EAST EUROPEAN REGIONAL ECONOMIC WRAP-UP

• Document Type: FOIA
• Collection: FOIA Collection
• Document Number (FOIA) /ESDN (CREST): 06275630
• Release Decision: RIPPUB
• Original Classification: U
• Document Page Count: 24
• Document Creation Date: December 28, 2022
• Document Release Date: August 28, 2018
• Case Number: F-2017-01874
• Publication Date: May 5, 1989

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-SECRET
Issue No. 7
5 May 1989
East European
Regional Economic Wrap-up
OIR
P &PD
EUR M 89-20090
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EAST EUROPEAN REGIONAL ECONOMIC WRAPUP (U)
5 May 1989
Page
Relations Outside the Bloc
Most East European Joint Ventures Objectives Unfulfilled
East European countries have liberalized their joint venture laws in recent
years to attract Western technology and boost exports, but the results so far
have fallen short of regime expectations.
Courting Iran and Iraq
The East European regimes are trying to profit from the postwar reconstruction
effort in Iran and Iraq, but the interest of these Persian Gulf countries in
reviving ties with the West and hard bargaining over oil barter agreements
will limit opportunities for the region.
(b)(3)
3 (b)(3)
Opening Up to South Korea
Some countries, particularly Hungary, are expanding ties with South Korea
in hopes of obtaining high technology, credits, and joint ventures. South
Korea is offering these sweeteners in an attempt to isolate North Korea.
Expanding Ties with Israel
(b)(3)
7 (b)(3)
A number of countries recently began renewing contacts with Israel in
hopes that this will earn economic rewards from Washington as well as
commercial and technological benefits from Israel, but Eastern Europe will
play this card cautiously to prevent alienating Arab nations.
(b)(3)
9 (b)(3)
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Relations Within the East Bloc
CEMA: Slow Growth for Grass Roots Economic Integration
Gorbachev's initiative to encourage direct ties between CEMA enterprises
as a way to promote economic integration has generated more public
relations than substance. Without price and currency reform, the efforts to
transform CEMA into an Eastern "EC" will flounder.
11
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Defense Spending to Fall
In a move that was probably carefully orchestrated, nearly all of the East
European Warsaw Pact members have announced unilateral cuts in defense
spending and military manpower since Soviet leader Gorbachev's
announcement of Soviet troop withdrawals from Eastern Europe. While
this move is aimed largely at weakening NATO's consensus on arms
negotiations, the regimes hope that reductions in defense spending will free
resources to deal with other key economic problems.
13
How Will Eastern Europe Respond to Soviet Pressures 15
to Use Natural Gas?
The region must make tough decisions about energy policies as it formulates
its economic plans for the 1990s. The region, which is heavily dependent on
Soviet oil, must decide how much to invest in conversion to natural gas since
Moscow refuses to provide greater quantities of oil.
Internal Affairs
Grain Harvest Average
The 1988 winter grain harvest was about average but the drought increased
crop losses in some countries. Overall consumer supplies will be adequate
in most countries, but spot shortages will contribute to consumer grumbling.
Albania: Persistent Economic Difficulties
Albania's economy is the most backward in the region, and little improvement
is likely until the leadership sheds long-held ideological beliefs that leave
Albania largely isolated from the world economy.
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19
This document was prepared by
East European Division, Office of
European Analysis. Comments and questions are welcome and should be addressed to
Chief, East European Division
-Secret�
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(b)(3)
Most East European Joint Venture
Objectives Unfulfilled
Most East European countries have liberalized
their joint venture laws in the past two years in a
bid to obtain Western technology and boost hard
currency exports. Most regimes, however, are
disappointed in the number of Western firms
attracted and are offering further concessions in
hope of achieving their objectives.
The growing competition among East European
countries to woo Western investors has spurred
most regimes to amend their joint venture laws
repeatedly in recent years. Yugoslavia and Poland
passed new legislation in December 1988, while
Hungary and Czechoslovakia amended their laws
in January 1989. Bulgaria amended its law in
1987, but is planning more changes later this year.
East Germany recently expressed interest in
trilateral joint ventures with West Germany and
the USSR, but no specifics were given. Only
Romania has not changed its law since 1972;
apparently the regime has little interest in
attracting new foreign investors.
Most of the joint ventures attracted are small and
have not brought in the high technology wanted
by the regimes: Yugoslavia and Hungary, the most
successful, have around 200 joint ventures each.
Less liberal laws and poorer business climates in
Poland, Bulgaria, Czechoslovakia, and Romania
continue to discourage Western firms. Until its
recent expression of interest, East Germany was
indifferent to joint ventures largely because of itc
determination to maintain close central control (b)(3)
over economic decisions and its good access to
Western markets through inter-German trade
(b) (3)
(b) (3)
Eastern Europe: Joint Venturesa
EE Country
Date of
Latest
Change
Year First.
Permitted
Number
Permits
Western
Majority
Ownership
Profit
Tax Rate
(Percent)
Tax Free
Period
(Years)
'N
Type of Venture
Bulgaria
1987
1980
15 I
Yes
20 to 30
3
Machinery,
consumer goods,
and chemicals
Czecho
slovakia
1989
1965
8
Yes
50
o
Electronics
and hotel
construction
Hungary
1989
1972
220b
Yes
20 to 30
50
Banking, tourism,
machinery, and
manufacturing
Hotel construction.
manufacturing.
and food
processing
Export�
oriented
industries
Poland
1988
1976
13
Yes
40
3
Romania
1972
1971
5
I No
40
1
Yugoslavia
�,.
1988
1967
200
Yes
10
o
Industry, mining.
agriculture,
and tourism
a As of June 1988.
b As of February 1989.
c Joint ventures in priority sectors.
1
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Despite recent tinkering with joint venture laws,
most regimes remain reluctant to take the major
steps necessary to attract Western firms because
they still fear foreign intrusion into their
economies. Western businessmen remain wary
about investments in Eastern Europe because of
the poor economic and political climate in some
countries, often capricious regulations, unrealistic
exchange rates, and restrictions on converting
profits into hard currency. The central allocation
of supplies and prohibition against wage
incentives in most countries also lead Western
firms to doubt the potential profitability of East
European joint ventures.
The willingness of most East European regimes to
continue experimenting with joint venture laws is
heightened by Soviet interest in attracting Western
investors. Further liberalization of Soviet joint
venture regulations will widen the scope for
change in East European laws and stiffen the
competition in attracting Western firms that
generally are more interested in the much larger
Soviet market. US firms' participation in Eastern
joint ventures may promote better East-West ties,
but some ventures could pose the risk of illegal
technology transfer.
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(b)(3)
Courting Iran and Iraq
Most East European regimes are trying to profit
from postwar economic reconstruction in Iran and
Iraq. The East Europeans hope increased exports
of civilian goods and services will augment
continued sizable arms sales, at least to Iran, or at
worst they will offset a possible reduction in
weapons exports. However, Baghdad's and
Tehran's interest in reviving ties with the West
and hard bargaining over the terms of oil barter
agreements will be obstacles to expansion of this
trade.
All East European countries except Albania have
been exploring ways to commercially exploit the
postwar needs of both countries. There has been a
flurry of official visits and exchanges since the
ceasefire, and Yugoslavia, Hungary,
Czechoslovakia, Bulgaria, East Germany, and
Poland have already signed oil barter agreements
with either Iran or Iraq.
Most of these deals involve East European
exports of machinery, vehicles, and construction
services, particularly for rebuilding the oil
industry, roads, power plants, and other public
services. These are sectors where the East
Europeans are competitive. Other opportunities
for Eastern Europe include building materials and
equipment, agriculture and food industries.
The potential for East European sales is probably
greater in Iran than Iraq. Iran faces a hard
currency crunch and is reluctant to accept foreign
loans, and the East European countries are more
willing than many Western countries to accept oil
in payment. Iraq's goals of expanding
commercial ties with the West and acquiring high
technology goods limit East European
opportunities, but Eastern Europe could increase
business with cash-short Baghdad if it is willing
to offer trade credits.
(b) (3)
Yugoslavia has become the frontrunner among
East European suppliers. The Iraqis and Iranians
consider Yugoslav technology, engineering, and
construction services, to be the most advanced in
Eastern Europe according to Embassy Belgrade.
Moreover, Belgrade's leading role in the
Non-Aligned Movement meshes with the political
image Iran and Iraq wish to project. The
Yugoslays view Iran and Iraq as lucrative (b)(3)
long-term markets and, according to the Embassy,
may accept short-term losses to gain market share.
Eastern Europe's civilian commercial dealings
with Iran and Iraq probably will not duplicate the
success it enjoyed with arms sales. Besides Iraq's
preferences for Western commercial suppliers, the
lifting of some Western sanctions against Tehran
will give East European exports stiffer
competition. The valuation of oil in barter deals
will also be a sticky issue. The East Europeans
will cite soft oil markets while Iran and Iraq will
point to the poor quality of East European
offerings.
3
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Eastern Europe a Trade With Iran and Iraq Million US $
Iran
Iraq
1986
1987
1986
1987
Exports
342.1
488.6
1,155.6
1,246.4
Bulgaria
83.0
81.4
303.9
395.9
Czechoslovakia
39.8
49.5
155.0
214.0
East Germany b
72.1
98.8
151.6
127.7
Hungary
51.7
112.0
57.1
32.1
Poland
19.5
21.9
145.0
63.7
Yugoslavia
76.0
125.0
343.0
413.0
Imports
602.7
549.5
1,053.3
750.5
Bulgaria
119.8
44.0
80.5
55.2
Czechoslovakia
94.6
78.0
1.0
1.0
East Germany b
72.1
98.8
151.6
127.7
Hungary
65.9
104.0
1.1
1.9
Poland
50.3
22.7
25.1
16.7
Yugoslavia
200.0
202.0
794.0
548.0
a No data from Romania were available.
b We are uncertain whether these figures include arms deliveries.
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(b)(3)
Examples of Developments Since the Ceasefire
� Iraq's request for bids from Yugoslav firms on 45
different infrastructure projects and the award of
$208 million in contracts to Yugoslavia for work
on the Bekhme Dam project.
� Yugoslavia's sale of trucks, iron foundries, heavy
machinery, and construction machinery,' in
exchange for 1.3 million tons of Iranian oil.
� Czechoslovak construction of power stations in
Iran and Iraq, as well as assistance in
construction of other public works projects and
industrial facilities in Iraq.
� Hungary's sale to Iran of such items as water
pumps, parts for oil drilling equipment, and
electric motors in return for agricultural
commodities.
� Iranian cooperation with Hungary in ore and
mineral mining, the aluminum, iron and steel
industries, and the processing of non-ferrous
metals. Hungary recently agreed to process
chromium and manganese ore in exchange for
oil and mineral exports.
� A Polish agreement with Iran for the repair and
reconstruction of the Rahmin Power Plant near
Ahwaz.
(b) (3)
5
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(b)(3)
Opening up to South Korea
Most East European countries are seeking to
expand economic links with South Korea. They
see the strong South Korean economy as a
potentially valuable source of high technology,
consumer goods, credits, and joint ventures, as
well as a growing market for some of their
exports. Seoul is using expanded dealings with
the Soviet Bloc primarily as a way to pressure
North Korea into a more conciliatory relationship
but also as a means to diversify its export
markets. The development of South Korean-East
European ties will be limited by Eastern Europe's
shortage of foreign exchange, South Korea's
reluctance to enter into any overly risky economic
ventures with Eastern Europe, and the strong
objections of North Korea to rapid expansion of
contacts with South Korea.
Relations Improve
Significant movement toward opening up South
Korean-Eastern European relations began with the
decision by all countries in the region, except
Albania, to participate in the 1988 Summer
Olympics in Seoul over P'yongyang's opposition.
Hungary took the lead by becoming the first
Communist regime to agree to exchange trade
offices and eventually establish diplomatic
relations, which it formally announced on 1
February 1989. The Yugoslav republic of
Slovenia, Poland, and Bulgaria also agreed to
open trade offices during the past few months.
East Germany and Czechoslovakia have
expressed interest in an exchange of trade offices,
although formal diplomatic links do not appear
imminent.
Eastern Europe's Economic Motivations
Trade with South Korea offers the East Europeans
several economic advantages.
(b) (3)
Eastern Europe Trade With Million US $ a
South Korea, 1986-87
1986
1987
Exports
Imports
Exports
Imports
Hungary
0.8
7.0
2.8
13.3
Yugoslavia
1.0
9.0
2.0
22.0
East Germany
4.0
20.0
5.0
25.0
Poland
NA
NA
5.0
17.0
Romania
NA
NA
2.1
0.1
Czechoslovakia
NA
NA
8.0
4.2
Bulgaria
NA
NA
3.0
0.7
a Estimated.
(b) (3)
(b)(3)
� The region probably hopes Seoul's relative lack
of experience in controlling technology sales to
the Bloc and its eagerness to promote exports
will improve its access to advanced technology,
ranging from personal computer components to
automobiles to consumer electronics.
� South Korean exports often cost less than
comparable Japanese and West European
products because of low labor costs.
� The East Europeans probably see the rapidly
growing Korean economy as an expanding
market easier to penetrate than the developed
economies of the United States, Western Europe,
and Japan.
The East Europeans are also trying to fan Seoul's
interest in joint ventures. The East Europeans see
such ventures as opportunities for technology
transfer, increased foreign investment in their
economies, and hard currency earnings from sales
(b) ( 3 )
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to third markets. The Hungarians, in particular,
are eager to promote large-scale joint ventures in
industries that will earn hard currency, such as
automobile production, aluminum processin
tourism, food industries, and chemicals.
The Hungarians and perhaps other East
Europeans, have raised the possibility of loans
from Korea. Some South Korean government
officials believe loans will encourage faster
growth of trade with the East Europeans, and it
appears that the South Korean government is
willing to extend modest trade credits. Late last
year, loans totalling $125 million were extended
to Hungary as an incentive for exchanging
ambassadors. Seoul's rapidly strengthening
financial situation could increase chances for
debt-plagued East European countries to obtain
financial assistance in the near future.
order to placate P'yongyang. If some East
European regimes move ahead with even modest
economic reforms, they will be more attractive as
investments for the South Koreans. Within the
region, Hungary, Poland, and Yugoslavia will
remain the most active in exploring the potential
of this relationship.
The South Koreans view the opening to Eastern
Europe in broader terms than economic gain. By
developing ties with the communist world,
including the Soviet Union and China, South
Korea is trying to end P'yongyang's monopoly on
dealings with socialist countries
Apart from these political calculations, the South
sees some potential economic benefits. Seoul
believes Eastern Europe can provide cheaper
semi-processed goods than its traditional Japanese
suppliers. South Korean importers have expressed
particular interest in purchasing chemical
products. Pharmaceuticals, machine parts, and
heavy industrial and electrical machinery are
among other items South Korea could purchase
from Eastern Europe instead of Japan if East
European products are competitive in quality
Outlook
We expect further significant growth in economic
activity between most East European countries
and South Korea in the next few years. Under
pressure to improve economic performance, the
East Europeans will be increasingly reluctant to
sacrifice the gains from trade with South Korea in
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(b)(3)
Expanding Ties with Israel
A number of East European countries recently
began renewing economic, political, and cultural
contacts with Israel, ending the 21-year freeze in
relations imposed by most regimes in the wake of
the 1967 Arab-Israeli War. Signs of this increased
activity include: high-level official visits,
upgrading of technical and trade cooperation,
tourism and cultural agreements as well as other
preliminary steps towards possible diplomatic
relations.
Recent Moves Among East European Countries
The East Europeans have markedly stepped up
both unofficial and official contacts with Israel
during the past year.
� Hungary was one of the first to signal interest in
new contacts with Israel. Hungarian Premier
Grosz told US officials that he plans to
1
(b) (3)
reestablish diplomatic relations with Tel Aviv by
May of this year and predicted several others
would follow suit. The Israeli press recently
claimed that Israel and Hungary had signed a
seven-year trade pact.
� Poland and Israel have agreed to raise their
interest sections to independent representations
headed by ranking diplomats.
(b) (3)
� Czechoslovakia and Bulgaria will establish an
economic representative and an interest office,
respectively, according to Embassy Tel Aviv.
� East Germany has considerably softened its
hardline anti-Israel stance, although the issue of
Jewish war claims will slow the development of
official relations.
� Romania, with its independent foreign policy,
was the only East European country that did not
East European Trade with Israel, 1985-87
1985
Exports Imports
1986
Exports Imports
Million Dollars,
1987
Exports Imports
Hungary
8
5
12
8
10
9
Yugoslavia
11
24
11
20
15
22
East Germany
0
1
0
0
0
2
Poland
0
1
0
1
0
4
Romania
20
10
29
7
31
7
Czechoslovakia
0
2
0
3
0
3
Bulgaria
6
5
2
5
3
1
Total
45
48
54
44
58
48
Unclassified
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break with Israel in 1967. Bucharest already
serves as a transit point for Soviet Jews
emigrating to Israel. In addition, Bucharest
agreed last fall to buy raw materials from the
USSR such as oil, coal, and diamonds, for
trans-shipment to Israel.
� Even Yugoslavia, which has been more cautious
in establishing ties with Tel Aviv to avoid
jeopardizing its leadership role in the
Non-Aligned Movement, has increased official
and non-official contacts with Tel Aviv.
� Albania's strongly anti-Israeli policy remains
unchanged.
Motivations Largely Economic
Some regimes believe the opening to Israel will
improve their standing with the US and pay off
with trade, financial, and technological benefits
from Washington. Moreover, the regimes perceive
Israel as a potential source of technology, trade,
and joint venture agreements. Although Israel's
trade with Eastern Europe is relatively small
(around $100 million in 1987), there are a number
of potentially lucrative deals and joint ventures
which could increase this volume. Israel could
supply electronics, medical equipment, laser
technology, and biotechnology, while Eastern
Europe could supply semi-finished manufactured
goods, chemicals, and agricultural products.
Some East European countries want to take
advantage of Israel's free trade agreement with the
US by setting gyp joint ventures in Israel for export
to US markets. The Israelis have hinted at setting
up a joint venture with the Hungarians in the food
and electronics industry, using Israeli equipment
1. In order to export to the US through joint ventures, a
minimum of 35% of the products must be made in Israel and
65% can be made in the partner country.
Secret
10
and American capital. Poland reportedly is
interested in Israeli investment in industry,
agriculture, and tourism.
Increasing contacts in the travel and tourism field
are also being made. Embassy Tel Aviv reports
that the Israeli airline El Al will soon introduce
regular flights to Prague and Sofia, with charter
flights going to Budapest.
Outlook
We believe that the outlook is for a steady but
cautious upgrading of ties, with the pace heavily
influenced by political factors. On the economic
front, the East Europeans will continue their
interest in joint ventures, trade, and credits with
Israel. Soviet actions towards Israel will guide the
decision of most regimes about the appropriate
scope for political and economic relations. The
East Europeans will attempt to balance their
economic interests in Israel against the political
sensitivities of Arab nations and will move
cautiously before establishing diplomatic ties with
Tel Aviv. While attempting to improve economic
links with Tel Aviv, most countries will continue
to criticize Israeli handling of the Palestinian
problem and will support a PLO presence in any
talks on the Arab-Israeli conflict.
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CEMA: Slow Growth for Grass-Roots
Economic Integration
Decentralization of foreign trade is a key aspect
of the economic reforms and reorganizations
under way in several of the East European CEMA
countries. Moscow and most of its allies hope
that this liberalization will:
� expand intra-CEMA trade,
� promote regional economic integration at the
enterprise level,
� and encourage specialization within industries.
Decentralization involves diminishing the control
of ministries and foreign trade organizations over
day-to-day trade decisions. This is intended to
promote commercial contacts and joint ventures
between enterprises in different CEMA countries.
Expansion of these contacts in response to
economic incentives rather than administrative
directives would promote more efficient trade as
more and more firms around the region are put on
a self-financing basis enabling them to choose
partners freely, select the mix of products for
trade, and set their own prices.
The campaign to build "direct ties'" gained
momentum after Gorbachev came on the scene.
His concept is endorsed in dozens of bilateral
accords concluded between the USSR and
individual East European countries since 1986.
Some East European CEMA members, such as
Poland and Hungary, have also signed special
bilateral agreements with each other to boost
direct enterprise links.
The "direct ties" drive remains stalled, however,
despite intense media rhetoric and high-level
1. The term "direct ties" is a catchall term used to describe
various firm-to-firm interactions: ad hoc cooperation deals,
long-term joint ventures, or mergers of firms into new
multinational companies.
political interest. Many managers do not know
how to explore and evaluate business
opportunities with counterparts in other CEMA
� countries because central authorities made trade
decisions and took care of all technical details for
them under the old system. The political push for
quick results drives most CEMA joint ventures
into vague cooperation arrangements such as
scientific-technical information sharing. The
deeply entrenched mechanisms of central
planning also pose major stumbling blocks to
cross-border entrepreneurship, including:
11
� the reluctance of central planners to relinguish
control over scarce resources;
� inconsistent, unrealistic national pricing
systems, which make it difficult for enterprise
managers to calculate the profitability of joint
ventures;
� inconvertible currencies and unrealistic
exchange rates, which force managers into the
negotiation of complex, time-consuming barter
deals;
� the unwillingness of trade and finance ministries
to countenance the accumulation of
nonconvertible trade surpluses by enterprises
under their control.
These obstacles have limited the volume of
business by direct joint ventures to a small
fraction of total intra-CEMA trade.
Czechoslovakia and the USSR now boast of
having some 360 direct joint venture contracts,
but Czechoslovak economists report that barely
25 percent of this number involve the production
of goods. One of Czechoslovakia's biggest
machine building firms CKD-Prague -- is a
party to many centrally mandated specialization
and coproduction contracts in CEMA, but the
firm's director estimates that self-initiated joint
ventures account for about 1 percent of total
output. Similarly, a Polish party survey of 58
(b)(3)
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Warsaw-area organizations with "direct ties" to
Soviet partners reveals that only 17 have contracts
for the joint production of goods with the rest
geared toward information sharing and
people-to-people exchanges. Almost half of the
same sample rates the effects of direct cooperation
to date as either minor or non-existent.
Unless Gorbachev makes faster progress than we
expect in implementing wholesale trade, price,
and currency reforms throughout the Soviet
economy and persuades his allies to follow suit,
Soviet-East European joint ventures at the factory
level will remain insignificant. Some countries
have embarked on bilateral price and currency
reforms as preconditions to expanded grass-roots
trade ties, but their impact is slight thus far. In the
absence of prices based on supply and demand
and money convertible into adequate supplies of
quality goods, East European regimes will
continue to keep a tight rein on trade with CEMA
partners to alleviate internal shortages and avoid
worthless ruble trade surpluses.
Most East Europeans are probably concerned that
decentralized trade might lead to more effective
Soviet hegemony over their economies because
National authorities would be less able to control
factory-level contacts. East Germany endorses the
concept of "direct ties," but prefers to boost trade
in CEMA through improved central plan
coordination. Bucharest has already passed a
decree to keep Soviet officials out of most
Romanian plants. In general, the East European
countries want to imitate Hungary's
diversification of trade links with the West while
paying lip service to Moscow's ideas about joint
ventures and other economic integration measures.
They probably feel secure in playing both sides
because they see the Soviets working to build
their own trade ties with the West.
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(b) (3)
Defense Spending to Fall
All of the East European members of the Warsaw
Pact except Romania have announced plans for
unilateral cuts in defense spending and military
manpower and equipment levels. We believe the
timing and scope of these announcements were
approved by Gorbachev and were coordinated at
Warsaw Pact policy meetings late last year.
� Hungary started the process by adopting a
budget for 1989 that will cause a substantial
drop in real expenditures -- perhaps as much as
17 percent if the claims of the Defense Minister
are to be believed -- even though the budget will
increase slightly in nominal terms.
� Poland announced a 4-percent reduction in real
terms for 1989, although rapid inflation
complicates actual measurement of the real cut.
� In East Germany, Honecker announced a cut of
10,000 troops and a 10-percent cut in military
spending by 1991.
� Czechoslovakia's Defense Council announced
its plans to reduce nominal defense expenditures
by 15 percent and forces by 12,000 personnel
during the next two years.
� Bulgaria's State Council and Council of
Ministers said the country would reduce the
budget by 12 percent for 1989 and manpower by
10,000 men.
� Romania is the sole holdout in the recent round
of cuts, but its budget has remained steady or
fallen in the last several years, so outlays have
declined 4 percent to near the 1984 level.
We have no clear indication how the announced
budget cuts will translate into resources allocated
to defense. As with the Soviet budget, we doubt
that published East European figures capture the
full extent of defense spending in the economy.
(Even regime leaders and planners may not fully
13
(b) (3)
comprehend the true costs of defense, owing to
price distortions in their economies; their recent
interest in NATO accounting rules may represent
an effort to get a better grasp on this.)
Nonetheless, if we are correct in our belief that (b)(3)
the budget figures provide reasonably good
approximations of spending trends, the recent (b) (3)
announcements would suggest that the resources
available to defense probably will decrease.
(b) (3)
East European regimes have never been keen on
expanding defense spending, and they may try u(b)(3)
capitalize on Gorbachev's troop reduction plans
and defense "sufficiency" policy as an opportunity
to advance their longstanding interest in reducing
the defense burden. As their economies faltered
in the 1980s, the regimes' already modest support
for military spending cooled further and they
stubbornly resisted efforts by Gorbachev's
predecessors to get them to bear a larger share of
the burden. The region's published budgets show
little or no defense spending growth during this
period, and our estimates, in fact, even indicate a
2-3 percent average annual decline in defense
procurement.
(b) (3)
Defense already occupies a comparatively small
role in these economies. NATO estimates of
defense spending in East European currencies
indicate that the burden ranges from 2-4 percent
of GNP in all countries except East Germany (b)(3)
where it reaches 5-6 percent. These figures fall
significantly below the comparable US burden of
6.5 percent and 15-17 percent for the USSR
The economic impact of a reduction in defense
spending will depend on where the cuts come:
manpower, procurement, construction, operations
and maintainance, and research and development.
Wherever cuts are made, they will free resources
for the civilian sector, but not enough to
significantly relieve the pressures on the region's
beleagured economies. Moreover, freeing
(b)(3)
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(b) (3)
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resources can cause disruptions during the
transition as some workers lose jobs and plants are
forced to close.
� Manpower cuts could help the labor-short
economies, especially East Germany's, to
compensate temporarily for their inability to
generate significant gains in labor productivity.
� Cuts in procurement spending and construction
would allow the countries to retool some of their
defense industries for civilian uses, such as
investment projects that would help modernize
the economy, or to concentrate on arms sales to
Third World states to earn hard currency.
� Operations and maintenance cuts would free
energy, skilled repair labor, and other resources
that could be productively deployed to civilian
industry.
� R&D cuts would free scientific personnel to
concentrate on civilian industries that would
modernize these economies or boost their export
competitiveness.
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(b)(3)
How Will Eastern Europe Respond to Soviet
Pressures to Use Natural Gas
Eastern Europe must tackle tough decisions about
energy policies as it formulates its 1991-95
economic plans and longer-term development
strategies. Moscow has been arguing for years
that Eastern Europe should shift its reliance on
Soviet energy from oil to more plentiful natural
gas. Eastern Europe has been slow to do this,
however, because this entails costly investments
-- including large outlays of scarce hard currency.
Nevertheless, Moscow has made it clear that
Eastern Europe will have to pay these costs
because current Soviet plans call for natural gas
supplies to the region to grow by as much as 64
percent by the 1990s while at best oil supplies
will be flat.
The East European economies depend heavily on
cheap and relatively plentiful Soviet energy
supplies. The region has limited domestic energy
resources and requires imports to cover about
European Energy Imports from the USSR
as a Share of Energy Consumption
1975 1981
Percent
19871
Bulgaria
68
81
65
Czechoslovakia
33
39
37
East Germany
27
30
25
Hungary
40
49
43
Poland
14
13
11
Romania
2
5
5
Total EE
18
28
24
1. Estimated
Unclassified
15
one-quarter of its energy needs; only Poland with
relatively large coal reserves, and Romania with
oil and gas deposits, can supply the bulk of
domestic requirements. In addition, the main
domestic resource for most of these countries is
highly polluting coal and lignite. Since the USSR
has been willing to barter oil and gas for Eastern
Europe's low quality manufactured goods, the
cash-strapped regimes have relied on the USSR
almost entirely for their energy imports.
(b) (3)
The crucial decision confronting the East (b)(3)
European regimes is how much to invest in
transforming their economies from coal and oil
usage to gas. They know the USSR is capable of (b)
supplying substantial quantities of natural gas,
and a decision to pursue this option offers
important benefits. A cutback in coal usage
would reduce pollution which is causing
environmental damage throughout the Bloc and
into Western Europe. In addition, if gas reduced
the need for nuclear power, it would limit the risk
of another accident like Chernobyl.
Some regimes probably believe that these benef(b)(3)
are outweighed by important disadvantages:
� Gas would make Eastern Europe even more
energy dependent on the Soviet Union.
� The countries would bear a large share of Soviet
energy development costs.
� Costly investments would be required to develop
domestic storage and distribution systems to use
gas on a wide scale.
Despite the drawbacks from gas conversion the
East European regimes have few alternatives.
They have little prospect of increasing oil
imports; domestic reserves and nuclear power will
not provide enough additional energy; nor will
conservation efforts reduce energy wastage
sufficiently to support the regime's economic
growth targets. Most of these countries, however,
ccr
(3)
(b) (3)
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probably cannot quickly convert their economies
to use the full amount of gas scheduled for
delivery beginning in 1989 through the Progress
pipeline now under construction from the USSR to
Eastern Europe. As a result, the region will
struggle to balance competing demands for
investment resources between conversion to
natural gas, modernizing industries, and meeting
Soviet economic demands.
Eastern Europe:
Gas Use as a Share of Primary Energy Consumption
Percent
60
50
40-
30-
20-
10-
EMI 1975
1980
Z21 1986
Bulgaria Czech� East Hungary
slovakia Germany
Poland Romania
Unclassified
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Grain Harvest Average
The East European countries did not receive a
major boost from the 1988 harvest. Overall grain
production was about average, but some countries
suffered significant losses in certain crops
because of drought. Although mild winter
weather helped Hungary, Yugoslavia, and
Romania record above-average winter wheat
crops, a dry summer offset these gains by
reducing output of corn and other crops.
Yugoslavia and to a lesser degree, Czechoslovakia
and East Germany were most affected by the
drought.
(b)(3)
(b) ( 3 )
Trade performance will not benefit much from
last year's harvest. Most of the countries with
above average wheat harvests will export small
quantities of wheat, but the extra income may be
offset by their need to import corn. Yugoslavia,
normally the major corn exporter in Eastern
Europe, will probably suffer the largest hard
currency losses because of extra import needs.
Czechoslovakia and East Germany also will haveku)k"))
to import more grain to sustain bread quality and
feed supplies.
Eastern Europe: Grain Production, 1984-88 a
Northern Tier
Million metric tons
Southern Tier
Million metric tons
30
Poland
30
25
25
20
20
IS
""""East
15
10
East Germany
10
1
1
1
1
1
5
1
1
0
1984
85
86
87
88b
1984
85
a USDA and CIA estimates.
b Estimated.
c Official Romanian estimates probably inflated.
1 1 1
Romania'
Hungary
Yugoslavia
Bulgaria
86 87 88b
(b) ( 3 )
319196 10-88 (b) ( 3 )
(b)(3)
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Consumer supplies in Eastern Europe outside
Romania will probably be sufficient in the coming
year, but spot shortages of sugar, rice, vegetable
oil and some staples will occur. The improved
harvest in Romania will do little to ease the lot of
long-suffering consumers because the regime will
direct most of the increased production to hard
currency exports.
-Secret-- 18
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(b)(3)
Albania: Persistent Economic Difficulties
Albania's backward economy has faltered over
the past several years, and little improvement is
likely soon. A limited and deteriorating industrial
base, a poorly-trained and complacent work force,
and the five consecutive years of drought have
doomed Tirane's efforts to improve economic
performance through gains in productivity.
Moreover, Tirane's determination to avoid foreign
debt -- enshrined in its constitution -- constrains
the acquisition of Western technology. A major
turnaround in economic performance is unlikely
because firmly-held ideological tenents will
continue to limit foreign trade and preclude
economic reforms at least into the next decade.
Poor economic results in 1987 forced a drastic
reduction in 1988 economic targets, and even
these lowered goals probably were not met.
Although statistics are rarely released, Tirane
acknowledged the failure of two key export
sectors -- chrome and petroleum -- to meet 1987
plan targets, the stagnation of foreign trade, a
350
300
250
200
150
100
50
Albanian Foreign Trade With the West
Million US $
E0 Exports
22 Imports
1980
81
82
83
84
85
86
87
19
(b) (3)
(b) (3)
(b) (3)
(b)(3)
Sccrct
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large budget deficit, and a shortfall of at least 10
percent in agricultural production goals. Albania
likely had another poor agriculural year in 1988,
judging by the 3 percent decline in farm output for
neighboring Yugoslavia. This probably led to
some food shortages unless the regime decided to
import agricultural goods.
Albania's leaders are approaching their economic
problems more pragmatically than in the past.
Tirane recently undertook a number of measures --
significant by Albanian standards -- to reverse this
negative economic trend by:
� Focusing on increasing foreign trade,
particularly West Germany, to upgrade its
industries. In December 1988, Albania signed a
cooperation accord in which Bonn has agreed to
help development of the mining, energy,
chemical, and food industries through training
programs and technological assistance.
� Signing trade and cooperation agreements with a
number of West European nations including the
UK, France, Austria, and Belgium and sending a
trade delegation to Japan this month -- the first
high-level visit ever.
� Considering establishment of a liaison office
with the European Community in Brussels.
� Encouraging agricultural productivity by
increasing the purchase price of agricultural
products and reestablishing small private plots.
� Limiting the terms of office for economic
bureaucrats to combat corruption and
complacency.
� Signing a cooperation agreement with a Dutch
firm to exchange tobacco and cement for
electronic equipment, particularly video and
television studio systems.
While the country's leaders will approach their
problems more pragmatically than in the past,
these efforts probably will not be significant
enough to reverse Albania's economic fortunes in
the near future. Tirane's efforts have not yet
produced fundamental changes in Albania's highly
centralized economic and foreign trade system.
Staunch ideological objections will preclude
significant liberalization, let alone
market-oriented reforms, at least into the next
decade.
20
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