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EBRD Transition Report 2014 – Annex 5.1. Strengthening competition law and encouraging innovation

TRANSITION REPORT 2014 Innovation in Transition

Annex 5.1. Strengthening competition law and encouraging innovation

Competition policy and private-sector innovation lie at the heart of a successful transition to a well-functioning market economy. Without an effective competition framework, monopolies and restrictive trade practices may emerge, stifling private-sector growth. Indeed, the ubiquitous role of the state in the country’s planned economy may simply be replaced by dominant firms controlling segments of a distorted market economy. A sound competition policy will create a level playing field, thereby facilitating the entry of new market players and the introduction of new products and production processes.

The relationship between competition and innovation is a complex one. More competition does not necessarily yield a higher level of innovation.51 This does not imply that the enforcement of competition law should be more lenient in innovative industries relative to other sectors. It does indicate, however, that specific events which affect competition and market structures should be assessed by competition authorities in terms of how they influence innovation. A sound competition policy will identify the effect that a specific event (such as a merger) has on the long-term incentives and innovative capacities of the firms involved.52 In this way, competition authorities can play an important role in promoting innovation – either by curtailing or preventing conduct that is detrimental to innovation, or by fostering conduct that promotes it.

In recent years the EBRD has placed renewed emphasis on supporting innovation. Notably, in 2014 the Bank launched the Knowledge Economy Initiative, aimed at helping to identify, invest in and implement projects and policies that will improve competitiveness through innovation. However, many countries in the EBRD region are making little progress in implementing competition policies that will facilitate greater innovation. The Transition Report 2013 concluded that much of the region appeared to be “stuck in transition”,53 indicating that competition policy was one area in which many transition countries had struggled to make significant progress.54

Competition policy: the competition indicator

The EBRD’s transition indicators have been mapping economic transition in the region since the Bank was first established. One of those indicators looks at the quality of competition policy, basing its assessment on survey responses and in-depth research undertaken by the Office of the Chief Economist. The survey is conducted every year, collecting information on both the institutional environment in which competition authorities operate and the actual enforcement of competition law (see Box A.5.1.1). The scoring system for the competition indicator ranges from 1 (denoting a complete absence of competition legislation) to 4+ (denoting the kind of competition framework that is typical of an advanced industrialised economy).

The most recent transition indicator scores for competition across the countries in the EBRD region are shown in Chart A.5.1.1,55 while Chart A.5.1.2 plots average regional variation in that indicator between 1997 and 2013.

The data show that the best-performing region is central Europe and the Baltic states (CEB), with an average score of 3.37. This reflects the fact that EU membership provides strong incentives and a collective anchor, encouraging market reforms. These countries aligned their legislation with the EU’s acquis communautaire as part of their accession programmes, which is reflected in the significant increase in scores between 1997 and 2013. Enforcement activities have also increased, with competition authorities generally being equipped with adequate resources and staff. However, owing to the financial crisis and increased pressure on government budgets, several countries have seen a reduction in the resources allocated to competition authorities, together with a reduction in the number of investigations conducted.

All the countries of south-eastern Europe (SEE) have scores of between 2.0 and 3.3. The experiences of these countries demonstrate the challenges faced when seeking to strengthen the institutions that implement competition policy.

Indeed, although Bulgaria and Romania have been EU member states since 2007 and most other SEE countries have taken major steps to align their institutional frameworks with the EU’s acquis communautaire in view of their aspirations for future accession (translating into increases in their competition policy scores), the SEE region’s enforcement record has been uneven.

Significant action remains necessary to improve the implementation of competition law, which will involve strengthening the resources and institutional capacity of regulators, as well as developing the skills available to courts reviewing competition authorities’ decisions. The lack of adequate skills is reflected in these countries’ poor enforcement records, especially as regards the abuse of dominant positions and cartels. In such cases strong investigative tools are needed to collect and process evidence and significant expertise is required, in order to conduct the economic analysis needed to prove that rules have been violated.

Eastern Europe and the Caucasus (EEC) and Central Asia have two of the lowest average scores, averaging 2.1 and 1.8 respectively. These scores – and indeed the minimal progress observed over the years (as shown in Chart A.5.1.2) – reflect poor institutional environments and strong state involvement in the economy, especially in Central Asia.

Nevertheless, promising reforms have recently been introduced in a number of countries (such as Moldova and Georgia), with new competition legislation being adopted and competition authorities being established and strengthened.

This may pave the way for more effective prosecution of anti-competitive behaviour in the future. However, much will depend on the authorities’ ability to develop the necessary skills, competence and experience, as well as their ability to act as a public advocate for competition policy and compliance with the relevant rules.56

The countries of the southern and eastern Mediterranean (SEMED) region, which have only recently been included in the EBRD’s assessment of competition policy, also have low scores, indicating that there is significant scope for improvement. The low scores in the SEMED region are related to both institutional and enforcement issues. Competition authorities in SEMED countries are often insufficiently independent of government, especially when it comes to mergers. From an enforcement perspective, their lack of adequate resources and skills also represents a major problem. In addition, regulatory capture has sometimes prevented competition authorities from challenging established interest groups in these countries.

Overall, this transition indicator shows that governments need to strengthen their competition frameworks, especially in regions lying outside the EU’s direct sphere of influence. This should be a priority, given the importance of competition policy as an anchor for private-sector development and given that competition policy is generally lagging behind other reform areas in the EBRD region.57

However, reform efforts must also take account of the fact that competition policy does not function in isolation and is embedded in a country’s wider institutional system. Reforms to competition policy should occur in parallel with improvements in the effectiveness and transparency of the judiciary, especially as regards the courts’ role in reviewing administrative decisions made by competition authorities.

Institutional reform efforts

Since 2012 the EBRD has gone beyond analysing this transition indicator, looking in more detail at the efforts made by a number of countries to respond to institutional challenges in the area of competition policy. Particular attention has been paid to south-eastern Europe, where a basic competition framework is in place and institutional shortcomings now represent the main obstacles to progress. This is where the real challenge lies. Adopting competition legislation and regulations and setting up new organisations is relatively easy; making those organisations run effectively is much more difficult.

It is clear from discussions with counterparts and practitioners in the SEE region that the views of local stakeholders regarding the competition policies of these countries are in line with the relevant transition indicator scores. These people repeatedly tell the same basic story, explaining that while the laws on the statute book are generally in good order, their implementation needs to be improved.

This kind of implementation gap is typical of the evolution of legal frameworks in the transition region. At the same time, there is a keen awareness in government circles of how important it is to strengthen the effectiveness of organisations involved in implementing and enforcing competition policy. Two activities are especially important in this regard: efforts to help courts deal with competition-related matters and measures to strengthen the institutional capacity of competition authorities. Some brief examples of each are discussed below.

Judicial training

In 2012 the authorities in Bosnia and Herzegovina launched a project aimed at strengthening the skills of the judiciary in the area of competition law. Recent EU reports had noted that, although the country’s Competition Act of 2005 was largely in compliance with the acquis communautaire, implementation remained uneven. This was in line with the country’s transition indicator score of 2.3.

A module of judicial training was prepared, together with a specialist handbook for judges at the Court of Bosnia and Herzegovina (which hears appeals against the regulator, the Competition Council). Judges had not previously received any training in the field of competition, and few had any real experience in this area. One striking statistic was the fact that the Court had never ruled against the Competition Council in a claim brought by a private entity seeking to challenge a decision.

Special attention was paid to the discretion and legal remedies available to the Court when resolving claims in these areas, as well as awareness of the relevant market, economic and financial aspects of competition matters. In the view of both the authorities providing the training and the judges participating in it, the training module filled an important gap in the judges’ education and put them in a better position to effectively review the decisions of the Competition Council.

In 2013 a programme of judicial training was implemented by the Serbian authorities for the benefit of judges of the Administrative Court, which hears appeals against decisions of the Commission for the Protection of Competition (CPC). (Serbia’s current transition indicator score for competition is 2.3 – again pointing to problems with the implementation of its competition framework.)

For the authorities in Serbia, the focus of concern was on strengthening judges’ knowledge of the economic concepts that underpin competition law. The first question that arises in many competition cases concerns the definition of the relevant market. This involves the application of specific techniques, requiring an understanding not only of how markets work, but also of general economic theory.

The Administrative Court worked with the Judicial Academy of Serbia and the Centre for Liberal Democratic Studies in Belgrade, developing a training programme that covered areas such as: economic analysis for defining markets; economic analysis of monopoly power and price discrimination; and dominant market positions and their abuse (including predatory pricing and restraint of trade). The programme involved a series of seminars by leading Serbian academics, as well as guest lectures by judges from Croatia, the Czech Republic, Hungary and Romania.

An assessment of the project found that the training programme had improved the ability of judges to deal with competition matters effectively, providing them with a solid grounding as regards the application of economic concepts in competition cases. The project also led to the establishment of a variety of training resources. A dedicated website was created, which hosts all of the training material for the programme, as well as recordings of the various seminars and a self-test facility allowing participants to check their knowledge of the course content.

These capacity-building initiatives are welcome developments. Judges in administrative courts are often required to deal with non-legal disciplines pertaining to the jurisdictions of the administrative bodies whose decisions they are reviewing. The economics of competition cases is just one example; accounting matters relating to taxation cases are another major issue. It is important that such capacity-building initiatives are sensitive to judges’ training needs – not only as regards substantive law, but also as regards such associated non-legal areas.

Judges do not necessarily need to have extensive expertise in these areas, but they must have a sufficient grasp of the relevant issues to be able to understand disputes, ask probing questions of counsel and expert witnesses, and come to well-reasoned conclusions, applying all of the academic disciplines relevant to the case.

Capacity-building of competition authorities

Institutional reforms have also been observed at competition authorities elsewhere in the SEE region. In late 2013 Serbia’s Commission for the Protection of Competition undertook a capacity-building exercise similar to that conducted at the Administrative Court. The training course on economic concepts that had been provided to these Serbian judges was revised and reworked for the CPC, since a higher level of specialisation and economic knowledge was expected of its members.

The training programme developed by the Serbian authorities covered the various microeconomic concepts underpinning competition policy and regulation, looking at their relevance for members and staff of the CPC (especially case handlers and decision-makers). One new element was a component explaining the relevance of econometric techniques in detecting violations of competition rules.

The project lasted several months and was concluded at the end of 2013. The CPC believes that this programme has improved its members’ ability to effectively employ economic concepts and techniques in their work. It has also led the CPC to review its overall development needs, looking at other ways of increasing its effectiveness.

Indeed, a second, more ambitious project was launched in 2014 with the aim of building on that earlier work and making significant improvements to the CPC’s general operational capacity. The 18-month project contains four main components.

First, CPC members will be given further training on how to conduct their own econometric studies. On-the-job training is considered to be the most effective way of doing this, building on the basic training given to members in 2013. The CPC will also acquire software facilitating the implementation of such econometric studies, and will organise training on the use of such tools.

The second component will involve practical advice and training to enable the CPC to make greater use of its statutory powers to conduct dawn raids. Various observers (including the European Union) have encouraged the Serbian authorities to exercise these powers in appropriate cases. However, entering premises and seizing evidence is an intrusive measure and needs to be carried out in a judicious manner, especially as the public are not accustomed to such procedures. Furthermore, the proper use of forensic software is required for analysing data seized in dawn raids.

The third component of the project will enhance members’ capacity to perform the CPC’s role as a public advocate for competition policy in Serbia. This is an important function, which has the potential to raise public awareness of competition policy in a country where competition rules are still not well understood and in some cases remain counter-intuitive for the general public. The CPC wishes to be more visible in the eyes of the general public and raise its profile in Serbia’s competition community.

The final component will facilitate closer cooperation between the CPC and sector-specific regulators, primarily the telecommunications and broadcasting regulator and the energy regulator. The CPC and the sector-specific regulators require a better understanding of the division of responsibilities between them, as well as the importance of approaching certain issues in a harmonised manner.

These represent significant steps and should allow Serbia to increase the effectiveness of its institutions and make progress in the area of competition policy. If all the above measures are implemented successfully in the course of the project, significant improvements can be expected in the implementation of competition law in Serbia. Such changes should be reflected in improvements in Serbia’s transition indicator for competition.

Capacity-building and innovation

Some countries’ reform efforts have directly addressed the question of the interaction between competition policy and innovation. For example, Montenegro’s Agency for the Protection of Competition is running training sessions for its members and staff focusing on European approaches to merger control. One of the sectors being analysed is the pharmaceutical sector, which will be an opportunity for participants to consider the implementation of merger control and competition policy in innovative industries.

Meanwhile, Moldova’s Competition Council is developing its ability to conduct in-depth market investigations. This will entail a combination of seminar-based training and on-the-job learning, whereby international experts will work side-by-side with the Council to deliver a full assessment of a particular market and develop policy recommendations. The Council will select a sector involving substantial innovation, in order to gain experience of the potentially complex interplay between competition policy and innovation.

Of course, government efforts to strengthen institutions responsible for enforcing competition rules are not always explicitly linked to the objective of promoting innovation. However, the EBRD considers that this objective is served whenever such institutions are strengthened. This is consistent with the view that competition policy must also apply to innovative sectors, with each case being judged on its merits.

Conclusion

It is important to recognise the efforts made by countries in the EBRD region with a view to strengthening the institutional effectiveness of their competition authorities and improving their judiciaries’ ability to deal with competition matters. Perceptions about the efficacy of public institutions in transition countries tend to be unfavourable, so when improvements are made, they need to be communicated in order to bolster public confidence.

It is also necessary to study how such improved knowledge and capacity translate into practice. Will regulators now act with greater confidence and skill, and will courts now issue better and more consistent judgments? Progress is likely to be incremental and difficult to prove. But where it is identified, one can be confident that these achievements will benefit the innovation environment. The role of competition policy in fostering innovation should not be forgotten.

In particular, the complex relationship between competition and innovation should not be allowed to cast doubt on the importance of competition policy for fostering innovation. This is especially true when thinking about innovation more broadly – not just patentable inventions, but all new approaches to doing business. It is these innovations that are increasing the private sector’s share of the region’s economy, and they need a fair and level playing field in order to thrive.

CHART A.5.1.1

Source: EBRD.
Note: Data relate to 2013.

CHART A.5.1.2

Source: EBRD.
Note: The SEMED region was first assessed in 2012, while Turkey was first assessed in 2009.