SFB 303 Discussion Paper No. B - 311

Author: Ackermann, Michael, and Wilhelm Krelle
Title: Transition from a Planned to a Market Economy: The Interrelation of Subsidization of Firms, Budget Deficit, Unemployment and Inflation
Abstract: There are many important problems in the transition process from a planned to a market economy: changes of the political and social institutions, privatization, structural change of production, change of investment and consumption, to name only a few. They are all interrelated and should be dealt with in a general disequilibrium framework. This cannot be done here. Instead we single out some especially important economic problems: subsidization of firms, budget deficits, unemployment and inflation, which are the most visible concomitant phenomena in the transition process. We do this by means of partial analysis, i.e. we consider the subsidization of firms in a sector which is relatively small with respect to the total economy, so that the repercussions of changes in the sector considered on the sectors of the economy (except on the public sector which has to pay the subsidies) may be disregarded. This implies that at best we can derive partial optima. They may, however, reflect certain aspects of a reasonable economic policy in the difficult stage of transition. The paper is divided into two main parts. After a statement of the general problem we first analyse it from the static point of view. i.e. assuming a short time horizon of the government such that the factor prices and the rate of inflation can be considered as given. In the second part we dynamize the static system of the first part. The factor prices and the rate of inflation become variables. The interrelation of subsidies, budget deficits, unemployment and inflation depends on time. At the end of the paper some consequences are drawn with respect to the subsidization policy during this transitory phase of economic development. The constitutional and economic situation is different in each country in the transitory stage. We do not model a specific country but try to keep the approach general enough to cover the basic features of all countries as far the subsidization problem is concerned.
Creation-Date: 1995
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