that increasesprivate returns on investment by reducing netregulatory risks, costs, or both. The word netis critical here. Investors make aggregateddecisions about returns on investment. All

regulatory costs and risks must be combined toobtain an accurate view of future returns. This isan enormous undertaking in countries that arehighly over-regulated because few reforms will,in isolation, significantly change returns oninvestment.

Prior to the 200507 licensing reform inNairobi, Kenya, for example, a taxi driver wasrequired to have 12 permits to drive from thecity center to the airport. Investors in a taxi

service had to consider the cumulative effects ofall 12, plus any new ones that might be added inthe future. Business environment reforms thateliminate six low-cost permits can be negated bythe addition of one high-cost permit or byenforcement changes in the other six. Thus, togenuinely change the business environment byincreasing projected returns on investment, it isnecessary to have a comprehensive view of


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regulatory costs and risks facing the businessesof interest. Reform boosts business activity onlyif net benefits are achieved.

This definition of success has important implica-tions for the reform strategy, as discussed later inthis paper. Efforts to change net costs and riskslead to strategies that are systemic, longer-term,top-down, and institutionalized. Efforts to changeselected costs and risks, by contrast, tend to beshorter-term, bottom-up, and limited in scope.

Another possible measure of success in reformingthe business environment is the extent to whicheconomic gains are passed from businesses toconsumers. Business environment reforms thatincrease competition are not always beneficialto business profitability. In fact, increasedcompetitionparticularly after a period of highprotectionoften results in more businessturbulence and restructuring. In such cases, goodreforms might lower returns on investment inthose activities. Here success could be measuredin terms of sustained increases in consumerwelfare, not returns on investment. But thedistributional issues of business environmentreforms are not necessarily a primary concern in

countries where the top priority is increasingoverall economic growth. When setting prioritiesfor business environment reforms, it might bepreferable to focus on reforms that produce thehighest gains in household income, instead ofreturns on investment. That would be a reason-able adjustment of the definition of success.

Measuring Effective Reform

How should the success of business environmentreforms be measured? This is a key question,because often the measurement technology defacto defines what is meant by success. Unfortu-nately, the ways of measuring the net effects ofregulatory costs and risks are not always reliable.

In the past few years, a flood of business environ-ment indicators and assessments has produced a

wide range of possible inputs into a good businessenvironment. These assessments typically assertthat certain indicators are correlated with eco-nomic performance. The implication is that acountry that seeks to improve its performance

based on these indicators will improve its businessenvironment, encouraging investment and growth.

Some of these indicators take a bottom-upapproach, selecting regulatory and administra-tive issues considered high priorities and devel-oping quantified measures of regulatory costsand, increasingly, risks. The World Banksinfluential annual Doing Businessreport is one ofseveral projects that uses such indicators:

The data offer a wealth of detail on thespecific regulations and institutions thatenhance or hinder business activity, thebiggest bottlenecks causing bureaucraticdelay, and the cost of complying withregulations. Governments can identify, afterreviewing their countrys Doing Businessindicators, where they lag behind and whatto reform(www.doingbusiness.org).

Here success means moving up the indicators

rankings on the things being measured. Somedatasets generate synthetic indicators of theoverall business environment by aggregatinglarge numbers of indicators of specific problems.Performance on these meta-level syntheticindicators is increasingly seen as a proxy for realchanges in the business environment.

Taking this approach, this paper measuresreform success as steady and sustained improve-ment, objective or relative, in individual

indicatorsor, preferably, in broad, syntheticindicators of inputs to the business environ-ment. Some of these indicators, such as thoseused in the Doing Businessproject, have beenextremely successful in attracting politicalattention to the problems of the businessenvironment and in drawing reform resources tothe problems being measured. In manycountries business registration is likely much


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decreasing. The problem with using such indica-tors as a measure of success for a reform program isthat business perceptions are notoriously difficultto compare over time and across countries, theychange for many reasons besides actual regulatory

risks and costs, and they often suffer from a lag ofuncertain length between reforms and changes inperception. Moreover, such measures are oftenviewed with suspicion by government officials, andso may not have the credibility needed to under-pin reforms. It would be difficult to use theseindicators as a measure of success for a nationalreform program, though they could be used tovalidate information from other sources.

Another aggregated approach to measuring

success in business environment reform programsis to avoid using proxies and instead monitorrevealed preferencesthat is, actual business deci-sions. This approach would require a monitoringexercise aimed at sectors or activities affected byreforms, and developing indicators of changes inbusiness profitability, investment, hiring, expan-sion, and other measures of revealed businessconfidence. These indicators can be measured inreal time, but have the weakness of aggregatingfactors beyond the regulatory and administrative

environment. Accordingly, they will probablymeasure only the most significant impacts ofreforms that are visible through the noise.

None of the reform programs in the case studiessummarized in this paper was followed up withthis kind of detailed monitoring. Instead, theresults of the reforms were embedded in largermacroeconomic results, such as national invest-ment flows.

The approach used to measure the success ofreforms is likely to drive their content andstrategy. If the focus is on reducing net costs andrisks, then aggregate measures are neededrelevant to broad, systemic reforms. But suchmeasures are not yet sufficiently developed forwidespread application. This gap between thegoals of reform and monitoring techniques

merits attention.

more efficient and transparent today than it wasfive years ago as a direct result of the DoingBusinessdatabase. The same may be true forother procedures measured by this and similardatabases. Such indicators would seem to have

an important place in any monitoring program.

Yet as a means of designing a national reformstrategy for the business environment, thisapproach does not seem intuitively satisfying.Indeed, none of the case studies summarized inthis paper took such an approach. Because theseindicators are based on individual inputs, theyrisk undue attention to a few trees in the forestrather than the health of the entire forest. Thismethod is also limited by the indicators chosen,

which in turn are limited by the measuringmethods used for each indicator. Syntheticindicators are based on some implicit weightingscheme that may or may not correspond to theactual importance of each indicator. Most impor-tant, these indicators do not measure net changes.Changes in the business environment outside thescope of the indicators are simply ignoredandin the vast, complex, continually changingregulatory and administrative environments ofevery country, this limitation seems significant.

Another approach is to collect general percep-tions of the business environment using inter-views with business people and investors. Mostindicator databases collect specific informationon regulations, government administration, andother perceptions immediately relevant toregulatory costs and risks. This is the approachtaken by the World Banks World BusinessEnvironment Survey (covering 10,000 firms in80 countries), A.T. Kearneys Foreign Direct

Investment Confidence Index, and TransparencyInternationals Corruption Perceptions Index.

This kind of indicator seems to better capture neteffects, because they aggregate the perceptions ofbusinesses on the costs and risks they face. Suchperceptions drive business decisions. Strangely,almost none of these surveys actually ask whetheranticipated return on investment is increasing or


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The case studies summarized in this papercover middle- and high-income countries thathave successfully conducted broad reformprograms. Some of the findings may not bedirectly applicable to low-income countries,but the overall lessonslinking reform strate-

gies with reform driversseem transferable,with care, to countries with weak reforminstitutions and environments that are hostileto reform.

This chapter does not provide detailed summa-ries of the case studies, which are availableseparately.4 Rather, brief descriptions of reformsin each country are followed in Chapter 4 byanalyses of the drivers of reform and in Chapter 5by the criteria deemed critical to success across

the six countries. Table 2 provides a timelineof significant reform events in the six countries.It illustrates a point made repeatedly in thisassessment: that broad, sustainable reforms didnot occur rapidly, evolved over time (sometimesunpredictably), and unfolded through a seriesof steps that required the efforts of manyactors. Success was determined by how these

actors and steps were linked together in amomentum for reform.

Hungary

By 2001, after more than 10 years of deter-

mined reforms, Hungary had largely completedits historic social, political, and economictransition. One indicator of the scale of thischange is that, by the end of 1998, the privatesector generated 85 percent of gross domesticproduct (one of the highest shares in theOECD), up from 16 percent in 1989. Thetransition involved both new regulation andderegulation, and a conceptual as well as atechnical transformation.

Starting in 1989, successive administrationseliminated large swathes of laws and otherregulations designed for a centrally plannedeconomy. In addition, every year Parliamentpassed more than a hundred laws, thegovernment adopted twice as many decrees, andministries promulgated many hundreds oforders. From government procurement laws toproperty rights, bankruptcy, and businessstartup rules, many of the regulations and

4 See www.fias.net


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TABLE 2

Regulatory Reform Timeline in Six Countries

Hungary Korea, Rep. of Mexico Australia Italy United Kingdom

Pre-1980

1980

1990

Late 1980sDeterioratingmacroeconom-ics and growingcorruption.

198788Reformcommuniststake power andsupport marketeconomy.

1989Politicalupheaval leadsto institutionaland legalreforms.

198990

First guillotinereview (drivenby the primeminister).

199094Reforms slow asbureaucraticsupportsolidifies; keylaws passed;macroeconomicproblemscontinue.

199498Secondguillotine review(driven bylegislature).

1980sEconomybecomes toolarge andcomplex forgovernment-leddevelopment.

1992 Newregulatory reformlaws andinstitutions havelittle impact dueto poor staffingand ministerialresistance tochange.

199296Regulatoryreform commit-tees establishedunder presidenthave little cloutand are not partof bureaucracy.

198086Economic crisisleads to stagnanteconomy andcumbersomebureaucracy.

1988 Salinasgovernmentpushes for rapideconomicreform.

1989 High-levelEconomicDeregulationUnit created.

199194NAFTA requiresstructural reformsand keyprivatizations.

1994 Whencurrencycollapses,businessesdemand reform.

1960s and1970sAnxietiesdevelop over along-termdecline ineconomicperformance.

1980sPublic backssubstantialfederal reformprogram.

1994 Successof earlierreforms leads toadoption ofNationalCompetitionPolicy (NCP).

199495Stategovernments

initially resistbecause NCPseen as federalpower andmoney grab.

1980s and early1990s Soaringpublic deficit andcorruption scandalprepare way forreforms.

1990 Firstadministrativeprocedure andantitrust lawsenacted.

1979ConservativeParty comesto powerdeterminedto reverseeconomicdecline.

1980s Focus onprivatization;European Union(EU) SingleMarket spursreforms.

1988 Next Stepsinitiative transferspublic servicedelivery fromministries totightly managedagencies.

(Continued)


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TABLE 2 (Cont inued)

Hungary Korea, Rep. of Mexico Australia Italy United Kingdom

1995

2000

19982002

Reformsslow;privatizationcontinues.

2003 Newgovernmentreenergizesmarket-orientedreforms.

2004Hungaryjoins EU.

1997 Asian

financial crisisshifts politics andleads to keyBasic Act onAdministrativeReforms.

1998InfluentialRegulationReformCommitteecreated withcivilian andgovernmentmembers.

199899President orders50% reduction innumber ofregulations

19982002RegulationReformCommittee limitsnumber of newregulations andhelps interministe-rial coordination.

1995

Presidentialdecree requiresregulatoryimpact analysis.

199599Guillotine revieweliminates 45%of business redtape.

19972000Congress andJudiciary blockreform initiatives.

2000 AlthoughCofemerestablished asstrong centralagency, publicbacklash againstreformscontinues.

1995 Federal

and statecompetitionentities createdto overseereforms;financialincentivesbring statesonboard.

199599Stakeholderssee urban areasas benefitingmore than ruralareas.

2000 Modestchanges toNCP includebetterinterpretation ofpublic interesttest.

2004 Plansmade forsecond waveof reform.

19962001

Bassaninireformssingleminister promotesa series of broadregulatory reformsto better positionItaly in EU; keysupport comesfrom threesuccessive primeministers andgeneral public.

1999 CentralRegulationSimplification Unitestablished;regulatory impactanalysis only onan experimentalbasis.

2000Governmentallowed to usedecrees to bypassparliamentarybottlenecks ingetting regulatoryreform tools.

2001 Ministerialand bureaucraticresistance toreforms increases;support among

stakeholderswanes.

1997 Labor Party

comes intopower andreenergizesreforms.

1997 BetterRegulation Task.Force formed togive voice tostakeholders.

1999 Centralregulatory qualityoffice createdand regulatoryreform officialplaced in eachministry.Regulatoryimpact analysiswhite paperpublished.

200003 Seriesof legislationenacted toimprove businessenvironment andcompetitiveness.

institutions needed for the smooth operation ofmarkets were established and secured.

Important lessons from Hungary include thevalue of consistent reforms over several years

(though this aspect should not be exaggerated,since the countrys reform process was turbulentand not always coherent) and of accompanyingmarket liberalization with governance reform.Hungarys reforms also show that institutions


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state. Domestic reforms were boosted andunderpinned by new international commitmentsas Mexico joined the General Agreement onTariffs and Trade (GATT), Asia-Pacific Eco-nomic Cooperation (APEC) consortium, and

OECD, and signed the North American FreeTrade Agreement (NAFTA) as well as other freetrade agreements with Latin American countries.

High-Income Countries

A single case study was conducted of threehigh-income countriesAustralia, Italy, andthe United Kingdomthat are representativeof successful, broad, multi-year reform pro-grams resulting in much stronger business and

investment environments. Though the focus ofreforms varied by country, the processes facedsimilar challenges: conceptualizing, organizing,marketing, implementing, and sustainingmajor regulatory reforms despite institutionalweaknesses, incentive problems, and resistancefrom public and private interests. While theways that reforms were enacted were tailored toeach country, this paper draws general lessonsabout institutions, externalities, capacities, andorganization of reform energies that sustained

change in the face of vested interests.

Australia

In 1994 the heads of Australias federal, state, andterritory governments adopted a national compe-tition policy. The policy sought to accelerate andbroaden microeconomic reform to achievehigher, sustainable economic and employmentgrowth. A unique feature of the policy is that it

was designed as an integrated strategy that wouldapply consistent competition principles across anextremely wide range of policy areas and mul-tiple levels of government. It aimed to embed apresumption in all regulatory processes that com-petition would not be restricted, and imposedstrict public benefit tests to limit such restric-tions. A key goal was to ensure the existence of asingle open market for goods and services across

play a crucial role in economic performance andgood governance.

Republic of Korea

During 19932002 Koreas growth slowed, theperformance of its chaebol(huge conglomerates)contributed to the massive financial crisis of1997, and the country joined the OECD,forcing it to open its markets. In response tothese challenges, an ambitious regulatory,financial, and structural reform program waslaunched in the late 1990s to make the economymore competitive and restore the foundationsfor sustainable growth.

The program worked, boosting the confidence ofinvestors both domestic and foreign. The reformsmoved Korea from a highly interventionist,authoritarian model of economic development toa market-oriented, open model based on con-sumer choice, democracy, and the rule of law.The changes made to Koreas public sector areamong the most far-reaching reforms of regula-tion ever undertaken in an OECD country.

MexicoMexico made regulatory reform a centralelement in its transformation from aninward-looking economy to an open, market-based one. The rapid pace, broad scope, andconsiderable depth of Mexicos regulatoryreforms exceed those of most longtime OECDcountries, and are comparable to those of theemerging market economies in Eastern Europethat recently joined the OECD.

By 1998 virtually all price controls had beeneliminated. A deregulation program adopted in1995 attacked myriad forms of governmentintervention in economic activity and promotedbetter regulatory techniques throughout thepublic administration (including at state andmunicipal levels). These efforts were supportedby others aimed at modernizing the Mexican


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Australia. The National Competition Policy(NCP), which was implemented over six years,represented a long-term policy commitment,building on long-term microeconomic reformsthat began in the 1980s.

Italy

Starting later than many countries, Italy devotedthe 1990s to catching up with leading OECDcountries on economic and governance reforms.The scope, speed, and consistency of structuralreforms over multiple administrations wereremarkable. Regulatory reform was only one ofmany changes in Italy in the 1990s, but it wasan essential one. After the macroeconomic

stabilization program of the early 1990s, regula-tory reform helped attack many of theunderlying structural problems in the economyand the public administration.

The confluence of multiple political and eco-nomic challengesdomestic and foreignwasin some ways shock therapy for Italy. Rigiditiesand practices accumulated over decades werereassessed, and many abandoned. Growingawareness of the excessive role that the state

played in economic life led to policy andinstitutional changes. As the political landscapewas redrawn, aspects of the centralized statewere dismantled and many statist economicpolicies were replaced with more transparent,

pro-competition policies.

United Kingdom

Since the early 1980s regulatory reform has beena key part of successive U.K. administrationsambitious structural reform programs, intendedto strengthen competition and private sectorvitality. Four features of recent regulatoryreforms in the United Kingdom are particularly

relevant. First, an extensive program of privati-zation, deregulation, and targeted re-regulationwas conducted. Second, deregulation occurredat the same time as extensive re-regulationthrough the creation of numerous new regula-tory bodies. Third, reducing regulatory burdenson small businesses was a central feature of theprogram. Fourth, public sector reforms soughtto ensure that public services were of highquality, effective, and homogeneous.


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Opportunities for genuine reform comerarelyoften only when crises and externalpressures make clear the costs of inaction andchange the balance of power that previouslyprotected the status quo. In most countrieswhere donors are active, the dynamic of change

is controlled by public choice and capturedstate interests.

Such interests almost always run contrary tothe role of the state as envisioned in businessenvironment reforms. In most developingcountries, improving the business environmentrequires that governments unwind extensivestate involvement in the economy, discourageentrenched rent seeking behavior, build newregulatory and administrative capacities, and

create market-based regulatory regimes andinstitutions that support investment, innova-tion, and vigorous competition. How candrivers of change work against drivers of thestatus quo?

A greater understanding of the dynamics ofchange is emerging primarily as a result ofdecades of study in fields such as politicalscience and new institutional economics. Theseefforts recognize that sustained changes ineconomic policy can be understood only in the

context of wider changes, particularly in thestock of knowledge and institutionssuch asmarket institutions changed by globalizationand political institutions changed by upheaval.

This macro perspective drives some advocates ofnew institutional economics to pessimismbecause of the difficulty of bringing about broadchange. But it should not obscure the fact thatreformers can influence the direction and paceof change. This perspective emphasizes the roles

of drivers of change, defined here as forces thatexpand opportunities for reform within thepolitical economy of a country. This chapterreviews the seven main drivers of change


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are proxies for relative performance. Improve-ment in the indicators is supposed to improveeconomic performance. Second, a countrytargeted for reform is usually described asfalling behind peer countries. This message is

intended to convey a sense of urgency to thegovernment in pushing ahead with reforms inorder to catch upthat is, capture its fair shareof global wealth.

The competitiveness driver of reform is familiarto donors, who often rely on it to persuadepolitical elites that the costs of not reformingwill be higher than the costs of reform. In thiscase the costs of the status quo are seen as rising,reducing the cost of change.

Competitiveness was important in all the casestudies. In every country reforms were an explicitresponse to fears of falling behind, losing na-tional markets, and seeing rising imports. Thesefears were especially strong in countries trying tointegrate with markets where competition waskeener (Mexico with North America; Hungary,Italy, and the United Kingdom with Europe).These fears were also strong in countries drop-ping barriers to foreign trade and investment,

exposing domestic businesses to new interna-tional competitors (Australia, Korea).

Concerns about competitiveness can lead todamaging policy reforms, such as protection andgovernment intervention. But such concerns canalso lead to market-oriented reforms. Decisions torespond with market-oriented reforms in the sixcountries were due to other drivers, such as strongexternal pressures to open markets and consensusthat growth depended on private sector perfor-mance. Indeed, regulatory reforms were widelyseen as a way to deal with competitivenessconcerns. The first round of regulatory reformsin Korea cut by more than half the number ofindustries subject to strong entry barriers, whilecontinued efforts to drive down regulatory costspulled Korea up on the World EconomicForums Global Competitiveness Reportfrom 48of 53 countries in 1997 to 26 of 75 in 2002.

identified in the academic and developmentliterature:

Globalization or competitiveness

Crisis

Political leadership

Unfolding reform synergies

Technocrats

Changes in civil society

External pressure

These drivers are assessed for their relevance ineach of the six case studies discussed here(Table 3). The studies show that, rather than acause-and-effect scenario in which a driver ofchange creates and defines the success of a bodyof reforms, what happens is an unfolding seriesof events in which various drivers rise andfallbecoming more and less important indriving reforms. If this conclusion is correct,strategic exploitation of drivers of change is keyto sustainable reform.

Globalization or Competitiveness

As capital and corporations move more freelyacross national boundaries, governments areforced to engage in regulatory competition. Toretain current investments and attract newones, they must lower the costs of doingbusiness in their countries (Vogel and Kagan2004, 3). Thus, globalization drives regulatoryreforms intended to reduce the costs or risks ofinvestment and increase expected returns oninvestment.

The globalization or competitiveness driver isoften supported by the use of comparativeindicators of performance that are intended tocarry two messages. First, to the extent thatsuch indicators can be correlated with eco-nomic performance, rankings on the indicators


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The nature of regulatory competition in globalmarkets has been the source of much debate inthe developed world. Some feel that regulatorycompetition has led to a race to the bottom inwhich environmental and labor standards are

undermined by companies seeking to becomemore competitive. Other groups, supported bymost academic studies, believe that regulatorycompetition tends to increase efficiency andquality rather than laxityand that highereconomic growth generally leads to higherprotection through improved regulation(Drezner 2000). For that reason the competi-tiveness driver must be carefully deployed, toavoid the impression that competitiveness isstrictly about expanding deregulation and

reducing burdens on businesses.

The globalization driver has the potential todrive a broad reform program. But often,because its starting point is the interests of largeinvestors, it leads to a narrow focus on theirneeds. This is the inherent contradiction of theglobalization driver: competitiveness is a far-reaching concept, yet reforms related to com-petitiveness often focus on the needs of large,export-oriented investors.

Crisis

A crisis is a terrible thing to waste, wroteThomas Friedman (2005). Many theories ofreform start with the idea of a galvanizingeventsome kind of crisis that upsets thebalance of power that has preserved the statusquo. This approach has much appeal because itseems to be one of the few realistic ways of

loosening the grasp of powerful interests thathave captured the state apparatus.

The six subject countries in the case studiespresent a mixed picture of the importance ofcrisis in reform. Three (Hungary, Korea, Mexico)sought reform while recovering from painfuleconomic and political crises. All three used thecrisis to launch reforms whose consequences

were probably not well understood outside thereform elite. The other three countries (Australia,Italy, United Kingdom) did not face alarmingshort-term crises, but were beset by a sense thatcrisis was looming unless real change was made.

In these countries, competitiveness fears substi-tuted for a real crisis.

Reformers may applaud the opportunitiesafforded by crisis, but crisis is a high-riskapproach to achieving reforms. Italy, and tosome extent, Korea, show that reforms launchedon the back of a crisis can be difficult to sustain.There is also no assurance that leaders will makethe right decisions in the face of a crisis, ratherthan making things even worse. Mexico wentthrough a long series of peso crises in whichpolicy reforms followed no coherent strategybefore finally arriving at the sustained market-oriented reforms of the 1990s.

Political Leadership

Even when a crisis becomes apparent, lack ofpolitical leadership can result in little or no action.There is little question that whatever the other

drivers, political leadership is the yeast that makesthem rise. Political leadership is at its most fearlessjust after elections, when promises of reform andthe forbearance of the electorate are at theirheight. When crisis leads to political shakeup,opportunities for reform are maximized. But bythen, the costs of reform can be much higher.

Public choice theory assumes that courageouspolitical leadership will not occur becausepoliticians will always maximize their well-being

by splitting up the economic pie in a way thatensures their re-election. But even under thepublic-choice paradigm, predatory statessometimes create a situation where radicalreform is a self-interested strategy. In such casespolitical leadership simply means a politicalelite skilled enough to recognize that its advan-tage lies in reform. This type of skilled elite doesnot emerge very often.


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TABLE 3

Key Drivers of Regulatory Reform in Six Countries

Driver Hungary Korea, Rep. of Mexico Australia ItalyUnitedKingdom

Globalization orcompetitiveness

Reform wastriggered by theneed to create amarket-basedeconomy andjoin the EU.

To increaseforeign directinvestment,reforms had toremove explicitinvestmentbarriers andexcessiveregulations.

In the 1980s,competition forinternationalcapital andinvestment wasgrowing, andleaders saw thebenefits ofliberalizing tradefor assemblyplants exportingprimarily to theU.S. market.

Australia, a small(in population)and isolatedcountry, wasdeeply consciousof the impor-tance of keepingup with globaleconomic trendsand competition.

An importantfactor for Italianreform was theneed to meeteconomicconditions forentry into theEurozone; thatneed alsotriggered fears offalling behind inEurope.

U.K. reformswereinstigated bystrong supportfor building theSingle Market,which broughtwith it manyEU harmoniza-tion laws aswell as opentrade.

Crisis An unpre-

cedentedchange inpolitical regimeand collapse ofthe economycreated newelites andgrowingexpectations forreal change.

The 1997 crisis

produced themost painfuleconomiccontraction inOECD history.1998 was thefirst year since1979 in whichKorea hadnegative growth.

In the 1980s, a

collapse in oilprices anddefault onmassive externaldebt, followedby five years ofeconomicstagnation,triggeredprivatization,trade liberaliza-tion, andregulatory reform.

Economic crisis

was not a crucialtrigger, butbetween 1960and 1992Australia hadfallen from beingthe 3rd richestOECD country to15th.

Economic crisis

was triggered byspiraling publicdebt and radicalpoliticalchanges.

Economic

crisis was acrucial triggerof reforms. Thecountry hadalso facedeconomicdecline relativeto its neighborsleading up tothe financialcrisis of thelate 1970s.

Politicalleadership

Successive primeministers actively

backed reformsto securedemocracy, therule of law, openmarkets,and eventuallyEU membership.

The presidentelected in 1997

supportedreforms. TheNationalAssemblyprovided supportby enactinglegislationneeded toimplement them.

The presidentand a small

group of advisersinitiated extensivereforms using atop-downapproach basedon traditionalcommand-and-controlmechanisms. Theresulting backlashslowed reforms.

Prime MinisterPaul Keating, a

former financeminister, wascommitted toadopting theNationalCompetitionPolicy.

Reform wasdriven almost

entirely by strongleadership fromone ministry andthe primeminister.

The election ofPrime Minister

MargaretThatcher in1979 gavethe countrya leaderdeterminedto reverse itseconomicdecline and liftstate economiccontrols.

Unfoldingreform synergies

So many reformswere launched insuch a shortperiod that

reform couldbe slowed, butnot stoppedwithout disaster.

Initial top-downreform producedimpressiveresults, but lack

of incentives forregulatory reformwithin thegovernmentslowed furtherreforms after afew years.

Market-openingreformsincreasedstakeholder

pressures foreconomicliberalization,which increasedpublic sectorcapacity forgood regulation.

Opening marketsyears earlierproduced strongconsensus on

domesticreforms. Generalagreement onNationalCompetitionPolicy reformspartly resultedfrom the cleareconomic

There was littlesuccess inbuilding reformmomentum

outside ofpolitical andtechnocraticpressures. Thiscompromised thespeed, if not theimplementation,of further reformsin those areas.

The countryexperienceda rollingsuccession of

reforms, eachof whichsowed theseeds for furthereffortsthoughthe need forongoingnegotiationsimpeded somereforms.


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TABLE 3 (Cont inued)

Driver Hungary Korea, Rep. of Mexico Australia ItalyUnitedKingdom

benefits of earlierreforms, but it tookconsiderableeffort to reachbipartisanagreement on thestructure of reform.

Technocrats The stronglyindependent,professionallystaffedHungarianCompetitionOffice played avigorous role inprivatization.

The RegulatoryReformCommitteestaffed partly withacademics,supported by civilservants, andco-chaired by theprime ministerisresponsible for

examining newand existingregulations andmaintainingregulatoryquality.

In 2000, anagency wascreated in theMinistry ofEconomy toimpose qualityand transparencyon the publicsector, andhighly trained

technocrats(economists) hadlegal authorityand politicalbacking to drivereforms.

Active supportfrom the financeministry wasimportant. TheNationalCompetitionCouncil, adedicated entitycreated tomonitor reforms,

ensuredconsistency andtransparency inreporting.

An academicminister of publicadministrationand his aidesdrove reforms inleague with atechnocraticprime minister.But a powerfulnew institution

did notemergeonereason the reformfaltered with achange inadministration.

Reform hadmanyinstitutionalchampions: adedicated unitat the center ofgovernmentresponsible foroverseeingregulatory

quality, anumber of taskforces and othergroups, and theNational AuditOffice.

Changes in civilsociety

Reform waslegally based,with activeinvolvement byParliament andextensiveconsultation withstakeholders suchas businesses,

trade unions,and disadvan-taged socialgroups.

Political supportfor reform wasbuilt on a popularcampaign toeliminatecorruption, whichcoincided withan upsurge ofnon-governmental

organizations(NGOs) focusedon the issue.NGOs grew veryquickly: by 2000there were up to8,000, providinga new force forpolitical change.

Early reformswere nottransparent,which limitedreformers abilityto gain supportfrom privatestakeholders.Later, as political

supportwavered, specialprivate bodieswere created tooversee thereforms andprovidesustainedsupport.

Reforms in theearly 1980sreducedeconomicdecline. Theirsuccess showedthat much of thepopulationaccepted that

painful reformswere essential toreachingeconomic goals.

Identifying Italianreforms soclosely with astrong ministerenabled them tobe implementedin the short term,but effortsdissipated when

the minister leftand theadministrationchanged.

Common lawtraditionsagainstdevelopingsystemicapproachesacrossgovernmentled to an ad

hoc approachto reform thatmade publicbuy-in harder,increasedcosts, slowedresults, andcontributed toreform fatigue.

Externalpressure

Close relation-ships betweengovernmentofficials andoutside thinktanks and

internationalorganizationshelped reformsthrough inflowsof new ideas,sharedexperiences, andfunding.

OECDmembershipbrought newdemands foropenness andgood regulatory

practices. In1997 thegovernment, incooperation withthe InternationalMonetary Fund(IMF), beganderegulating thefinancial sector.

Mexicos closerelationship withthe UnitedStatescultivatedthroughNAFTAhelped

it recover quicklyfrom the 1995liquidity crisis.

Opposition wasdefused byincluding in theNationalCompetitionPolicy provisions

for the federalgovernment tomake competi-tion payments tostates (contingenton successfulcompletion ofreform obliga-tions).

Ministerial andbureaucraticresistance tofurther reformsand reversion tothe status quo

ante took holdafter 2001.

Reform wasaided by anactive EUCommissionlegislating forthe removal of

barriers to thefree movementof services,goods, andpeople.Inconsistencywith Europeancompetitionlaw causedmodernizationof U.K. law.


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Political leadership was essential in the six subjectcountries. All six benefited from champions ofreform at the center of government (a primeminister or president) or a strong cabinet minister(finance, public administration). Indeed, political

leadership guided reforms away from damagingresponses to crisis into more open, market-basedreforms. In two countries (Australia, UnitedKingdom) very strong, almost autocratic politi-cians drove reforms forward despite strong butdisorganized political resistance.

Political orientation does not seem to mattermuch in terms of propensity to lead reforms. InItaly, Korea, and Mexico the reform governmentswere on the left or nationalist. In Australia and

the United Kingdom, the governments werestrongly to the right on market economics. Andin Hungary, ideology had collapsed. This mixedpattern seems to support theories about the endof history and the weakening of politicalideology as a driver of reform.

However, politicians on the right seem to havebeen slightly more proactive in looking to thefuture than were politicians on the left. The bestpolitical leadership is proactive, rather than

reactive, in the midst of crisis. Skillful politicalleadership is needed to increase capacity forchange in the run-up to crisis, and to design andimplement reform strategies quickly to lower thecost of lost opportunities and ease the pain oftransition. Sometimes political leadership simplywatches a crisis unfold without taking action, asin Japan during its long banking crisis.

Unfolding Reform Synergies

OCED countries have long recognized impor-tant complementarities across product, labor,and capital markets. These complementaritiesare relevant because market-oriented reforms inone area can increase pressures for reform inother areasand even change the politicaleconomy downstream or upstream so that othervoices for reform emerge. This can be called the

avalanche theory of reform, where making asmall change can lead to a landslide of reformsover time.

Several mechanisms can be used to create a

self-sustained and expanding reform movement.If consumers see tangible benefits early on, theyare more likely to support continued reform.New interests can increase pressures for reformin other areas. Reform in one area can makecosts of regulation in other areas more visibleand painful. Tariff reform has stimulated reformof national product markets facing competitionfrom imports.

Four of the six countries studied here (as well as

others studied elsewhere, such as New Zealand)were able to exploit such links between reforms.5

Australia initiated competitiveness reformsseveral years after tariff reforms increasedpressures from foreign competition in thedomestic economy. In Mexico, the integrationof the North American economy throughNAFTA strengthened technocrats and inducedprivate industry associations to lobby for lessgovernment intervention. The United Kingdomcarried out a rolling program of reforms, but

was less successful in linking successive reformsdue to a need for extensive negotiations andpolitical investment at each stage. In the twocountries that did not exploit such links (Italy,Korea), reforms slowed after a few years orhalted when the administration changed.

Recent World Bank research, including the sixcountry case studies examined here, also foundthat linking reforms was a powerful driver ofchange. It concluded that in virtually all in-

stances reforms were linked to or resulted fromtrade and other liberalizing reforms, and thatincreased pressures from international competi-tion often led firms to demand a better business

5 New Zealand initiated labor market reforms in the early1990s, but only after radical regulatory reform in productmarkets in the 1980s contributed to massive unemploy-ment because the labor market could not adapt to the newenvironment.


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environment (World Bank 2006). It also notedthat in India trade liberalization created a needfor infrastructure investment and supply chainimprovements, leading the government in 1996to initiate reform of the countrys inefficient

ports by allowing private investment. Althoughdirect causality is not clear, the regions that havemade the least progress on microeconomicreform (such as South Asia and the Middle Eastand North Africa) also have the highest barriersto trade and foreign direct investment.

Links across policies lead reformers to debatehow to sequence reforms, and how importantsequencing is. The optimal sequence from aneconomic perspective (in terms of rapidly

reducing transition costs and achieving benefits)may differ from the optimal sequence from apolitical perspective (in terms of maximizingpolitical momentum for reform). There is littleevidence that engineering the sequence ofreforms works well. Most countries have ap-proached sequencing pragmatically, sincewaiting for the optimal sequence can delayreforms for a long time. For that reason, theOECD has advised its members to carefullyconsider sequencing, but not to abandon

opportunities while waiting (OECD 1997).

Technocrats

A popular notion in development literature isthat reform can be driven by politicians andsenior civil servants with training in economicsor other fields who develop rational policies forleading their countries forward. These techno-crats develop reforms based on the promotion of

the general gooda goal formalized as maxi-mizing the social welfare function based on avalue called the Pareto criterion. Neoclassicaltheory says that the general good will be pro-moted under certain conditions in competitivemarkets, a theory that has received considerableempirical support over the past 20 years. Such atheory of reform is in direct opposition to publicchoice theory.

Technocrats such as President Carlos Salinas ofMexico, President Lee Teng-hui of Taiwan(China), and Minister of Finance ManmohanSingh of India played significant roles in defin-ing and driving dramatic economic reforms.

Skilled technocrats at various levels of govern-ment have also been crucial to regulatoryreforms in many other OECD and developingeconomies.

Similarly, technocrats were extremely importantto the success of reforms in the six subjectcountries discussed here. These technocrats weremost effective when they were highly trainedand based in independent or reform-orientedinstitutions with legal mandates to advance

change.

In some cases, existing technocratic institutionswere given mandates for regulatory reform.Competition offices, with independentinvestigation and even veto authorities, wereimportant in Australia and Hungary, as was anindependent national audit office in the UnitedKingdom. Finance ministries were important inonly a couple of these countries, which isinteresting given the frequent reliance on such

ministries as the counterpart for donors indeveloping countries.

Special regulatory reform institutions in Korea,Mexico, Australia, and the United Kingdomprovided a central focus for technocrats to buildnew, specialized regulatory expertise. Thetop-down reforms in Korea and Mexico weredriven almost entirely by dedicated teams oftechnocrats who were either Ph.D economists(Mexico) or supported by strong academic and

research institutions (Korea).

These experiences suggest that technocraticdrivers of reform work better with a strategicapproach aimed at strengthening the muscle andcapacity of pro-reform technocrats relative toparts of the state governed by public-choicemotivations. Institutions can be built that givesuch technocrats more influence in the governing


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and poorly understood by the general public.But as political support began to waver, changesto the reforms created more visible private sectoradvisory groups, which played a very participa-tory, hands-on role in the reforms. This support

has helped sustain reforms even as politicalregimes have changed.

In Italy, limited civil society participation inand understanding of reforms made them lesssustainable. Indeed, the reforms were rapidlywound down once the administration changed.

Fostering an active, reform-minded civil societyis a key driver of reformone that has beenneglected in most developing countries, wheredonors have focused on making changes togovernments. Encouraging civil society supportfor reform is not just a notion, but anoperational strategy. Using civil society to helpexpand opportunities for reform requires that acrucial stage of reform precede the actual startof reforms: selling reform to an often skepticalpublic. Citizens need to understand whyreform is so important to their future well-being and that of their children. Open dialoguewith major stakeholders on the benefits and

costs of reform can improve understanding onall sides of short- and long-term effects ofaction and inaction, and of the distribution ofcosts and benefits. In most countries, reformwould benefit from wider, more informeddebates less dominated by special interests thatstand to lose the most.

The OECD has found that developing andarticulating transparent policies for regulatoryreformboth government-wide and for indi-vidual sectorscan generate political commit-ment, result in more coherent and carefullyplanned reforms, mobilize constituencies forreform, and focus public debate on benefits andcosts. Reforms are more credible when the pathforward is clearly defined, and credibility is vitalif the private sector is to invest and workers areto accept bearing some risks in addition toreaping benefits.

system. This was the effect of NAFTA in Mexicoand OECD accession in Koreaboth eventsreduced the grip of politicians on policymakingand increased the power of technocrats. In effect,politicians ceded power to technocrats through

legal devices in the form of internationalagreements.

Donors tend to choose technocrats as counter-parts because they are more stable in the politi-cal process and more sympathetic to the theoriesand goals of microeconomic reform. As a result,technocrats play a larger role in donor reformstrategies than is probably warranted.

Changes in Civil SocietyReform is not a task only for governments,even in countries with weak civil societies.Other stakeholders, such as firms and workers,can help build support for reform and shareinformation across borders. As civil societydevelops, the balance of power protecting thestatus quo can change, and opportunities forreform widen.

This is clear from Korea, where a rapid jump inthe number of non-governmental organizations(NGOs rose from a few to more than 8,000 ina few years) increased the focus on issues suchas corruption, good governance, and capture ofthe state by the chaebol. This new politicalmovement helped break the decades-long gripon regulation held by bureaucrats and specialinterests. Korean reformers included an un-precedented degree of transparency in thereforms, and ongoing media coverage kept

political attention on reforms longer thanotherwise would have occurred. It could evenbe argued that as reforms became more rou-tine, public and media attention droppedcontributing to fewer and less effective reformsin later years.

Mexicos reforms started with little support fromcivil society. They were top-down, technocratic,


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The drivers of reform are the fuel that enablesgovernments to overcome pressures to maintainthe status quo. But these drivers must be chan-neled into a reform strategy that identifies,adopts, develops, communicates, and imple-ments beneficial changes. The design of these

changes is the real technology of reform.

This chapter identifies critical success factors forthe reform strategies in the six subject countries.Its sections correspond to major components ofthe reform process identified in previous studies:exploiting drivers of reform, setting the reformagenda, implementing reforms, monitoringreforms, and sustaining reforms over the me-dium term (Table 4).

Exploiting Drivers of ReformMaking strategic use of drivers of reformeventhose exogenous to the policy processis one keyto successful reform. Drivers of the status quo canbe overcome only with a mix of drivers of reform.How can the drivers identified in this paper beamplified to maximize opportunities for reform?

As noted, the six countries discussed here do notshow a linear cause-and-effect scenario in whicha single driver of change creates and defines thesuccess of reform. Crisis did not create reform;nor did political leadership. All six countriesused a changing mix of drivers through an

unfolding sequence of events. Despite country-specific situations, there seems to be a pattern tohow drivers were sequenced:

A crisis, a sense of impending crisis, orexternal obligations were always important atthe start of reforms. They redefined thepolitical economy of launching change, andemboldened reformers inside the government.

Crisis and obligations generated market-

oriented reforms when politicians allowedtechnocrats to design the way forward,define the content and goals of reforms, andspearhead their implementation.

Market-oriented reforms became sustainablewith institutionalization and mobilization ofconstituencies for change.


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The way that these steps work together is thereform strategy, and the effectiveness of usingdrivers to seize opportunities for reform willvary depending on the strategy used. Koreashows the importance of using the right

strategy to exploit opportunities for change: itsgrowing NGO population was empoweredthrough the unprecedented transparency andconsultation procedures of the regulatoryreform. The transparency of Koreas reformswas ideally matched to encourage and benefitfrom the emergence of an NGO constituencythat was proactive and ready to challenge thegovernment. In Mexico, the opportunities pro-vided by NAFTA were realized only throughthe creation of new institutions charged with

preparing the country to become more com-petitive. In both cases the governments werenot satisfied with simply reacting to the driversof reform: they also created situations wherethe drivers were amplified and sustained over along period.

Hungary used the imperative of transformationand EU membership to launch its reforms, butmade extensive efforts to build new institutionsboth top-down and bottom-upthroughout

the public administration. Rapid initialeconomic deregulation and constitutionalreforms, driven by the prime ministers office,were followed by a period of consolidation andinstitution building throughout the publicsector to build the mechanisms needed tooversee free markets. This pause was needed tomaintain the support of an increasingly alarmedpublic and to build new constituencies forreform in the public sector itself. It was followedby new rounds of reforms.

Although crisis and political leadership canlaunch reform, institutionalizing reform iscrucial to combating resistance. In Australia, theNational Competition Policy reform effortbegan in 1994 with support at the highest levels.But in 1995 the government realized that it hadto create the National Competition Council,

with special powers and responsibilities, tosupport implementation over several years. Inthe United Kingdom, when polit

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