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TECHNICAL UNIVERSITY IN ZVOLEN

Jaroslav Šálka
Zuzana Dobšinská
Andrea Sujová

ECONOMIC POLICY

2015
This publication was created with the support of the Operational Program Education for the
project: „Development of study programmes in English language and re-engineering of study
courses for practical purposes at the Technical University in Zvolen – II. stage", ITMS code:
26110230112, co-financed by the European Social Fund.

Authors: doc. Dr. Ing. Jaroslav Šálka, Department of Economics and Administration of
Forestry, Faculty of forestry
JUDr. Mgr. Zuzana Dobšinská, PhD., Department of Economics and Administration
of Forestry, Faculty of forestry
doc. Ing. Andrea Sujová, PhD., Department of Business Economics, Faculty of Wood
Sciences and Technology

Reviewers: prof. Ing. Mária Uramová, PhD., Mateja Bel university in Banská Bystrica
prof. Ing. Kajetána Hontyová, PhD., Pan-european university in Bratislava
Dr.h.c. prof. Ing. Mikuláš Šupín, CSc., Technical university in Zvolen

Translation: SKRIVANEK SLOVENSKO, s.r.o.

Published by: Technical University in Zvolen

First edition: 2015
Graphic Design and Printed by: Enterprise, spol. s r.o., Banská Bystrica

© Technical University in Zvolen

© doc. Dr. Ing. Jaroslav Šálka, JUDr. Mgr. Zuzana Dobšinská, PhD.
doc. Ing. Andrea Sujová, PhD.

Approved by the Rector of the Technical University in Zvolen on January 23, 2015, No. EP 173/2015,
as an university textbook for the study program Economics and Management of Natural Resources.
The language editing and proofreading of the technical terms has been carried out by the author.

ISBN 978-80-228-2818-5

All rights reserved. No part of the text or illustrations may be reproduced or transmitted in any
form without the prior written permission of the author or publisher.
Contents

INTRODUCTION ................................................................................................................................................. 8
1. THE THEORY OF ECONOMIC POLICY (JAROSLAV ŠÁLKA, ZUZANA DOBŠINSKÁ) .............. 10
1.1 The subject and tasks of the theory of economic policy .................................................... 10
1.2 The relationships between the theory of economic policy and other scientific disciplines 11
1.3 Classification of economic policy ...................................................................................... 13
1.4 The relationships between the aims of economic policy.................................................... 16
1.5 Instruments of economic policy ......................................................................................... 19
1.6 Governors of economic policy ........................................................................................... 23
1.7 Assessment of State Interventions...................................................................................... 24
1.8 The policy of market economy principles .......................................................................... 28
Summary .................................................................................................................................. 30
Questions: ................................................................................................................................. 31
References ................................................................................................................................ 31
2 POLICY FOR PROTECTING COMPETITION (ANDREA SUJOVÁ) ................................................... 33
2.1 Competition ........................................................................................................................ 33
2.2 Forms of restricting competition ........................................................................................ 35
2.2.1 Agreements limiting competition (cartels) ........................................................................................... 36
2.2.2 Abuse of a dominant position ............................................................................................................... 36
2.2.3 Concentration of companies................................................................................................................. 37
2.2.4 Monopoly ............................................................................................................................................. 38
2.2.5 Unfair competition ............................................................................................................................... 39
2.2.6 State aid................................................................................................................................................ 40
2.3 Fundaments, aims and governors of competition policy.................................................... 40
2.4 Instruments of competition policy...................................................................................... 42
2.5 Systems of competition policy ........................................................................................... 46
2.6 Competition in the forestry/wood processing complex (Jaroslav Šálka) ........................... 48
Summary .................................................................................................................................. 50
Questions: ................................................................................................................................. 50
References ................................................................................................................................ 51
3 EXTERNALITIES, PUBLIC GOODS AND OWNERSHIP RIGHTS THERETO (JAROSLAV ŠÁLKA,
ZUZANA DOBŠINSKÁ) .................................................................................................................................... 52
3.1 Classification of externalities ............................................................................................. 52
3.1.1 External competition in forest utilisation and stating the optimum production of negative externalities
using an example of damage to forest by emissions ...................................................................................... 54
3.1.2 Stating the optimum production of negative externalities .................................................................... 56
3.1.3 Internal competition in forest utilisation and stating the optimum production of positive externalities
using an example of timber production and biodiversity .............................................................................. 58
3.2 Public goods ....................................................................................................................... 60
3.2.1 Classification of public goods .............................................................................................................. 60
3.2.2 Prisoner's Dilemma .............................................................................................................................. 62
3.2.3 Social dilemmas ................................................................................................................................... 65
3.2.4 Meritorious goods ................................................................................................................................ 66
3.3 Ownership rights ................................................................................................................ 67
3.3.1 Ownership rights and their relationship to public goods and externalities ......................................... 67
3.3.2 The Coase Theorem.............................................................................................................................. 68
3.4 Strategies and instruments for eliminating market failure ................................................. 69
3.4.1 Assignment of ownership rights ........................................................................................................... 71
3.4.2 Regulatory instruments ........................................................................................................................ 74
3.4.3 Economic instruments .......................................................................................................................... 75
3.4.4 Informational tools ............................................................................................................................... 80
3.4.5 The distribution effects of environmental policy measures .................................................................. 81
Summary .................................................................................................................................. 86
Questions: ................................................................................................................................. 87
References ................................................................................................................................ 87
4 DISTRIBUTION POLICY (JAROSLAV ŠÁLKA, ZUZANA DOBŠINSKÁ) ........................................... 89
4.1 Correction of interpersonal distribution ............................................................................. 90
4.2 Correction of areal distribution - regional policy ............................................................... 91
4.2.1 Region, defining regions ...................................................................................................................... 92
4.2.2 Dispersion and concentration, agglomeration effects .......................................................................... 94
4.2.3 Reasons for regional policy interventions ............................................................................................ 95
4.2.4 Regional policy instruments ................................................................................................................. 96
4.2.5 Regional policy strategies .................................................................................................................... 99
4.2.5.1 Exogenous regional policy strategies ............................................................................................................ 100
4.2.5.2 Endogenous regional policy strategies .......................................................................................................... 101
4.3 The effects of distribution policy upon allocation and market economy principles ........ 103
Summary ................................................................................................................................ 104
Questions: ............................................................................................................................... 105
References .............................................................................................................................. 105
5 NATIONAL ECONOMIC STABILISATION POLICY (JAROSLAV ŠÁLKA, ZUZANA DOBŠINSKÁ)
............................................................................................................................................................................ 106
5.1 The aims of national stabilisation policy.......................................................................... 106
5.2 Areas of national stabilisation policy ............................................................................... 108
5.2.1 Monetary policy ................................................................................................................................. 108
5.2.2 Fiscal policy ....................................................................................................................................... 109
5.2.3 External economic relations policy .................................................................................................... 112
5.2.3.1 Monetary policy ............................................................................................................................................ 114
5.2.3.2 Balance of payment equilibrium policy ......................................................................................................... 115
5.2.3.3 Foreign trade policy ...................................................................................................................................... 116
5.2.5 Income policy ..................................................................................................................................... 118
5.3 The basic concepts of economic stabilisation policy ....................................................... 121
5.3.1 The Post-Keynesian concept .............................................................................................................. 121
5.3.2 The neo-classic concept ..................................................................................................................... 123
Summary ................................................................................................................................ 124
Questions: ............................................................................................................................... 125
References .............................................................................................................................. 125
6 STRUCTURAL AND SECTORAL POLICY (JAROSLAV ŠÁLKA, ZUZANA DOBŠINSKÁ) .......... 127
6.1 Structural Policy ............................................................................................................... 127
6.1.1. Theory of structural changes............................................................................................................. 127
6.1.2 Strategies and instruments of structural policy .................................................................................. 130
6.1.3 The relationship of structural policy to stabilisation and distribution policy .................................... 131
6.2 Forestry sectoral policy .................................................................................................... 131
6.3 Policy of the wood processing sector (Andrea Sujová) ................................................... 136
Summary ................................................................................................................................ 140
Questions: ............................................................................................................................... 141
References .............................................................................................................................. 141
7 ECONOMIC INTEGRATION AND EUROPEAN UNION POLICY (ANDREA SUJOVÁ) ................ 143
7.1 The basis and degrees of economic integration................................................................ 143
7.2 European Integration ........................................................................................................ 144
7.2.1 The creation and development of the European Union ...................................................................... 145
7.2.2 EU Legal Framework ......................................................................................................................... 145
7.2.3 EU Institutional framework ................................................................................................................ 146
7.3 European Union economic policy .................................................................................... 148
7.3.1 Common EU policy ............................................................................................................................ 150
7.3.1.1 Common trade policy .................................................................................................................................... 150
 7.3.1.2 Common agricultural policy .......................................................................................................................... 151
7.3.1.3 Common fisery policy ................................................................................................................................... 154
7.3.1.4 Common Transport Policy ............................................................................................................................ 155
7.3.1.5 EU Monetary policy ...................................................................................................................................... 157
7.3.2 Coordinated EU policies .................................................................................................................... 158
7.3.2.1 EU budgetary policy...................................................................................................................................... 159
7.3.2.2 Policy for protecting competition .................................................................................................................. 160
7.3.2.3 EU Structural Policy...................................................................................................................................... 162
7.3.2.4 EU Regional Policy ....................................................................................................................................... 164
7.3.2.5 EU Social Policy ........................................................................................................................................... 165
7.3.2.6 Industrial Policy ............................................................................................................................................ 167
7.3.2.7 Policy for supporting research and technological development .................................................................... 168
7.3.3 Rural Development Policy and Forestry (Jaroslav Šálka) ................................................................. 169
Summary ................................................................................................................................ 175
Questions: ............................................................................................................................... 175
References .............................................................................................................................. 176
List of Figures

Fig. 1-1 The systematics of economics and its relationship to economic policy (PETERS 1985,
amended)
Fig. 1-2 The systematics of economic policy depending upon the form and level (PETERS 1985,
amended)
Fig. 1-3 The systematics of economic policy depending upon aims
Fig. 1-4 The relationships between the aims of economic policy
Fig. 1-5 The vertical relationships between the aims of economic policy (HENRICHSMEYER,
WITZKE 1994, amended)
Fig. 1-6 The horizontal relationships between the aims of economic policy
Fig. 1-7 Various types of classification of economic policy instruments
Fig. 1-8 Classification of economic policy instruments (STREIT, 1991)
Fig. 1-9 Examples of economic policy instruments depending upon the classification of
economic policy in Fig. 1-8
Fig. 1-10 Classification of forestry policy instruments (KROTT, 2001)
Fig. 1-11 Classification of economic policy governors (FREY, 1992)
Fig. 1-12 The rules for checking state intervention (STREIT, 1991)
Fig. 1-13 The economic system and the principles of coordinating a national economy
Fig. 1-14 Transformation of an economic system in the wood processing industry
Fig. 1-15: The policy of market economy principles in forestry management
Fig.2-1 The effect of policy for protecting competition (MORVAY, 2006)
Fig. 2-2 Tools for protecting competition
Fig. 3-1 Externalities in forestry production
Fig. 3-2 The relationships between producers, consumers and externalities
Fig. 3-3 The situation in the electricity market and negative externalities
Fig. 3-4 Stating the optimum level of pollution
Fig. 3-4 Internal competition between wood production and biodiversity
Fig. 3-6 Optimum production of biodiversity
Fig. 3-7 Types of goods
Fig. 3-8 A matrix of the results of decisions by players in the prisoners dilemma (order:
player 1, player 2)
Fig. 3-89 A matrix of the results of decisions by water management companies
Fig. 3-10 A matrix of the results of decisions by holiday makers
Fig. 3-11 The effectiveness of regulatory measures in reducing emissions
Fig. 3-11 The effectiveness of reducing emissions via the PIGOVIAN tax
Fig. 3-13 The relationship between income groups and net utility from economic policy
measures
Fig. 4-1 Interpersonal distribution corrections (STREIT, 1991)
Fig. 4-2 Actors in spatial structures (MAIER, TÖDTLING, 1997)
Fig. 4-3 Agglomeration effects (MAIER, TÖDTLING, 1997)
Fig. 4-4 Regional policy instruments (MAIER, TÖDTLING, 1997)
Fig. 4-5 Regional policy strategies
Fig. 4-6 The principles of intra-regional development and exogenous strategies
Fig. 5-1 The magic polygons of stabilisation economic policy (FREY, 1992)
Fig. 5.2- Stabilisation policy (THIEME, 2000)
Fig. 5-3 A scheme of the effects of monetary policy (SAMUELSON, NORDHAUS, 1989)
Fig. 5-4 Fiscal policy (THIEME, 2000)
Fig. 5-5 A scheme of the effects of fiscal policy (SAMUELSON, NORDHAUS, 1989)
Fig. 5-6 Foreign economic relations policy
Fig. 5-7 Foreign trade policy instruments
Fig. 5-8 Income policy (THIEME, 2000)
Fig. 6-1 Criteria for classification into primary, secondary and tertiary sectors (PETERS,
1988)
Fig. 6-2 The development of employment in sectors (PETERS, 1988)
Fig. 6-3 Cobweb model
Fig. 7-1 Objectives of rural development policy and economic policy theory fields (ŠÁLKA,
SARVAŠOVÁ 2011)
Introduction

In the textbook "Economic Policy", we offer a short preview of the theory of economic policy
which, although limited in terms of tuition, we hope is comprehensive. These textbooks
should provide master students of economic study programs at the Technical University in
Zvolen with the basic knowledge on the functioning of economic policy at national and
European level, helping them to understand the influence of the external environment upon
managing companies, mainly the forestry/wood industry complex as a whole and in individual
fields of forest management and the wood processing industry.
This textbook builds foremost upon the courses of microeconomics, macroeconomics, natural
resource economy and environmental economy from the bachelor study programme.
Individual chapters can very well used as additional literature also for students of forestry,
wood processing, mechanical engineering and environmental study programs in which
students have to master the fundaments of managerial economics. Furthers this textbook can
be used by students of political science oriented courses such as environmental or forest
policy as an example for the economic approaches to taught issues.
The authors based the creation of the textbook of efforts to develop a comprehensive
overview of the economic policy that would be suitable for study at a technically oriented
university. However, they do not claim to have created a complete overview of the economic
policy and are well aware mainly the limited depth of this textbook. The authors could take
advantage of their economic background focused on forestry and wood processing industry
and tried to proceed analytically based on existing theories when compiling this textbook.
Economic policy is based on different economic schools and approaches that overlap in
practice and no single right approach exists. When writing this textbook it was very important
for authors to outline, of course without the aim to be exhaustive, also alternative theoretical
and strategic concepts of economic policy when solving the problems of the economy at
different levels.
The authors tried to conceive this textbook so that students are presented the basic concepts
and the logical connections, it does not focus on presenting figures, tabular and graphical
reports on sectoral, national or European level about this issue. However that does not mean
that these connections are not presented to students. For proper pedagogical approaches to
teaching this course it is and will be very important to convey numerical, tabular and
graphical overviews of the theoretical issues through lectures, seminars, tutorials and e-
learning applications.
The authors chose the structure of this “Economic Policy” textbook in the manner that first
the basics of allocation, distribution, stabilization, structural and sectoral policies are
described and their logical connection with applications for the forestry-wood processing
complex are indicated. Second, the structure aims to emphasize more on policies that have
more immediate impact on forest and wood processing industry enterprises. Some policies
that affect the whole economy as principles of the national economy policy, national
stabilization and distribution policy are elaborated as the inevitable fundament to
understanding a comprehensive overview.
In its first section, the "Economic Policy" textbook addresses the basic elements of the theory
of economic policy as a definition of criteria and tasks, the relationship with other scientific
disciplines, structuring, aims, instruments, governors and assessment of state interventions.
Further this chapter addresses policy concerning the principles of a market economy when
applied to the forestry/wood industry complex, which has its significant particularities in
managing renewable natural resource. In the third section, we analyse the basic characteristics
of allocation policy, i.e. competition, public goods, externalities and property rights.
Competition policy in forestry/wood processing industry complex indicates specific problems
with dominant role of the state forest enterprise on the wood supply side and concentration of
processing capacities in paper production on the demand side. Explaining theories of public
goods, externalities and property rights and strategies to address these market failures through
economic policy is the most important theoretical basis in terms of forest and environmental
policy. In the fourth section, we address the basic principles of distribution policy focusing
upon regional policy. National economic distribution policy is only described very briefly so
that students understand the basic concepts and context. In terms of the forestry-wood
processing complex spatial redistribution is important, therefore the chapter is based on
regional policy. From a didactic perspective, this chapter uses a basic knowledge of the next
chapter of the national economic stabilization policy, but the textbooks in this part just wants
to highlight the impact of redistribution on market economy principles policy and allocation
policy, so that students understand the logical interconnection of individual policies on this
example.
In the fifth section, we briefly introduce macroeconomic stabilisation policy. Macroeconomic
stabilisation policy is perceived by economists as one of the fundamental policies, as it is
outlined in the first chapter of this textbook and therefore its understanding by students is
crucial. Placing this chapter before the one on structural and sectoral policy was done on
purpose. We aimed at linking and applying structural and sectoral parameters of
macroeconomic stabilization policy to forestry and wood processing industry. This chapter
also creates the theoretical background for regional policy and is important for introducing
various economic approaches and schools.
The sixth section is based on structural policy theory and relates to previous chapter on
macroeconomic stabilization policy and the emphasis is also placed on the application in the
sectoral policy of the forestry-wood processing complex.
The seventh section deals with the theory of structural policy and also focusing upon
application in the field of forestry/wood industry policy.
The eighth section focuses upon economic integration and economic policy in the European
Union. The economic policy of the European Union is a very complex and to present it in
such a small space inevitably requires only presentation of its structure and basic concepts.
For forestry European rural development policy is very important. This policy is complex in
terms of governance levels, used instruments and strategies, etc. The last part is an attempt to
define rural development policy in terms of theories presented in this textbook and its
application to forestry.

The authors appreciate any professional feedback regarding the textbook, its technical
formatting and errors that have been overlooked during the editing process.

Authors
1. The Theory of Economic Policy (Jaroslav Šálka, Zuzana
Dobšinská)
1.1 The subject and tasks of the theory of economic policy

We divide economic policy into practice and theory. Practical economic policy addresses the
practical creation of conditions for the economy and the influence of state institutions upon
the economy with aim of improving satisfaction of the needs of individuals and society as a
whole. The theory of economic policy is the science of economic policy. We give the
following definitions of the theory of economic policy:
The theory of economic policy addresses the application of the principles of economic
mechanisms and the influence of state institutions upon the structure, process and results of
the economy, depending upon politically defined goals (STREIT, 1991).
The theory of economic policy addresses measures taken by state institutions in order
organise and directly and indirectly influence the economy (PETERS, 1975).
The theory of the sectoral and structural economic policy addresses:
- applying the principles of a market economy and exceptions in the various sectors,
- the direct and indirect influence upon sector management focusing upon structural
changes within and between sectors (PETERS, 1988).
The theory of economic policy can also be defined based on the economics of welfare as a
component of micro-economic theory focusing upon the question of how to best dispose of
limited resources in order to assure such a level of goods that has been deemed by society as
the best possible. (HENRICHSMEYER, WITZKE 1994; ŠÁLKA ET AL. 2003). Unlike classic
definitions of economic policy based on ascertaining political preferences for individual
criteria, it uses the more objective Pareto optimal and the criteria derived therefrom.
Criteria have been developed within welfare economics to enable an assessment of
development alternatives within society or in terms of public policy measures. Economic
policy is based on the scarcity of goods and natural resources as the basic problem in the
economy. The theory of economic policy is based on the criterion of economic efficiency,
fairness, progress and economic stability.
The criterion of economic efficiency states that the needs of individuals and society must be
met as best as possible with the given natural resources. This means that natural resources and
the goods produced from them should be used without unnecessary waste.
The criterion of fairness supplements the economic efficiency criterion since economic
efficiency does not fully guarantee the maximum satisfaction of the needs of individuals and
the whole of society. If there are rich and poor, it is then possible that waste occurs from the
rich and the poor cannot even satisfy their own basic needs. The fairness criterion therefore
attempts to increase the satisfaction of needs in society via redistribution.
The progress criterion states that we can lessen the scarcity of natural resources and goods
via technical and organisational improvements. This means that with the given natural
resources, we can produce more and better quality goods via progress.
The economic stability criterion states that it is possible to achieve the previous criteria
without stability of the national economy as well as sectors.
The main task of the theory of economic policy is to improve the rationality of economic
policy in practice based on:
- preparing situation analysis about the state of the economy, for example, at national,
sectoral or company level,
- proposals for strategies, concepts and programmes (aims, measures and instruments) of
economic policy,
- economic reasoning of the aims of economic policy,
- verifying the relationships between the aims of economic policy,
- verifying clashes between aims and measures of economic policy, the principles of a
market economy and economic policy concepts,
- evaluating the efficiency and time lag of economic policy instruments,
- analysing the economic efficiency of alternative economic policy instruments.

1.2 The relationships between the theory of economic policy and other
scientific disciplines

The theory of economic policy addresses the economy and it therefore has a very close
relationship to economics as a science about the economy (Fig. 1-1). Economics uses
classification into microeconomics, mesoeconomics and macroeconomics:
- microeconomics addresses households, companies and markets,
- mesoeconomics analyses sectors, groups and regions,
- macroeconomics describes the national economy as a whole.
Based on the classification of economics, economic policy can also be divided, depending
upon the level it addresses, into microeconomic policy, mesoeconomic policy and
macroeconomic policy:
- microeconomic policy creates conditions and influences the economics of households and
companies, as well as ensuring the functioning of markets and influencing markets,
- mesoeconomic policy analyses the creation of conditions and the influence upon the
economies of sectors and regions, and the influence of various social groups upon
economic policy.
- macroeconomic policy creates an economic framework for the economy and influences
the national economy, as well as addressing the economic relations abroad.
The classification of the theory of economic policy depending upon the classification of the
economy characterises the basic levels of economic policy, but it is not dogma. National
economy macroeconomic policy also uses knowledge from the mesoeconomy and
microeconomy. When selecting national economic policy instruments, it is important, for
example, to have knowledge of the behaviour of the influenced companies, households and
sectors. In regional policy, the analysis of the personnel and functional distribution of income
is very important. Environmental protection policy is influenced by the state budget and the
options permitted by the budgetary chapter of sectors.
On the other hand, the relationship between economic policy theory and political science
disciplines cannot be ignored. Economic policy is formed and exists in a particular political
framework which influences it. It uses knowledge of new political economy and political
science.
A new political economy or institutional economics forms a passage between the economic
and political scientific disciplines and deals with the research of political structures and
processes, and the mutual relationships between the economy and politics based on the
methodology of economics. An example is OLSON'S (1968) theory of collective action which,
based on microeconomic theory, analyses the creation and behaviour of interest groups in
politics. Another example could be the rent-seeking theory which addresses national
economic effects of the activities of interest groups (OLSON, 1982).
Political science analyses political institutions (polity), political processes (politics) and public
policy measures (policy) (PRITTWITZ 1994). When forming economic policy concepts, it is
necessary to have knowledge of the behaviour of government and state administration, the
relationships between the various political institutions, organisations and interest groups, as
well as of the reactions of the influenced economic subjects to the various economic policy
measures. Economic policy measures have become complex and complicated, and their
success or failure in democratic political systems depends upon various factors. Analysis of
public policy is addressed by one research area of political science which is called policy
analysis. DANIEL LERNER AND HAROLD D. LASSWELL (1951) are considered the founders of
this type of research approach to analysis of public policies, which is based on analysis of
formulation, implementation and the evaluation of public policy measures and the reactions of
actors in these phases to such measures.

Economics Economic policy

Discipline

Field

Field
Level
Examples Examples

Demand theory POLICY OF PRINCIPLES

- utility theory OF A MARKET ECONOMY AT
- household theory COMPANY LEVEL (e.g. the
Supply theory creation of employee

Microeconomic policy
- costs theory committees in a company)
Microeconomics

Microeconomics

- production theory CONSUMER POLICY (e.g.

Price and market theory consumer protection)
Households
Competition theory COMPETITION POLICY (e.g.
Companies
Welfare economics financial support for small and
Markets
Economics of the environment medium companies)
and natural resources ENVIRONMENTAL PROTECTION
Theory of personal distribution POLICY (e.g. supporting the
of income utility functions of forests)
MANPOWER DISTRIBUTION
POLICY (e.g. progressive income
tax)
Sectoral and structural theory POLICY OF PRINCIPLES
- theory of structural changes OF A MARKET ECONOMY AND
- theory of sectoral SECTORAL SPECIFICS (e.g.
Mesoeconomic policy

development forestry planning)

Mesoeconomics

Mesoeconomy

Theory of interest groups and SECTORAL POLICY (e.g.

Sectors interactions comprehensive forestry/wood
Regions - theory of collective action industry policy)
Groups - mesoeconomic theory of STRUCTURAL POLICY (e.g.
interaction policy of sectors conforming to
Regional structural theory structural changes)
- theory of regional REGIONAL POLICY (e.g.
development supporting regional
- theory of infrastructures infrastructures)
 Theory of economic circulation THE POLICY OF MARKET
and the national figures ECONOMY PRINCIPLES (e.g. tasks
Conjunctural theories of the Central Bank)
Theory of money and currency CONJUNCTURAL POLICY AND
Foreign trade theory EMPLOYMENT POLICY (e.g.

Macroeconomic policy
Public finance theory supporting the creation of new
Macroeconomics

Macroeconomics
Theory of the functional jobs or financial support for
distribution of income investment)
National
SOCIAL POLICY (e.g.
economy
unemployment benefit)
COUNTER CYCLICAL FISCAL
POLICY (e.g. influencing
aggregate demand)
LOAN AND FINANCIAL POLICY
(e.g. stating the discount rate by
the Central Bank)

Fig. 1-1 The systematics of economics and its relationship to economic policy (PETERS 1985,
amended)

1.3 Classification of economic policy

Based on the forms of economic policy, we divide economic policy into market economy
policy and policy influencing economic processes (Fig. 1-2):
Market economy policy addresses the creation of an economic framework at national
economy level. At meso- and micro-level, it focuses upon the specifics of sectors, regions
and individual businesses, formed by their differences from the basic principles of a
market economy.
Policy influencing economic processes attempts to influence the economy at various
levels in order to achieve the stated economic policy goals.
Depending upon the aims of the economic policy, it is divided into allocation, distribution,
stabilisation, structural and sectoral policy (Fig. 1-3):
Allocation policy addresses interventions by the state as a result of market failure in case
of externalities, public, collective, meritorious goods and trends in market control. The
most important criteria in allocation policy are social economic effectiveness and
progress. From a forestry management viewpoint, allocation policy in case of
externalities, public, collective, meritorious goods and trends in market control is very
important. Further, we shall only address competition policy which deals with trends in
market control and the exclusion of illegal practices in the market.
Distribution policy addresses state intervention in influencing the primary distribution of
income and secondary re-distribution of income between people, companies, sectors and
regions. A criterion of distribution policy is to ensure fairness in the re-distribution of
income and property. In terms of forest management, we pay special attention to regional
policy.
Stabilisation policy mainly operates at national economy level by ensuring healthy
economic growth of the national economy, focuses upon problems in the stability of
prices, unemployment, foreign trade and currency.
Structural policy addresses the influencing of the sectoral structure of the national
economy. The development of the sectoral structure of the national economy is either
passively or actively influenced by structural policy. Passive influence is carried out
using conservation or accommodative structural policy.
 Form of economic policy
Level of economic
policy The policy of market economy The policy of influencing the
principles economic process
EUROPEAN POLICY OF MARKET COMMON AGRICULTURAL POLICY
ECONOMY PRINCIPLES (e.g. the - (e.g. financial support for the
European Union
creation of European anti- rural development)
monopoly institutions)
NATIONAL ECONOMIC POLICY FOR NATIONAL ECONOMIC POLICY FOR
MARKET ECONOMY PRINCIPLES INFLUENCING THE ECONOMIC
(e.g. creating institutions such as a PROCESS
National economy
national bank, anti-monopoly (e.g. influencing the export
office) performance of the national
economy)
THE POLICY OF MARKET ECONOMY SECTORAL AND STRUCTURAL
PRINCIPLES AND SECTORAL POLICY FOR INFLUENCING THE
SPECIFICS ECONOMIC PROCESS
Sectors
(e.g. long term forestry planning) (e.g. financial support for
increasing competitiveness in
forestry management)
REGIONAL POLICY OF MARKET REGIONAL POLICY FOR
ECONOMY PRINCIPLES INFLUENCING THE ECONOMIC
(e.g. categorisation of regions PROCESS
Regions
depending economic performance) (e.g. financial support of
infrastructure in undeveloped
regions)
THE POLICY FOR MARKET POLICY FOR INFLUENCING
ECONOMY PRINCIPLES FOR ECONOMIC PROCESSES IN
INDIVIDUAL COMPANIES INDIVIDUAL COMPANIES
Individual companies (e.g. law on telecommunications, (INDIVIDUAL ECONOMIC POLICY)
legal regulations for managing (e.g. financial support for
forest land in state ownership) cultivation activities in national
forests)
Fig. 1-2 The systematics of economic policy depending upon the form and level (PETERS 1985,
amended)

Conservation structural policy strives to maintain the original structure of the national
economy e.g. by keeping companies in a sector via financial support. Accommodative
structural policy leaves the development of the structure of the national economy to
market forces and only tries to change the negative impact of changes in the structure (e.g.
removing structural unemployment).
Active structure policy attempts to achieve a politically desired structure of the national
economy (e.g. supporting the wood industry due to domestic raw materials and its export
opportunities). Structural policy is, at the same time, sectoral policy since it influences
individual sectors. In terms of forestry/the wood industry, the stabilisation of individual
markets is important in case of natural disasters, as well as influencing the entrepreneurial
structure of a sector, supporting investment and innovation in forest and wood processing
companies, or social policy and employment policy in forestry management.
The classification of economic policy depending upon aims is necessary due to the clear
systematics of economic policy. Individual spheres of economic policy are in close
relationships and they overlap and influence each other. For example, national economic
stabilisation policy or distribution policy are basically at macroeconomic level, but their
influence upon allocation, the structure of the national economy and individual sectors is
indisputable. It is further necessary to harmonise, for example, structural, sectoral policy
measures with stabilisation policy and policy supporting competition. The classification
of economic policy depending upon the form and sphere is perceived in literature as
divided. Some authors also consider the production of utility functions as a specific of
forestry management and they therefore classify allocation policy as sectoral policy of the
market economy (HELMSTÄDTER 1993).

Aims of economic Common

policy impacts

Allocation policy (market failure)

Externalities Public Collective Meritorious Trends in

goods goods goods market
control

Distribution policy (redistribution)

interpersonal inter-company inter-sectoral spatial

Stabilisation policy

Growth Employment Inflation Foreign trade Currenc

y

Sectoral and structural policy

Passive Active

conservation accommodativ
e
Fig. 1-3 The systematics of economic policy depending upon aims

1.4 The relationships between the aims of economic policy

Economic policy is based on political programmes. Programmes of economic policy

define targets and measures in order to achieve the aims of economic policy. To analyse
such programmes, it is important to evaluate the vertical and horizontal relationships
between the aims in order to predict problems in approving and implementing economic
policy measures (STREIT, 1991) (Fig. 1-4).
Vertical relationships between aims arise from the fact that aims also have the nature of
measures and instruments. Each aim of economic policy can be seen as article in chain of
aims: social, national, sectoral aims and instruments (Fig. 5). In vertical relationships, the
aims of market economy policy prevail over the aims of procedural policy, i.e. aims
influencing the economic process.

Vertical

Relationships Logical

between aims Horizontal

Technological
(empiric)
Fig. 1-4 The relationships between the aims of economic policy

The basic social aims: fairness, security, prosperity and liberty are reflected in economic
policy programmes in the general aims of economic policy (see Chap. 1.3). Another level
in the target hierarchy is the aims of sectoral and cross-sectional policies which are
specified using target variables. Target variables should be explicitly defined and
measurable. Instruments can then be assigned to these targets. Target hierarchies can then
be described using the following indicators:
- basic social aims are top targets which are the only not to have the nature of
measures,
- the final level of instruments does not have the nature of aims,
- all other levels of the target hierarchy have the nature of aims and measures at the
same time,
- apart from the main effects (see the bold line on Figure 1-5), the aims also have
auxiliary effects (the thin line on Figure 1-5),
- the number of aims increases in a downwards direction,
- only target variables can be specified, i.e. accurately measured.
Target hierarchy (Fig. 1-5) at the level of the general aims of economic policy described
the relationships between policy for protecting competition via structural (effectiveness)
and distribution policy. At the level of forestry/wood industry policy, it illustrates the
relationships between the distribution and redistribution of income between various
economic groups (owners of companies in forestry management and the wood processing
industry, employees) and the company size in forest management.
Basic social
aims

Fairness Security Prosperity Liberty

economic policy
Aims of

Classification Stability Effectiveness Economic freedom

industry policy
forestry/wood
The aims of

Income State Income Income of Allocation Structure Utility

from costs in of companies between of forestry function of
wood in FM employe in the sectors companies forests
FM es in FM wood
processing
industry
Variables

Added Company profit Company The proportion of Increment Number

value in in FM profit in employees in the of of small
FM Use of PF the wood primary and economic companie
processin secondary sectors association s
g industry s in FM in FM
Tools

Interest rate Taxes Subsidies Licences Transfers

Fig. 1-5 The vertical relationships between the aims of economic policy (Henrichsmeyer, Witzke 1994, amended)

Horizontal relationships between aims can be logical or technological (empiric), i.e. as a

result of the auxiliary effects of using instruments. Logical horizontal relationships of
aims are as follows (Fig. 1-6):
Identical are aims which, after analysis, are only distinguished as formulations (e.g.
providing stability of pricing levels  limiting deflation and inflation, or financial support
for correcting externalities and public goods in forest management  financial support for
the utility functions of forests).

Identity:
Aims are the same based
on analysis

Complementarity
Following the
desired aim makes positive
following one or
more other aims
more advantageous
Neutrality:
Logical Following the Auxiliary Technological
relationshi desired aim allows none effects upon (empiric)
other aims relationships
ps the following of one
or more other aims
Conflict:
Following the desired
aim limits the following negative
of one or more other
aims

Antinomy:
Following one aim
excludes following one
or more other aims

Fig. 1-6 The horizontal relationships between the aims of economic policy

Aims which can be achieved independently but which can influence each other are in
harmony (e.g. the aims of price stability and employment in the long term or investment
subsidies in the diversification of production conservation subsidies and for sustaining
employment).
Antinomy is complete disharmony of aims (e.g. self-sufficiency in agricultural production
and international division of labour, or legislation related to forest management with a
water management function, and allowing decentralised agreements between forestry
companies and water management companies).
Empiric horizontal relationships of aims are as follows (Fig. 1-6):
Neutrality of common aims is almost impossible in the majority of national economy or
sectoral aims since the use of certain instruments always have auxiliary effects.
Conflict between aims lies in the fact that achieving one aim has a direct or indirect effect
upon achieving other aims (e.g. the short-run Phillips curve, a higher level of price
stability causes increased unemployment, the financial support of one sector means less
support for other sectors).
Complementarity expresses the achievement of one aim makes it advantageous for
achieving other aims (e.g. policy for decreasing unemployment may have a positive effect
upon economic growth or marketing consultancy in the non-state sector can have a
positive effect upon forest management).
We shall attempt to explain the horizontal relationships between the aims of economic
policy using relationships between various utilities and functions of forests (MOSER ET AL.
2008; ŠÁLKA, ŠULEK, PALUŠ, 2003). Individual uses may compete with one another,
meaning they are in conflict, or they may be complementary, meaning they are
complementary. If the functions of the forest are complementary, it is a win-win situation
and the assurance of both uses leads to cost benefits. Economists call such a situation
"economies of scope". If the uses of forest functions are in competition, it is known as a
"trade off", whereby the assurance of the utility provided by one function of the forest
degrades the utility provided by another function of the forest.
Conflict may occur when ensuring the functioning of forests if society wishes to use
goods from a particular natural resource or ecosystem, and competition occurs between
individual goods (BERGEN ET AL. 2002, TEEB 2008). Internal competition between goods
occurs during the use of goods, or functions of the forest's natural resources: Wood
production, recreational uses, soil protection, water quality and quantity, the protection of
biodiversity, hunting, etc. The use of such goods is represented by involved users. In the
case of wood production this is forest management, for biodiversity protection this is state
nature conservation and environmental organisations, for water quality and quantity this is
water utility companies, etc. One such example of a conflict of aims, for example, is
competition in the use of goods offered by water reservoirs, where competition occurs
between fishermen, recreation seekers, water utility companies, nature protection officials,
etc.

1.5 Instruments of economic policy

Instruments of economic policy can be classified using various criteria (Fig. 1-7). Very
often, instruments are divided depending upon the aims of economic policy and upon the
level of economic policy. TINBERGER (1952) divides instruments into quantitative and
qualitative. Quantitative instruments influence the economy via changing the values of
target variables, e.g. rates of tax, discount lending rates or financial support rates.
Qualitative instruments of economic policy influence private and public economies based
on changes in conditions for conducting business, e.g. anti-monopoly law or determining
the duty to reforest an area after mining.
STREIT (1991) distinguishes between economic policy instruments based on the method
used for influencing the behaviour of recipients of economic policy measures (Fig. 1-8).
They generally distinguish between instruments with a direct targeted effect and
instruments for influencing the behaviour of economic subjects. Direct targeted effects
take place if:
- the market production of goods is replaced by state actions (e.g. replacement of private
investment by the state),
- income is directly changed (e.g. social transfers),
- the state changes market results (e.g. by stating fixed prices)
- the behaviour of subjects on the market is directly determined and controlled (e.g.
stating production quotas in agriculture).
Classification of
economic policy
instruments
Instruments Instruments Instruments
TINBERGER GÄFGEN (1975) GÄFGEN (1975)
(1952)

quantitative policy of market macroeconomic policy

economy principles
qualitative mesoeconomic policy
policy influencing the
economic process
microeconomic policy
structural policy
Fig. 1-7 Various types of classification of economic policy instruments

Instruments influencing behaviour can be divided into information policy instruments,

for moral suasion instruments, changes in individual planning data, voluntary agreements
and enforcement. Information policy attempts to provide economic subjects with
information about the current situation in the economy (e.g. a report on the state budget,
green report) or information about the future (e.g. economic policy programmes, forestry
policy concepts), in order to facilitate economic decision making. In moral suasion,
economic policy tries to influence the behaviour of economic subjects via appeals and
requests in compliance with economic policy targets (e.g. a campaign for environmental
protection, or a government media campaign promoting the purchase of domestic
products). By changing individual planning data, economic policy influences economic
subjects who change their behaviour based on rational economic decisions. Changes in
planning data are carried out via changing market parameters or via changing institutional
conditions on the market. For example, the Central Bank, by changing the discount rate,
affects the financial markets and also therefore investment decisions by companies, or by
providing subsidies for the introduction of new businesses into a sector which changes the
market structure. It resolves conflict between various social economic groups in society
via voluntary agreements (e.g. creating conditions for collective negotiations or
negotiations between sectoral state administration and interest groups within the sector).
Enforcement is the last instrument of economic policy, where economic policy uses
restrictions and mandates under the threat of sanctions (e.g. a legal duty to reforest). Other
examples of economic policy instruments are on Fig. 1-9.
 Instruments of economic policy

1. with a direct target effect

Information about the current
2. influencing behaviour situation

Information about the

2.1 Information policy future

2.2 Moral suasion

2.3 Changes in individual decentralised planning data

Market prices
2.4 Voluntary agreements

Institutional market conditions

2.5 Enforcement

Fig. 1-8 Classification of economic policy instruments (STREIT, 1991)

Economic policy instruments depending upon economic policy spheres

Stabilisation policy Distribution policy Regional policy Forestry/wood
industry policy
1 Public investment costs Progressive income tax Favouring undeveloped Determining the
for rejuvenating the regions in allocating upper limit for mining
economy state orders wood
2.1 A situation report on the A report on financial A report on regional A price information
state of the national support provided development system
economy
2.2 A campaign for Non-binding A regional development The promotion of an
supporting the sales of determination of salary
plan environmental
domestic products rates friendly economy
2.3 Change in the customs Change in the minimum
Bonuses for creating Import financial
duty for imported wage jobs in economically support for wood
products weaker regions
2.4 Agreements between Agreements between Agreements about Agreements between
employers and the employers and regionalisation of forestry management
government about the employees about wage investment activities and the wood
number of tariffs processing industry
apprenticeships about the wood trade
2.5 Restriction of Expropriation Restriction of industrial Restriction of wood
concentrations in the investment in mining in natural
market environmentally reservations
burdened areas
Fig. 1-9 Examples of economic policy instruments depending upon the classification of economic
policy in Fig. 1-8

KROTT (2001) and GLÜCK (2001) are based on JANN (1981) and employ a classification
that divides political measures (tools) with internal and external influence. Internal
 influence tools determine the behaviour of actors in the political and administrative
system (e.g. state authorities dealing with administrative procedures, state services). In
terms of external influence, the classification schematic for political measures described
by Jann (1981) has been employed within forest policy and also uses influential media:
state power, money and information. Information, economic and regulatory tools are
differentiated based on the classification of influenced media (KROTT 2001, GLÜCK 2002,
SCHMITHÜSEN 2002).
"Regulatory tools are all forms of state policy regulatory intervention that, at formal
level, influence the actions and behaviour of society as well as management activities
through the introduction of binding rules" (KROTT 2001).
"Economic instruments are all forms of state policy regulatory intervention that, at
formal level, influence the actions and behaviour of society as well as management
activities through the exchange of economic values" (KROTT 2001).
"Informational tools are all forms of state policy regulatory intervention that, at formal
level, influence the actions and behaviour of society as well as management activities
exclusively though information" (KROTT 2001).
GLÜCK (2001) emphasises how information tools have the nature of an appeal and provide
information, in economic tools it is the use of the market and in regulatory tools it is their
obligatory force. Depending upon the precision of their effect, regulatory tools show high
precision (precise influence), economic tools have medium precision (medium influencing
pressure) and information tools show low precision (weak influence).
Forestry policy classifies tools into regulatory, economic, regulatory/economic,
information and market. The basic effects and examples of classification of forestry
policy tools are shown on Figure 1-10.

Tools Effect Example

Regulatory Mandate, restriction, Duty to reforest
regulation
Planning Mandate, Binding indicators of forest care
Influencing programmes
Indicative sectoral plans
Economic Motivational Financial support, tax concessions
Anti-motivational Export tax
Regulatory/economic Mandates, restrictions and Compensation for damage
economic compensation
Information Influencing Consulting
Market Quasi-market Certification of wood
Fig. 1-10 Classification of forestry policy instruments (KROTT, 2001)

1.6 Governors of economic policy

After defining the aims of economic policy and determining instruments for their
achievement, it is necessary to establish institutions designated to prepare and implement
the economic policy measures. We call these institutions the governors of economic
policy and they can be classified depending upon their level and authority in economic
policy (Fig. 1-11).
 Governors of international economic policy
International level United Nations Organisation (UN), European Union (EU), International Monetary
Fund (IMF) ...
Governors of state economic policy
Legislation: Parliament
Executive: Government, State administration, Municipalities
Judiciary: Constitutional Court, Supreme Court, Courts
Autonomous governors of economic policy with statutory adjudication
functions
State level Central Bank, Social Insurance Company, Chamber of Commerce, ...
Legally bound governors of economic policy with statutory adjudication
functions
The Anti-Monopoly Office, The Regulatory Office for Network Industries,
National Labour Office, ...
Governors of economic policy with statutory informative functions
Expert committees, Advisory committees, ...
Governors of economic policy with statutory adjudication and informative
Private level functions
Unions, Employers' Associations, ...
Fig. 1-11 Classification of economic policy governors (FREY, 1992)

For example, in regional policy, the most important governors are the states and the
corresponding Ministries for Regional Development. In recent years, the European
Union, as a multinational institution, has taken over more and more regional policy tasks
in member states. This includes the creation of its own aims, measures, controls and
harmonisation. Regional policy is also implemented by the administration of independent
municipalities and towns applying regional and urban development concepts. Other
actors may include semi-national and private institutions such as: development agencies,
advisory and technological centres, funds for supporting the economy, etc. In forestry
policy, the key institution is the Ministry of Agriculture and its Forestry section. Forestry
policy is carried out by lower organisational levels in the state administration of forestry
management.

1.7 Assessment of State Interventions

Assessment of state intervention is based on the definition of the objectives and tools of
economic policy in order to correspond to the conditions of economic rationality (STREIT
1991; ŠÁLKA 2004). If state intervention in the economy is to be based on rationale, it
should be checked against certain intervention rules. The following procedure is
recommended when checking state intervention measures (Fig. 1-12):
1. checking the economic accountability of aims,
2. creating a system of aims and instruments with assessment of the suitability and
appropriateness of instruments for achieving the selected aims, i.e. assessing target
conformity,
3. examining of the acceptability of instruments based on their impact on the selected
concept of economic policy and the functionality of the basic coordination mechanism
for the market economy, i.e. an assessment of conceptual and system conformity,
4. comparing suitable, appropriate and acceptable instruments of forest policy via
analysing economic effectiveness consisting of the following partial assessments:
- selecting valuation procedures and the valuation of economic utility and costs,
- assessing the effect and limits of effectiveness of instruments:
- at tangible level - an assessment of efficiency,
- at time level - an assessment of the time lags

For describing the checking of state interventions, we use a program for ensuring the
utility functions of forests.
Objective, system and conceptual conformity of economic policy measures The
objectives of economic policy measures to assure the utility functions of forests must first
be economically justified. Justification for these objectives is primarily determined using
the standard theory of economic policy and public finances, mainly applying the theory of
allocation policy, or the correction of market failure: Externalities, public, collective,
mixed and meritorious goods, monopoly tendencies, the lack of a clear definition of
ownership rights, transaction costs, information asymmetry as well as distribution,
stabilisation and structural insufficiencies within the economy, industry or region.
If an economically justified objective is assigned to a type of economic policy measure to
assure the utility functions of forests, we create a concept of public policy to assure the
utility functions of forests. State intervention must select a type of economic policy
capable of assuring the defined objectives of forest policy based on its expected effect of
the solution, i.e. it should be appropriate and effective. This partial assessment is
designated as objective conformity. When evaluating objective conformity, it is also
important to assess the accompanying positive or negative effects of public policy
measures on assuring the utility functions of forests on other objectives or tools of
economic policy. Analysis of the horizontal relationships between forest policy objectives
is important for this very reason. A comparison of the pros and cons of the individual
public policy tools to assure the utility functions of forests can be found in publications,
including ŠÁLKA ET AL. (2008), MAVSAR ET AL. (2008), KOVALČÍK, KOLÁRIKOVÁ (2012)
and in other environmental economics textbooks.
Additional assessment is based on assessing the acceptance of economic policy measures
to assure the utility functions of forests in relation to the fundamental lines of national
economic policy and in particular to the basic coordination mechanism of the market
economy. The principles of ecological and social market economics as defined by the
constitution or the government's national economic policies are considered to be such
fundamental guidelines. In this case we are dealing with an assessment of conceptual
conformity. Analysis of the vertical relationships between economic policy objectives
from fundamental social objectives to specific industry objectives (e.g. the objectives of
forestry/wood industry policy) is the cornerstone used for such assessment. The economic
system is primarily based on the market mechanism system and, as such, the most
important evaluation of such acceptability is based on assessing systematic conformity of
such public policy measures to assure the utility functions of forests. This assessment
determines the positive, neutral and negative impacts of such state intervention on the
decision making, motivation, control, coordination, information and sanctioning sub-
systems of the market economy mechanism.
Accountability of aims

Creating a system of
aims and instruments

Convenien
ce

Appropriat
eness

Target conformity Acceptabili

ty

Conceptual conformity Functionality of the prevailing

mainly system conformity coordinating mechanism

Comparison of
acceptable instruments

Analysis of economic
efficiency

Mode of action of
Valuation
an instrument
Knowledge of the mode
of action of an
Effects of tangible instrument
instruments Limits of using an
instrument Effectiveness

time Time lags ­ technical

­ institutional
­ conditioned by
behaviour

Fig. 1-12 The rules for checking state intervention (STREIT, 1991)

A range of system conformity levels are needed to assess system conformity.

TUCHTEFELDT (1960) defined the following levels of system conformity: essential,
supporting, adequate, deteriorative and disturbing.
1. All forms of public policy measures that serve to make up the economic system are
essential from the perspective of the system. According to EUCKEN (1990), this
concerns the assurance of the constituting principles of the market economy and
according to GROSSEKETTLER (1991) it concerns the "basic principles" of a market
economy (e.g. financial support for settling ownership within forest management). A
clear definition of ownership rights to the utility functions of the forest create the
conditions for the establishment of markets, which allows us to classify such measures
as essential for the system.
2. System-supporting measures are such public policy measures that mitigate undesired
friction in the market system. According to EUCKEN (1990) these measures are
"regulating principles" while according to GROSSEKETTELER (1991) they are
"evolutionary principles" of the market economy (e.g. economic advisory provided to
non-state owners). The use of market tools, including tradable certificates as an
example, can be classified among measures supporting the market economy system.
3. System-adequate public policy measures are such measures that enable other
objectives of forest policy (e.g. measures to correct externalities) to be achieved
without disturbing the market economy. Measures to assure the utility functions of
forests include measures to resolve market failures, which means a majority of which
can be designated as system-adequate.
4. Public policy measures that harm the system decrease the functionality of the
economic system without cancelling it completely (e.g. financial support to settle
losses).
5. System-disturbing public policy measures render the market economic system non-
functional to such an extent that none of the market economy's subsystems work (e.g.
the definition of fixed prices).

Economic efficiency of economic policy measures Objective conformity provides

information on the suitability of tools while system conformity selects the acceptable
types and forms of public policy measures to assure the utility functions of forests. It is
necessary to assess and compare tools on the basis of their economic effectiveness. The
direct and indirect utility and direct and indirect costs for state intervention must be
assessed and the total social or economic effect must also be quantified. This requires the
valuation of the primary and auxiliary effects of state intervention and their comparison to
other forest policy tools. In order to conduct such analysis, the material and time logic of
the effects of such a tool must be known. This mandates that an assessment of the effects,
efficiency and time lag of such state intervention take place as a precursor to economic
efficiency analysis. Any estimation of utility in terms of the utility functions of forests is
based on approximative methods or is simply impossible. An estimate of the costs to
assure the utility functions of forests through economic policy is more realistic and is
often the reason why economic efficiency is based simply on the level of related costs.
Such cost-based assessment can be static or dynamic. Static economic effectiveness is the
ability of a tool to achieve the objective of economic policy at minimum cost. Dynamic
economic effectiveness is the ability of an economic policy tool to induce technical
advancements in order to assure the utility functions of forests. Such technical
advancements are successful if such utility functions of forests can be assured at low cost
in the future. In practice such assessment is very complex due to problems in ascertaining
relevant input data.

The effectiveness and time lags of economic policy measures An assessment of the
effectiveness of public policy measures to assure the utility functions of forests represents
an evaluation of the level at which the defined public policy goals are achieved. A change
in the intensity of the effects of such a public policy tool (i.e. the rates of financial
support) allows for the effectiveness of such a tool to be influenced. The effectiveness of a
market policy tool depends on if the tool itself is qualitative (a regulatory tool, e.g. a ban
or order) or a quantitative tool (economic tool, e.g. financial support). Quantitative tools
show a greater ability to change levels, which corresponds to the intensity of the effect of
the tool and variable costs for application.
The final rule for assessing state intervention is an assessment of the delay in the effects of
financial support. A delay in such effects may be technical (e.g. a lag when completing an
 investment), institutional (e.g. time needed to adopt a new law) and is conditioned by the
behaviour of the given institutions or affected economic entities (e.g. the approval process
or process of completing a project). A delay in the effects of economic policy tools may
have a range of consequences, including a reduction in utility or economic efficiency.

1.8 The policy of market economy principles

The principles of a national economy are all regulations, standards and institutions
representing the long term existence of a framework of conditions for the decision making
and actions of individuals and economic subjects (companies and households). Depending
upon the principles of a national economy, we distinguish between various forms of
national economy. We recognise two basic forms of national economy: a market and a
centrally planned economy. The principles of a national economy are based on the theory
of systems and the theory of the principles of economics (LEIPOLD 1980, 1983; THIEME
1988; GUTMANN 1993; EUCKEN 1990). The relationships between the theory of systems
and the principles of centrally planned and market economies are shown on Fig. 1-13.

An economic system Principles of economics

Definition
and its subsystems Planned economy Market economy
Prevalence of state Prevalence of non-state
ownership ownership
Prevalence of decision
Prevalence of decision
Contains all making by governor of
making by governors of
legal/institutional production factors (the
Decision making production factors
regulations for state)
system
determining authorities Prevalence of state Individual companies,
for decision making. companies and capital and personal
associations companies, associations
(determined by the and state companies
state) (elective)
Contains all
legal/institutional
Bonus for achieving
Motivation system regulations which Profit
results
motivate economic
performance.
Prevalence of creation of
Contains all Prevalence of state prices by markets, a
legal/institutional establishment of prices polypoly, oligopoly,
regulations for monopoly
Coordination system
coordinating economic Decentralised decision
decisions, plans and making and planning
Central planning
activities. based on information
from economic policy
On the market, via
State control of
Contains all competition and
fulfilment of the plan
legal/institutional customers (consumers)
Control system regulations for
State administration for
controlling economic State administration of
assuring the principles of
activities. central management
a market economy
Fig. 1-13 The economic system and the principles of coordinating a national economy
 Since 1989, the Slovak national economy has been transformed from a centrally planned
to a market economy. The transformation process firstly had to respect changes in these
basic criteria for planning, ownership, price creation and market form, legal forms of
companies, decisions in companies and company targets, and forms of state administration
(Fig. 1-14). Figure 14 also describes the transformation of the wood processing industry,
which is not affected by any particular specifics in terms of a market economy system.

Criterion Planned economy Market economy

Central planning Decentralised decision making

Planning
Prevalence of state and
Ownership
collective ownership
Prevalence of state
Creation of prices and forms of
establishment of prices
markets
Prevalence of state
companies and
Legal forms
associations (determined
by the state)
Companies Prevalence of decision
making by governor of
Decision making
production factors (the
state)
Bonus for achieving
Aims
results
State administration of
State administration
central management
Fig. 1-14 Transformation of an economic system in the wood processing industry
and planning based on
information from economic
policy
Prevalence of non-state and
individual ownership
Prevalence of creation of prices
by markets, a polypoly,
oligopoly, monopoly
Individual companies,
capital and personal companies,
associations and state companies
(elective)
Prevalence of decision making by
governors of production factors
Profit
State administration for assuring
the principles of a market
economy

Forest management is characterised by various specifics, but forestry policy must respect
national economic policy based on the principles of a market economy. The specifics of
forestry management are based on the relationships between the economic and ecological
system. The optimum utilisation of the "forest" natural resource must be based on
ensuring the sustainability of wood production and all the utility functions of the forest.
The differences between market economy principles and the exceptions in forest
management are currently conditioned by (Fig. 1-15):
- the specifics of forest management,
- the unfinished transformation process.

Criterion Market economy Specifics of FM SR

Decentralised decision
making and planning
Planning economic subjects based
on information from
economic policy
Prevalence of non-state
Ownership
and individual ownership
- Decentralised forest care programme
(FCP)
- Forest inventory based on the FCP also
provides very detailed economic
information about non-state forests.
- High proportion of state ownership
- Unresolved ownership of circa 200,000
ha
- Insufficient economic and legal

Prevalence of creation of
Creation of prices prices by markets, a
and forms of markets polypoly, oligopoly,
monopoly
Individual companies,
capital and personal
Legal
companies, associations
forms
and state companies
(elective)
Companies
Prevalence of decision
Decision
making by governors of
making
production factors
Aims Profit
State administration for
State administration
assuring the principles of
a market economy
knowledge by non-state owners
- Administrative limitation of the wood
supply
- Limitations in the land and forest market
- Limitations in creating market prices for
rental of hunting reserves
- The dominant position of the state in the
wood market
- The form of state company for satisfying
utility needs
- Legal and planning restrictions outside
the scope of correcting market failure and
assuring the sustainability of forest
management
- The form of state company for satisfying
utility needs
- Insufficient support of measures for
transforming ownership relationships
- Limitation of ownership rights based on
restrictive planning and legal regulations
- Insufficient economic and legal advice for
non-state owners
- Insufficient liberalisation of prices
- Maintaining the dominant position of
national forests

Fig. 1-15: The policy of market economy principles in forestry management

Summary

Economic policy is a scientific discipline addressing the influencing of the economy and
society, with the aim of assuring allocation effectiveness, fairness and progress. Economic
policy theory is mainly based on economics and has very close relationships with
institutional theory and political theory.
Economic policy can be divided from various standpoints. It can be divided into
microeconomic, mesoeconomic and macroeconomic policy. In terms of area, it can be
divided into European, national, regional and company. Based on content, economic
policy can be divided into market economy policy and policy influencing economic
processes. Policy influencing economic processes can be divided into allocation,
distribution, stabilisation, structural and sectoral policy.
To analyse economic policy, it is important to evaluate the vertical and horizontal
relationships between the aims in order to predict problems in approving and
implementing economic policy measures. Vertical relationships between aims arise from
the fact that aims also have the nature of measures and instruments. Horizontal
relationships between aims can be logical or technological (empiric), i.e. as a result of the
auxiliary effects of using instruments.
Instruments of economic policy can be classified using various criteria. Very often,
instruments are divided depending upon the aims of economic policy and upon the level
of economic policy. After defining the aims of economic policy and determining
instruments for their achievement,. it is necessary to establish institutions designated to
prepare and implement the economic policy measures.
Assessment of state intervention is based on the definition of the objectives and tools of
economic policy in order to correspond to the conditions of economic rationality. If state
intervention in the economy is to be based on rationale, it should be checked against
certain intervention rules.
The principles of a national economy are all regulations, standards and institutions
representing the long term existence of a framework of conditions for the decision making
and actions of individuals and economic subjects (companies and households). Depending
upon the principles of a national economy, we distinguish between various forms of
national economy. We recognise two basic forms of national economy: a market and a
centrally planned economy.

Questions:

1. What are the relationships between the theory of economic policy and economics and
other scientific disciplines?
2. Classify economic policy depending on various criteria!
3. Define the vertical relationships in economic policy in terms of forestry/the wood
industry!
4. State examples of the horizontal relationship between the aims of economic policy in
terms of forestry/the wood industry!
5. Classify the instruments of economic policy from various viewpoints!
6. Which governors of economic policy do you know at national and international level?
7. Describe the checking of state interventions using an example of assuring the utility
functions of forests!
8. Describe the economic system and the principles of coordinating a national economy!
9. Does the transformation of the economic system in the wood processing industry and
forestry management have specifics?

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2 Policy for protecting competition (Andrea Sujová)

In the past, there was a lot of theoretic discussion about whether certain rules for
entrepreneurs operating in a market economy environment would still be necessary after
liberalisation, deregularisation and globalisation processes. Practice has shown that the
majority of countries worldwide have adopted standards for competition and have
established institutions authorised to supervise competition rules establishing the
conditions under which entrepreneurs compete and fight for customers. Such practices
also include the development of competition policy, an important aspect of which is to
prevent such entrepreneurial behaviour that weakens competition on the markets.
The aim of the chapter is to emphasise the significance of competition and the importance
of its protection, and to familiarise students with forms of restricting competition as well
as the aims and instruments of policy for protecting competition.

2.1 Competition

In accordance with the theory of competition, price liberalisation is certainly

expected. This forms the basis for freedom of choice for market participants in whether,
what, when and for what price they purchase or sell, but competition between them is a
tool which provides the optimum use of resources. According to JÁNOŠ (2004), the
fundaments of competition lie in the fact that individual companies strive to beat their
competitors and gain a greater market share. Competition requires equal freedom of
choice for all.
Competition is a natural part of the market. It is based on market principles:
equality of conditions, equality of opportunity. It ensures that consumers can choose from
several types of goods from several producers and suppliers, thereby providing a wide
choice depending upon their own preferences and notions. At the same time, it also
oversees pricing levels. It influences the justness of the market environment and therefore
needs protection (VINCÚR, 2007).
Entrepreneurs constantly strive to ensure that their products differ from others on
the market. This results in the fact that consumers have greater choice to select the best
seller offering the best ratio between quality and price of a product. Competition also
forces entrepreneurs to constantly offer better quality products and services, resulting in
products functioning better and lasting longer, services will improve and will also be
provided post-sale, and customer service will be of good quality and accommodating.
Better quality of products also offers entrepreneurs the option to succeed on the foreign
market and therefore compete with global competitors. In order for entrepreneurs to
constantly offer better products, they must implement new designs, new product concepts
and new production methods which give space for innovation. The basic assumption and
condition for the successful survival of a company on the market is its ability to compete.
It is the dominant sign of a company on its journey to success.
Competition can be characterised as a set of certain rules for the behaviour of
business and the state on the market, meeting which is a basis for further economic
development, to benefit consumers and the whole of society. Competition is a natural
mechanism which acts in a market economy as a regulator of effective behaviour of
entrepreneurs and, at the same time, results in the optimum use of resources in the
economy and positively affects consumers. It is an important part of the functioning of a
market mechanism and the creation of market equilibrium, it provides feedback to
participating economic subjects who strive for optimum satisfaction of aims and to meet
expectations.

The importance of competition can be summarised in three basic points:

- it supports the effectiveness of enterprising,
- it widens consumer choice,
- it helps to increase quality and decrease prices.

Competition as a basic principle of a market economy must fulfil its functions

Individual functions have an economic as well as social nature, and some authors
therefore monitor these functions in terms of their economic or social contribution to
competition.
By comparing the opinions of several authors (RUČINSKÁ, 2010, TOKÁROVÁ, 2002,
VINCÚR, 2007), we can characterise the functions of competition as follows:
- Control function: competition affects the setting of allocation and distribution
processes via a market price, which is:
o an indicator of scarcity: a signal of the level of consumption of individual
products,
o an allocation tool: directs production factors to the place of optimum use,
o a selection tool: sorts, selects and excludes those economic subjects which
cannot succeed in competition with their product prices,
o a coordination tool: coordinates the plans of companies and consumers in
compliance with their needs.
- Distribution function: competition provides the primary distribution of production
factors depending upon outputs, based on their valuation on the market, where a
product accepted by the market is a gauge for distributing income and for company
profit.
- Regulating function: in effective competition, the market mechanism ensures that
production resources are directed where needed since they are required by
consumers.
- Stimulation function: competition stimulates and motivates economic subjects in
their efforts to beat the competition via lower costs, higher product quality and
technological innovation.
- Innovation function: this is related to the stimulation function since the
entrepreneur has to innovate their products, leading to technical progress,
increased productivity and to subsequent achievement of competitive advantages
and success in the market.
- Social function: this function gives the consumer wide choice on the market,
which is only possible if there is strong competition in supply, forcing businesses
to attract customers with a wide selection.

Economic theory distinguishes between two forms of competition:

- Perfect or free: the large amount of small, free, unrestricted producers and
consumers is assumed, but none significantly influences either supply or demand.
An advantage is that individual, independent companies use better performance as
a weapon and succeed thanks to good knowledge of the market and market
conditions. A disadvantage is that producers driven by the desire to achieve
success and make a profit forget cooperation and meet their needs by fighting,
which can often be dirty.
- Imperfect or suppressed: this happens when the number of small producers
decreases in industrial production and the number of large companies which
 significantly influences supply increases. The organisation of producers (supply
monopoly) as well as consumers (demand monopoly) disturbs free competition.
The ideal form of competition is perfect competition, where individual economic
subjects are independent in their economic decisions, market participants are independent
if there are many economic subjects on both the supply and demand sides, and there are
no barriers to entering or exiting the sector. However, in real conditions, perfect
competition does not exist. The real market structure has a certain rate of concentration
and control of production prices, and there are barriers for entering and existing the
market, i.e. it operates in imperfect competition conditions.
The competition mechanism plays an irreplaceable role in facilitating the
achievement of dynamic development. Intensive competition is therefore necessary in
economics. Competition is an integral feature of a market, its internal regulation and its
categorical imperative which sorts market mechanisms into the necessary mutual
relationships, gives them a stamp of internal logic and prevents chaos. (VINCÚR, 2007)
There are several reasons for protecting competition in general. On one side, there
are economic reasons. Thanks to the effective functioning of the market mechanism, the
effective allocation of available resources takes place. From a long term viewpoint, a
competitive environment in the economy then supports innovation and technical
development. Competition policy co-creates conditions for creating and sustaining the
middle class. Small and medium businesses to which this class is usually linked would
usually just have a slim chance of surviving without being given protection against some
of the ruthless, expansive practices of large and strong economic subjects. A strong and
confident middle class is just one of the important bases for stability.
The protection of competition is related to business subjects in to basic areas: in
the area of anti-competition behaviour by companies (so called anti-monopoly or anti-
trust policy) and in the area of state intervention which may deform competition, mainly
via providing state aid.

2.2 Forms of restricting competition

Each restriction of freedom of action of an entrepreneur on the relevant market is

considered to be the restriction of competition. However, this is mainly the exclusion of
existing or possible competitive activities, an actual or possible reduction in the scope of
competitive activities or the distortion of competitive conditions.
Definition of the term 'relevant market' is decisive for ascertaining a possible
violation of competition rights. A relevant market is the time and spatial concurrence of
supply and demand for such goods which serve to satisfy certain needs by the user and are
identical or mutually exchangeable.
Restriction of competition is any artificial, unfair behaviour resulting in:
­ restricting freedom of action: these are activities by market participants which can
influence competition and decrease its intensity,
­ exclusion: activities as a result of which competition in the appropriate market
ceases to exist,
­ distortion: activities which do not change the scope, but the quality of competition,
i.e. change competition conditions to benefit some competitors.
Forms of restricting competition include agreements limiting competition, cartels,
abuse of a dominant position, concentration of companies, the existence and activities of a
monopoly, unfair competition and state aid.
2.2.1 Agreements limiting competition (cartels)

Agreements limiting competition are usually entered into voluntarily. They are
often entered into orally, are not agreed in writing and their existence is usually secret. It
is harmonised action by entrepreneurs as well as a decision by an association of
entrepreneurs which has the aim to or may result in restricting competition. They are also
called cartel agreements and are agreements or other forms of joint understanding between
business subjects which influence production or the circulation of goods on the market,
and may therefore lead to restricting competition. An agreement between businesses is
understood to be:
­ every oral or written expression of the will of its participants, as well as any other
expression of consent derived from their actions,
­ a harmonised procedure by entrepreneurs, coordination of the behaviour of
businesses which cannot be marked as the natural following the behaviour of
another entrepreneur,
­ a decision by an association of entrepreneurs, a legal act by an association's body
which binds is members, as well as a recommendation by an association's body to
its members.
Cartel agreements may be established in terms of: prices (price cartels), limiting of
controlling the volume of production (quota cartels), dividing the market, stocks of
resources, sales conditions. The aim of cartel agreements is to remove competition
between the parties and to decrease risk.
Depending upon the subject of the agreement, cartels are mainly established in
terms of prices and quotas. A price cartel mostly occurs in markets of homogeneous
products and represents an agreement about a unified price policy where a group of
cartelised businesses (a syndicate) acts as the price leader in the market. A quota cartel
assigns a certain volume of production to individual members of a cartel, which excludes
their mutual competition.
Cartel agreements can create:
­ horizontal cartels: agreements between direct competitors,
­ vertical cartels: between firms with consecutive activities,
­ franchise agreements: licences to intellectual and industrial ownership rights (logo,
brand, know-how).
However, cartels may also be established based on government recommendations,
for example, in order to decrease transaction costs (recession cartel) or in order to adhere
to a contract on extending production capacities (investment cartel).

2.2.2 Abuse of a dominant position

Another form of restricting competition is the abuse of a dominant position in the

market. A dominant position in the relevant market is the position of an entrepreneur, or
several entrepreneurs, who are not exposed to actual competition, or who can act
independently due to their economic strength. Companies with a market share over 80%
can be considered as dominant.
The European Court of Justice defines a dominant position as a position of
economic power of a company which puts it in a position where they can prevent the
preservation of effective competition in the relevant market, which creates the chance for
the company to behave independently from competitors, customers and finally consumers
to a marked extent. In this sense, a dominant position does not necessarily exclude
competition but allows the dominant company to determine or significantly influence the
conditions of this competition.
Abuse of a dominant position takes place if the stronger competitor forces other
participants to behave in a certain way, or if they prevent a competitor from entering the
market. Abuse of a dominant position in relevant market is considered to be:
- direct or indirect enforcement of unfair business conditions and unfairly high
prices,
- the threat of restricting or restricting production, supplies or the technical
development of goods to the detriment of users,
- the application of different conditions in an identical or comparable situation for
individual businesses under which they are or can be at a disadvantage in
competition (price discrimination, different conditions for supply),
- binding consent with closing a contract under the condition that the other
contracted party shall also accept other obligations which, by their nature or in
accordance with business practices, are not related to the subject of these contracts
(for example, binding agreements on the supply of products where the supply of
one product is conditioned by the supply of another product, reciprocal trade, i.e.
mutual supply of products between participating parties),
- obtaining shares in competing companies and linking the management of these
firms.
A special form of abusing the dominant position of a business is refusing access to an
essential facility. An essential facility is understood to be a facility as all or part of an
infrastructure, a place or their rights. Their building or acquisition by another
entrepreneur is not feasible and no access to them or being unable to apply them would
or could lead to the restriction of competition in the appropriate market.

2.2.3 Concentration of companies

Competition may also be restricted by concentration. This is a prolonged change in

market structures resulting in a decreased number of independent, freely deciding
companies which strengthen the market power of the original subject. The concentration
of companies can be defined as a process of economic merging of businesses, which is the
fusion or amalgamation of two or more independent businesses, obtaining direct or
indirect control of a company by one or several entrepreneurs, or control of part of a
company of another entrepreneur. (VINCÚR, 2007)
To gain control means to have the opportunity to have a decisive influence upon an
entrepreneur's activities, mainly via:
­ ownership or other rights to the company or part of the company,
­ rights, contracts or based on other facts which allow exercising of a decisive
influence upon the composition, voting or decision of an entrepreneur's bodies.
The process of concentration can occur in several ways:
­ internal growth using investment, where companies grow faster than their
competitors,
­ external growth, i.e. merging with other companies,
­ displacement, where some competing companies must leave the market as a result
of competition.
Concentration via external growth can be in the form of three integrations:
- horizontal: the merging of companies of the same type, tracks the relationships
between participants to the concentration,
- vertical: the merging of companies at various levels of the production process,
tracks the relationships between suppliers, customers and distributors,
 - conglomerate: diagonal merging of producers of complementary goods.
Concentration is also considered to be the establishment of a joint company mutually
controlled by a minimum of two entrepreneurs and permanently performing all the
functions of a separate economic subject. Controlled companies cannot make decisions
independently and stop behaving like independent subjects which compete.
Merging companies may have various forms: fusion (merger), concern (contracted
merging of individual entrepreneurial subjects under joint management), joint ventures
(companies joined via a contract), obtaining the majority share of voting rights.

2.2.4 Monopoly

A monopoly is the only company in a market. There is only one producer in the
market ("monopolist" from the Greek word mono - one - and polist - seller), there are no
substitutes and the entry of new companies to the sector is not possible. This monopoly
position can arise from the ownership of natural resources (natural monopoly), sometimes,
although only temporarily, a company can obtain a monopoly position for a certain time
via a patent, for example, or sometimes this position is enforced by the state via legislation
(electricity production).
The case where market demand can be satisfied by the production from only one
company with lower average costs than if there were several smaller companies in the
sector is called a natural monopoly. It mainly occurs when a company can have lower
average production costs than the competition. It was created without the assistance of
the state or any other authority and it was created by the natural competition in the market.
A monopoly may occur if one company gains control of the resources necessary for the
production; we then speak of a permanent monopoly company. Another example is an
administrative monopoly which is established and protected by the state. It is created
based on acts and regulations. The state grants a company the exclusive right to produce a
given product via granting concessions. The supplier's exclusive position is anchored in
law. The state can state that such a supplier will be the state or an organisation established
by the state. This is a state monopoly. Legal restrictions in the form of granting patents,
copyrights, etc., allow the creation of a special monopoly which is temporary, i.e.
temporarily protected by the state in order to stimulate innovation. Another option for
creating a monopoly is a network monopoly which occurs when a company has an
established distribution network in a country (region) and constructing a new network
would be too costly for new entrants on the market. In economic practice, a secret
monopoly may also appear, created when the law does not permit several producers from
creating one company with the of increasing profit.
It can generally be stated that in the existence of a monopoly, resources which
society has at its disposal are not fully utilised. Monopoly power which creates the
possibility to set prices above the level of the monopoly's marginal costs results in the fact
that in terms of society, the monopoly does not operate sufficiently effectively. Due to its
exclusive position, a monopoly company restricts production (decreases supply) in order
achieve higher prices and profit in the market. A monopolist keeps output at a level where
it is slightly scarce so they do not need to decrease the price, resulting in a loss of part of
their profit. Society does not therefore obtain such an amount of production which meets
demand. A monopoly can also be discriminating, which means that the seller determines
different prices for different purchases (customers).
2.2.5 Unfair competition

Unfair competition is activity which is in contradiction with the good practice of

competition, and can cause damage to other market participants (competitors, consumers).
This is using the use of unfair competition practices, of which the most common are:
- Misleading advertising: spreading information about their own or another
company, their products or outputs which can induce misleading impression and
therefore bring success to their own or another company, to the detriment of
competitors or consumers. Spreading information is considered to be spoken or
written announcements as well as a print, image, photograph, broadcast, television
or any other media.
- Misleading labelling of goods and services: each label which can induce
misleading ideas in economic relations that the goods or services labelled by them
originated from a particular country, area or place, from a particular producer or
that they have special characteristic markings.
- Inducing the danger of substitution is:
o the use of a trade name or identification of a company which has already
been rightfully used by another competitor,
o the use of special identification of a company, product, output or trade
materials of a company which are considered in customer circles as
characteristic of another company or firm,
o mimicking other products, packaging or outputs (unless it is a copy of a
product and the copier make every effort to exclude or at least restrict the
danger of confusion).
- Free-riding on reputation: using the reputation of a company, product or service
by another competitor with the aim of gaining benefit for their own business
otherwise unattainable to the competitor.
- Bribery (corruption): an action by which a competitor offers, promises or
provides another person (either directly or indirectly) with an inducement in an
unfair way, in order to gain an advantage or any other unauthorised benefit
whether for themselves or another competitor. Bribery is also if the person stated
above directly or indirectly demands, receives or is promised any inducement for
the same purpose.
- Defamation actions by which a competitor states or distributes false information
about conditions, products or operation of another competitor which could cause
damage to that competitor. Defamation is also spreading true information if it can
cause damage to another competitor. However, unfair competition is not the case
when the competitor was forced into such action by circumstances (e.g. rightful
defence).
- Violation of trade secrets: an action by which a person informs another of a trade
secret without authorisation, makes a trade secret accessible to themselves or
another person or uses a trade secret, and this can be used in competition. A
violation is also if trade secret is entrusted or disclosed based on an employment or
other relationship either by the secret holder's or another person's actions which are
in contradiction with the law.
- Threatening health and the environment an action by which a competitor distorts
the conditions for competition by operating a manufacturing process, introducing
products to the market or performing actions which jeopardise the interests of
protecting health and the environment protected by law.
2.2.6 State aid

State aid is regarded as all state aid in any form provided by a provider to an
entrepreneur for or in relation to business, either directly or indirectly from the state
budget, from their own budget or their own resources. However, it often occurs that leads
more to a violation of the competitive environment without any positive results.
Subsequently, companies in regulated sectors who are rid of competitive pressure show
typical signs of a monopoly.
According to VINCÚR (2007), forms of state aid can be divided into two groups:
- Direct state aid:
o subsidies, allowances, grants( e.g. price subsidies, compensation for
losses),
o payment of parts of loans, providing favourable loans from state resources,
o payment of interest due from an entrepreneur for loans provided,
o repayable financial aid,
o capital investment from state resources.
- Indirect state aid:
o State or bank guarantee,
o Providing allowances for tax, penalties, fines, interest and other sanctions,
o The sale of intangible property for prices lower than the market price,
o Free advisory services,
o Deferred payment of tax or payment in instalments.
o providing public goods and services either totally free of charge or at prices
lower than market prices,
o purchases in the public sector for prices higher than market prices.

2.3 Fundaments, aims and governors of competition policy

Competition policy is one of the basic segments ensuring the functioning of a

free market. The policy of economic competition is replaced by many authors addressing
the given issues with the term 'competition policy', policy for the protection of
competition, anti-monopoly policy and anti-trust policy. It is regarded as an integral
part of economic policy. Economic policy is the state's approach to the country's
economy which means that competition policy is the state's approach to economic
competition in the country.
Using various tools, competition policy creates conditions for a competitive
market; if the market fails it restricts monopolistic positions and its aim is to give
consumers choice between various producers and to therefore force producers to
manufacture effectively. It is therefore an anonymous tool for managing and controlling
the market, resolving market failures arising from a lack of competition. The protection of
competition must lead to the creation of conditions for economic development with a
positive impact upon the consumer.
Competition policy is a set of measures and aims by certain persons, which
enforces a particular system in an economy or certain types of competitive relationships
and certain positions in competitive relationships. It is the result of the aims of certain
groups, e.g. the government, local authorities, trade associations, economic sectors,
individuals, etc.
Policy for protecting competition can be characterised as a set of economic
measures and legal standards via which the state directly influences the level of
concentration in individual sectors and in individual markets, and sets the rules for the
market behaviour of companies. However, unlike national economic policy, it does not
globally affect the development of macroeconomic aggregates, but differentially
influences the structure of individual sectors and the positions of individual companies.
In terms of the influence of competition policy, we distinguish between two basic forms
(VINCÚR, 2007):
- Passive (indirect, system-creating): with the passive form, the state only
determines the legal framework for competition and then just enforces adherence
to these conditions.
- Active (direct, regulatory): the state or government intervenes in competition using
tools of macroeconomic (fiscal, monetary, income) or microeconomic (structural,
social, public sector) policy. This includes regulating taxes, prices, state
ownership or the principles of specialist anti-monopoly offices.

At the centre of interest of economic policy is mainly to expose market failure

caused by market power. The success of anti-monopoly policy will depend upon the
ability of administrative bodies to determine market power. The ability to determine this
power partially depends upon the ability to determine which products compete with each
other, to determine the geographic area within which this competition exists and upon the
ability to correctly assess opportunities for entering the sector. This all requires analysis.
The main of this part of economic policy is to maintain a healthy level of rivalry between
individual subjects on the goods and services markets. This requires that the state creates
and perfects competition regulations. This is since competition is not an automatic
process, but vice versa, it requires clear rules determining its functioning. Its task is to
support market principles releasing the barriers for entering and exiting the market and to
guarantee the same conditions for market participants.
Competition policy serves as a tool for achieving the optimum allocation of
resources, technical progress and flexibility in making changes in the business
environment. In general, anti-monopoly policy has these aims:
- optimum allocation of productive resources,
- dispersing or conserving economic power and the position of individual businesses
in the market,
- supporting economic and technical development,
- preventative control of the market structure,
- adopting further legislative standards which may influence equality of opportunity,
- more active input in the area of regulatory barriers,
- influencing the widening of space in the economy,
- strengthening the independence of an authority and its position in the legislation
process.
The concept of current competition policy states the main aim: to support economic
development to benefit consumers by protecting competition. The aim is therefore not
just competition at any price, but "economic development to benefit consumers".
Based on the above, we may characterise the aim of policy for protecting competition
as follows: to remove obstacles restricting competition and to create a healthy
competitive environment.

The governors of competition policy are institutions which create, decide,

implement and control the implementation of policy instruments and their effects in
achieving the set targets. They should actively enter areas where there are deformities in
the competitive conditions caused by business units, the state and public institutions or the
government, and also form public opinion via the clarification of the impact of violating
the principles of competition. Creation and decision making is under the authority of the
government and the appropriate state institutions (parliament, the Ministry of Economy).
The implementation and control of competition policy is dealt with by an independent,
competent institution with quality analytical apparatus available; in the majority of
countries, this institution is usually the anti-monopoly office.
The effect of policy for protecting competition can be divided into two areas or
stages: preventative and repressive activities, as shown on Fig. 2-1. Within these areas of
activity, the governors of competition policy apply legal standards and inspect their
enforcement, or sanction those who do not conform.

The effect of policy for protecting competition

Preventative activity in the interest of Repressive activities and remedying

maintaining a competitive environment created deformities
or preventing negative effects where the
market is imperfect.

 The effect of law related to  Penalties when a violation of the

competition. conditions of competition is proven
 Checking potential concentrations by depend upon the amount of turnover
the Anti-Monopoly Office. or the scope of calculated
 The effect of law upon prices and unauthorised costs or
pricing regulations for network disproportionate profit.
sectors.  Prohibition of concentrations.
 Information activities in the interest  Command to abstain from acting.
of preventing unlawful action by
businesses.
 Minimising administrative obstacles
for entering a sector.
 Competition advocacy.

Fig.2-1 The effect of policy for protecting competition (MORVAY, 2006)

2.4 Instruments of competition policy

Via a system of instruments and measures of competition policy, the state ensures
the achievement of competition policy aims, mainly:
- free entry of new subjects to the market, removing barriers to entry to the market
and creating conditions for free exit from the market, i.e. protecting potential
competition,
 - monitoring and removing prohibited restriction of competition represented by
agreements, abuse of dominant position and those which, in their own interests,
influence the scope of production, consumption and prices.
- protecting consumers against the behaviour of manufacturers, importers and other
suppliers which penalise consumers.
Instruments of competition policy can basically be divided into two groups:
- formal instruments: legislation (monitoring - ex post control, prevention - ex ante
control, resolving the absence of regulations, harmonisation of regulations, the
overall environment, laws influencing equality of opportunity, law enforcement),
- informal instruments: public awareness, influencing public opinion, cultivating a
competition culture, the activities of anti-monopoly institutions, the activities of
non-governmental organisations, the activities of consumer associations and media
influence.
A complex previous of the distribution of instruments for protecting competition
depending upon the level of their formation and action is provided on Figure 2-2:

Competition instruments

Internal company State policy External instruments

instruments: instruments (legal (social):
 Marketing tools standards):  Publishing in the media
 Management tools  Prohibitions  Expert associations and
 Social and ecological  Control chambers
responsibility  Regulation  Consumer organisations

Fig. 2-2 Tools for protecting competition

The following text in the chapter focuses upon more detailed analysis of tools of
policy for protecting competition, i.e. state tools and its legal standards.
The function of the right to protected competition lies in that it protects
competition using two rights which are closely related and which complement each other:
- the right to protection against unfair competition: legal regulations are anchored in
the provisions of civil law,
- the right to protection against the restriction of competition is included in public
law and is usually included in the Act on the protection of competition.
Legal standards related to the protection of competition appearing in the
legislation of the majority of states are (HOLKOVÁ, 2007):
­ Act on the protection of competition,
­ Act on prices,
­ Consumer Protection Act
­ Commercial Code: provisions regarding trade inspection, provisions against unfair
competition,
­ Patented provisions.

Based on a critical comparison of legislation and the process aspects of anti-monopoly

policy and the protection of a competitive environment in more than 20 developed market
and transition economies, it is possible to define the main methods for applying
instruments of competition policy as follows:
 Legislatively directly prohibited abuse of a dominant position in a market or sector
by implementing one of the explicitly defined anti-competition practices. It is most
often the prohibition of price fixing by cartels, price discrimination, whilst market
share itself or the size and dynamics of the growth of such dominant economic
subjects does not necessarily have to be proof of anti-competition behaviour.
 The prohibition and disciplinary sanction of forms of inter-company cooperation
which ultimately results in limiting competition and inducing effects similar to the
abuse of a dominant (monopoly) position in the market, i.e. prohibition and
disciplinary sanction of a so called collusive monopoly or agreements (traditionally
defined as cartels).
 Legal restriction or control and approval duty during fusions, takeovers and
mergers of companies if it would lead to such a strengthening of concentration in the
market structure that the effects could harm firms in competition and consumers, or
the eventual benefits from such concentrations would be less than the negatives
arising from a market structure of an oligopoly or monopoly nature.
 Analysis and formulating proposals for economic political practice in order to
remove obstacles (legislative, licence/exclusive) and for eventual penalisation for
creating such obstacles by individual economic subjects which prevent the entry of
new competitors into the sectors (markets).
 Analysis and comments on such proposals for legislative standards and
amendments which could, at various levels (national, community, regional), induce
such discrimination or redistribution which would only favour the strongest
organised groups and harm non-organised groups, or ultimately the whole spectrum
of consumers.
 Permanent monitoring of markets and sectors which were defined as those whose
nature necessarily implies a structure and operational/distribution form of natural
monopoly. Proposals of methods for regulating such markets and sectors, or
changes in the regulations and stating restrictions for the diversification of the
activities of such natural monopolies into other non-regulated sectors in the
economy.
 Analysis, selection and proposal of legislative amendments in business in those
parts of sectors with a prevailing economic natural monopoly, to which general
competition conditions and the entry of new subjects can be applied.
 A special area is evaluation, commenting and eventually approving exceptions
from the generally valid framework of anti-monopoly legislation and policy due to
the state-preferred restructuring, adaption, consolidation or redevelopment
programmes for individual markets, sectors or regions. This traditionally means
exceptions in evaluating fusions, property mergers, specific types of authorising
cartels whose unsystematic and non-transparent nature increases in strong
correlation with the intensity of use of selective economic policy instruments,
mainly when applying the now-traditional sector approach in terms of industrial
policy, employment policy, state investments, etc.

Depending upon the method of implementing competition policy instruments we

can define the following system of tools:

A. Prohibition of anti-competition practices (prohibited and sanctioned)

 Agreements limiting competition (cartels): enforcement of the prohibition of such
competition-restricting agreements between companies is monitored. It is mainly
 agreements restricting competition which are prohibited, which include:
- direct or indirect establishment of the prices of goods, or other business conditions,
- the obligation to restrict or control production, sales, technical development or
investment,
- division of the market or sources of supply; it could be horizontal (creating a
monopoly) or vertical division of the market (creating territories for selected
consumers thereby eliminating the competitive environment),
- discrimination: the obligation of participants to the agreement that they shall apply
different conditions in an identical or comparable situation for individual businesses
under which they are or can be at a disadvantage in competition,
- tying agreements: conditioning the closing of contracts in such a way that the parties
accepted other obligations which by their nature or in accordance with business
practices are not related to the subject of these contracts,
- bid rigging: signs of collusive behaviour as a result of which businesses coordinate
their tenders in the public procurement process, whilst agreements do not clearly
define the competition if the total market share owned by both parties to an
agreement does not exceed 10% in the relevant market or the market share of each
of the parties does not exceed 15% in the relevant market. Companies therefore
decide themselves whether or not the agreement they closed is prohibited.
Permitted cartels, where the office may decide that prohibition does not apply to
agreements which contribute towards improving production, supporting technical
development, distributing goods or if they provide particular benefits to the
consumer. These are mainly rationalised cartels (e.g. agreements on research and
development) or franchising,
 Abuse of a dominant position: a ban on the direct or indirect enforcement of
inappropriate purchase and sales prices or business conditions, limiting production,
supply, market or technical development at the expense of the consumer, the use of
unequal conditions in contracts for the same transactions with other contracted
parties, by which they are put at a disadvantage and the abuse of a dominant position
in the form of denying an owner access to unique equipment.
 Method of unfair competition: acting in contradiction to good practice of competition,
i.e. the use of unfair competition methods and instrument which include false
advertising, misleading labelling of goods, inducing a danger of substitution,
spreading false information about competitors, threatening health and the
environment, and bribing.

B. Control of concentrations
Concentrations (merging companies) are not prohibited but they fall under the control and
approval process of anti-monopoly institutions. Concentrations fall under control if the
mutual share of participants of the concentration, or the share of at least one participant,
exceeds 25% of the total share of goods on the relevant market.

C. State aid control

State aid control lies in the fact that is necessary to prevent a subject from gaining a
dominant position, i.e. to prevent distortion of tender conditions (VINCÚR, 2001).
This instrument is becoming dominant in the EU. In accordance with the Treaty on the
European Union, state aid is not permitted; however, the Treaty contains exceptions.
Article 88 of the Treaty on the EC contains provision stating that the Commission is
authorised to monitor and control the provision of state aid and the supervision carried out
by the Commission is based on the ex ante principle. This means that member states have
the duty to inform the Commission of planned subventions. The Commission then decides
whether they are compatible with the common market. Investigation takes place and is
often very complicated, and also sometimes takes place at diplomatic level. The result is
usually consent and subsequent permission, but with a number of limiting comments.
These should prevent the company from gaining any advantage against the competition.
Article 87 of the Treaty on the EC contains not permitted, permitted and conditionally
permitted forms of aid provided by the state. Incompatible with the common market is
such aid provided by the state which could disturb or restrict competition by giving an
advantage to certain business subjects or production.
Aid provided by the state compatible with the common market:
- that of a social nature provided to individual consumers under the condition that it
is provided without discrimination related to the origin of the products,
- designated for compensation for damage caused by natural disasters or other
exceptional events.
- to support an economic area with an exceptionally low standard of living or high
unemployment,
- to support a significant project of common European interest or for the removal of
a serious problem in the economy of a member state,
- to support development of certain activities or economic areas,
- to support culture and the conservation of cultural heritage.
State aid represents a latent form of dumping but there are many exceptions to its
prohibition. It is given by the need to maintain a balance between the interests of member
states and the EU in order to prevent the total prohibition of state aid.

D. Regulating natural monopolies

The aim of regulating natural monopolies is to lessen the negative impact of monopoly
activities and to increase the allocation effectiveness of the monopoly. The state may use
various instruments and methods to regulate monopolistic activities, which have varying
efficiency:
­ The state's tax policy which can withdraw the high profit from a monopoly and
therefore lessen the impact of the distribution of income and lessen some socially
unacceptable effects of a monopoly.
­ State ownership means transferring the monopoly to state ownership.
­ Anti-monopoly policy is another means of restricting monopoly power by the state.
These are laws which prohibit a certain type of behaviour, e.g. merging companies
with the aim of fixing prices, or which suppress certain market structures such as a
pure monopoly.
­ Economic regulation allows the control of prices, types of products, and input and
output conditions in the sector. It is basically state control without state ownership.
It is a very important instrument for controlling monopoly and establishing state
control over many entrepreneurial decisions. The main part of economic regulation
is price regulation (stating the maximum or minimum prices of products).

2.5 Systems of competition policy

Each country, or countries, which are historically linked via their mutual
development use such a system of competition policy which best resolves and reflects
issues of this part of economic policy within the given country. We can therefore state
that there is no ideal way to implement competition policy since every country has its
specifics (differences). For this reason, there are also differences in individual policies for
protecting competition implemented in individual countries.
 The basic causes of differentiation between individual systems of competition
policy are: (TOKÁROVÁ, 2002)
- economic conditions for social and economic development individual national
economies and their resources were also heterogeneous,
- the leading social/political and economic elite in various countries places different
importance to the issue of competition and deformities in the competitive
environment,
- national policies often have traditions of a historical nature, which are difficult to
conform with the needs of unification, e.g. within the multinational jurisdiction of
the European Union.
The scope of selective exceptions, the strictness of legislation and its application, and
the intensity of their use is a sign which divides systems of competition and pro-
competition policy. The most widely known systems of competition policy are classified
into the following groups:
 The Anglo-Saxon system of anti-trust policy which prevails in the USA, Great
Britain, Australia, Canada and New Zealand. This system is known for its
dynamic legislative development, the wide application of legal precedents and the
fairly small role of the state and individual ministries in evaluating "exceptions
from competition". The basic aim of USA anti-monopoly policy is to strengthen
competition and to ensure competitive pricing. Prices are therefore not under any
price control apart from some public services (telecommunications, transport,
electricity, etc.). These are natural monopolies appearing in sectors in which
starting a business is very costly and requires a lot of capital.
 The German model of competition policy (the Japanese model is the same with
some differences) is characterised by a higher level of state intervention in
initiating restructuring and reindustrialisation programmes. The idea of this
approach is the belief that restricting competition as well as "overly intensive"
competition may be harmful in terms of social interests. German law prohibits
cartel agreements capable of influencing production or market conditions by
restricting competition. Cartel legislation in the Republic of Germany permits the
creation of selected cartels (however, for a maximum of three years).
 Mixed systems of competition policy and legislation exists in the majority of other
market economies. This is a mixture of both the previous approaches. Since these
are often economies with internal markets having a lower capacity and absorption
rate, the issue of abusing a dominant position by domestic subjects with significant
market power or excessive concentration of monopoly and oligopoly structures is
therefore necessarily put into proportion in the decision making process.
Deviations from the concepts of both the previous systems are heavily related to
the specifics of competition and eventual natural monopolies and their regulation
in individual economies.
 Multinational systems of anti-monopoly, or rather pro-competition, policy. A
typical example is the EU but there is a fairly real assumption that similar systems
and agreements will be created in the future, even in cases of such integrated
groupings such as NAFTA, APEC, etc. Understandably, the primary reason for
striving to create and apply such multinational systems is the need to unify the
conditions and working of a common market, and to remove obstacles for its
implementation which are the result of differences in anti-monopoly policy in
individual integrating countries. The second reason is the fact that whilst the
development of unification and the creation of common anti-monopoly policy
regulations more or less follows the aim to liberalise approaches and to remove
eventual obstacles in the mobility and flexibility of individual economic factors
 and resources, the relationship between these integrating associations and their
legislative and institutional systems against the economic environment and
subjects outside the association often clearly results in attempts to prevent outside
competition via applying various restrictive practices (e.g. anti-dumping
legislation, etc.), rather than in general liberalisation, no matter how intensive the
proclamation of common aims of GATT type agreements and institutions such as
the WTO.

It is generally valid that if the method of applying legislation within protecting

competition is too loose or, just the opposite, disproportionately strict, society and its
economic performance suffer. If a framework is too liberal, common loss of prosperity
occurs since consumers pay higher prices due to cartelisation of the economy,
discriminating pricing practices and the adoption of various vertical restrictions of
competition and new entries by dominant firms. The second extreme is excessive
strictness, a wide scope or system and institutional rigidity of the competition framework
also leading to losses, performance, higher costs and prices, and a decrease in consumer
prosperity. All institutions instructed to implement this part of economic policy often
prevent innovation and flexibility in business activities via their attempts to directly
control prices and production volumes, punishing successful companies entering new
markets or establishing brand new market segments for achieving high profits, or for
deliberate harm to existing, less effective competition. This also includes various orders
which prevent companies, regardless of the fact they do not actually have significant
market power, from vertical separation of business activities aiming to achieve the highest
possible comprehensive cost effectiveness of business and inputted resources.
It follows from the above that an effective system of competition policy must
alternate somewhere between these two unsatisfactory solutions, although it is an illusion
to imagine, and experience from almost all developed economies confirm, that this area of
economic policy can be resolved in some ideal way, reflecting the requirements of all
economic subjects, political/economic interest and opinion groups as well as some general
standardised distributive justice.

2.6 Competition in the forestry/wood processing complex (Jaroslav Šálka)

The forestry sector in Slovakia is characteristic for various types and legal forms
of forest enterprises. Their position on the wood market and production factors market and
so the whole market structure is reflecting specific property respectively management
rights in the forest economy. When the big state forest enterprise was created in 1999, the
Antimonopoly Office of the Slovak republic investigated possible concentration and
consequent potential abuse of a dominant position on the wood market in the forestry
sector (ŠULEK, PALUŠ 2003).
Here it is mainly about the timber market on the supply side. A dominant position
is also reflected on the demand side, in particular when it comes to pulpwood. As was
described above general economic theory of market structures presumes the existence of
perfect competition which presents a pure hypothetical conception in recent developed
countries economies. Real market structures are characterized by different degrees of
imperfect competition which describes the state of competition. The level of competition
environment is substantially determined by the level and development of concentration in
the sector. The term competition in general means gathering, accumulation. In economic
theory, concentration is defined as a condition or a process in which due to different
internal or external growth the biggest enterprises are increasing their share of the total
output of the sector´s production. In economic practice, the most important is the
concentration of dispositional power (VIESTOVÁ 2001), which is manifested in the
behaviour of economic subjects. This may be a result of the corporate and asset
concentration, but may also be a legal and contractual relationship. Precisely such a
concentration leads to violations of competition rules, which can be manifested in abuse
of a dominant position on the relevant market. According to calculated indicators can be
concluded that forestry sector in Slovak republic has a high degree of concentration
(ŠULEK, PALUŠ 2003). This is confirmed by the concentration index where the share of
timber production only in state forest enterprise accounts for more than 60%, in the case
of state and common property forests together 85% and in the case of all three before
mentioned usage forms up to 96%. Similar the value of Herfindahl index by far exceeds
the standard limit of the competition distortion risk, which is considered as the value being
higher than 1800's. The forestry sector in Slovak republic is highly concentrated when it
comes to the relation of forest land use forms. It is confirmed also by a high level of
dispersion and the substantial modifications to the increasing number of major subjects,
indicating a very uneven distribution of production industry.
However, it has to be stated that this concentration analyzed in the forestry sector
of the SR (in respect to the type of use of forest land) is greatly simplified (ŠULEK, PALUŠ
2003). In fact, the individual kinds of forest land use in the non-state sector hundreds of
forest enterprises are present on the market. Nevertheless it is clear that the most
significant concentration “source” in the forestry sector is the absolutely biggest forest
enterprise in Slovakia – Forests of the Slovak republic, state enterprise Banska Bystrica.
The concentration consequences in the forestry sector can have a negative effect on the
market in the form of establishment respectively strengthening the dominant position
resulting in potential barriers of effective competition. In order to protect competition it is
essential that the individual branches of the state enterprise undertake activities on the
market as separate entities according to valid Slovak commercial law, as well as in terms
of the decision of the Antimonopoly Office of the Slovak Republic. On the other hand,
potential abuses of market dominance by the aforementioned state enterprise may also be
prevented by non-state forestry enterprises that will actively cooperate in their business
activities. An example of such cooperation is the creation of a joint stock company Zolka
that strives to improve conditions of penetrating the market for relatively small
enterprises, which in this case are municipal forests. Thus the way to create a better
market structure does not lead through eliminating the market power of the state forest
enterprise, which arose historically, but through effective support of competitors in
overcoming barriers for entering the market. And such support measures could have been
promoted by state administration (ŠÁLKA 1999).
Enterprise´s financial strength which has a dominant market position is not known
by our competition legislation, but it is a frequently used criterion when assessing market
power (ŠÁLKA 2001). When obtaining external resources in private banking sector the
state forest enterprise has an advantage. Further elements of financial strength are
government grants. Financial aid in silviculture had a very high share; their value per
hectare of managed forest land was higher in state forest than in non-state forest
enterprises. Subsidies were relatively high for other state enterprises which are in terms
of differential rent in a better positon. And from this follows that the state itself has
promoted unhealthy market structure.
Summary

Competition is a natural part of a market, acting as a regulator of the natural

behaviour of market subjects and resulting in the optimum use of resources in the
economy. The restriction and deformity of conditions for competition causes
ineffectiveness in the functioning of the market mechanism. The Basic forms of restricting
competition include cartel agreements, abuse of a dominant position in the market, unfair
competition, the activities of monopolies, concentration of companies and state aid.
The implementation and application of competition policy regulations increases
freedom of action, removes formal and informal barriers preventing acting in the market,
applies the optimum level of regulatory activity by the state, and guarantees the same
conditions and transparent rules for business subjects. The implementation of rules
prevents business subjects as well as the state from creating obstacles and barriers which
could result in a violation of competition conditions. The main aim of policy for
protecting competition is to create a healthy competitive environment.
The application of competition policy instruments prevents business subjects from
distribution the markets between themselves and prevents them from removing the impact
of integration by creating new barriers. The prohibition of limiting agreements is not the
only relevant aspect of protecting competition. Other institutions in competition benefit
market structures, such as the policy of punishment for abusing a dominant position in the
market, the process of controlling concentrations and policy for controlling the provision
of state aid.

Questions:

1. Which functions does competition fill in a market economy?

2. Why is the protection of competition important?
3. What is the main task of competition policy?
4. Which forms of restricting competition are prohibited within competition policy?
5. What are the reasons and methods for regulating the activities of monopolies by the
state?
6. Characterise the concentrations (fusions) and the solution within competition policy.
7. How is state aid monitored?
8. Which practices are considered as abuse of a dominant position?
9. Which institutions are governors of competition policy?
10. Which systems of competition policy reflecting the differences in the policies of
individual states exist?
11. Describe the dominant position of the state forest enterprise Forests of the Slovak
republic on the wood market and define possible solutions!
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12. TOKÁROVÁ, M. 2002: Protimonopolná politika. Bratislava: Sprint, 2002. 125 s. ISBN
80-89085-14-8
13. URAMOVÁ, M. 2003: Hospodárska politika. Banská Bystrica: Ekonomická fakulta
UMB. 214 s. ISBN 80-8055-780-2
14. VIESTOVÁ, K.: Teória obchodu. Sprint, Bratislava, 2001, 208 s. ISBN 80-88848-88-
1.
15. VINCÚR, P. a kol. 2002: Hospodárska politika. Bratislava: Sprint, 2001. 396 s. ISBN
80-88848-67-9
16. VINCÚR, P. a kolektív. 2007: Teória a prax hospodárskej politiky. Bratislava: SPRINT,
2007. 432 s. ISBN 978-80-89085-80-4
17. Obchodný zákonník č. 513/1991 Zb. z 1991. Všeobecné ustanovenia. Hlava V. Diel II.
§44 – 52. Nekalá súťaž.
18. Zákon o ochrane hospodárskej súťaže a o zmene a doplnení zákona SNR č. 347/1990
Zb. O organizácii ministerstiev a ostatných ústredných orgánov štátnej správy SR
v znení neskorších predpisov.
3 Externalities, public goods and ownership rights thereto
(Jaroslav Šálka, Zuzana Dobšinská)

Apart from competition, allocation policy also addresses market failure in case of
externalities, public goods, meritorial goods or unclearly allocated ownership rights
thereto. Cases of high transaction costs or information asymmetry will also be mentioned
analytically. Market failure and its resolution using economic policy measures are very
important in terms of forestry and the wood processing industry.

3.1 Classification of externalities

Involuntary consequences often accompany the production and consumption of such

goods and cause additional revenues and costs. These revenues and costs are defined as
externalities (BERGEN 1999, BERGEN ET AL 2002, ŠÁLKA et al. 2008). An externality is
economic activity of an economic subject that has a positive or negative effects on other
economic subjects without any market relationship forming between the given subjects,
which means that the costs or utilities are transferred to other subjects without charge.
Externalities exist when a decentralised national economy does not create efficient
markets for all goods and resources as market balance is not the PARETO optimum.
Individual decisions by producers when determining their economic activities are not
socially optimal, which means that private marginal costs and utilities do not equal the
marginal costs and utilities desired by the national economy.
In the case of external costs, which we call negative externalities, the marginal
costs for a private producer are lower than the desired community marginal costs. An
example of a negative externality is environmental pollution by industrial producers,
incurring costs which are, for example, transferred to forestry companies as well as other
subjects.
For external utilities or savings, marked as positive externalities, the marginal
costs of a private producer are higher than the community's marginal costs. The activity of
an economic entity induces external savings among other market entities without any
compensation on the basis of any market relationship. Positive externalities include
knowledge and discoveries that bring humankind a much greater benefit than to the
discoverer or inventor alone.
Forestry companies can produce positive as well as negative externalities. An
example of a negative externality is soil erosion caused by mining wood and the creation
of related costs which are transferred to other economic subjects, e.g. water management
companies. The utility functions of forests represent positive externalities produced via
forestry companies without being paid for producing these functions.
An example of externalities in forestry production is shown on Fig. 3-1. The role
of the state in the event of such market failure is to equalise the values between private
costs, the revenues of an economic entity and the negative or positive externalities that
have occurred, using regulatory, economic and information instruments.
Externalities must function on a utility or a productive function for another subject,
i.e. it must affect its utility in a positive or negative sense. However, the existence of an
externality can be excluded if the affected entity does not feel affected (e.g. a household
does not feel affected by air pollution).
A direct connection is the necessary, if not always sufficient, condition for the
occurrence of an externality. The activity of the entity cannot be included into the pricing
mechanism and must occur outside of market relationships. The opposite does not concern
an externality in the right sense of the word. As an example, if a drop in demand follows
the construction of a roadway tunnel and results in a decrease in income for vehicle freight
carriers due to a shortened transportation distance, this is not an externality, but a transfer
of income. The condition for PARETO-optimum efficiency would not be breached and such
a transfer of income would be called a monetary externality or a pecuniary externality. If
it is possible to express the action of the originator in a quantified unit and the conditions
for the existence of an externality are met, we are speaking of technological externalities.
Environmental problems frequently lead to negative effects upon economic subjects,
which we also call negative technological externalities.

Information, Support, Enforcement

Adjusting values

(Market)
Negative
private
social externalities
costs
costs (e.g. soil erosion,
unstable stands,
damage during mining)

positive
private
social externalities
revenue
revenue (e.g. Protection and
improvement of a habitat,
recreational function)

(Market)

Adjusting values

Information, Support, Enforcement

Fig. 3-1 Externalities in forestry production

Pôvodca externality Pôsobí na

Výrobcovia Výrobcovia
- súkromní - súkromní
- verejní - verejní
- zahraniční - zahraniční

Spotrebitelia Spotrebitelia
- súkromní - súkromní
- verejní - verejní
- zahraniční - zahraniční
Fig. 3-2 The relationships between producers, consumers and externalities

Externalities basically appear in every production and consumption process as the inputs
for these processes are not 100% transformed by the exchange of goods on the market,
and conversely, households do not completely consume such goods. Externalities can be
caused by producers and consumers alike, whereby the positives (profits and utility) or
negatives (costs, loss of utility) can likewise affect producers as much as consumers. The
mutual relationships between external effects, their originators and recipients are shown
on Fig. 3-2.
The originator of an external effect essentially transfer a decision regarding the externality
to the public. For this reason, externalities can be attributed a level of publicity which
creates a relationship to public goods. Externalities and public goods are analytically the
same in principle, but externalities are created as an ancillary product. The transfer of
decision making to the public, e.g. from the source of a negative externality, is based on
the fact that the voluntary removal of the externalities will not be compensated; rather it
will be "punished" in the form of increased costs. An industrial producer producing air
emissions will voluntarily reduce their quantities because they incur costs associated with
such emissions. For this reason, correction of a market failure is necessary using policy
instruments in order to balance out this imperfect situation in the market.

3.1.1 External competition in forest utilisation and stating the optimum production
of negative externalities using an example of damage to forest by emissions

External competition in forest utilisation occurs in external impacting of forest

ecosystems by economic subjects (BERGEN 1999, 2002). This is not competition between
individual functions originating from this natural resources, but it is influencing and
restricting the production and utility functions of the forest. External competition occurs,
for example: when building residential homes, industrial zones, and roads and motorways
which decrease forested areas and influence the forest ecosystem. Over the past ten years,
forest ecosystems have been significantly impacted by air polluters whose emissions
unintentionally affect the fulfilment of forest functions. Air pollution caused by harmful
sulphur oxides, nitrogen oxides, etc., mainly originates from the production and
consumption of fossil fuels. Producers and consumers of fossil fuels ignore the damage
they cause to forest stands since a decrease in pollution would cause losses from the
surpluses of energy producers as well as consumers. We can illustrate this situation using
partial analysis on the electricity market which is shown on Fig. 3-3.
Forest enterprises must bear losses from added value or revenue from forest
management practices that grow larger with increases in electricity generation and related
harmful emissions. Fig. 3-3a shows the damage to forest stands related to the production
of energy. At production Q1, the damage to forestry companies is SLP1. The value of
damage to forest is expressed in monetary terms based on a valuation of externalities,
which means as society's willingness to pay. A decrease in energy production to Q0
reduces the damage to forest stands to zero. Model linear proportionality between the
damage to forest stands and energy production leads to constant marginal damage caused
to forestry companies, which is shown on Fig. 3-3b. In reality, damage to the
environment often increases progressively, changing the marginal damage from constant
to increasing. For illustration and better clarification, we use constant marginal damage.
 The optimum level of energy production is shown on Fig. 3-3c. There is market
equilibrium if the demand for electricity equals the curve of marginal social costs of
electricity producers. The marginal social cost curve is created by adding marginal
damage caused to forestry companies and the marginal private costs of electricity
producers which represent the electricity supply. The demand for electricity follows
market principles and does not consider the damage caused to forest stands.
Without contractual measures between forestry companies and electricity
producers, or state intervention, industrial companies will produce electricity in order to
achieve the highest profit, i.e. they will maximise the producer's surplus (Q1, C1). The
producer's surplus or income in the model is bordered by the producer's electricity supply
curve and its price. This production of energy would cause damage to forestry and in
terms of the whole of society, this situation is also inefficient.
Damage to forest stands and social inefficiency can be documented via analysing
economic efficiency based on the surpluses of consumers and producers if we compare the
optimum status (QE,CE) with the status (Q1,C1). Between energy production in points Q1
and QE, damage caused to forestry companies will exceed the surplus of consumers and
producers which results in social inefficiency.
When reaching the national economic optimum, in our model represented by point
(E), damage to forest stands and, at the same time, the surpluses of consumers and
producers are reduced and equalised. Producers are unwilling to make reduction in the
production of electricity to the optimum level (QE,CE) and therefore lessening forest
damage since they do not need to consider the negative externalities caused to the forestry
industry. They will only consider the production of negative externalities based on
measures by the state.
If we wanted to decrease pollution to zero level, we would have to reduce
electricity production to status (Q0,C0) and then the production of negative externalities
would be within a volume which would not cause any damage to forest ecosystems. This
situation is also inefficient in terms of the national economy. Based on the model, we can
state that the economically efficient solution is not based on regulating the economic
activities of electricity producers so as to achieve zero loading on forest ecosystems, but it
is based on the search for the optimum E solution for the national economy. A reduction
in production to the level of the optimum for the national economy induces a reduction in
the quantity of energy produced, damage caused to forest enterprises, the surpluses of
producers and consumers alike and causes energy prices to rise.
 Krivka celkových škôd na
lesných porastoch spôsobených
producentmi el. energie

Krivka spoločenských
hraničných nákladov
producentov el. energie

Krivka súkromných
hraničných nákladov
producentov el. energie
Krivka hraničných škôd
na lesných porastoch

Krivka dopytu po
el. energii

Fig. 3-3 The situation in the electricity market and negative externalities

3.1.2 Stating the optimum production of negative externalities

We will explain the optimum production of externality using an example of air pollution
by industrial manufacturers (BERGEN 1999, 2002). In general, most think that a well-
managed economy should completely eliminate environmental pollution. However, a
zero pollution level is unattainable and it would mean zero economic growth and zero
production. With zero pollution, economic subjects would not be able to manufacture their
products. Every production activity creates residues which must go into the soil, water or
atmosphere. Each of us creates waste which creates public disposal problems. On the
other hand, an unregulated laissez-faire economy which would not enforce economic
subjects to internalise negative externalities would lead to an inefficient high level of
pollution and too little activity in its removal. The optimum level of pollution and the
creation of effective environmental policy based on economic efficiency is therefore
seeking the best compromises.
 If we consider costs for decreasing pollution and social damage caused by this
pollution, efficiency requires that the social marginal damage from pollution equals the
marginal costs for its reduction. We will explain this in an example of a thermal power
plant which emits tons of harmful emissions of sulphur and carbon oxides into the
atmosphere. The marginal costs for eliminating pollution and social marginal damage is
shown on Fig. 3-4.
Hraničné náklady na tonu emisií (mil. SK)

O
30

Krivka hraničných nákladov Krivka hraničných

na zníženie znečistenia spoločenských škôd
20

0 50 100 150
Znečistenie (t / rok)
Fig. 3-4 Stating the optimum level of pollution

In point "O", the plant produces 0 tons of pollutants per year, i.e. it does not
pollute the environment and marginal damage to the environment is zero. In this point,
marginal costs for reducing pollution are extremely high and for the plant it would mean
ceasing production and zero production of energy.
In point "M", the thermal power plant emits the maximum amount of pollutants. This
is the case of an unregulated economy without state intervention, with a high level of
environmental pollution and too low or zero activity to eliminate it.
Social marginal damage grows with increasing pollution. With each additional ton of
pollution, damage to the environment, water, soil, forest stands, public health, etc.,
increases. Simultaneously, with each additionally eliminated ton of emissions, the
marginal costs for its reduction or elimination increase. The power plant will have to
purchase filtration equipment which will incur costs for cleaning the environment. If we
wanted to reduce emissions to zero, it would incur high costs and the marginal utility from
decreasing the final kilograms of pollutants would be very low.
Equality between social marginal damage and marginal costs for decreasing pollution
is reached when the benefit from the environmental pollution by one unit equals the costs
for this reduction. In our example, equality occurs at point "E" when emitting 50 tons of
pollutants per annum and the marginal costs and social marginal damage are €10 million.
If the power plant emitted more than 50 tons of pollutants, the incurred increment of
social damage to the environment would be higher than the savings which would be made
from a lower level of pollution elimination. In the opposite case, when emitting less than
50 tons of pollutants per year, the costs incurred for eliminating pollution would be higher
than the damage to the environmental or would be higher than the profit from cleaner air,
soil, water, etc.
Based on this analysis, we stated the optimum level of environmental pollution or the
optimum level of this negative externality.

3.1.3 Internal competition in forest utilisation and stating the optimum production of
positive externalities using an example of timber production and biodiversity

Internal competition in forest utilisation occurs between subjects utilising its

individual functions. Economic subjects apply their claims to the functions of the forest
whereby such claims are incompatible and at the same time exceed the forest's capacities
as a natural resource (BERGEN, 1999, 2002).
A forest enterprise producing wood mass is influenced by environmental organizations
and associations concerned with the biodiversity of forest ecosystems. Biodiversity is
likewise affected by visitors to the forest, who use its recreation functions. Forest visitors
feel restricted and are affected by forest improvements such as harvesting, thinning,
skidding and the removal of wood from forest stands. According to forest cultivators,
forest stands are at risk from increased animal populations which, conversely, correspond
with the interests of hunting enterprises.
The unlimited demands from individual subjects for the use of the forest's
functions serve as a counterbalance to the limited capacities of the forest. Society is faced
with an allocation problem from the limited capacities of natural resources and must
create the best possible combination of the use of its functions, i.e. find the optimum
allocation in the face of limited capacities of natural resources, and prevent incorrect
allocation. This allocation problem can be described and explained using an example of
internal competition in forest utilisation between two goods - wood production (D) and the
production of biodiversity (B) (Fig. 3-5).

Wood

A
A
D0

Social
indifference
Production
curve
options
B B
D1

Biodiversity
B0 B1
Fig. 3-5 Internal competition between wood production and biodiversity B
 The amount of produced timber (D) measured in m³ is displayed on the y axis and
biodiversity production (B) measured in index points is on the x axis. Production options
can be displayed as a concave curve. The concavity of the production options curve
depends upon the growth of marginal costs for producing both goods. Delimitation of the
production options curve follows limiting factors such as: the area of the given forest,
working capacities, planned felling quantity, sustainability of timber production, etc. The
edges of the production options curve do not need to overlap with axes D and B since in
this case wake theory applies. This theory states that in the production of timber without
using additional production factors, biodiversity is produced simultaneously as an
accompanying product. Or the opposite: A certain amount of timber is produced as an
accompanying product in the production of biodiversity. If we assume that the forestry
company maximises profit, they will produce the combination of goods in point A since
they will only receive income from the production of timber. Biodiversity is produced
without the increased costs in point B0. However, society is dissatisfied with such a status
since it gains greater utility from the combination of goods in point B, which facilitates
increased protection of diversity. Without using state intervention, this status would not be
achieved since the state strives to correct the difference between the original and the
desired production of diversity using forestry policy instruments. In terms of alternative
costs, costs for the increased production of biodiversity (B0,B1) correspond to losses in the
production of timber (D0,D1)
Based on the described microeconomic model, it is possible to monetarily define
the optimum production of biodiversity, which is a positive externality of forest
management. The following behaviours of producers and consumers are differentiated
when defining the optimum level of a positive externality:
The producers of externalities can make a "request for reparations". This means
defining the conditions under which they are willing to produce such a service. This
approach corresponds to the concept of alternative costs as the production of biodiversity
is assessed on the basis of increased costs for the production of biodiversity and decreased
income from wood production.
In terms of the consumer, it is necessary to define their "willingness to pay" for the
use of such positive externality. Within analysis, respondents were posed questions as to
their willingness to pay for a defined service (externality) based on a defined range. The
weakness of this analysis is that respondents often do not want to disclose their
preferences or simply answer inaccurately. Currently, preferences for these goods are
defined using the political process. This means that the importance of biodiversity in FM
and the need for state intervention is determined via approval of legal amendments in
parliament.
Limit
pricing

Curve expressing
minimum limit
requirements for
producers

HB

Curve expressing the

maximum
willingness to pay

B0 B1 Biodiversity

Fig. 3-6 Optimum production of biodiversity

For analytical purposes, it is appropriate to transform the model of internal

competition when dealing with forest utilisation into a partial model for optimum
production of biodiversity (Fig. 3-6). Optimum production of biodiversity is defined on
the basis of the minimum limit for producer requirements and the maximum limit curve
for the willingness to pay on the part of consumers or society. The point of intersection of
these curves defines the effective optimum value of biodiversity within forest
management.
The curve of minimum marginal requirements for compensation, or the analytical
curve for biodiversity supply, increases as the demands for compensation from forest
enterprises rises along with the supply of biodiversity. This drives growth in the limit
values of transformation, i.e. an increase in the production of biodiversity causes a greater
deficit in timber production. The curve of the maximum marginal willingness to pay for
the production of this externality by consumers, i.e. analytically, the demand curve
decreases as the expectation of decreasing interest at increasing quantities also applies to
the demand for biodiversity. The point of intersection of these curves allows for the
analytical calculation of the value (B1) representing the optimum level of production of
the positive externality in society and HB representing the optimum value of biodiversity.

3.2 Public goods

3.2.1 Classification of public goods

Public goods are characterised by two properties that block the market price mechanism
(WICKE, 1993):
Excludability expresses the ability to eliminate an individual from the consumption of a
specific good. Excludability makes a good the subject of the market, thereby preventing
people who want to use the good free of charge from having access to it.
Rivalry expresses the fact that a good consumed by a single individual cannot be
consumed by another. Rivalry between individuals to consume a specific good is caused
by scarcity.
We can differentiate between the following types of goods on the basis of
excludability and rivalry (Fig. 3-7) whilst excludability and rivalry can be zero or one:
Private (individual) goods have total rivalry and excludability, which allows them to
become a market subject.
Public goods are characterised by the fact that excludability and rivalry equal zero. It is
impossible to exclude anyone from consumption and there is no rivalry with respect to
consumption. The exclusion of non-paying users is not possible for technical or economic
reasons. A typical example is the production of oxygen by forest ecosystems. Their
production using the market mechanism is impossible.
Collective goods are characterised by the fact that no one can be excluded from
consumption and that rivalry exists in their consumption as the ownership rights are not
clearly defined. Intensive recreation in protected areas is not a problem until there is a
conflict between various interests (recreation and natural protection). Their production
using the market mechanism is impossible.
Club goods are the transition between public and private goods. These goods can be
assigned a specific level of excludability as during their use, the quality of the good is
frequently decreased as the number of users increases. For club goods, it is possible to
define an analytical optimum size of the group to allow production of the good with
corresponding quality. The owners of hotels are willing to pay forest enterprises to
increase the effectiveness of their avalanche protection functions. If the number of
hoteliers is large, an agreement may not be reached with respect to financing such
measures.

Excludability
1 0
Collective goods
Private goods (intensity of
1
(wood) recreation in a
Rivalr
protected area)
y
Public goods
Club goods
0 (absorption function
(hunting association)
for CO2)
Fig. 3-7 Types of goods

On the other hand, the site where these goods are delivered is important as with
local goods, it is possible that individuals conducting their activities in close proximity to
the delivery of these goods also benefit from these goods without sharing in their
financing. A local cycling club will agree with a forestry company on fees to finance
repairs of the forest road network in order to make it suitable for cycling. However, the
road network is used by cyclists who are not members of the local club; these cyclists
cannot be excluded from consuming these goods as free access to the forest is legally
guaranteed. This makes the costs of excludability and the costs for creating a collective
important. If the costs for excludability are too high or if the creation of a new collective
with high costs is always required to provide these goods, their production using the
market mechanism is largely impossible.
Mixed goods are characterised by the fact that the value of rivalry and excludability
fluctuate in a range from zero to one. The precise quantification of the level of rivalry and
excludability would allow for a more precise definition of public goods and their need for
state provision. This quantification is extremely difficult in practice.
Forest ecosystems fulfil production, ecological and environmental functions. The
term forest function means the ability of the forest to provide specific utility (PAPÁNEK
1978). Slovak legislation classifies forests on the basis of their predominant characteristics
into managed forests, protected forests and special purpose forests. The production
functions of forests include the production of wood, game and other products. These
goods produced through forest management can be classified as private goods, which are
subject to market forces and where price is the indicator of the limits on such private
goods. We include the production of forest crops, mushrooms and medicinal plants
amongst public goods since legislation permits free collection of these products, which
does not permit exclusion in their consumption. Rivalry increases with an increasing
number of consumers as a result of a scarcity of these goods, causing a transition from
public to collective goods.
The ecological functions of forests include protection against soil erosion, water
quality and quantity protection, global and local climate and filtration effects, protection
of structures from avalanches and landslides, etc. Forest environmental functions include
recreational, therapeutic, educational and aesthetic functions as well as the protection of
nature and the landscape, the preservation of biodiversity, etc.
The ecological and environmental functions of the forest are of public benefit and
the majority of the utility they provide can be considered a public good or a mixed good
with varying levels of rivalry and excludability. Public goods include, for example: the
production of oxygen, water and air filtration, water protection, climate, sanitary
functions, etc. These forest uses are created in parallel with the productive functions of the
forest. If rivalry increases between consumers during the consumption of the public
function utilities, then the public goods are transformed into collective goods. Rivalry
causes competition during the use of forest goods. An example is the recreation function
where an increase in the number of recreation seekers causes rivalry between individuals
and competition between the production, natural protection and recreation functions of the
forest. Excludability can be applied for the consumers of a number of utility functions of
the forest, thereby converting public goods into club goods. As an example, consumers of
functions such as avalanche protection, waterway bank protection, water utility and
recreation may form a group that is willing to pay for such goods and thereby compensate
forest management. This leads to the formation of clubs and associations which results in
full or partial excludability in the use of the given good.
The protection and environmental functions of a forest are among a group of
environmental goods that are predominantly limited but the pricing mechanism does not
work, making state intervention critical to ensure they are produced to the optimum level.

3.2.2 Prisoner's Dilemma

The market failure mechanism of public goods can be described using game
theory. The so called non-cooperative games include also prisoner’s dilemma, based on
which we can illustrate the basic problem of environmental goods (WEIMANN 1990,
1999). Bargaining among group members is limited by high transaction costs. Transaction
costs can be defined as costs to secure bargaining and will be defined in detail later. The
question we want to address is: Can we secure optimal production of public good using
group financing? Can we together improve the quality of the environment? In the end we
want to describe a situation where many individuals take part. However didactic solution
to this problem is based on the theory of non-cooperative games. Prisoner´s dilemma is
one of the non-cooperative games and is the output of two prisoners in the United States
of America. These prisoners committed crimes together. The more severe crime cannot be
proven. Prisoners are locked in separate cells without the possibility to mutual agreement.
The judge gives both prisoners following offer: If one of the prisoners confesses and the
second does not, the one that confesses the crime gets crown witness status and will be
released immediately. The prisoner that does not confess will serve six years in prison. If
both confess they get a punishment of five years. If both do not confess they only get one
year for a crime that can be proven. The situation can be illustrated using the following
matrix (fig. 3-8), in which both players in our game have two strategies: confess (C), or
not confess (N).

Player 2
C N
C 5 5 0 6
Player 1
N 6 0 1 1

Fig. 3-8 A matrix of the results of decisions by players in the prisoner´s dilemma
(order: player 1, player 2)

The basic rule of this non-cooperative game is the inability of mutual agreement
between the players. To solve this game we have to put ourselves into the thinking of one
player, e.g. player one. Which strategy will player one choose, if he behaves rationally and
wants to spent the least possible time in prison. The answer is indeed striking but simple.
The player one confesses because:
- If player two confesses (C), our player one has two alternatives. If he also confesses
(C), he gets five years. If he does not confess (N), he gets six years. Since 5<6 the
decision to confess is the best solution.
- If player two does not confess (N), our player one has two alternatives. If he confesses
he will be released. If he does not confess, he will serve one year. Since 0<1 the
decision to confess is the best solution.

The PARETO solution of this game is not to confess, because our prisoners would
together serve only two years. Based on tis considerations both players choose the NASH
solution to confess, which is not optimal and together serve ten years. The state
prosecutors can be satisfied. It is clear, that this result is influences mainly by the rule
which does not enable communication and bargaining amongst players.
Let’s consider further that the players in our case prisoners can communicate
together. We have a cooperative game. In the first step player one gives an offer to not
confess. Player two can either accept or reject this proposal in the second step. If he
chooses to reject the result of the bargaining is in the prisoner´s dilemma, as was
described above. If he accepts they reach the best solution and both serve only one year.
Only two option remained to confess (C,C) and not confess (N,N). One problem still
remains and that is the compliance with the contract. If the compliance with the contract is
not sure due to the lack of sanctions when breaching the contract, we return again to the
original solution of our prisoner´s dilemma. How could be the compliance with the
contract be ensured? The underworld of course found a solution to this. The sanction
mechanism of the mafia became the law of silence, so called “omerta”. Unless the
prisoner keeps silent he is threatened by death.
Why is the prisoner’s dilemma appropriate to explain when producing
environmental goods? Non-cooperative game theory, where the prisoner’s dilemma
belongs to, enables to clarify the mechanism of market failure in public goods. We firstly
use the example of just two water management companies (VP1, VP2) producing drinking
water which want to use financial subsidy (F) to motivate a pasture land enterprise to
reforest part of their pasture land. An increase in forest coverage would decrease water
treatment costs for the water management companies.
Let us assume that sum F = 20,000 € would motivate the pasture association to
reforest part of their pasture land. Reforesting would result in a decrease in costs for water
treatment of one water management company whilst alternative profit represents Z =
13,330 €. The water management companies must decide whether to share financing of
the reforestation by each contributing F1 = 10,000 € and F2 - 10,000 €. Basically, they
have two alternatives: to contribute (P) or not contribute (N) towards financing
reforestation. A matrix of decisions will the following results whilst positive values
represent the profit of the water management companies and negative values represent
their losses (Fig. 3-9).

VP2
P N
Result Result Result Result
VP1 VP2 VP1 VP2
(thousand (thousand (thousand (thousand
€) €) €) €)
P 3.33 3.33 -6.66 13.33
VP1
N 13.33 -6.66 0 0
Fig. 3-9 A matrix of the results of decisions by water management companies

If both water management companies decide to contribute towards financing

reforestation (the combination VP1 - P, VP2 - P), their profit would represent VP1 = 3,330
€ and VP2 = 3,330 €. If the water management company (VP1) decides not to contribute
towards financing, its results would be VP1 - 13,330 €. Reforestation costs would be borne
in full by water management company (VP2) and its result would represent VP2 = -6,660
€. This would also apply in reverse. The decision of both companies not to contributed
towards financing reforestation would not incur any costs, but neither would it bring profit
VP1 = 0 € and VP2 = 0 €.
Based on this matrix of results, we can state that there is more than one PARETO-
optimum strategy. National economic efficiency is ensured if the total sum of results is
maximum. Strategy (P,P) is effective since the sum of results equals 6,660 €. Strategies
(P,N) and (N,P) are also effective since their result also equals 6,660 €. This means that in
terms of the national economy, reforestation of part of pasture association land is effective
regardless of who paid for it. However, strategies (P,N) and (N,P) are not PARETO-
effective since the situation is not beneficial to both companies. If these situations were
the PARETO-optimum, there must have been an option for compensation payments.
If the water management companies decide rationally on the basis of individual
analysis of cost effectiveness, the dominant strategy is to not partake in the financing of
such reforestation. This causes the phenomenon known as the prisoner's dilemma,
regardless of the strategy selected by the other party. The explanation arises from this
simple thought: If water management company VP1 decides not to contribute towards
financing reforestation and water management company VP2 does contribute, then VP1
compares the results of 13,330 € and 3,330 €. Since 13,33 > 3,33, it is more advantageous
for VP1 not to contributes towards the financing. If VP2 also decides not to finance
reforestation, then VP1 decides between alternatives 0 and -6,660 €. Since 0 > 6,66, it is
more advantageous for VP1 not to contributes towards the financing.
The water management companies, as opposed to the original prisoners, limited in
their ability to bargain, which could lead to the conclusion of an agreement between these
companies and financing for reforestation activities. Such a contractual solution should
ensure an acceptable level of benefits for both water management companies and national
efficiency. The solution is not so clear as the water management companies have
information on what costs and benefits the reforesting of the field land will bring but lack
information on the costs and benefits it will bring their partners during bargaining . This
fact is known as informational asymmetry. If both water management companies had
perfect information on the economic situation of its partner during bargaining on the costs
for reforesting work, an agreement would likely be reached. As information asymmetry is
the norm, a contractual agreement on financing such reforesting work is not certain and
depends on bargaining between the contracting partners. Another problem that may affect
the PARETO-optimum solution, i.e. the joint financing of the reforesting work, are
transaction costs for bargaining, gathering information, concluding contracts and
monitoring contractual relationships. If these costs are excessively high, this prevents the
optimum solution from being achieved.
The prisoner dilemma provides the basic logic behind market failure but is more
didactic in nature with respect to public goods. It is more realistic to analyse
environmental problems, i.e. social dilemmas, which correspond to the prisoner's dilemma
with respect to their structure.

3.2.3 Social dilemmas

The phenomenon of the social dilemma became known based on the work titled
"Tragedy of the Commons" (HARDIN 1969). The example of the recreation function of
forests is used once again to explain this problem. Free access to the forest for recreation
seekers is afforded by the law. Recreation seekers are pleased if the walkways are clean,
there are camp sites and prepared fire pits, etc. in the forest. Forest enterprises are happy
to provide such services for a specific amount of compensation. It should not be a problem
for the recreation seekers to pay a small fee to the forest enterprise and to use the forest
for enjoyable recreation. Why is it that nobody is willing to pay this small fee? The
answer takes the following form: Simply put, this is a social dilemma with an explanation
rooted in game theory.
Each recreation seeker can make a small financial contribution towards the
production of the public good "recreational function of the forest", which we shall call n i.
If we mark the "recreational function of the forest" public good as RFL, then the
production of the recreational function of the forest has the shape:
n
ß ∑ ni = RFL,
i=1
where parameter ß is the rate of productivity of these individual financial contributions. It
is clear that the increment in financial contributions by ni does not cause the same growth
in the public good RFL. This means that usually ß < 1 and in some cases it is close to
zero. It is logical that a small financial contribution from one recreation seeker does not
bring a significant improvement in the quality in the quality of the recreational function of
the forest.
 Based on the above mentioned production function of the "recreation function of
the forest" public good, we can write the function of individual economic efficiency of
one recreation seeker (zi). Let us consider that the public good is consumed by all
recreation seekers equally:

n-1
zi = RFL – ni = ß ∑ ni - ni
i=1
The aim of each recreation seeker (Ri) is to maximum their utility and its dominant
strategy is ni = 0 since it arises from the matrix of results (Fig. 3-10), that (RFL – ni) <
(RFL – ß ni) and (ß ni - ni) < 0.

∑ of other recreation seekers

P N
P RFL – ni ß ni - n i
Ri
N RFL – ß ni 0
Fig. 3-10 A matrix of the results of decisions by recreation seekers

Not paying or making any contribution is the best strategy regardless of what the
other recreation seekers do. It is best to let the other recreation seekers pay for the
recreation function of the forest and then enjoy the same good free-of-charge. This type of
behaviour is exhibited by free-riders. The result from the matrix with such behaviour is
RFL – ß ni. All of the other recreation seekers think alike, meaning that a strategy 0 that is
not the PARETO-optimum will be employed. Individually, rational behaviour will lead to a
collective irrational result, i.e. the "recreation function of forests" public good is not
produced to the optimum level.
The size of the group in these cases is of major importance. With smaller group
sizes, with lower transaction costs and effective sanctioning mechanisms, cooperative
behaviour and production of the public good can occur; with larger group sizes, the free-
rider behaviour is predominant. On the basis of the classification of public goods and the
nature of problems related to production, it is clear that these goods can only be produced
to the optimum degree with state intervention.

3.2.4 Meritorious goods

Under meritorious goods, we understand goods which in terms of society are

consumed at an insufficient or excessive rate and the optimum amount of goods consumed
is achieved based on a policy decision followed by the use of policy instruments. This is
special case of public goods. Although excludability from consumption is technically
possible, it is not desired as the norm. An example could be free entry to the forest. In
some cases, it is technically possible to achieve exclusion from consumption via fencing
the forest, but it has been decided socially that the forest is accessible to everybody.
In the case of meritorious goods, state intervention is reasoned by the incorrect
preferences of individual consumers due to their lack of knowledge or irrationality, and
therefore by the incorrect allocation of resources. An example could be the consumption
of alcohol and cigarettes, or milk in primary schools. In terms of society, the consumption
of alcohol and cigarettes is excessive and society therefore attempts to regulate it using
policy instruments; similarly, for example, milk consumption in primary schools is
insufficient and therefore society tries to support it via policy instruments. In forestry,
meritorious goods could be pruning. The long term nature of forestry production means
that forestry companies are not interested in taking this measure. The results of such a
measure will be utilised by the next generations and predictions of their purchasing
preferences for such a long time period is impossible. The suitable composition of wood
species in terms of habitat may also be interpreted as a meritorious good. A forestry
company which wants to diversity the risk of future unknown revenue and costs could,
based on their own economic reasoning, make a rational decision to go for a wood species
composition corresponding to the habitat. However, a forestry company may also act
irrationally, meaning that they might, for example, prefer such a composition of wood
species which corresponds with the current market situation or which minimises costs for
reforesting and other cultivation measures. Via financial motivation, the state could induce
effects leading to the required aim.

3.3 Ownership rights

3.3.1 Ownership rights and their relationship to public goods and externalities

When looking at the analysis of environmental problems, one must be aware that a
majority of natural resources are in common ownership. The origins of the problem of the
absence of a market with public goods or externalities can be seen as a lack of defined
ownership rights. It is not clear with public environmental goods who has ownership
rights to drinking water or who has ownership rights over air. Do fishermen have
ownership rights over a clean river or does a refinery have the right to pollute the river?
Does every individual have an ownership right to breathe clean air or do industrial
producers have the right to pollute the air? If these questions are not answered in a
responsible manner, the market mechanism is incapable of resolving these environmental
problems.
Ownership is guaranteed by the constitution and the law, social relevance of such
ownership must also apply equally and can be limited in the public interest. Ownership
rights are a set of valid claims to goods or natural resources that allow the use of such
goods or the transfer of their ownership via a sale on the market. At the same time, they
prevent others from using such property or to seek financial compensation for such use by
others. In general it applies that the owner has the right to:
­ any returns or revenue from property,
­ the use and management of the property,
­ the disposal and sale of property.
Sales transactions to buy or sell goods and production factors between supply and
demand are the foundation of the price mechanism. Every such good or production factor
is composed of various types of ownership rights that can be traded in part or as a unit.
The theory of ownership rights states that ownership rights are defined both physically
and legally. If ownership rights are not precisely defined, the phenomenon of market
failure occurs. Ownership rights must have the following characteristics in order for the
pricing mechanism to work:
­ The precise specification of activities that are allowed, forbidden or stipulated
for the owner or non-owners.
­ The feasibility of such rights and duties.
­ The transferability of such rights and duties.
If the use of a public good is not regulated, unlimited common ownership is the
result. The goods in this case can be described as "everybody's and nobody's". If the
ability to use such goods is limited, demand increases for the given good, which leads to
their devastation. Unlimited common ownership where every entity can use the good for
their own purposes often leads to asymmetrical use in many cases. Forest stands may be
used for wood production but also capture harmful emissions. Wood production does not
threaten industrial polluters; however emissions do threaten the production and utility
functions of the forest. Such missing use regulations tend to favour the entity that impacts
other entities, in our case the source of the industrial pollution. A solution to this problem
is based on assigning ownership rights and regulating the level of use by individual
economic entities. The assignment of ownership rights and the level of use change
unlimited common ownership into limited common ownership.
In forestry, the ownership rights to the forest and forest land were often limited in
the public interest throughout the creation of legislation. These restrictions do not just
come from forestry law (e.g. the reforestation duty) but also from other laws (e.g. law on
protecting nature and the countryside, the Water Act, etc.). However, a precise
specification of ownership rights between individual entities is lacking.

3.3.2 The Coase Theorem

According to the theory of ownership rights, the institutional cause of failure to

create a pricing mechanism for public goods and externalities is based on a failure to fully
define ownership rights. If these ownership rights to externalities or public goods are
assigned to the producer or consumer of these externalities, a problem may arise in
settling the value between private costs or returns and the externalities are resolved
contractually between the producer and the consumer on the basis of the COASE theorem
(COASE 1960).
Assignment of ownership rights to externalities and public goods is the basic
prerequisite for the efficient use of such goods and takes place in two stages. Assignment
of ownership rights in the first stage is based on the policy process and can be carried out
in two basic ways:
­ in accordance with the laissez-faire principle which states that producers of
pollution have the right to do this and the consumer must tolerate this (e.g.
erosion caused by the mining activities of forest companies can cause water
management companies increased costs for water treatment),
­ in accordance with the "polluter pays" principle, which assigns the ownership
right to the externality to the physically damaged entity (e.g. forestry
companies will pay the costs of water treatment and the water companies will
be compensated).
In the first stage, the ownership rights to externalities can be assigned to the
producer or consumer who has lower utility from the given externality. If we assigned
ownership rights to the quality and quantity of water resources to a forestry company, the
water management company would have to tolerate the load placed upon the quality and
quantity of water resources caused, for example, by erosion or eutrophication of water as a
result of mining activities. In the second stage, the water management company can
purchase part of the forestry company's rights, which decreases the burden upon water
resources. When selling these rights, the forestry company undertakes to use more gentle
methods of operation (exclusion of clearing, skidding using cableways). More gentle
technology in wood production causes a decrease in revenue and an increase in costs for
the forestry company but it is compensated by the water management company. If partial
rights are sold and for that reason the water management company's profit exceeds the
compensation paid to the forestry company, the forestry company, if they have accurate
information, may demand a further payment in the form of financial compensation. If we
assigned ownership rights to the quality and quantity of water resources to a water
management company, the forestry company would have to compensate the water
management company for the purchase of part of the rights to damage the quality and
quantity of the water. In this case, the method of compensation between the water
management and forestry companies is reversed.
It clearly follows that externalities are reciprocal in nature and it is not important
to differentiate between positive and negative externalities. The reciprocal nature of
externalities does not differentiate between parties that damage others via production or
parties that suffer such damage.
The COASE theorem applies if:
­ transaction costs for bargaining and checking contract adherence are equal to
zero, and
­ the negotiating partners have the same and perfect information.
Likewise, it applies that:
­ bargaining will lead to the most effective solution for the national economy
(principle of efficiency),
­ the allocated (not re-distributed) results of bargaining are independent of who
was assigned the ownership rights before bargaining started (principle of
invariance).
Transaction costs are incurred by every market transaction (contractual
relationship) and are based on the search for information, bargaining, searching for a
solution and checking adherence to the contract. The transaction cost should not exceed
the difference between the internal shadow price and the market price if the contracting
parties behave rationally. If the difference is higher, market transactions cannot be
completed and a market failure is involved as a result of the high transaction costs.
A solution using the COASE theorem cannot occur without transaction costs to
search for information, prepare for bargaining, conduct the actual bargaining, decision
making and checking to ensure the results of bargaining are followed. We can expect that
a majority of transaction costs to be fixed costs. Transaction costs reduce the overall
national effect of a decentralised solution. The principle of efficiency is maintained at low
transaction costs required for the COASE solution and the optimum national solution can
be achieved. Transaction costs for bargaining increase in line with the number of
participating parties. If state authorities are involved in the bargaining process, the
transaction costs may rise above their maximum possible level. If the correction of a
market failure cannot be resolved using assignment of ownership rights, the given market
failure must be corrected using other economic policy tools.

3.4 Strategies and instruments for eliminating market failure

Economic policy principles in environmental protection form the principles for

using environmental policy instruments (WICKE, 1993). These principles are applied in
the legislation of European countries and the European Union. We recognise the following
basic principles of environmental policy: the principle of prevention, the "polluter pays"
principle, the "user pays" principle, the "society pays" principle and the cooperation
principle.
The principle of prevention states that preventative measures should only limit
future damage to the environment. Based on this principle, damage should not occur at
all. This means that damage must be eliminated at the potential source. The principle of
prevention in utilising renewable and non-renewable natural resources must take into
account the regulations of the rational utilisation of natural resources (SCHMITTHÜSEN
2001, compare with the chapter on the theory of systems):
 - The rule of regeneration of natural resources states that the level of utilisation of
a renewable natural resource must not be higher than its ability to regenerate. For
renewable natural resources, it is necessary to achieve the highest possible level of
their recycling.
- The rule of substitution states that non-renewable natural resource should be
replaced by renewable natural resources to the highest extent possible. For non-
renewable natural resources, it is also necessary to achieve the highest possible
level of their recycling.
- The load intensity rule states that emissions from the use of natural resources
must not exceed the level of the load upon these natural resources.
- The preventative protection rule against danger states that if there is a danger of
serious and irreversible damage, lack of scientific proof must not be the reason for
postponing costly measures.
The "polluter pays" principle states that financial responsibility for damaging the
environment, i.e. producing negative externalities, should be borne by those who cause
such damage. The aim of applying this principle is to include negative externalities in
individual analyses of economic efficiency, i.e. to internalise costs for damage to the
environment. Products produced with high external costs should be raised in price via
suitable environmental policy instruments (e.g. fees, levies, ecological taxes). This would
cause a decrease in demand for such products and a subsequently lower load upon the
environment. Typical examples are: industrial production of emissions and the creation of
anthropogenic damage in forests, air pollution in cities, pollution of water and soil by
releasing pollutants or contaminating drinking water sources by using pesticides and
fertilisers. Fees for environmental pollution are used to internalise external costs
produced by emitters of pollutants.
The "society pays" principle can only be used if the "pollutant pays" or "user
pays" principle cannot be applied. The "polluter pays" and "user pays" principles cannot
be used if there are problems with identifying the polluter and user, or if there could be
time lags in action of an instrument, resulting in irreversible environmental damage. When
applying the "society pays" principle, the state takes financial responsibility for limiting
the production of negative externalities and remedying environmental damage, or for
financing the production of positive externalities. The use of the "society pays" principle
should only be a supplementary strategy to the "polluter pays" or "user pays" principles.
In forestry management, the "society pays" principle could be used in restoring mountain
forests excessively damaged by immisions. The identification of polluters is very difficult
in practice since pollution is shared by domestic as well as foreign emitters. The
administration costs for identification would be very high. The destruction of mountain
forests could result in great damage when fulfilling the protective function of forests
(water management, soil protection, etc.). A targeted funding programme for restoring
mountain forests is the application of the "society pays" principle. Redevelopment of old
dumps for fuel, oil or other dangerous chemicals is similarly financed by the state to
prevent ecological catastrophe.
The "user pays" principle was originally applied in the production of negative
externalities as a sub-form of the "society pays" principle. For example, in Germany, they
adopted a general water tax which was used to compensate for losses incurred by
agriculturalists due to the limited use of nitrogen fertilisers. However, its use is mainly in
the production of positive externalities, where their production should be financed by the
user. The aim of applying this principle is to internalise positive externalities and to
achieve an increase in the production of positive externalities. If a protective forest
protects manmade objects against the danger of snow or rock avalanches, and it is
necessary to take additional measures to improve the quality of the protection or these
arise from the need to protect restrictive objects in wood production, then the users of this
positive externality should share in its financing.
The cooperation principle can be described as participative planning and the
implementation of environmental policy including all interested parties. The cooperation
principle is based on the use of negotiation between polluters, the affected and state
administration. All voluntary agreements and contracts should prevail over other
environmental policy instruments. Voluntary agreements shall result in general acceptance
of environmental policy measures, and it increases its efficiency and economic
effectiveness.
Instruments for internalising negative externalities are based on externality models,
internal and external competition in forest utilisation, and a model for assigning ownership
rights. In order to clarify the use of environmental policy instruments, we shall use
examples of the surface and ground water polluted by the agricultural use pesticides and
fertilisers and the pollution of forest by exhalates from industrial production. Instruments
for internalising negative externalities are as follows:
- assignment of ownership rights,
- regulatory instruments,
- economic instruments,
- information tools.

3.4.1 Assignment of ownership rights

According to the theory of ownership rights, the institutional cause of failure to

create a pricing mechanism for public goods and externalities is based on a failure to fully
define ownership rights. If these ownership rights to externalities or public goods are
assigned to the producer or consumer of these externalities, a problem may arise in
settling the value between private costs or returns and the externalities are resolved
contractually between the producer and the consumer on the basis of the COASE theorem
(COASE 1960). For explanation, we use an example of ownership rights to the quality and
quantity of water resources and their assignment to water management and agricultural
companies. The mechanism for assigning ownership rights could, of course, be explained
using other examples from environmental policy: the relationship between air polluters
and the affected or a cellulose plant and fishermen are of a similar nature.
Assignment of ownership rights to externalities and public goods is the basic
prerequisite for the efficient use of such goods and takes place in two stages. Assignment
of ownership rights in the first stage is based on the policy process and can be carried out
in two basic ways:
- in accordance with the laissez-faire principle which states that producers of
pollution have the right to do this and the consumer must tolerate this (e.g.
agricultural companies can cause water management companies increased costs for
water treatment by using pesticides),
- in accordance with the "polluter pays" principle, which assigns the ownership right
to the externality to the physically damaged entity (e.g. agricultural companies will
pay the costs of water treatment and the water companies will be compensated).
In the first stage, the ownership rights to externalities can be assigned to the
producer or consumer who has lower utility from the given externality. If we assigned
ownership rights to the quality and quantity of water resources to an agricultural company,
the water management company would have to tolerate the load placed upon the quality
and quantity of water resources. In the second stage, the water management company can
purchase part of the agricultural company's rights, which decreases the burden upon water
resources. When selling these rights, the agricultural company undertakes to use a smaller
amount of pesticides and fertilisers. A less extensive management methods causes the
agricultural a decrease in revenue and an increase in costs but it is compensated by the
water management company. If partial rights are sold and for that reason the water
management company's profit exceeds the compensation paid to the agricultural company,
the agricultural company, if they have accurate information, may demand a further
payment in the form of financial compensation. If we assigned ownership rights to the
quality and quantity of water resources to a water management company, the agricultural
company would have to compensate the water management company for the purchase of
part of the rights to damage the quality and quantity of the water. In this case, the method
of compensation between the water management and agricultural companies is reversed.
The precise definition of ownership rights to the quality and quantity of water
resources should help achieve the national optimum solution with a minimum of state
intervention. The precise definition of ownership rights to the quality and quantity of
water resources and the facilitation of decentralised bargaining between water
management companies and agricultural companies should be given priority over other
forms of state intervention (limits, taxes, subsidies, etc.). The economic efficiency of
assigning ownership rights to externalities and public goods is very high and the state
needs minimum information from decentralised subjects.

The Coase theorem applies if:

­ transaction costs for bargaining and checking contract adherence are equal to zero,
and
­ the negotiating partners have the same and perfect information.
Likewise, it applies that:
­ bargaining will lead to the most effective solution for the national economy
(principle of efficiency),
­ the allocated (not re-distributed) results of bargaining are independent of who was
assigned the ownership rights before bargaining started (principle of invariance).

Transaction costs are incurred by every market transaction (contractual relationship) and
are based on the search for information, bargaining, searching for a solution and checking
adherence to the contract. The transaction cost should not exceed the difference between
the internal shadow price and the market price if the contracting parties behave rationally.
If the difference is higher, market transactions cannot be completed and a market failure is
involved as a result of the high transaction costs. We can expect that a majority of
transaction costs to be fixed costs. Transaction costs for bargaining increase in line with
the number of participating parties. If state authorities are involved in the bargaining
process, the transaction costs may rise above their maximum possible level. In this case,
we can talk about market failure due to high transaction costs.
The invariance principle, i.e. achieving the optimum solution regardless of to whom
ownership rights were assigned. Transactions costs are also incurred during other state
interventions for internalising externalities. Translation costs for the use of other
instruments lie in costs for state administration, policy making processes, etc. Rational
environmental policy should therefore consider the economic efficiency of the various
state measures since maintaining the original status may sometimes be cheaper than a state
intervention with high transaction costs.
Another problem in achieving the optimum solution in terms of the national economy is
the assumption of perfect information. In our model, we assume that water management
companies are perfectly informed about the costs and revenue of agricultural companies
and vice versa. However, reality differs. This information is considered as a trade secret
and when bargaining, the companies are only very inaccurately informed about their
partner's economic situation. Bargaining behaviour often has the nature of a prisoner's
dilemma. Mistrust between partners may cause bargaining to fail, i.e. not achieving the
economically optimum solution, COASE theorem does not apply. In this case, we talk
about market failure due to information asymmetry.
However, state administration has various instruments for decreasing information
asymmetry. Via mediating negotiations, the state may strive to lessen the mistrust between
the bargaining parties. Suitable measuring and monitoring techniques may clarify
information about the contamination of components of the environment. Publishing
departmental economic statistics and analyses increases the knowledge of bargaining
partners about their economic situation (e.g. the green report in agriculture).
Let us assume that the ownership rights to quality and quantity of water resources were
assigned to water management companies based on the "polluter pays" principle. After the
failure of voluntary negotiations, the clear definition of ownership rights allows water
management companies to go before the courts to claim a violation or restriction of
ownership rights. An important assumption of such a decentralised solution via the courts
is enforcement of the law, since we can barely assume the willingness of an agricultural
company to compensate water management companies if these do not have the
opportunity to sue via the courts. Court proceedings also incur high transaction costs and
information asymmetry in this case is clear. Court proceedings require accurate
substantiation, where the originator and method of damage must be proven. Expert
assessments are used for these purposes, but they are costly and are always valid with a
certain accuracy. Suitable legislative amendments of ownership rights can improve
enforcement of the law in terms of compensation for damage to water sources. These
amendments to ownership rights have been applied abroad, mainly in air protection policy
but we are modifying them for our example of polluting water sources (FREY, 1993):
­ Derogation from proving damage. It is sufficient to prove that the values of
pollutants were exceeded in a particular water source and it gives the right to sue
before the courts.
­ Derogation from proving the cause. Instead of thorough scientific proof, just
simple reasoning of the correlation between cause and effect is sufficient in the
particular case.
­ Proving innocence. If the defending agricultural company does not prove that they
are not the source of pollutants in the water source, then their guilt is assumed.
­ Derogation from proving financial damage. Adhering to limits prescribed by the
state protects against sanctions by the state, but not against the duty to compensate
water management companies.

If the correction of a market failure cannot be resolved using assignment of ownership

rights, the given market failure must be corrected using other economic policy tools (FREY
1993, WICKE 1993, WEIMANN 1990, 1999). In order to clarify the use of environmental
policy instruments for external competition in the forest utilisation, we will use an
example of anthropogenic damage in forests caused by electricity producers, mainly heat
plants. Instruments for internalising typical negative externalities are as follows:
­ regulatory instruments,
­ economic instruments,
­ information tools.
We use the field of air protection to explain instruments for internalising negative
externalities.
3.4.2 Regulatory instruments

Regulatory tools are all policy interventions that influence society and the
economy at formal level via binding rules. The state regulates environmental pollution
via generally binding rules. If polluters do not adhere to, circumvent or violate these rules,
they face the threat of sanctions.
Regulatory instruments are amongst the most widespread instruments for
internalising negative externalities:
 directives (restrictions and mandates),
 limits and limited permits,
 standards.
The logic of regulatory instruments in environmental policy lies in that, based on
identifying and assessing increased costs for reparation of anthropogenic damage to
forests, the state commands electricity producers to decrease the production of negative
externalities. The behaviour of electricity producers is changing based on direct state
intervention in the form of restrictions and mandates or limits. Regulatory instruments
follow the "polluter pays" principle since they order producers to decrease the production
of negative externalities.
Using regulatory measures, the state orders electricity producers to reduce the
emission of pollutants (CO2, NOx, SO2, NH3, solid substances, etc.) by a certain
percentage in order to achieve the economically optimum load upon forest ecosystems.
Slovak and European legislation recognises the following basic types of regulatory
instruments:
- an emissions limit is the highest permitted level of releasing pollutants into the air
from the source of pollution,
- an emissions quota is the highest permitted amount of a pollutant of
anthropogenic origin which can be released from the source of pollution during a
calendar year,
- the national emission ceiling is the maximum permitted amount of a pollutant of
anthropogenic origin in mass units which can be released from all sources of
pollution within the Slovak Republic during a calendar year,
- limit values of air pollution represent the maximum permitted amount of a
pollutant in the air, measured by using the national monitoring network for air
quality in precisely defined terms with permitted tolerance margins.
Regulatory instruments may influence the reduction of emissions or immisions. In
the first case, these are output regulations and in the second case, these are input
regulations. In practice, both methods are still in use and options for their use depends
upon target preferences for reducing pollutants. In input regulation, it is limited by the
options of diagnostic and measuring technology.
The ineffectiveness of regulator regulations for decreasing emissions can be
interpreted on Figures 3 -11. Let us assume that emissions should be reduced by 50% and
we have two heat plants (A,B) with different marginal costs curves for reducing emissions
(HNREA and HNREB).
If both electricity producers reduced the emission of pollutants by 50%, heat plant
A is loaded more than heat plant B, since the area below the marginal costs curve for
reducing emissions in subject A is greater than the area for subject B. However, if subject
A reduced emissions by 65% and subject B by just 35%, the growth in costs for reducing
emissions by subject B would be less that the decrease in subject A's costs. Overall,
emissions are reduced by 50% but the costs for the overall reduction are less than for a flat
rate reduction. Stating differentiated regulations for reducing emissions clashes with the
need for information about costs for reductions which state administration does not have,
or may not have available.
Marginal costs for
reducing emissions

HNREA
HNREB

EB EA
-50% HNRE -50%

HNREB HNREA

EB EA
-65% -35%
Fig. 3-11 The effectiveness of regulatory measures in reducing emissions

Another disadvantage of regulatory instruments is their poor dynamic

effectiveness. Heat plants will be forced to adhere to regulatory regulations, but they will
not be motivated to introduce new technology which facilitates electricity production with
lower emissions (separators, new burning technology), since it will not bring them any
costs savings. If we consider the production of emissions from all emitters of pollutants
into the atmosphere, we could assume that regulatory instruments are fairly effective since
there are sanctions for not adhering to regulations. However, ecological effectiveness
depends upon the quality and accuracy of measuring technology. In terms of dynamic
economic efficiency, a situation was observed where industry has no motivation even to
improve measuring and diagnostic technology since it would facilitate better control over
adhering to environmental regulations.

3.4.3 Economic instruments

Economic instruments are all forms of state policy regulatory intervention that, at
formal level, influence the actions and behaviour of society as well as management
activities through the exchange of economic values. Basically, there are two possible
methods for internalising externalities using economic instruments:
­ the state requires payment of financial sums in order to motivate cessation of
activities which are against the public interest,
­ the state provides financial sums to motivate towards activities in the public
interest,
­ the state creates a market for effective achievement of public aims.
Economic instruments use the market mechanism for internalising externalities.
Basically, there are two possible methods for internalising externalities using economic
instruments:
­ taxes and deductions for producing goods whose production causes negative
externalities,
­ subsidies, tax relief as motivation to decrease the production of negative
externalities,
­ the market in tradable certificates.

Taxes and deductions for producing goods whose production causes negative
externalities is based on the PIGOUVIAN tax concept (1929). PIGOUVIAN tax is a tax (t)
which is levied on activities causing negative externalities in such an amount that the
economically optimum production of negative externalities is achieved. PIGOUVIAN tax is
based on the "polluter pays" principle since it puts a burden on the production of goods
creating negative externalities.
In our case of heat plants and forestry companies, we follow the fact that the levied
tax (t) for producing electricity is in such an amount that the economically optimum level
of damage to forest ecosystems is achieved. PIGOUVIAN tax is based on the "polluter
pays" principle, i.e. it puts a burden on the production of electricity which creates damage
to forest ecosystems.
Based on the PIGOUVIAN tax, we levied every kilowatt of electricity produced and
sold on the market. Why didn't we just burden production which caused damage? A heat
plant is punished twice: its production gets dearer and, additionally, they have to pay
levies to the state. The explanation is related to ownership rights. If the heat plant had
ownership rights to pollute forest ecosystems, it would have been economically wrong.
However, the heat plant does not own the rights to pollute and, therefore, the PIGOUVIAN
tax serves as a social payment for which they obtain the right to pollute the atmosphere to
a certain level.
The PIGOUVIAN tax is considered as the first-best solution. This solution, however,
is not entirely possible in practice for the following reasons:
- Stating the level of tax per unit of the produced electricity which causes external
costs to forestry management. It should be determined based on information about
the curve of marginal damage to forests. Assessment of damage to forests requires
the use of objective assessment of this damage. We would have been talking about
so-called output tax. Objective information is not always available or it is very
costly to obtain. A heat plant does not just pollute forests but also other
environmental components. This damage also had to be estimated.
- External costs arising from damage and their assessment are economically
influenced in several ways (inflation, standard of living growth, etc.) and a levy
based on the PIGOUVIAN tax would have to be periodically changed. The economy
is sensitive to the frequent changes in framework conditions.
- Apart from this levy, the harmed parties, e.g. forestry companies, could demand
compensation which would be resolved by the courts. These court proceedings
incur further costs for companies and may exceed economic sustainability.
 - A solution using levies decreases the willingness of companies to take voluntary
air protection measures.

BAUMOL AND OATES (1971) therefore developed the standards and price
approach which is closer to the practical use of the PIGOUVIAN tax concept and is known
as the second-best solution. The standards and price approach is based on determining
standards, i.e. marginal values for the production of emissions and determines the tax or
levy for the production of emissions which exceeds this standard. If we place a levy or fee
upon the production of pollutants, we call it an input tax. Determining levies and taxes for
producing emissions is carried out using the trial and error method depending upon the
reaction of affected subjects. This means that the state does not need a totally accurate
assessment of the damage to forest ecosystems in order to state the optimum tax or levy,
and therefore achieve a reduction in emissions. This approach therefore provides
efficiency without providing optimality.
In practice, the majority believes that state income from levies for air pollution
should be used for financing the repair of anthropogenic damage in forests (BERGEN,
1999). In the first step, a tax or levy on air pollution should be used as a tool for correcting
market failure. This means that the economically optimum status is achieved. Reasoning
for allocating financing to the repair of anthropogenic damage in forests would be possible
if the economic efficiency of the forestry industry increased. This means that the effects
of such repairs in the form of wood production and other utility functions would have to
be greater than the costs for repairing anthropogenic damage. The second reason given
would be possible based on distribution policy principles, and does not therefore fall
under the market failure theory. In this case, financing of repairs for anthropogenic
damage in the forests would be reasoned by providing distributive justice, since
anthropogenic effects cause damage to forest property held by forestry companies,
decreasing the income of forest owners. The economic efficiency of such measures is not
important, but political consensus about compensating forestry companies.
A model of ecological tax reform was also designed based on the PIGOUVIAN tax
model. The basic idea of this reform lies in the fact that the tax burden falls on the use of
natural resources and the environment. On the other hand, it is possible to decrease the tax
burden on a production factor - work. The use of natural resources and damage to the
environment is become more expensive whilst the use of the work production factor is
cheaper and means more jobs. More environmental protection and more work with an
unchanged tax burden for the economy is known by economists as "double dividend".
Such ecological tax reform would, however, mean very great restructuring of the tax
system which currently appears to be very illusory. The first examples from Germany,
Great Britain, Spain and Denmark did not achieve the required effects. For example, the
burden upon the use of fuel and lubricants in Germany by levying an ecological tax had
short term high effects upon inflation, whilst the economic effects of increased
employment and the ecological effects of a decreased burden upon the environment were
only weak.
Compared to regulatory instruments, taxes and levies are more effective, which
can be documented on Figure 3-12. If we state a fixed tax for all subjects, they will choose
a reduction in emissions corresponding to their individual marginal abatement curve for
emissions. State administration does not need information on individual marginal
abatement curves for emissions if they state an approximate PIGOUVIAN tax using, for
example, the standards and price approach. The aim of reducing emissions by 50%
remains, but every company reduces emissions based on their own marginal abatement
curve for emissions and the level of PIGOUVIAN tax, to economically optimum level of
pollution.
In terms of dynamic economic efficiency the tax on producing externalities is
economically more effective than regulatory instruments. The introduction of new
technology in producing electricity, taking into account the reduction of emissions, will
also bring lower costs for tax to heat plants and therefore the tax acts as motivation for
ecological innovation.
Marginal costs
for reducing
emissions

HNREB

HNREA
t

EB EA

Fig. 3-12 The effectiveness of reducing emissions via the PIGOVIAN tax

Subsidies are provided in air protection policy, for example, for new ecological
burning technology and for polluting substances separators, i.e. these are more investment
subsidies. Depending upon the method and form, we distinguish between the following
basic types of financial support (subsidies):
a) In a strict sense, financial support based on the provision of financial sums or
exemption from all or part of payments without the recipient being indebted (financial
contributions, tax relief).
­ Financial contributions represent a direct financial payment to a recipient of
financial support.
­ Tax relief represents an indirect financial payment to a recipient of financial
support.
b) In a wider sense, financial support represents a financial payment or another benefit
when obtaining a loan, which results in the recipient being indebted (loan guarantee,
cheaper public loan, contribution towards loan instalments).
­ A loan guarantee can be defined as financial support which secures a loan for a
business project although the support recipient does not have any of the usual
guarantees, or is given such loan conditions which give them advantage on the
loan market.
­ A cheaper public loan is providing a loan to the recipient by a state institution
under more favourable conditions (lower interest rate, favourable repayment
conditions) than available in the loan market.
­ A contribution towards loan instalments is financial support to the recipient of a
market loan, in the form of financial contributions towards interest payments on a
loan or the loan itself.

Subsidising a polluter is also a way of achieving economic efficiency. However,

in terms of environmental economics, these subsidies are unacceptable since they reward a
producer of negative externalities and implicitly provide the right to harm the
environment. A problem with subsidies is determining their effective amount. The
recipients of subsidies voluntarily decide to accept such subsidies and perform the
supported measures. A subsidy must be at such a level to motivate the heat plants to carry
out the supported measures and to not cause total economic inefficiency. State authorities
require information concerning the marginal abatement cost curve for emissions, which
they do not yet have available.
The dynamic economic efficiency of subsidies is lower than for taxes and
regulatory instruments. If electricity producers adopted new ecological technology for
producing electricity, facilitating a lower burden upon forest stands by immisions, they
will receive a decreased level of subsidies and the motivation towards ecological
innovation is therefore missing.

The most effective economic tool used to reduce emissions is the use of tradable
certificates. These certificates are tradable securities that allow electricity producers to
emit a precisely defined and limited quantity of pollutants in a specific area over a specific
unit of time. The basic idea of such certificates is that the state defines the quantity of
allowed emissions and the price for certificates is defined by the forces of supply and
demand of the newly created market for such certificates. The state auctions and sells
certificates at the approximate level of the PIGOUVIAN tax or provides certificates in the
amount needed to reduce emissions at no price. Certificates are freely tradable, i.e. any
company can introduce measures to reduce emissions and can sell such certificates. The
optimum price for such certificates is created on the basis of supply and demand. When
emitting certificates, there are two possible margin statuses depending upon the price of
the tradable certificates at which the state sells them: zero price and a price in the
approximate amount of the PIGOUVIAN tax.
A very important condition for effective tradable certificates is the creation of a
competitive market with a sufficient number of participants. If we only had imperfect
markets with a very small number of participants, this would create space for their
strategic behaviour, as described by the prisoner's dilemma for public goods, or in the
description of bilateral bargaining after assigning ownerships rights to environmental
goods. An effective solution would also only be achieved under fully informed conditions.
From an economic viewpoint, markets in certificates with a greater number of
participants are preferred. In terms of ecological effectiveness, there are efforts not to
issue certificates for produced emissions but for their impact, i.e. the time and spatial
effect of immisions. If the state wished to issue certificates on immisions, they would
have to build measuring stations where the maximum amount of immisions were stated.
Based on these measurements, the state would issue certificates on immisions. However,
this method would decrease the number of market participants, which would move further
from an economically effective solution. The task of state administration is therefore to
seek a middle ground, i.e. to offset economic effectiveness and ecological efficiency.
Similar instruments in tradable certificates were developed in the United States of
America: offset policy and bubble policy.
Offset policy is based on permitting new investment into new operations only if
the volume of emissions produced from the new investment is compensated by a decrease
in old operations. The volume of decreased emissions in a certain volume (e.g. 80%) is
recorded as a credit with tradable certificates and the company which owns it can trade in
these certificates for a limited period.
Bubble policy comes from an imaginary bubble created over a certain area. Only
emitters belong to one bubble can trade between each other. The state shall prescribe the
target decrease in emissions per bubble. A company which plans to invest in a new plant
strives to reduce emissions in its operations or seeks other companies which could reduce
emissions for a certain fee. When assessing investment plants, the state does not just
evaluate one operation, but the situation within one bubble. A situation which occurred
based on this instrument is the paradox: the higher the investment, i.e. economic growth,
the higher the achieved reduction in emissions.

The certificates market allows effective reduction of emissions since these will be
reduced in those companies which have the lowest marginal abatement costs (Figure 3-
11). Compared to a solution using tax or the standards and price approach, a solution via
certificates does not require any information from electricity producers about marginal
abatement costs for emissions. Tradable certificates are also motivational in terms of
adopting ecological innovations, since a company can sell excess certificates.

3.4.4 Informational tools

Informational tools are all forms of policy regulatory intervention that, at formal level,
influence the actions and behaviour of society as well as management activities
exclusively through information.
Using information tools, state administration may attempt to persuade environment
polluters to consider possible external costs when producing market goods. Via
information tools, the state as well as foundations within the environmental sphere try to
influence household consumption preferences and the production preferences of producers
in order to create new environmental ethics:
­ Producers are given information about the impact of activities creating an
environmental burden. The aim would be, for example, to persuade electricity
producers to take ecological aims into account in their decision making.
­ Information about the ecological carrying capacity of offered products is provided
to consumers within of changing buying behaviour in favour of more ecological
products. After liberalising the electricity market, the consumer would be able to
select between electricity produced by water, wind, nuclear or heat plants
depending upon the ecological carrying capacity of individual types of energy.
­ Ecological education in the form of campaigns about protecting the environment.
For example, the state can use tools of persuasion towards saving electricity.
­ Moral suasion is an information tool which uses the threat of using state enforcement
measures if measures for protecting the environment are not carried out voluntarily.

Information measures are absolutely necessary but not sufficient. Consumer behaviour in
compliance with the requirements for environmental protection may result in perceivable
costs for the individual, but the contribution towards improving the environment is very
small. The individual therefore decides not to take such measures. It is similar in the
business sphere. If the whole sector agrees on taking certain measures to improve the
quality of the environment and uses this as an activity in working with the public, they
partially surrender the respecting of market signals, which may have a negative impact
upon company prosperity. In this case, an individual company may also decide not to
take such measures (compare the prisoner's and social dilemmas). These facts lead to
scepticism in the use of information tools. Other problems lie in the time lags in the effect
of information tools and justifying the neglect of adopting effective measures (e.g.
economic instruments) by using information tools.
3.4.5 The distribution effects of environmental policy measures

The enforcement of economically effective solutions in environmental policy is

much more difficult since they have simultaneous distribution effects (SPILLMAN,
STAEHLIN-WITT 1993). Winners and losers will meet in the policy process and try to
influence measures to their own benefit. In this chapter, we will address interest groups
and conflicts in economic policy, and we will outline the basis for microeconomic
analysis of distribution effects of environmental policy measures.
Environmental protection results in utilities and costs. According to PARETO
economic efficiency, all measures where utilities are higher than costs are beneficial to
society. Social shall agree upon the general aims of environmental protection. Problems
resulting from distribution effects are only expressed when particular measures are taken.
If we increase the ecological quality of a river, fishermen are the winners since their utility
from the improved condition of fisheries increased. However, company employees may be
the losers since the company had to take costly measures to decrease the production of
pollutants, which can result in a reduction in salaries or even redundancies. If we
introduce measures to limit traffic in an urban area, it is a utility for inhabitants since they
are not subjected to exhalates and noise. However, traffic is limited and drivers must take
a longer route which increases their transportation costs.
According to PARETO economic efficiency, it is not important who gains and who
loses, but the positive effect for the whole of society is important. Winners may
compensate the losers in order to provide distributive justice. In practice, however, it is
complicated. Imagine that a fishing association compensates company employees because
their salaries were reduced. Urban inhabitants would provide drivers with part of their
increased costs resulting from a bypass. Therefore, microeconomic theory considers the so
called theoretical compensation described by KALDOR HICKS criterion of economic
efficiency.
Economic policy measures within the environmental sphere will achieve an overall
positive social effect, but it does not mean that every individual will have increased
utilities. According to the example in Switzerland, if we let the public vote on particular
measures about adopting environmental protection measures, we can assume that in a
great number of cases these measures would not be approved. The obvious reason would
be that the losers would vote against the measures. In practical environmental policy, this
means rejection or delay of the measures for protecting the environment.
Another problem of delaying or rejecting measures for protecting the environment is
free rider behaviour. In order to improve the quality of the environment, for example, by
limiting traffic in an urban area, it would be necessary to pay a small fee to compensate
drivers who have increased costs. However, individual rationality leads to a situation
where inhabitants behave like free riders. They would be happy to gain from the improved
environment but they would like to transfer its financing to others. In practical
environmental policy, this also means rejection or delay of the measures for protecting the
environment.

The new political economy fairly compactly explains the functioning of political
processes in society based on neoclassical market theory and follows on from the basic
knowledge that actors in political processes do not just act in the public and common
interest, but also follow their own particular interests and aims.
The actions of interest groups in society are assessed in the new political
economy with hesitation since there are opportunities to enforce particular interests, to
influence political decisions, etc. In extreme cases, interest groups are perceived as a
threat to parliamentary democracy. In an ideal case, the organisation of one group means
creating a group which follows opposing interests. Therefore, this would lead to an
equalisation of interests in the long term. An example of symmetrical equalisation of
interests is very rare, where as an example we can mention employment associations and
unions in collective negotiations. However, the creation of "anti-associations" does not
even take place in small definable groups. The varying abilities of interest associations in
organising their interests often leads to the enforcement of minority but well organised
interests (OLSON, 1968).
Current economic policy in environmental protection at national level faces the
problem that it is difficult in the political process to enforce some measures which would
be effective and efficient. The reason is the asymmetric ability to organise interests. The
ability to create an interest organisation depends upon the willingness of individuals to create or join an
interest association. The more their interests are affected, the more the willingness of
individuals increases. Individuals recognise that they can enforce their interests via
associations. However, this only applies if the group is small, transparent, with precisely
the same interest and its members benefit from the interest association. Such an interest
group can push through, for example, tax relief, subsidies as well as lower fees for
polluting the environment, etc., for its members. However, if the group is large, not
transparent, with more diversified interests and only a small financial contribution is
required to run the interest association, the association does not need to be created at all
since individuals will not be willing to join. Such interest associations also have little
political power. The reason for such behaviour by individuals is their individual rationality
as a free rider, which disables collective rationality. A stable interest association will only
be created under the following conditions:
­ in the existence of precisely the same interests,
­ compulsory membership of the interest association, for example, based on
legislation (chambers),
­ the provision of services and other private goods for members of the interest
association.

Opponents of measures to protect the environment may include various

economic, sectoral and other associations which are very transparent, with a relatively
small membership, very often with compulsory membership and good organisation. The
ability to organise interests on this side is very strong since it is mainly about enforcing
economic interests (income, profit, salaries, jobs, etc.). This also results in fairly great
strength in the political process. Agricultural interest associations, for example, are
usually very powerful. In western Europe, powerful associations exist in the car industry,
cooperating with automobile associations. Whilst the automobile industry applies to the
condition of a small, transparent group with strong economic interests, automobile
associations have the premise of providing services to their members, for example, in the
form of advice, insurance, accident assistance, etc. If we transfer the described political
power to the issue of air pollution and levying petrol prices with an ecological tax, we
could predict a slowing or non-existence of such measures.
As for consumers of a health and clean environment, we may predict a very
large and diffuse group with heterogeneous interests and little possibility to provide its
members with private goods, with problems in achieving success in the political process.
Ecological interests are organised based on the principle of civil ecological associations
which are also very often supported by polluters of the environment. In this way,
polluters try to draw attention away from their activities and redirect the activities of civil
associations towards other spheres of environment protection or abroad.
Politicians are an important group which makes decisions about environmental policy
measures. As an analogy to the neoclassical market theory, we can assume, i.e. with a
similar rate of abstraction and using similar assumptions (e.g. full information,
maximising consumer utility, etc.), that politicians (political parties) maximise their needs
(prestige, power, influence, appreciation) via maximising votes. Such quasi market
competition for votes leads theoretically to the so-called social optimum in deciding about
the optimum allocation and distribution in society and the economy (HARZEM, 1988). In
environmental policy, politicians strive for "visible" measures to benefit the majority since
they can bring them re-election. On the other hand, however, they have an issue with
measures which require financing from the usually stretched state budget, since their
voters usually perceive the state budget deficit negatively.
Another very important actor in environmental policy is the state administration
working in the environmental sphere. This is a fairly new part of state administration
which is often in competition with other sectoral and cross-sectional state administration.
According to the classical ideal image of bureaucracy by MAX WEBER, state
administration serves society and takes care that political programmes are run without
problems. Similarly to politicians, state administration has its own interests which do not
necessarily lead to the social optimum. The new political economy has attempted to
disclose this inefficiency via models of bureaucratic behaviour and partially by empiric
confirmation. There is no complex theory of bureaucracy which would easily describe the
behaviour of bureaucrats as in the case of politicians. Several hypotheses were prepared
with the basic assumption that the rational behaviour of the bureaucracy lies in
maximising their own interests, e.g. prestige, influence as well as economic values such as
their own budget (DOWNS 1974, NISKANEN 1979). All theoreticians of the new political
economy have come to the conclusions that according to economic criteria, the product of
state administration is ineffective. If, for example, it was the production of collective
goods, state administration produces an insufficient or excessive amount. However, there
is no direct mechanism to act against this ineffectiveness (HARZEM, 1988). State
administration in protecting the environment is a significant actor since they prepare and
implement environmental policy measures. Each economic policy instrument in
environmental protection which facilitates strengthening of the political influence of state
administration in environmental protection is welcome. However, instruments based on
voluntary agreements (assignment of ownership rights) will find very little support in state
administration.
The distributive effect of environmental protection measures can be explained using
national economic analysis of economic efficiency. An example of the distribution of
utility and costs is described in the chapter on assigning ownership rights to the quality
and quantity of water. In this chapter, we will focus upon the distributive effects of air
protection policy using an example of introducing an ecological tax on fuel (SPILLMAN,
STAEHLIN-WITT 1993). In environmental policy there is a very often used argument that it
is socially unfair, i.e. it disadvantages the lower-income groups.
We know three basic hypotheses for verifying the distributive effects of levying an
ecological tax on fuel:
1. An increase in fuel prices as a result of an ecological tax has a regressive effect and an
ecological tax is therefore socially unfair. This hypothesis states that an ecological tax
has a similar effect to value added tax and therefore places more burden on lower
income groups.
2. An improvement in air quality will cause increased utility for the stronger income
groups against the weaker and air protection measures are therefore socially unfair.
Good air quality where people live is a so-called luxury good. Demand for luxury
goods is created by higher income groups. Demand for homes in places with better air
quality shows positive income elasticity. Positive income elasticity can be explained
simply as an increase in demand based on increased income of consumers. If income
 increases by 1% then there will be a percentage increase in demand for living areas
with better air quality.
3. Socially weaker groups live in residential areas with poorer air quality. Air protection
measures advantage the weaker income groups. Air protection policy is therefore
socially fair. This thesis is based on so-called income aggregation, which means that
residential areas are divided based on income categories.

These hypotheses appear logical but their issue is that they cannot be applied
simultaneously. Air protection policy cannot be socially fair and unfair at the same time.
Individual hypotheses either focus upon costs (1) or utility (2, 3). Analysis of distributive
effects must focus upon both. However, we must firstly define social justice, whether we
measure the distributive effects in physical or financial units, and whether we also
consider subsequent market adaptation processes.
We define the social justice of air protection measures using Rawls's maximin
principle (1972):
­ Socially fair measures are those which provide absolute higher utility to lower
income groups against higher income groups.
­ Slightly socially unfair are those measures which provide a lower absolute utility
to lower income groups against higher income groups, but not relative to their
income.
­ Socially unfair are measures which disadvantage lower income groups in absolute
values and relative to income.

Social justice can be explained in accordance with Figure 3-13. We show income
(Y) on the horizontal axis and net utility (ČÚ) as a result of environmental policy
measures on the vertical axis, which we calculate as the difference between utilities and
costs (ČÚ=Ú-N). In socially fair policy, the highest increment of net utility is recorded by
the poorest income groups (YCH) but, at the same time, the lowers increment of utility is
also recorded by the richest income groups (YB). Relative to income, net utility by the
weaker income groups is higher. Other figures show slightly socially unfair and socially
unfair measures since the highest increment of net utility is recorded by the higher income
groups. Relative to income, net utility is slightly or greater higher in relation to income in
the higher income groups.
The net utility of improved air quality can be measured physically as immisions values
or as financial values. The first hypothesis of the regressive effect of tax and the second
hypothesis of luxury goods use monetary values, whilst the third hypothesis of income
segregation uses immision values. The influence of selecting either physical or monetary
values upon the distributive effects of air protection policy measures is decisive. If, in
terms of income segregation, we considered that air quality in residential areas with
inhabitants in lower income groups increases, then:
­ if we evaluate using immision values, it is a socially fair measure,
­ .if an evaluation is carried out in monetary units, it can be a socially unfair
measure since lower income groups do not assign an improvement in air quality
any or very low utility, even in comparison with higher income groups.
 Socially fair Slightly socially Socially unfair
measure unfair measure measure

ČÚ
ČÚCH ČÚB
ČÚB
ČÚCH

ČÚB ČÚCH

Y
YCH YB YCH YB YCH YB

Fig. 3-13 The relationship between income groups and net utility from economic policy measures

However, in economic terms, it is necessary to assess monetary values. An

advantage of monetary assessment is that it does not rely on expert assessments by natural
scientists or the opinions of law-makers, but assessment is based on subjective evaluation
by those exposed to the effects of air quality.
In order to make a particular evaluation of the social justice of air protection measures,
it is also necessary to consider adaptation processes in the relevant markets. Regarding
costs for such measures, it is often forgotten that an ecological tax can be transferred to
others. Regarding utilities, it is incorrectly assumed that air quality is a public good which
cannot induce reactions in other relevant markets.
Regarding costs, we may assume that an ecological tax on fuel places a burden on
personal and haulage transport. In personal transport, recipients will probably react by
decreasing demand for transport since they cannot transfer these costs to others. This
mainly depends upon income elasticity. However, in haulage transport there is greater
potential for transferring an ecological tax to the prices of products. Indicators of the
potential transfer of an ecological tax to final consumers via consumer goods are the
number of substitutes, i.e. replacement goods, and the intensity of competition.
Fuel is an important input factor in every business and the majority of sectors. The
number of substitute goods which would not be affected by increased input prices for fuel
as a result of an ecological tax is very low. In terms of demand, consumers cannot
therefore focus upon substitute goods and therefore avoid the increased prices. The
probability of transfer to the prices of products is very high.
The low intensity of competition caused by the dominant position of one or several
companies in the market, or as a result of state regulation of prices, also increases the
potential for the transfer of an ecological tax to product prices. A dominant company is a
company which is exposed to low competition from other companies in the sector. If the
company is without great competition, they then try to influence prices and the amounts
produced in order to fulfil their company targets (e.g. profit, market share, etc.). A
company without a lot competition will try to transfer an ecological tax on fuel in full to
products produced.
 It is generally applicable that there is great potential for transferring an ecological tax
to the prices of products. In the end, an ecological tax does not affect producers, i.e.
higher income groups, but consumers. We can therefore evaluate such a measure in terms
of the rate of transfer to consumers as slightly or strongly socially unfair. Such behaviour
by companies was confirmed in empiric analysis in the USA and Switzerland.
Regarding utility, it is necessary to evaluate adaptation processes in the real estate
sales and rental market. Air quality is often considered as a typical public good. However,
if the price of a flat, or rent, depends upon air quality then based on the differences in
prices and air quality between various residential areas we can ascertain the price for air
quality. We call it the opportunity cost price or implicit price. Based on empiric research
in western Europe, it was discovered that a 1% decrease in air pollution causes a price
increase of residential properties by 0.05 to 0.14%.
The relevance of this to the distributive effects lies in the question of whether an
improvement in air quality is gained by tenants of residential properties or it is transferred
in increased rent to the owners of these residential properties. Short terms increments in
utility for tenants from lower income groups in the form improved air quality are, in the
long term, transferred to the owners of the residential properties who are from higher
income groups via rent increases. We can also therefore evaluate such air protection as
socially unfair. However, if we assumed that the inhabitants are mainly also the owners of
the house or flat, social unfairness would not be confirmed.
From an economic viewpoint, however, it is best to evaluate the distributive effects
based on utilities and costs, i.e. according to net utility. Let us recall that net utility is
calculated as the difference between utilities and costs. The positive dependence of net
utility from air protection measures upon income or income groups was confirmed in
existing European and American empiric studies. This means that environmental policy is
often socially unfair. In Slovakia, such analyses still need to be carried out.

Summary

An externality is economic activity of an economic subject that has a positive or negative

effects on other economic subjects without any market relationship forming between the
given subjects, which means that the costs or utilities are transferred to other subjects
without charge. An example of a negative externality is environmental pollution by
industrial producers, incurring costs which are, for example, transferred to forestry
companies as well as other subjects. Positive externalities include knowledge and
inventions that bring humankind a much greater benefit than to the inventor alone.
Externalities are market failure which must be resolved by the public sector.
Public goods are characterised by two properties that block the market price mechanism:
excludability and rivalry. When breathing clean air, nobody can restrict you and you do
not compete with anybody. A mechanism of market failure of public goods can be
described using gaming theory. Non-cooperative gaming theory also includes the
prisoner's dilemma based on which we can document the basic issues of environmental
goods. Public goods are provided by the public sector.
When looking at the analysis of environmental problems, one must be aware that the
majority of environmental goods are in common ownership. The origins of the problem of
the absence of a market with environmental goods can be seen as a lack of defined
ownership rights. It is not clear with public environmental goods who has ownership
rights to drinking water or who has ownership rights over air. The public sector can
resolve this problem using more accurate assignment of ownership rights.
 Economic policy principles in environmental protection form the principles for using
environmental policy instruments. These principles are applied in the legislation of
European countries and the European Union. We recognise the following basic principles
of environmental policy: the principle of prevention, the "polluter pays" principle, the
"user pays" principle, the "society pays" principle and the cooperation principle.
Instruments for internalising negative externalities are as follows: assignment of
ownership rights, regulatory instruments, economic instruments and information tools.
Enforcement of economic policy measures is influenced by groups participating in the
political process and are also very often socially unfair.

Questions:

1. Define negative externalities using the example of the wood processing industry!
2. Define positive externalities using the forestry example!
3. What influence would internalisation of negative externalities have upon the wood
products market?
4. Explain decision making by forestry companies in the production of wood and
biodiversity!
5. Simulate market in the recreation function of forests!
6. Define public goods and illustrate examples from forestry!
7. Explain social dilemmas in the production of public goods using the utility functions
of a forest as an example!
8. In an example of fishermen and a wood processing company, explain the missing clear
definition of ownership rights to clean water in a river!
9. Using the Coase theorem, explain the assignment of ownership rights of forestry and
water management companies to the water management and water protection function
of a forest!
10. Using an example of air protection, explain the function of economic policy regulatory
instruments!
11. How do fees for polluting and financial subsidies in air protection function?
12. Explain the interests of interest groups in air protection!
13. Explain the social effects of economic policy measures in environmental protection!

References

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Forstökonomie, Göttingen, s. 42
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Volkswirtschafliche Grundlagen. Verlah Franz Vahlen, Munchen.
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H. 1993: Mit Ökonomie zur Ökologie, Analyse und Lösungen des Umweltproblems aus
ökonomischer Sicht, 2. vydanie, Helbing & Lichtenhahn, Basel, Franktfurt am Main, s.
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Analyse und Lösungen des Umweltproblems aus ökonomischer Sicht, 2. vydanie, Helbing
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Deutscher Institutsverlag, Köln, s. 213
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Ergänzungsbeitrag zur COST Action E45, Professur für Umweltpolitik und
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Staehlin-Witt, E., Blochiger, H. 1993: Mit Ökonomie zur Ökologie, Analyse und
Lösungen des Umweltproblems aus ökonomischer Sicht, 2. vydanie, Helbing &
Lichtenhahn, Basel, Franktfurt am Main, s. 111-136
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prostredia. Technická univerzita vo Zvolene, 162 s.
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a nástroje lesníckej politiky, učebné texty, TU Zvolen, 87 s.
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http://ec.europa.eu/environment/nature/biodiversity/economics/pdf/teeb_report.pdf,
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Unternehmen, Märkte, Kooperationen, Tübingen Mohr, s. 382
4 Distribution Policy (Jaroslav Šálka, Zuzana Dobšinská)

Based on how it functions, the market mechanism divides income in the national
economy. However, the result of distributing income can be evaluated by society as
incorrect or unfair and, therefore, distribution policy faces these basic problems (FREY
1992, STREIT 1991, ŠÁLKA, TRENČIANSKY 2003):
1. The problem of redistribution To what extent should income differences be
corrected?
2. The problem of distributing opportunity To what extent should differences in
opportunities and chance exist (e.g. education)?
3. The time distribution problem To what extent should the problem of those who
do not yet or no longer contribute in the production process be resolved?
4. The problem of intergenerational distribution To what extent should the securing
of future generations by our generation be made provision for?
5. The problem of interregional and international distribution of income To what
extent should stronger regions and states remember those which are weaker?
6. The problem of nonmaterial distribution To what extent should personal
opportunities to obtain income be influenced (e.g. careers)?
An explanation of the functional distribution of income follows on from the circular flow
theory, the marginal productivity theory and the theory of power:
Circular flow theory is based on the theory that the division of income into salaries and
wages on one side and income and interest on the other side depends upon the use of the
social product, i.e. upon aggregate demand for consumer and investment goods.
Companies may influence the distribution of income via demand for investment goods -
the higher the investment quota, the higher the share of profit and the higher the
entrepreneur's share of income. For employees, the more they save or the less they
consumer, the higher their share of income. Salary increases without increases in savings
should lead to a decrease in real economic growth. In the 1960s, this Post-Keynesian
theory of distribution induced a wave of property plans being created, leading to enforced
savings. Part of company profit was transferred to employees but this was held in financial
funds. In this way, employees obtained this property but not the right of disposal.
Marginal productivity theory of the distribution of income states that total production of
a national economy is determined by the production factors used (work, capital, land) and
income from these factors depends upon their marginal product. This means that the level
of salaries, capital gains and income in the national economy depends upon the level of
marginal profits from these factors. For marginal policy, this means that the state cannot
influence the distribution of income. This theory is used as an argument against excessive
intervention in distribution by the state.
Theory of power (Marx): This theory is based on the assumption that together with
capital, the capitalist class also has, to a certain extent, a monopoly at its disposal. This
means that they are in a situation where they can increase their income by increasing the
profit margin in prices. The higher their level of monopolisation, the higher the profit
margin and therefore the share of profits is higher and the share of salaries against income
is lower. From this theory, without considering extreme situations, it emerges that the
state should support the weaker class of employees (privileges for unions).
Depending upon whether distribution policy focuses upon influencing the distribution of
income between persons or areas, we talk about correction of inter-personal or areal
distribution
 4.1 Correction of interpersonal distribution

Correction of interpersonal distribution of income is carried out by the state based on

distribution policy measures by influencing the initial distribution of income or via
secondary redistribution of income (Fig. 4-1). Distribution policy focusing upon
influencing the initial distribution of income therefore focuses upon the causes of its
distribution and is called active distribution policy. Distribution policy focusing upon
secondary redistribution of income acts to neutralise the results of initial distribution and
is called proactive distribution policy (STREIT, 1991).
The redistribution of achieved income is usually carried out based on a combination of
two fiscal tools: taxes and transfers. Taxing income, changes in assets or expenses is
carried out in such a way that an increase in the financial value of a taxable item also
increases the percentage tax rate (progressive taxation). This means that people with a
higher income, higher increment of assets or higher expenses will pay higher taxes.
Transfers are provided to people with lower incomes via direct payments, tax relief, price
subsidies or by providing material goods.
Correction of opportunities to secure an income is carried out based on corrections to
competition, changes in the distribution of assets and human capital or changes in the
conditions for freedom of contract.
Policy for ensuring the quality of competition is, at the same time, distribution policy
which influences the opportunity to secure income. This policy strives to prevent abuse of
a market and the creation of monopoly rent and, at the same time, to maintain fair income
opportunities in a competitive environment (see Chapter 2).
The majority of income also comes from ownership of assets whose distribution was
usually based on historic developments and respecting ownership is one of the most
important principles in a market economy. Distribution policy strives to tax assets or asset
increments, but such taxation decreases existing income and usually causes a decrease in
the rate of savings in taxed subjects. On the other hand, via financial support or tax relief,
the state may try to motivate economic subjects to increase the creation of assets.
Opportunities to secure income can also be influenced by providing possibilities for
education and access to education. The state may understand education as a collective
good and finance educational institutions. In this case, equality of opportunity in access to
education applies in principle. For social weaker groups, the state may create grant
programmes in the form of long term loans with favourable interest rates or taxes, which
perceive education as an investment into human capital.

 Correction of positions in competition

Cause  Discriminatory subsidisation of the creation
orientated of assets
 Taxation
Active

o Inheritance
o Gift
o Assets
Correction of  Influencing the creation of human capital
Distribution opportunity  Correction of freedom of contract
policy
options
Correction of  Discriminatory taxation
results o of regular income
o changes in the status of assets
Reactive

 Transfers
o monetary (direct financial)
o implicit (tax relief)
Neutralising o indirect (price subsidies)
o real (goods)
Fig. 4-1 Correction of interpersonal distribution (STREIT, 1991)

Correction of opportunities to secure income in a market economy is also carried out via
changes in freedom of contract. The labour market and housing market area mainly
influenced in this way. State mainly uses regulatory measures in determining working
conditions, working hours, termination options and determining conditions for bargaining
in order to restrict market power on the demand for work side. Similarly, the state
protects tenants and therefore provides equal opportunities to secure income.

4.2 Correction of areal distribution - regional policy

Under regional policy, we mean influencing the economic processes in certain areas of the
state via the public sector, in order to correct area allocation created by the market. Areas
include regions defined based on their functional or homogeneous dependence. The term
"regional policy" is identical to the term "regional economic policy" and differs from
policy of the spatial arrangement in land use planning, which coordinates tasks
horizontally (coordination of sectoral policy) and vertically (coordination of the spatial
arrangement of cities, regions, countries).
The of regional policy is to secure regional development. The term "development" must
be perceived as a multi-level conglomerate off various economic, political, social and
other aspects which, in terms of values, are grouped depending upon the ideas of the given
society. Sometimes the term "development" is interchanged with the term "economic
growth". Economic growth is an important element of development, or development
cannot exist without economic growth. Other elements depend upon the values of the
individual. NOHLEN AND NUSCHELER (1992) designed a 'magic pentagon' of development
consisting of:
1. growth,
2. labour,
3. equality and justice,
4. participation,
5. independence and autonomy.
The use of these development-defining elements in measuring and comparing regions is
complicated and dependent upon a subjective approach, and determining the weight of
individual elements and criteria. Elements are mutually related in a complementary and
sometimes conflicting relationship. The term 'sustainable development' has recently come
to the fore, meaning development "which corresponds with the needs of today's generation
without jeopardising the opportunities of future generations". The regional development
process is influenced by the inter-regional exchange of goods, services, labour power,
capital and information. The development process is also influenced by locational
conditions and existing spatial structures.
If we assume that an important component of development is economic growth, regional
development will be conditioned by regional production. Based on the production
function, we may state that the volume of production in the region can be increased by the
deployment of a greater amount of labour, capital and technical progress, and by more
effective organisational and management structures. The output of the production sector
forms the region's supply which is available to internal andexternal regional demand.
Regional development is theoretically addressed in concepts which arise from the
neoclassical school, demand orientated concepts, and polarisation and innovation theory.
We will address these theories in more detail within regional policy strategies.
In the introductory sections on regional policy, we will focus upon defining regions as
units and clarifying the creation of differences in area sectors. The following chapters
stress instruments and strategies of regional policy. Subject to interest are issues related to
the creation of differences in area development and options to influence this development
using regional policy instruments.

4.2.1 Region, defining regions

If we compare regions, we discover that they differ in many ways. Some regions have a
characteristic major centre, others are without a centre or a centre is formed by several
connecting towns. Regions also differ significantly in size. The distinctness and defining
borders of regions arise from the following principles:
1. the homogeneity principle
2. the functionality principle
3. the planning principle
Based on the homogeneity principle, area units are joined into homogeneous regions
which are very similar depending upon certain sorting indexes. As an example of
indexes we can mention: population density, GDP per capita, unemployment rate,
average income, high proportion of employment in certain economic sectors, etc.
Based on the functionality principle, area units are joined into functional regions which
are closely interlinked depending upon certain sorting indexes. There is a relatively high
degree of dependence between individual area sectors. There is usually a particular centre
and an area of economic influence related to it. An example of a functional region is a
town agglomeration to which spatial units are linked, from which a certain percentage of
the population travel daily to work, shop, etc.
Regional borders defined in accordance with planning principles are generally linked to
administrative borders. Regions defined based on planning principles are designed for
implementing regional policy instruments and measures, for assessing economic and
social characteristics and ascertain the development trends of identifiers.
Criteria for delineating regions should be selected depending upon problems which
regional policy wishes to address. If we, for example, wanted to state the economic effect
of tourism, we would define regions based on the homogeneity principle with a
proportion of tourism. If we want to evaluate the competitive ability of Bratislava in
comparison with other European cities, we will define this region based on the
functionality principle. Regionalisation should serve for determining and clarifying
regional problems, whilst defining the region depending upon one indicator
(unemployment and the labour market) may be unsuitable for clarifying other problems
(the economic effect of tourism).
When investigating and comparing regions, we observe significant differences between
individual identifiers and in others we observe common signs. If we compare the per
capita GDP and the unemployment rate in regions around Slovakia, we would find
marked differences. On the other hand, industrial and agricultural regions and
agglomerations in various countries have many common signs. The diversity and
similarity between signs is based on location decisions by individual actors in the area
structure (Fig. 4-2). The most important actors in an area structure are:
- companies,
- households,
 - the state.
In location decisions, companies determine where they will implement their production,
trade and administrative activities, and they can centralise their activities in one location
or distribute them in several locations. Companies also influence the area structure via
other decisions. A company's wages policy influences regional income and subsequently
determines the labour power range in the area. The level of regional income influences
regional demand for products, which influences the area structure and number of sellers.

Population Companies
­ labour ­ production
­ income ­ technology
­ supply ­ investments
­ education Exchange of labour and salaries ­ establishment of/closing a
­ housing company
Supply of goods and services ­ input - output

Exchange of labour and salaries,

taxes Flow of goods, finances
and information

The state
­ infrastructure (transport, communications,
education)
­ taxes
­ support of the economy

Fig. 4-2 Actors in spatial structures (MAIER, TÖDTLING, 1997)

For companies, households represent a source of labour power and, at the same time, they
are the final consumers of goods and services. The location of households is influenced by
the network of spatial relationships. This is about going to work, shopping, visiting
friends, cultural and entertainment events, etc.
The state influences the spatial structure when deciding where to locate public facilities
(schooling, healthcare, state administration) as well as decision in the area of building
infrastructures. The creation of a suitable infrastructure influences the quality of given
region, which subsequently affects the location decisions of companies and households.
4.2.2 Dispersion and concentration, agglomeration effects

The method of locating companies is important for regional development. In terms of

creating spatial structures, we distinguish between the dispersion and concentration of
companies. If companies strive to serve the widest possible area of the market alone,
without external influences, we talk about dispersion. In their sector, companies try to
keep a mutual distance and achieve a spatial monopoly position. An example of dispersion
is, for example, the supply of everyday goods, where sellers try to monitor the distribution
of the population whilst locating their business as far as possible from their competitors.
Another important aspect is competition related to resources. Raw material dependent
sectors such as the wood industry and mining selected a location depending upon these
resources. Other companies select locations based on the price or excess of production
factors. An example is agriculture determined by the price of land, or the labour intensive
electronics or textiles industries located in regions with an excess of cheap labour.
The opposite of dispersion is concentration of certain activities. A high level of
concentration is found, for example, in banking, insurance, public administration, research
institutes, etc. The reasons for concentration partially lie in the characteristics of these
activities and are partially influenced by other spatial activities. The concentration of the
automobile industry resulted in the creation of supplying companies, services -
advertising, advice, research, etc.
Dispersion and concentration occurs in the mutual relationships between decisions by
companies, households and states. The spatial distribution of certain activities influences
the location of newly created activities. These influences are called the agglomeration
effects. Their classification is shown on Fig. 4-3.

Internal effects

Agglomeration effects
Location effects

External effects

Urbanisation effects
Fig. 4-3 Agglomeration effects (MAIER, TÖDTLING, 1997)

Internal effects represent newly created activities within one company. It is mainly
extending production in case of unused capacities, or better utilisation of production
factors, the deployment of other technology, etc. On the other hand, copious
administration, increased competition and growth in the prices of production factors can
lead to a suppression of company activities. These internal influences also affect the
location decisions of other actors.
The external effects within the economy are addressed in more detail in "Lesnícka
politika I." ("Forestry Policy I"). Let us remind ourselves that an externality is an
economic activity of a market participant that has a positive or negative effect on another
market participant without any market relationship forming. In regionalistics, we divide
these effects in terms of location and urbanisation.
The external effects of location occur between various companies and institutions in a
particular sector. The location of, for example, the iron industry externally induces a
concentration of supplying activities, demand for specialist labour, special research and
development facilities, universities and schools. On the other hand, the accumulation of
sectoral activities may lead to locality disadvantages and negative externalities which will,
for example, be expressed in a growth in prices of land, labour power, harm to the
environment, etc.
Unlike location effects, urbanisation effects are shown between companies and institutions
from various sectors. Positive urbanisation effects may include: access to services,
research facilities, schools, a quality infrastructure, development in the market of qualified
labour, access to cultural and social facilities and free time facilities, extension of the sales
market, etc. The counterweight to the advantages of urbanisation are urbanisation effects
related to traffic jams, air pollution, high prices for land and estates.
External effects contribute towards the fact that some activities concentrate in an area and
others are dispersed, which forms differentiation of the area by creating towns,
agricultural or industrial areas. Positive external effects attract economic activities to the
region, which is used by regional economic policy, supporting the region as an economic
location by strengthening these positive externalities.

4.2.3 Reasons for regional policy interventions

Regional policy measures are reasoned by social, economic and ecological arguments.
The social reasons for regional policy interventions are based on the fact that the market
mechanism cannot ensure equal development with equal living conditions and income
opportunities in all regions. The creation of regional policy is related to fulfilling these
social aims. A society in which social equality plays an important role tries to equalise the
differences between individual regions via regional policy. We may observe the
"equalisation" aim in many European countries and it is of great significance in EU
regional policy in order to ensure social and economic cohesion. The selection of regions
and direction of public means does not apply the criterion of effectiveness as in economic
reasoning, but it applies the criterion of justice. Target areas are defined depending upon
indicators such as unemployment, minimum income, share of GDP, etc. Based on these
identifiers and via its instruments, regional policy tries to secure a certain minimum level
in areas such as job opportunities, housing, education, transport, etc. Such orientated
policy does not consider market mechanisms and can be labelled strongly interventional.
Due to increasing differences between regions, in some cases the aim is to stabilise and
halt further distancing between regions. The complexity of regions as social-economic
systems sometimes results in set targets in regional policy concepts only being achieved
partially or almost not at all.
Economic reasoning is based on the neoclassical concept of regional policy. In
accordance with this concept, regional interventions are unnecessary since the market
mechanism will provide the optimum spatial allocation of resources. However, the
existence of external effects, imperfect competition and the poor mobility of production
factors prevents the optimum allocation via the market, which is mainly expressed in the
following areas:
- Demand for production factors in some regions exceeds their supply, causing inflation
and differentiation in the price of factors in the area.
- The poor mobility of capital and labour present in certain areas results in their poor
utilisation, which is expressed by increased unemployment and insufficient utilisation
of land.
- The private sector does not create an adequate infrastructure with the nature of public
goods. These are transport, waste disposal, schooling, research, etc.
- Localised concentration often results in agglomerations in which the negative external
effects exceed the positive external agglomeration effects.
The task of the optimum regional policy is to direct public investments in regions in order
to bring the highest possible expected revenue. The expected revenue is also influenced by
various national economic aspects. If a country is in an economic growth phase, a typical
overload of agglomeration takes place whilst in peripheral areas there are often unused
reserves of production factors. In this economic phase, higher expected revenue will be
brought by investment in the peripheral regions which will cause mobilisation of
unutilised factors in the periphery and a reduction in inflation pressure in the
agglomeration. In times of economic depression, a greater effect will be brought by
investing in an agglomeration, caused by a concentration of unutilised factors and overall
prevailing advantages in this type of region (infrastructure, access to factors, a suitable
environment for technically demanding investments, etc.).
In recent years, the ecological aims of economic and regional policy have become more
significant as a result of overloading towns and regions via increased traffic, waste and
environmental burden. Preservation of the natural environment and providing suitable
living conditions for society is one of the main aims of area planning policy. Similarly to
economic and social reasoning, these targets cannot be met via the market mechanism.
The price of goods causes excludability of its consumption by other subjects, which is
expressed in a growth of prices of raw materials, land and estates in attractive locations.
On the other hand, there are many resources (water, air) which have the nature of public
goods, are freely available or cheap, resulting in wastage or pollution.
In an area context, regional policy should direct economic development from loaded
regions to less loaded regions and, at the same time, take care that this intervention does
not cause excessive urbanisation of natural spaces. Regional policy strategies in directing
public resources should correspond with the ideas for a suitable natural and living
environment. This is, for example, addressing traffic, the consumption of natural
resources, burdening the environment due to investment projects, etc. Regional policy
programmes orientated towards sustainable development should consider the stated
viewpoints and integrate such environment aspects.

4.2.4 Regional policy instruments

Depending upon the type of power of influence, we may classify regional policy
instruments into (Fig. 4-4):
­ informational measures and consultancy,
­ economic financial instruments,
­ infrastructure measures,
­ regulatory and administrative measures.
In comparison with other regional policy instruments, information instruments and
consultancy have the least interventional impact. Recipients of state measures are left
with freedom of action and decision making. On the other hand, regional policy tries to
influence the attitudes and actions of individual recipients via information, clarification
and consultation. Information instruments do not disturb the market mechanism, but try to
improve it which, in a neoclassical viewpoint, can be considered as effective.
Based on information about the advantages of individual regions, the amount of
production factors and their prices, the quality of locations, etc., companies may decide on
a location for their activities. In case of technological consultancy, companies are
introduced to new technology and options for innovation. Newly established companies
may use the information from business consultancy and companies wishing to obtain new
contacts could use the information from consultancy on cooperation. Information
addressed to the population should assist in specialist, job and regional mobility. This is
advice in the area of education, requalification, new job opportunities, housing, etc.
Targeted recipients of information instruments can also be villages or other regional
institutions which may address this information to companies and the population, or may
assist them in decision making in regional policy.
Economic financial instruments are applied as financial motivation in the form of
subsidies, tax relief, discounted loans, bonuses, etc.
Financial motivation influences location decisions of companies outside the region in
order to support the mobility of companies to the given region. They appear in the form
of direct subsidies for investment, tax relief, the provision of favourable loans and land.
Apart from financial motivation designed for the mobility of companies outside the
region, also important is financial motivation for companies already existing in the region
for the purposes of expanding production, extending investments and creating new jobs.
In recent years, the use of financial motivation for locating and expanding a company has
been criticised.
The cause is great inter-regional competition and a limited number of relocated companies
as well as the effects of "unnecessary support", which occurs if the location or expansion
of a company was carried out even without financial motivation. Financial motivation
may also lead to adverse structural effects when some unstable companies are supported
instead of those able to compete and mature companies. Financial motivation focusing
upon innovation and cooperation by companies, supporting cooperation and innovation
projects in implementing new technology, innovation and inter-company cooperation has
grown in significance. Economic financial instruments can also be oriented towards the
public in the form of subsidies for education, requalification and mobility in job seeking.
Recipients of financial motivation may also be institutions and towns for development
projects in which a larger number of actors is involved.
Infrastructure measures affect the attractiveness of a location in locating companies
and, at the same time, they influence the manoeuvring space for companies and
households. Manoeuvring space gives companies and households mobility in travelling
for work, shopping, supplies and waste disposal, and for companies, it is important for the
mobility of factors and goods in terms of supply and demand. Since this tool affects the
costliness of locations which then become more attractive, it has a similar effect to
economic financial instruments. The difference these instruments is that infrastructure
measures act comprehensively without targeting certain groups and have a larger number
of external effects. If we perform infrastructure measures focusing upon company location
(building a motorway, energy network), households also profit from this. A negative
externality could be, for example in building a motorway, a 'milking effect' where
inhabitants find work in other regions due to an improved transport network.
Infrastructure measures also act more effectively and reliability in the long term and bring
more sustainable utility and attractiveness to the region.
In recent years, the dominant infrastructure instruments include measures for innovation
and the creation of organisational networks such as education, research and the transfer of
technology. The classic support of mobility and locating companies by building supply
and haulage networks (energy, water, waste), and transport and telecommunications
infrastructures (telephones, computer networks) prevailed in recent times. Infrastructure
measures focusing upon the population include the building of schools, educational
facilities, flats, and social and cultural facilities. Infrastructural aid for towns includes
measures focuses comprehensively upon companies and households.
 Recipient,
direction of impact Informational tool and
consultancy
COMPANIES
mobility information about locations,
regional marketing
investments - investment motivation
new jobs - job bonuses
technology, innovation technological and innovation
consultancy
formation of companies business consulting
cooperation cooperation advice
POPULATION
education information about
educational opportunities
mobility information about job
opportunities
supply information about available
housing and the quality of
supplies
TOWNS - INSTITUTIONS
consultancy in towns and
regional facilities
Fig. 4-4 Regional policy instruments (MAIER, TÖDTLING, 1997)
TYPE OF REGIONAL POLICY INSTRUMENT
Economic financial instruments Infrastructure measures
locational support
support of new technology and
research and development
innovations
risk capita, "start-up aid"
cooperation motivation
educational grants
mobility grants
subsidies for nearby suppliers
contributions towards community
and regional development projects
Regulatory and
administrative measures
building an economic location restrictions and
infrastructure, supply and mandates
waste disposal, transport, regulation of investments
telecommunications, -
education, research regulation of new
facilities, science parks, technology
technology and business
centres regulating company
formation
building a public-oriented -
infrastructure flats,
education, social and -
cultural facilities
-
infrastructural aid for coordination of towns and
towns regional facilities
 Within regional policy, regulatory and administrative measures are the hardest
interventions which forbid or permit certain activities. In this way, we may, for example,
restrict locating companies and inhabitants in ecologically sensitive regions, slow down
investment in excessively burdened areas, etc. These measures are mainly play a
decelerating role in order to halt unwanted development. On the other hand, in
economically weak regions, they are unable to stimulate, revive and increase their level of
development. A high level of regulatory measures may hinder locating companies and this
results in situations (companies in heavy and chemical industry), where a low level of
regulation is more attractive than, for example, financial motivation and infrastructural
measures. This ecological dumping, allowing companies to produce negative externalities
and therefore burden the environment, becomes dangerous for such regions in the long
term.

4.2.5 Regional policy strategies

Regional policy strategy is a combination of regional policy instruments for achieving

certain targets. Effective strategies are based on a theoretical image of regional
development and the consistency of regional policy instruments used. Depending upon
the focus, we divide regional policy strategies into two basic groups (Fig. 4-5):
- exogenous strategies focusing upon mobility and leaning on external development
impulses,
- endogenous strategies based on the mobilisation and development of internal
factors.

Exogenous strategies leaning on external development impulses in the form of the inter-
regional mobility of production factors and business relationships can be divided into the
following groups depending upon the approach:
- the neoclassical approach,
- Keynesian demand management,
- the growth pole concept.

Neoclassical approach

Exogenous
strategies Keynesian demand
management

Regional policy
strategies The growth pole concept

Intra-regional
development
Endogenous
strategies

Innovation strategy
Fig. 4-5 Regional policy strategies
The low success of exogenous strategies at the beginning of the 1980s, mainly in the locating
and mobility of companies, influenced the further orientation of regional policy focusing upon
endogenous strategies. Criticism of exogenous strategies focused upon the short duration of
localised companies, unfavourable structural effects, needless expenses, the creation of low-
qualification jobs and low intra-regional interconnections.
Endogenous strategies are based on the best possible utilisation of existing factors and
resources in the region. In terms of approach, they can be divided into two basic groups:
- intra-regional development strategy,
- innovation strategy.
The successful use of regional policy instruments and the implementation of regional
measures are conditioned by the selection of suitable regional strategy depending upon the
specific conditions in the area. The optimum strategy should comply with exogenous and
endogenous concepts, and the success of regional development is many times the result of
their selective combination.

4.2.5.1 EXOGENOUS REGIONAL POLICY STRATEGIES

The neoclassical approach is based on the idea of the optimum allocation of resources,
redistribution of income and a functioning market mechanism. If there are differences, the
mobility of capital and labour guarantees inter-regional alignment. Factors flow to where
there is a relative deficiency. Labour power from peripheral areas seek higher valuation in
centres and capital seeks application in peripheries with an excess of cheaper labour power.
The task of regional policy is to remove market deficiencies with the least market deformity.
With the neoclassical principle, we can summarise measures in the following points:
- support the mobility of labour and capital in order to improve migration towards
higher appreciation,
- building an infrastructure between weakly and strongly developed regions in order to
reduce barriers to mobility,
- support the transfer of information about regional differences, allowing increased
rationality in location decisions,
- strengthening perfect competition, removing monopolies and oligopolies in order to
strengthen the functioning of the market mechanism,
- deregulation measures in order to decrease deforming state interventions.
Application of the neoclassical approach is problematic in practice. The problem is the
neglect of agglomeration effects, obstacles to labour and capital mobility, imperfect
competition and state deregulation measures.
Keynesian management is based on the theory where the market mechanism is unable to
provide full employment and state intervention is therefore necessary. Here, the state should
intervene in terms of demand in the form of stimulating private and public consumption, or in
the form of supporting companies in investment.
Within this approach, regional policy focuses upon supporting the location of companies
which focus upon the regional export of their products. This export brings sufficient income
to the region, which influences the demand for goods in the region. Induced growth in
demand increases production which again leads to additional income in the region, creating an
overall multiplying effect. An important tool in this concept is infrastructural measures
increasing inner-regional mobility and investment motivation.
The principle of demand management meets shortfalls related to the unexplained creation of
export demand. It is assumed that it is a given. Another failing is the bordering of regions
where the export of products may actually represent internal demand when the borders of the
particular region are set differently.
The growth pole concept is based on the theory where due to the advantages of
agglomeration, the market mechanism is unable to optimally allocate resources and provide
balanced regional development. Strong state intervention policy and the increased role of the
state is an assumption for applying strategy in accordance with this concept.
The spatial polarisation of activities in the region is caused by uneven economic growth.
Within regions, there is an economic sector, for example, which grows strongly and therefore
affects other sectors, and generally drives the development of the whole economy.
Polarisation theory comes from two basic models. These are the "growth poles and centres"
model and the "centre-periphery" model. Growth poles and centres occur in regions based on
diffusion of innovation. The combination of social, political and economic activities within a
region creates "centre-periphery" models with their own specifics.
Strategy in accordance with this concept is based on supporting activities in growth poles and
centres, which will create further agglomeration advantages and which should have the nature
of the engine of the region's economy. The support focuses upon the concentrated building of
infrastructures, companies within a growing industry and technologically progressive
companies. Apart from supporting growth and agglomeration poles, the state should also
support the diffusion effect via building infrastructures from centres to peripheries, and via
supporting the location of companies and the transfer of technology in the peripheries.
Polarisation strategies played an important role in the mid-20th Century when, for example, in
France and England, other cities within the countries started to be supported as a
counterweight to the capitals (Lyon, Marseille, Manchester, Liverpool). The aim was to slow
the dynamic growth of the capital cities and to strengthen other regions. Spanish regional
policy focused upon supporting the industrialisation of peripheral regions (Seville, Granada,
Vigo) and German and Austrian policy focused upon developing medium and small towns in
rural areas which then adopted the function of central towns. Newer polarisation concepts
focus upon supporting the building of a research infrastructure, the transfer of science and
technology to concentrations of high-tech industry (Silicon Valley). In Europe and the USA,
these initiatives lead to the building of technology centres and research and development
parks.
Within the concept of polarisation, when supporting the peripheries and poorly developed
regions, in countries with high population density and in smaller countries (Denmark, The
Netherlands, Germany), it is practical to focus upon good links between these regions and
agglomerations with the aim of widening the labour market. This aim can be achieved by
infrastructure measures such as building roads, motorways and high speed railways, and
locating companies in the area of an agglomeration. These measures reduce the size of the
peripheries and transform them into suburban areas. At the same time, we must account for
the increased costs for daily travel and the growth in traffic.
Strategies based on the concept of polarisation are able to stimulate economic development.
However, poorly developed regions and the peripheries have only achieved limited results,
accompanied by adverse 'milking effects' and extra-regional technology transfer.

4.2.5.2 ENDOGENOUS REGIONAL POLICY STRATEGIES

Intra-regional development addresses regional problems via using the region's potential
whilst respecting its specifics. There are efforts to strengthen regional management from the
bottom up and therefore increase its economic, political and cultural independence.
These strategies were formed at the beginning of the 1980s as a countermeasure to exogenous
location strategies, in order to correct their errors. They were mainly used in peripheral
regions where exogenous strategies were achieving limited results. The basic principles of
intra-regional development and their comparison with the principles of exogenous strategies
is shown on Fig. 4-6.
Intra-regional development does not just understand "development" as economic growth but
also as the qualitative improvement in living conditions and the economic structure. This is
improving the position of problem groups by adapting to the social, economic, natural and
cultural characteristics of the region. Important elements include the innovative ability of
companies, adaptation to changed conditions and, at the same time, the wide participation of
local and regional interest groups.

Intra-regional development Exogenous regional strategies

modernisation of existing companies location support (export activities)
development of existing regional resources obtaining extra-regional resources (capital,
(business, science, qualifications) technology)
inter-sectoral strategy, the inclusion of energy and concentration upon industry
ecology projects
intra-regional transport facilities inter-regional transport facilities
competitive ability via the quality of production competitive ability via capital-demanding modern
and innovations methods, lower working costs
wide participation of regional interest groups concentration upon business
Fig. 4-6 The principles of intra-regional development and exogenous strategies

Regional policy is based on the use of potential and the development of regional natural
resources, the infrastructure, entrepreneurial abilities, land, capital, labour and market
potential. The use of resources should consider ecological criteria and regional potential
should be development across the ministries in connection with the aim to use complementary
and synergy effects. In intra-regional development, the significance of the position of small
and medium companies is growing. These companies should strengthen the innovative and
competitive abilities and create cooperation and regional networks.
In comparison with exogenous strategies, endogenous strategies better consider the needs and
conditions in the given region. Development projects from the bottom up more easily
approach the economic and social target groups. On the other hand, this approach also has
problems and weaknesses. These are development of peripheral, economically weak regions
where low regional potential cannot induce economic development.
The concept of innovation also focuses upon internal regional potential. In comparison with
intra-regional development, it concentrates more upon the innovative and technological
abilities of companies.
Orientation upon innovation arises from international division of labour and the global
mobility of capital. Standardised production is located in developing countries which reduces
the potential of mobile companies in the peripheral regions of industrial countries. On the
other hand, modern technology (computer technology, mobile networks, new materials)
shortens the life cycles of products and quickens technological changes, which increases the
importance of innovation in the competitive strategy of companies.
Innovation policy is based on the assumption that the innovation of companies in a market
economy are linked to great uncertainties. From a regional viewpoint, there is a marked
innovation deficit in lagging regions for these reasons (peripheral areas, old industrial areas).
This innovation barriers can be partially influenced by public policy. Depending upon the
application of technological or regional aims, we distinguish between:
- supporting new development technology
- improving the innovative ability of companies in lagging regions
In the first case, this is by a country improving or being in the lead technological position in a
certain area. The task of regional policy is to strengthen applied research and the
concentration of activities related to the given development of technology by using targeted
investment. These measures usually support developed agglomerations with an already-built
infrastructure (research and development facilities, universities, etc.).
In the second form, innovation is defined from a wider viewpoint. This product innovation as
well as adopting new methods and organisational forms. The target is fast technology transfer
and not technological leadership or the radical innovation of products. When using this
strategy, it is firstly necessary to identify regional economic barriers which mainly lie in poor
market knowledge, the use of information channels and sources, dated organisational
structures and the qualification of labour power. Measures are taken in the form of financial
support of research and development activities, innovation projects, business consultancy and
informational and technological transfer. Innovation ability may also be supported by
infrastructural measures improving the internal and external accessibility of the region.
Innovation support of companies in lagging regions may orientate towards small and medium
companies which face greater barriers to innovation in these regions. Due to low innovation
and economic potential in these regions, apart from supporting innovation, their development
may also be improved by selective support for locating companies. It is the selective
combination of exogenous strategy and innovation support of companies in lagging regions.
Selection criteria should include organisational aspects, diversity of businesses, the level of
decision making and the potential for developing inter-sectoral regional relationships.
Companies meeting these criteria should be supported whilst companies with extended
production lines in the form of standardised production with low authority to make decisions
should not be supported.

4.3 The effects of distribution policy upon allocation and market economy
principles

Distribution policy addresses a complex problem in which it must consider the influence of
distribution upon the functioning of a market economy and allocation, since (STREIT, 1991):
- competition only fulfils its optimising function if there are opportunities for
remuneration and therefore increased income, and
- when observing income and asset differences, it is unclear whether income comes
from performance within competition or from firm "monopoly" positions.
When evaluating the effects of distribution policy, we distinguish between direct and side
effects. All effects cause economic benefits and costs. Direct effects arise from the initial aim
of distribution policy to ensure fairness and social security in society. The side of effects of
distribution policy are mainly caused by positive and negative impacts upon allocation and
market economy principles.
Direct effects of distribution The targeted effects of distribution depend upon whether only
favouring an intended group is achieved and whether the costs are borne by a group other than
the intended group. It is necessary to evaluate the net effect of a distribution measure since
households benefiting from transfers are influenced by other economic policy instruments
which distribute income. If, for example, socially weak households receive transfers for
housing, it is very important to evaluate which fees, deductions or taxes they must pay to the
state. If these levies to the state decrease or neutralise the effect of a distribution measure, we
talk about a so called transfer illusion. Similarly, we may give an example from regional
policy, where distribution between economically stronger and weaker regions takes place. It
often occurs here that the criteria for providing financial aid are widened or relaxed in order
that it can be obtained by the greatest possible number of regions. However, this decreases the
effectiveness of the distribution in favour of the weakest regions.
The positive side effects lie in providing social stability and social piece. Social stability and
social harmony increase social consensus and acceptance of the principles of a functioning
society and economy.
The negative side effects are understood to be alternative costs arising from not meeting
other economic policy aims. In terms of allocation and market economy principles, we may
predict the negative effects of distribution policy measures upon the behaviour of advantaged
and disadvantaged groups, upon competition and upon behaviour as a result of strengthening
distribution processes.
The negative effects of distribution measures upon the disadvantaged are mainly expressed in:
- the decreased intention to save, as a result of a transfer of income from households
with a higher income and greater intention to save, to households with a lower income
and less intention to save,
- a loss in enterprising initiative,
- an increasing black economy.
The negative motivating effects of distribution measures upon the advantaged are mainly
expressed in:
- a decrease in the effect of motivational tools in the labour market with simultaneous
provision of social transfers, if the difference between social transfers and the
minimum wage is very low,
- supporting the thinking of dependence upon transfers, which decreases one's own
initiative and self-help.
The negative effects of distribution measures upon competition is expressed if:
- the intensive of competition decreases by securing employment in companies, sectors
or regions via subsidies, tax relief or limiting foreign trade,
- a so-called social industry is created, the demand for whose products is tied to state
measures and is separated from the market environment,
- due to special treatment is given to certain sectors within distribution policy (e.g.
agriculture), there are other measures necessary for their protection (e.g. limiting
imports from abroad).
The negative effects of distribution measures for particular groups in society as a result of
strengthening distribution processes lie in the fact that other social groups also want to benefit
from the distribution which generally increases the rate of distribution in society and the
negative effects of distribution measures.

Summary

Based on how it functions, the market mechanism divides income in the national economy.
However, the result of distributing income can be evaluated by society as incorrect or unfair
and, therefore, distribution policy influences this distribution. Distribution policy may
distribute and redistribute between people, companies or municipalities.
An explanation of the personal distribution of income follows on from the circular flow
theory, the marginal productivity theory and the theory of power: Correction of interpersonal
distribution of income is carried out by the state based on distribution policy measures by
influencing the initial distribution of income or via secondary redistribution of income.
Distribution policy focusing upon influencing the initial distribution of income therefore
focuses upon the causes of its distribution and is called active distribution policy. Distribution
policy focusing upon secondary redistribution of income acts to neutralise the results of initial
distribution and is called proactive distribution policy.
Under regional policy, we mean influencing the economic processes in certain areas of the
state via the public sector, in order to correct area allocation created by the market. Areas
include regions defined based on their functional or homogeneous dependence. The term
"regional policy" is identical to the term "regional economic policy" and coordinates tasks
horizontally (coordination of sectoral policy) and vertically (coordination of the spatial
arrangement of cities, regions, countries). The method of locating companies is important for
regional development. In terms of creating spatial structures, we distinguish between the
dispersion and concentration of companies. If companies strive to serve the widest possible
area of the market alone, without external influences, we talk about dispersion. The opposite
of dispersion is concentration of certain activities. The concentration of the automobile
industry resulted in the creation of supplying companies, services - advertising, advice,
research, etc.
Regional policy measures are reasoned by social, economic and ecological arguments.
Depending upon the type of power of influence, we may classify regional policy instruments
into: informational measures and consultancy, economic and financial instruments,
infrastructure measures, and regulatory and administrative measures. Regional policy strategy
is a combination of regional policy instruments for achieving certain targets. Effective
strategies are based on a theoretical image of regional development and the consistency of
regional policy instruments used. Depending upon the focus, we divide regional policy
strategies into two basic groups: exogenous strategies focusing upon mobility and leaning on
external development impulses, and endogenous strategies based on the mobilisation and
development of internal factors.
Distribution policy resolves a complex issue in which it must consider the influence of
distribution upon the functioning of a market economy and allocation, since competition only
fulfils its optimising function if there are opportunities for remuneration and therefore an
increase in income and when observing income and asset differences, it is unclear whether
income comes from performance within competition or from firm "monopoly" positions.

Questions:

1. What practical and theoretical reasons exist for influencing distribution and
redistribution of income in the economy?
2. Explain the methods of correcting distribution and redistribution of income between
persons!
3. Reason the need for regional economic policy using various theoretical criteria!
4. How does the location of companies influence regional economic policy?
5. Describe regional economic policy instruments!
6. Describe exogenous regional policy strategies!
7. Describe endogenous regional policy strategies!
8. Compare exogenous and endogenous regional policy strategies!
9. Why could excess redistribution via distribution policy be problematic?
10. Describe the principles of rural development policy based on regional economic policy
instruments and strategies!

References

1. FREY, R.L. 1992: Wirtschaft, Staat und Wohlfahrt, 7. Auflage, Helbing & Lichtenhahn,
Basel, Franktfurt am Main, 262 s.
2. MAIER G., TÖDTLING F. 1997: Regionálna a urbanistická ekonomika 1, Elita, Bratislava,
237 s.
3. MAIER G., TÖDTLING F. 2002: Regional und Stadtökonomik 2, Springer Verlag Wien
New York, 263 s.
4. NOHLEN, D., NUSCHELER, F. 1992: Handbuch der Dritten Welt 1: Grundprobleme,
Theorien, Strategien, Dietz, Bonn, 512 s.
5. STREIT, M. E. 1991: Theorie der Wirtschaftspolitik, 4. Auflage, Werner-Verlag,
Düsseldorf, 397 s.
6. ŠÁLKA, J., TRENČIANSKY, M. 2004: Lesnícka politika II: Teória hospodárskej politiky, učebné
texty, TU Zvolen, 90 s.
5 National economic stabilisation policy (Jaroslav Šálka, Zuzana
Dobšinská)

This chapter is based on the following economic policy publications: FELDERER, HOMBURG
1994, FREY 1992, PÄTZOLD 1998, SAMUELSON, NORDHAUS 1989 and 2000, SOBEK 1991,
STREIT 1991, THIEME 2000, BARÁNIK ET.AL 1995; Vincúr et.al 1997, Vincúr et.al 2001,
Uramová et.al 2003, ŠÁLKA, TRENČIANSKY 2004.

5.1 The aims of national stabilisation policy

The basic aims of national stabilisation policy are as follows:

- permanent and proportional economic growth,
- high employment,
- stable prices,
- a balance of external economic relations.
The aims of national stabilisation policy are in a horizontal relationship which is expressed
using magic triangles (Fig. 5-1). For example, relationships between employment and
economic growth are complementary, relationships between employment and inflation can be
evaluated as competitive in the short term (short run Phillips curve), etc.

Employment Economic growth

Employment

Foreign
Inflation Foreign
trade
trade
balance Inflation
balance

Fig. 5-1 The magic polygons of stabilisation economic policy (FREY, 1992)

The basic fields for achieving the aims of national stabilisation policy are:
- monetary policy,
- budgetary policy,
- foreign economic relations policy,
- income policy.
Defined areas of national policy are based on defined aims, fixed aims, strategic variables and
instruments (Fig.) 5-2).
 The aims of stabilisation
policy

Target variables Price level Payment balance equilibrium Economic growth Unemployment rate

Fixed
target variables Aggregate Amount of Interest rate Balance of Exchang Nominal
nominal money level payments e rate income
costs

Strategic
variables

State costs Private Amount of Bank Interest rate Export Export Salarie Interest Profit (price
consumer money liquidity on financial and and s rates and nominal
and determined markets import import costs ratio)
investment by the of goods of
costs central bank capital
Instruments

State Taxes State Operations Discount Minimum Exchange Customs Informati Pricing Assets and
costs debt on the free rate reserves rate policy and on and policy tax policy
market and continge cooperati
Fields exchange ncy on policy
management policy

Foreign economic relations

Fiscal policy Monetary policy policy Income policy

Fig. 5-2 Stabilisation policy (THIEME, 2000)

5.2 Areas of national stabilisation policy

5.2.1 Monetary policy

Monetary (financial) policy influences the financial and credit security of economy via the
Central Bank, and strives to achieve the basic aims of national stabilisation policy: economic
growth, price stability, employment growth and a balance of external financial flows.
The working of monetary policy can be explained using diagram of the effects of monetary
policy (Fig. 5-3):
1. Based on stating the discount rate, the compulsory minimum reserves and operations on
the free market, the Central Bank influences sources of finances for commercial banks.

CENTRAL BANK
Interest Growth
Banking sources rates 5
1 Mutual
Aggregate action of
d demand aggregate 5 Employm
BANKS 3 4
demand and ent
supply
Money supply 2 5
Inflation
Accessibilit
CAPITAL y of loans
MARKETS

Fig. 5-3 A scheme of the effects of monetary policy (SAMUELSON, NORDHAUS, 1989)

2. Based on a money supply multiplier, changes in sources of money cause a change in the
supply of money in the system of commercial banks.
3. A change in the money supply will lead to changes in the interest rate and changes in the
conditions for providing loans.
4. A change in the interest rate and the conditions for providing loans affects private and
public investments as a component of aggregated demand sensitive to the interest rate.
5. A change in investments will lead to changes in economic growth and employment via a
multiplication effect. Monetary policy also influences price levels, i.e. inflation.

In terms of the supply of money to the economy, it is divided into:

- expansive monetary policy,
- restrictive monetary policy
- targeted inflation.

Expansionary monetary policy is based on increased sources for the bank system and
therefore increasing the money supply in the economy. Briefly, the influence of expansionary
monetary policy can be expressed using the following sequence:
1. The Central Bank, via decreasing the discount rate and minimum bank reserves or via
operations on the free market, increases financial sources for commercial banks using a
money multiplier.
2. Commercial banks decrease the interest rate and offer better conditions for providing
loans. Loans become more accessible to the business sector and public investors.
3. Since loans are more accessible in the economy, it is also possible to implement
investment projects with a lower return rate and therefore the number of investments in
the economy grows.
4. The overall aggregate demand grows as a result of increasing investment activities and,
via a multiplier effect, aggregate supply, i.e. final products, also grows. These effects also
induce an increase in employment. If the product is under the potential product level, free
sources in the economy are activated and the price level grows slightly. After the
potential product level is exceeded, there is lower economic growth but a higher growth in
the price level, i.e. inflation.
Restrictive monetary policy is based on decreased sources for the bank system and therefore
decreasing the money supply in the economy. Briefly, the influence of restrictive monetary
policy can be expressed using the following sequence:
1. The Central Bank, via increasing the discount rate and minimum bank reserves or via
operations on the free market, decreases financial sources for commercial banks using a
money multiplier.
2. Commercial banks increase the interest rate and apply stricter conditions for providing
loans.
3. Loans in the economy are less accessible and slows investment activity in the economy.
4. The overall aggregate demand decreases and the multiplier effect causes a decrease in
aggregate supply, i.e. the product. These effects also induce an increase in unemployment.
A decrease in the money supply in the economy usually has a deflation effect and is used
for lowering inflation.

Targeted inflation is a flexible system based on setting the medium term inflation target,
usually given by the inflation spread. The central bank uses its instruments to achieve the
inflation target. The system enables short term flexibility if the shocks caused that the
inflation target cannot be achieved by low costs. This policy presents also a system which
creates trust in decentralized economy and a departure from the rigid rules of expansion or
restriction. This system is also used by the Eurozone.

5.2.2 Fiscal policy

Fiscal policy as part of budgetary policy is understood as the process of stating the level of
taxation and planning state income and expenses, which should assist in fulfilling the basic
aims of national stabilisation policy: economic growth, price stability, employment growth. In
this subsection, under fiscal policy we do not understand budgetary policy, which is important
for funding such as distribution or allocation policy.The basic structure of fiscal stabilisation
policy is illustrated on Fig. 5-4 using division of the areas into expenses and income fiscal
policy and defining individual fiscal policy instruments.
 State, regions, towns National Bank
Governors

Expenses policy Income policy

Fields
Taxation policy State debt and state savings policy

Change in Change in Change in Change in Change in Change in Change in

the volume the the volume the the volume the the volume
of state structure of tax structure of state structure of savings
expenses of state income of tax loans of state in the NB
expenses income debt

Tools
Transformation Transfers and Income tax Turnover and National Social insurance Comm. Businesses,
expenses subsidies Property tax consumer taxes Bank company, National banks households,
Labour Office insurance
companies
Material Personal Social Subsidies
expenses expenses expenses

Change in the Decreasing or Change in the Changes in Changes in tax Directly Increasing or Creation and
repayment period increasing rates of tax relief bases obtained decreasing state use of state
by pre-payment or budgetary means taxation loans debt savings
postponement

Fig. 5-4 Fiscal policy (THIEME, 2000)

The basic mechanism of fiscal policy is as follows (Fig. 5-5):
1. Based on targeted measures for changing the budget structure, changes in the volume of
budget items or changes in the volume of financing public works, investments and
structural expenses, fiscal policy governors change the parameters, i.e. create a state
budget deficit or surplus.
Growth
THE Mutual 4
GOVERNMENT Aggregate action of
REGIONS d demand aggregate 4 Employm
2 3
TOWNS demand and ent
supply
Public budgets 1 4
Inflation

Fig. 5-5 A scheme of the effects of fiscal policy (SAMUELSON, NORDHAUS, 1989)

2. Changes in the state budget affect aggregate demand in the economy, mainly via their
investment components.
3. The mutual effect of aggregate demand and aggregate supply via the multiplier effect
influences economic growth and employment.
4. Another effect of fiscal policy depends upon whether the economy operates at the
potential product level, whether there is price stability, i.e. inflation.
5. The effect upon the content of economic output via increasing or decreasing the state
share of investment in the national economy is important.

We distinguish between two types of fiscal policy:

- expansionary fiscal policy
- restrictive fiscal policy
- neutral fiscal policy.

Expansionary fiscal policy is related to an increase in state expenses for purchasing goods
and services, but mainly state investment into development and structural programmes and
projects, and for supporting public employment. Other instruments are decreasing taxes,
changing the tax structure, changing the height and structure of state debt (Fig. 5-4). Expenses
for consumption mainly effect an increase in aggregate demand and increase investment
expenses in aggregate supply via stimulating aggregate demand through the multiplier effect.
In an economy which works below the potential product level, the use of free production
factors, an increase in employment and economic growth takes place. Expansive fiscal policy
can have negative effects if the economy works at the potential product level, since an
increase in aggregate supply may cause growth in prices. In the long term, however, an
increase in demand for production factors and investment may lead to growth in the demand
for money. A growth in demand for money influences an increase in the interest rate. An
increase in the interest rate affects a decrease in the demand for private investment.
Expansionary fiscal policy and mainly long term state debt may cause a so-called crowding
out effect, i.e. public investment pushing out private investment.
Restrictive fiscal policy attempts to reduce state budget expenses or increase taxes. It
reduces the flow of money for consumption and investment, causing a decrease in aggregate
demand, and subsequently, aggregate supply. The utilisation of production factors and
employment decreases. Economy growth also decreases. The price level decreases if the
economy is under the potential product level. From a long term viewpoint, the interest rate
decreases, also causing an increase in the share of public investment.
Neutral fiscal policy is based on deficiencies of countercyclical fiscal policy, especially from
its political clumsiness to raise taxes and reduce spending during a period of inflation.
Another reason why some states do not rely on countercyclical fiscal policy is to increase
structural deficits and thereby caused displacement effects on private investment. Monetary
policy then takes over the role of countercyclical fiscal policies. Public budgets then perform
only the role of fiscal policy. This system is used for example in United States.

5.2.3 External economic relations policy

Foreign economic relations include all economic activities:

- which involve domestic and foreign economic subjects, and/or
- which are carried out using cross-border transactions.
The state influences foreign economic relations via (Fig. 5-6):
- monetary policy,
- balance of payment equilibrium policy,
- foreign trade policy,
- integration policy.
Monetary policy represents a set of measures for ensuring the stability and convertibility of
currency, unlimited capital flow and growth of exchange reserves in order to ensure meeting
the aims of stabilisation policy: economic growth, employment, price stability and balance of
payments equilibrium Monetary policy is closely related to financial policy since the object of
interest is money. Monetary policy uses the financial policy instruments.
Balance of payments equilibrium policy tries to maintain long term equilibrium in the
balance of payments in order to ensure meeting the aims of stabilisation policy: economic
growth, employment and price stability. Balance of payments equilibrium does not have the
same analytical nature as economic growth, price stability and employment. It can therefore
be perceived more as a means for ensuring these aims of economic stabilisation policy. The
stability of the internal economy is only possible if the stability of external economic relations
is ensured.
Foreign trade policy regulates the amount and movement of goods, services and capital
between the domestic economy and abroad.
 The state, the government, state administration, National Bank,
Governors integrating institutions

Targets Economic growth Employment Price stability

Target variables Balance of Currency Convertibility of Flows of foreign Flows of goods Flows of
payments stability currency currency and services production
equilibrium factors

Tools
Exchange Common Limiting exports Limiting imports Supporting Common
rate currency exports markets

Fields
Balance of Monetary policy Foreign trade Integration
payment policy policy
equilibrium
policy

Fig. 5-6 Foreign economic relations policy

Integration policy strives for the economic and political integration of several states with aim
of improving the flow of goods, services and production factors, decreasing transaction costs
on common markets and influencing the positive basic aims of stabilisation policy such as
economic growth, employment, price stability, balance of payments equilibrium and currency
stability.
The aim of external economic relations policy within macroeconomic stabilisation policy is a
balance of payments equilibrium in the long term and, in the short term, it is stability and
convertibility of the currency or liberalisation and limiting foreign trade in order to influence
domestic companies and sectors. Individual components of policy for influencing external
economic relations are closely linked and have a fundamental impact upon the stability of the
domestic economy.

5.2.3.1 MONETARY POLICY

Monetary policy influences the foreign exchange markets using monetary policy instruments.
The governor of monetary policy is the Central Bank. Domestic exporters, foreign investors
or economic subjects who obtain a loan abroad offer foreign currency on the foreign exchange
markets. Foreign currency is purchased by importers of foreign goods or services, economic
subjects who want to invest abroad, etc. The supply and demand for foreign currency
determine foreign currency prices, i.e. exchange rates. The supply and demand for foreign
currency constantly changes and does not just reflect real economic relations but also
speculative trading.
An exchange rate is defined as the relationship between two currencies and expresses the
price of foreign currency in the domestic currency. A decrease in the price of currency caused
by movements on the foreign exchange market is called depreciation of a currency. An
increase in the price of currency is called appreciation of a currency. Devaluation is a one-off
decrease in the exchange rate by the Central Bank. Revaluation is a one-off increase in the
exchange rate. Exchange rates are free, i.e. only dependent upon market strength or fixed, i.e.
usually within an agreed range.
Monetary policy focuses upon three main aims:
- convertibility and stability of currency,
- payment balance equilibrium,
- unrestricted flow of capital.
Convertibility of currency is a basic prerequisite for the existence of external economic
relations and means free exchangeability of the domestic currency for foreign currency. The
requirement for a stable currency is based on the idea that conditions in individual goods and
services markets are predictable and companies do not take great risks. Exchange rates cause
a change in the prices of all goods which are traded on an international scale and in all
countries which participate in international trade. Companies do not have sufficient
information about the development of exchange rates so the risk with free exchange rates can
be so high that it would greatly limit international trade.
The relationship between achieving the aims of a balance of payment equilibrium and the
exchange rate can be explained using the following simple idea. If exchange rates in foreign
currency grow, it means that domestic goods and services become cheaper for foreign
customers. This causes a growth in exports but only under the assumption that demand for the
exported goods is flexible. If the demand is not elastic, it means that the measures taken by
the Central Bank in order to depreciate the domestic currency does not necessarily have the
required effect.
The basis for a flow of investment and capital from as well as to a country is, apart from the
conditions for investment, stability and convertibility of the currency which decreases the risk
in such transactions and facilitates finding the cheapest capital.

5.2.3.2 BALANCE OF PAYMENT EQUILIBRIUM POLICY

A balance of payments consists of a set of accounts balances which capture all the economic
flows to and from a country. It provides a preview of the amount and structure foreign
currency income and expenses of a country, usually per annum. All currency income is
formed of credit items and currency expenses are formed of debit items in the balance of
payments. Economic transactions are evaluated depending upon whether they bring or
withdraw foreign currency. A balance of payments consists of the following main partial
balances:
- A current account of the balance of payments showing the export and import of goods,
services and other financial transactions, also known as the trade balance.
- A capital account of the balance of payments shows the movement of capital. These
are mainly foreign loans provided by households, firms and the government, or which
were obtained abroad.
- The foreign currency account of the balance of payments shows the foreign currency
obligations and receivables of the Central Bank.
The aim of economic policy is a balance of payments equilibrium. An imbalanced balanced
of payments affects economic growth, inflation, employment and the allocation of economic
resources. A trade balance deficit causes a decrease in economic growth and unemployment.
A long term deficit in the foreign currency balance causes a country to become a debtor and
creates political dependence by a country. A trade balance surplus may have inflationary
effects, decrease salaries and unhealthily change the structure of the national economy. An
imbalanced trade balance effects and economy in three ways:
The income effect and the employment effect. An active trade balance can be a sign of a
weak exchange rate. Imported goods are too expensive for the domestic demand and exported
goods are cheap abroad. This leads to direct subsidisation of exporters at the expense of
importers and consumers, and there to depreciation of the economic structure. Additionally,
inversion between prices and amounts causes less imports and too many exports. Excess
demand for exports increases salaries and aggregate demand over aggregate supply which
induces price increases. The long term trade balance deficit has a deflationary effect which
causes employment problems.
The effects of cash sums A long term active trade balance with a fixed exchange rate causes
exporters to exchange foreign currency for domestic currency since they need domestic
currency for production. They need more money than importers for purchasing abroad which
causes a growth in the price of the domestic currency, i.e. the exchange rate. The Central
Bank tries to keep the exchange rate at an equilibrium by purchasing the increased supply of
foreign currency via operations on the free market. In the long term, this can cause a growth
in prices in the economy, i.e. inflation. A passive trade balance causes the opposite problem.
To cover imports, the Central Bank needs to obtain money abroad, thereby withdrawing cash
from the economy. The result is a decrease in investment activities and an increase in
unemployment.
Direct price effect If imports are expensive (e.g. raw materials), this is transferred through
production to prices, i.e. ultimately to a growth in prices. However, this depends upon the
Central Bank's policy in managing the amount of cash in the economy.
There are various opinions about influencing the balance of payments equilibrium in terms of
which items in the balance of payments need to be equalised. Some economists prefer
ensuring equilibrium in the total foreign exchange balance, some prefer balances of the
current and capital accounts, etc. The following mechanisms are used for ensuring a balance
of payments equilibrium which we will explain using the current account balance of
payments:
- exchange rate mechanism,
- money supply mechanism in the economy,
- income mechanism.
The exchange rate mechanism assumes flexible exchange rates. If the balance of payments
current account is active, it means that more goods and services were sold abroad than
purchased abroad. In order for foreign importers to be able to pay for exported goods, they
must purchase the domestic currency on the domestic market and supply their own currency.
Similarly, domestic exporters purchase domestic currency on the foreign exchange market.
Since demand for the domestic currency is greater than its supply, the exchange rate in
foreign currency falls, corresponding to a valuation of the domestic currency. As a result,
exported goods and services become more expensive for foreigners and foreign goods and
services become cheaper for domestic economic subjects. This mechanism affects the
balancing of the balance of payments current account and an active or passive credit of the
balance of payments cannot exist in the long term since it is eliminated by counter movements
of the exchange rate.
The money supply mechanism in the economy assumes fixed exchange rates, i.e. the
National Bank must keep the domestic currency's exchange rate within a certain range and
intervene if necessary in order to maintain a stable exchange rate. If we again assumed that
the balance of payments current account shows an active credit, strengthening of the domestic
currency should occur with a free exchange rate. Since the exchange rate may only fluctuate
within a certain range, the National Bank intervenes in favour of foreign currency in such a
way that it starts to purchase it on the foreign exchange market. This will achieve artificial
equilibrium on the foreign exchange market and prevent a further decrease in the foreign
currency exchange rate. The National Bank increases foreign currency reserves but releases
domestic currency into circulation, causing an increased amount of money in the economy.
An increased amount of money in the economy results in price increases and overall pricing
levels. As a result, export goods and services become more expensive and the purchase of
goods and services abroad becomes cheaper. This mechanism affects the elimination of an
active credit on the balance of payments current account in the long term.
The effects of the exchange rate mechanism and the money supply mechanism in the
economy is also supported by the income mechanism. If there is an active credit on the
balance of payments current account, increased aggregate demand on the domestic market is
created, which influences increased growth of the final product, national income and
increased employment. Increased economic activity and increased income may lead to
increased imports and therefore elimination of an active credit on the balance of payments
current account.

5.2.3.3 FOREIGN TRADE POLICY

Foreign trade policy mainly influences the flow of goods and services, i.e. the balance of
payments current account. The governor of foreign trade policy is the state, mainly via the
Ministry of Finance and related ministries. We recognise two forms of foreign trade policy:
- liberal,
- protectionist.
Liberal foreign trade policy is based on adhering to the principles of a market economy on
the freedom of enterprise and freedom of contract. Economic autonomy in applying
economic rights is guaranteed and the state tries to create stable framework conditions for the
economy and prevent abuse of economic freedom (e.g. legislation for protecting competition).
The aims of liberal foreign trade policy can be summarised as follows:
- supporting social welfare and economic growth by implementing the comparative
advantages of international trade,
- ensuring individual freedom of enterprise and contract,
- reducing political tension arising from limiting international trade,
- international economic integration (e.g. the EU).
Protectionist foreign trade policy is based on restricting or cancelling freedom of enterprise
and contract using state measures with the aim of:
- protecting the domestic economy against foreign competition,
- supporting young sectors in the domestic economy,
- improving terms of trade, i.e. the ratio of the prices of exported and imported goods
and services,
- improving or redeveloping the balance of payments,
- ensuring a source of income for the state budget (e.g. customs duty),
- ensuring self-sufficiency and limiting dependence in certain goods and services.
The foreign trade protectionist policy instruments are as follows (Fig. 5-7):
Customs duty acts as transportation costs or consumer tax and decreases imports. Demand
for goods is transferred to domestic products. Customs duty also represents income for the
state budget. Customs duty can focus upon limiting imports (import duty), limiting exports
(export duty) or limiting transit through the country (transit duty). We can also distinguish
between the following types of customs duty:
- prohibitive tariff totally restricts imports,
- non-prohibitive tariff only limits imports,
- a tariff quota is levied depending upon the quantity of imported goods,
- ad valorem tariff is levied as an additional sum to the price,
- compensatory duty alleviates fluctuations in prices on world markets and their
influence upon domestic markets.
Import charges represent an increase in customs duty and is applied if foreign currency
reserves fall to a dangerously low level.
Quotas are state measures, using which the import or export of certain goods is limited. Due
to this measure, prices lose their signalling function in economic decisions, i.e. changes in
prices do not lead to a change in the allocation of resources.

Foreign trade policy instruments

Limiting imports Limiting exports Supporting exports

Import duty Export tax Subsidies for supporting

- prohibitive Non-customs barriers exports
- non-prohibitive - quota Dumping
- quota - extra-customs barriers
- ad valorem (standards, licences)
- compensatory
- import charges
Non-customs barriers
- quota
- extra-customs
barriers (standards,
licences)
Fig. 5-7 Foreign trade policy instruments

Extra-customs barriers represent various types of obstacle with the aim of protecting certain
sectors or consumers (e.g. special harmless technical, requirements for accurate
documentation, environmental protection requirements, ban on the use of CFCs, etc.).
Export subsidies are provided to domestic producers by the government for supporting
exports.
Dumping represents price differentiation, i.e the price of goods is lower abroad than on the
domestic market. Dumping can occur if companies wish to offload excess goods on the
foreign market or they try to achieve a greater share of the foreign market. Dumping can be
induced by state export subsidies. Dumping is an illegal practice which damages competition.

5.2.5 Income policy

The aim of income policy within stabilisation policy is to influence the primary distribution of
income via regulating the level of nominal prices, salaries, wages, profit, taxes, deductions,
etc., and therefore achieve stable economic growth, high employment and suppress the chance
of cost-push inflation being created. The governors of income policy are the state,
municipalities, unions and employee associations. Income policy is therefore very closely
related to distribution policy, the task of which is mainly the secondary distribution of income
and is oriented towards the criterion of fairness.
Income flows from production factors (labour, land and capital) and in primary distribution,
obtaining income is related to ownership and the position in the working process. A common
source of all primary income is prices.
Areas and instruments of income and price policy are shown in Fig. 5-8. Instruments of
income policy can be divided into three groups:
Via informational instruments and using public appeals in tariff negotiations, the
government strives to persuade partners of the positive effects of exercising caution in
increasing salaries (moral suasion). Further, using information exchange (directions,
directives), they strive to point collective negotiations in the required direction via tripartite
agreements.
The government directly fixes maximum prices or salaries using direct intervention. Another
option is indexation i.e. linking the growth in salaries, interest, rent as well as taxes and state
expenses to a price index.
Within competition protection policy, it strives to maintain price development and also
therefore prevent the monopolisation of income by preventing monopolisation, the creation
of cartels and price agreements.
In order for income policy to fulfil its tasks in stabilisation policy, it should firstly ensure that
the growth in salaries is in harmony with the growth in productivity, i.e. income policy should
ensure that
- employees and unions take partial responsibility for economic development
(neutrality of redistribution),
- nominal salary costs remain stable (neutrality of costs),
- salary increases do not cause any inflationary effects (neutrality of inflation) and
 - salary increases do not cause a substitution effect between labour and capital
(neutrality in employment).
Average national labour costs (nl) are based on a multiplication of the average salary (l) and
the number of employed (A), divided by GDP. The division of GDP and the number of
employed represents national labour productivity (p). It is therefore valid that average national
labour costs equal the division of average salary (l) and labour productivity (p).
HDP
p
A

l A
nl 
HDP

l
nl 
p
The following is valid for the increment of national average labour costs (rnl):
rnl = rl - rp
If average salary (rl) grows faster than labour productivity (rp), then the average labour costs
increase (rnl). Increased labour costs force companies to include them in their prices. If
increased labour costs are reflected in prices, this is results in salary inflation. If increased
labour costs are not transferred to prices since, for example, the National Bank adopts
restrictive monetary policy and therefore disallows the transfer of increased salaries to prices,
then companies will respond by reducing the number of employees. Such unemployment is
known as unemployment caused by increased salaries or "classic" unemployment. Both
effects are unwanted since income (salary) policy should be in line with the growth in
labour productivity.
This basic form of income policy ensures constant national labour costs. Total national
average costs (n) consist of the average national average labour costs and other costs (on), in
which an important role is played by capital costs (nk) and imported changes to costs which
are measured based on the terms of trade (ntot), i.e. the proportion of prices of domestic and
imported goods:
n = nl + on or n = nk + (nl + ntot)
If income (salary policy) respects these extended costs, we are talking about income (salary)
policy in line with the productivity of all production factors:
rl = rp - rl - ron
It is mainly a worsening in the terms of trade (e.g. due to an increase in the price of oil) which
can worsen the space for tripartite negotiations and increase salaries. The opposite situation is
in an increase in the terms of trade (e.g. decreasing costs for imports or increasing prices of
exports due to depreciation of the currency).
Another modification is income (salary) policy in line with the productivity of labour factors
and taking into account inflation (ri) not caused by salary policy and we signify this as income
policy in line with the level of neutral costs:
rl = rp - ron + ri
 Income policy

State, regions, towns Employers' Associations, unions

Governors

Info. and Taxation Pricing Assets Competitio

coop. policy policy policy n policy
Fields
policy

Salaries Prices Interest, rental

profit

Instruments
Orientation Directives Min. and Binding Taxation
indicators max. prices indexes changes

Moral Suasion Social dialogue Salary and Salary and Indexation Taxation of Creation of Salary and
tripartite pricing pricing of prices and profit salary funds pricing
directives borders salaries licences

Fig. 5-8 Income policy (Thieme, 2000)

5.3 The basic concepts of economic stabilisation policy

In national stabilisation policy, two basic concepts of national stabilisation policy compete.
The Post-Keynesian concept which we call "demand oriented economic policy" since it
focuses upon aggregate demand. The neo-classic concept which is called "supply oriented
economic policy" since it strives to influence aggregate supply. These two concepts of
economic policy are combined and overlapping in practice, and we will describe them as pure
economic policy concepts (PÄTZOLD 1998).

5.3.1 The Post-Keynesian concept

The basic principles of the Post-Keynesian concept of economic policy, which mainly comes
from Keynes' doctrine, are as follows:
1. The hypothesis of the instability of a market economy. A market economy system is
unstable as a result of faults in competition ("pessimism in the functioning of market
forces"). There is a danger of "economic equilibrium with low level employment".
According to this, economic policy is capable, via suitable state interventions, of
stabilising the market system and strike against these faults ("state intervention
optimists").
2. Demand-oriented economic policy interventions. Aggregate demand is a decisive value
in influencing production in the national economy and employment: YD = Cpriv + Ipriv +
GSt + Ex – Im. Aggregate demand should be counter-cyclically influenced, mainly via
fiscal and monetary policy measures ("the global effect upon the national economy via
aggregate demand").
3. The dominance of the employment aim. The dominant aim of economic policy is to
secure full employment. The state thereby gives a "promise of full employment". Securing
stable price levels is secondary ("relativisation of the importance of price level stability").
Using conservative inflationary economic policy, unemployment can be decreased in
accordance with this concept ("the short-run Phillips curve hypothesis").
4. Counter-cyclical fiscal policy. The responsibility for achieving the aims of stabilisation
economic policy is held by counter-cyclical fiscal policy. Aggregate demand is influenced
effectively using fiscal policy. ("Fiscalists"). State budget deficits are also respected in
order to decrease unemployment. The effects of state conjunctural programmes are
multiplied ("optimism in the functioning of a macroeconomic multiplier").
5. Counter-cyclical monetary policy. Monetary policy should support fiscal policy
("monetary-fiscal policy"). A "policy of cheap money" should be used during a recession,
which not only improves the conditions for private investment in the economy but also
improves the financing of state budget deficits.
6. Accompanying income (salary) policy. In the Post-Keynesian economy policy concept,
income (mainly salary) policy is not responsible for the aim of increasing employment. In
order to prevent redistribution conflicts with a negative impact upon employment and
price level stability, accompanying income policy in the form of social bargaining
(tripartite) or in the form of direct interventions in the autonomy of setting prices and
salaries is recommended.

Criticism of the Post-Keynesian economic policy concept lies in its shortcomings:

1. Increasing the structural deficit of the state budget. Expansive instruments of
economic stabilisation policy are used to secure high employment, even in case of the
 uncertainty of economic development. This results in higher structural budget deficits
which cause crowding-out effects in economic growth and employment.
2. Political asymmetry in expansive and restrictive fiscal policy measures. Expansive
measures (increasing state costs and decreasing taxes) are easily enforceable politically. It
is very difficult to find the political will for restrictive measures. This political asymmetry
strengthens trends in structural budget deficits and inflation.
3. Single-sided focus upon demand neglects aggregate supply. The single-sided focus of
economic policy upon aggregate demand neglects factors of private investment activities
and economic growth ("aggregate demand factors"). This results in slowing of growth
dynamics and results in unemployment caused by low growth.
4. Deceptive multiplication optimism. Experience has shown that the reality of the
multiplication effects of state programmes for supporting increasing employment are
significantly lower than predicted by Post-Keynesian models. There is often a short term,
ineffective withdrawal of these means and in the long term there is even a negative impact
upon production and employment ("negative multiplication effects") based on the
crowding-out effect.
5. Counterproductive guarantee of full employment. The consequences of full
employment policy are not just redistribution conflicts and inflation, but also slowing of
growth dynamics.
6. Neglecting inflation pressure. The inflationary trends of Post-Keynesian concepts of
economic policy limit the functioning of a market system in the long term and result in
lower economic growth and lower employment. Accompanying income policy measures
(tripartite and state pricing policy) has proven inadequate since it does not prevent
inflationary trends, mainly cost (labour) inflation.
7. Increasing rigidity of the economic structure. The result of Post-Keynesian economic
policy is also increased structural rigidity ("sclerosis of the national economic structure")
The positive effects of "cleansing crises" are disabled by Post-Keynesian economic policy
and it has a long term negative effect upon economic growth and inflation.
8. Short term focus neglects long term prospects. Post-Keynesian economic policy
focuses upon actual short term problems. All short term "correct" economic policy
measures may become problematic in the long term. Example: Long term expansive
monetary policy which increases the amount of money in the economy or a short term,
"acceptable" budget deficit which becomes "structural" induce negative crowding-out
effects.
9. Strengthening economic cycles via time-lags. Counter-cyclical conjunctural policy is
linked to long time-lags. Particularly long and barely predictable are time-lags of
expansionary monetary policy. Counter-cyclical conjunctural policy therefore has a
tendency to destabilise economic growth.
10. Trends towards direct interventions in a market economy. Increasing problems in
counter-cyclical global interventionism induce pressure to adopt more and more, mainly
state, interventions (e.g. directly influencing the investment process). This results in an
increase in state interventionism which negatively influences the implementation of
market economy principles.
11. Global influencing of an economy is unsuitable for resolving structural problems.
The Post-Keynesian concept of economic policy, especially for eliminating structural
unemployment, requires specific measures (structural policy, policy of sectoral support for
employment). Influencing aggregate demand is only suitable for resolving conjunctural
global problems, mainly conjunctural unemployment, but it shows very conflicting effects
when influencing structural unemployment.
5.3.2 The neo-classic concept

The basic principles of the neo-classic concept of economic policy are as follows:
1. The hypothesis of the stability of a market economy. In principle, the market economy
system is stable. If there are unstable elements in reality anyway, then they are the result
of improperly functioning competition and/or the result of state intervention in the market
system. The task of economic policy is to state framework conditions for the economy in
order to secure functioning competition ("causal therapy using market economy principles
policy"). The state should not interfere in a market system using any other measures and
should secure the long term consistency of economic policy.
2. Supply oriented interventions of stabilisation policy. According to this concept,
aggregate supply is a decisive factor of economic development. During the production of
goods, income as well as effective demand is created ("Say's law"). Saturation only takes
place in individual markets but not at national economy level ("rejection of the saturation
hypothesis"). Pioneering companies are carriers of innovation ("Schumpeter's pioneering
companies"), they seek new markets and innovate production processes. The existence of
pioneering companies requires the creation of suitable conditions (free entry to the market,
a tax system supporting business, etc.).
3. The priority of achieving price stability. A dominant aim of economic policy is to
ensure price stability even if linked to a short term increase in unemployment. Price level
stability is the basis for the optimum functioning of the price mechanism, sustainable
economic growth and a high level of employment ("rejection of the conflict of aims in
accordance with the short-run Phillips curve").
4. Budgetary policy takes on the task of allocation policy. The task of budgetary policy is
to secure public goods, externalities, etc. ("allocation function"). When there are doubts
about the rationality of state costs, a low share of the state in the economy is preferred.
Existing structural state budget deficits should be consolidated. Public budgets should
fluently follow economic growth and production potential ("a conjuncturally neutral state
budget"). The tax system should be reformed using "Laffer's theory" (decrease the tax
burden and simplify the tax system) in order to stimulate companies into economic
activity.
5. Stability-oriented monetary policy. Monetary policy plays a central role. It should
ensure price level stability. The amount of money in the economy should directed towards
this depending upon the development of a potential product. ("economical potential
oriented" policy or "monetarist policy").
6. Income (labour) policy. In the neo-classic economy policy concept, income (labour)
policy is responsible for the aim of increasing employment. Income policy should ensure a
level of salaries which corresponds with full employment ("a growth in salaries in line
with a growth in labour productivity" or "a growth in salaries in line with a growth in the
productivity of all production factors"). The task of the state is not to neutralise errors in
income policy via programmes supporting employment. Interventions into the autonomy
in creating salaries or prices within income policy are being rejected.
7. Offensive market policy. Neo-classicists ask for "more of the market". Existing
restrictions in competition and state regulation should be limited as much as possible
("deregulation policy"). State companies (as well as natural monopolies) should be
privatised ("privatisation policy"). The support of international competition also forms
part of offensive market policy ("free trade"). A social network must be created
effectively.

Demand-oriented economic policy is criticised as follows:

1. Supply policy is socially unfair. All measures for improving framework conditions in the
economy are considered as socially "unfair" and distributionally "harmful" since they
cause redistribution from the poor to the rich. Resistance by employees and unions takes
place if income tax is decreased, which decreases the tax paid by the part of the population
with a higher income and gaps in the state budget are filled via increasing indirect taxes
(e.g. VAT). It is further socially problematic to decrease subsidies which serve to keep
jobs or the removal of protectionist measures in some sectors which causes increased
unemployment.
2. Undesired effects of aggregate demand as a result of aggressively influenced
aggregate supply. A longer-range oriented concept of demand oriented economic policy
requires a sequence, regularity and predictability of the effects of economic policy
measures ("consistency of economic policy"). State measures focusing upon aggregate
demand cause unwanted effects upon aggregate demand (e.g. requirement for slow wage
increases) which makes it difficult to perform such policy politically.
3. The questionability of the effects of Laffer's theory. Shock therapy in the United States
of America during Reagan's presidency - a radical decrease in taxes can only be
recommended with the reservations: This radical policy resulted in extreme budget
deficits and deficits in the balance of payments (trade). An economic committee in the
USA recommended a fluent transfer to economic policy focusing upon aggregate supply
and rejected radical measures since the positive effects of decreasing taxes only come
after a delay and budget deficits cause negative crowding-out effects.
4. Policy focusing upon aggregate supply does not support the business sphere. Policy
on the supply side is often simplified as an economic policy concept focusing upon
supporting business, but it should be understood as a concept for improving the
framework conditions of a market economy.
5. No short term success, but long term policy: Unlike Post-Keynesian policy, the neo-
classic concept of economic policy does not promise rapid success. The advantages and
benefits of this thorough policy come slowly. Short term economic policy programmes
which favour certain groups in society improve the electability of politicians and political
parties, but bring high national costs and decrease the social economic efficiency. The
negative results of Post-Keynesian interventionism are also expressed after some time and
cannot therefore be explicitly attributed to individual political parties and politicians. A
long term decrease in economic growth needs to be resolved via long term economic
policy strategy and not short term programmes with little effect. This is also proven by the
partial success of the economic policy concept focusing upon supply, for example, in
Germany.

Summary

The basic aims of national stabilisation policy are expressed using magic triangles and are
then sustainable and adequate economic growth, high employment, price level stability and
equilibrium in external economic relations. The basic fields for achieving the aims of national
stabilisation policy are monetary policy, budgetary policy, foreign economic relations policy
and income policy.
Monetary (financial) policy influences the financial and credit security of economy via the
Central Bank, and strives to achieve the basic aims of national stabilisation policy: economic
growth, price stability, employment growth and a balance of external financial flows. In terms
of the supply of money to the economy, it is divided into expansive monetary policy and
restrictive monetary policy.
Fiscal policy as part of budgetary policy is understood as the process of stating the level of
taxation and planning state income and expenses, which should assist in fulfilling the basic
aims of national stabilisation policy: economic growth, price stability, employment growth.
We distinguish between two types of fiscal policy: expansive fiscal policy and restrictive
fiscal policy.
The aim of income policy within stabilisation policy is to influence the primary distribution of
income via regulating the level of nominal prices, salaries, wages, profit, taxes, deductions,
etc., and therefore achieve stable economic growth, high employment and suppress the chance
of cost-push inflation being created. The governors of income policy are the state,
municipalities, unions and employee associations. Income policy is therefore very closely
related to distribution policy, the task of which is mainly the secondary distribution of income
and is oriented towards the criterion of fairness.
Foreign economic relations include all economic activities which include the participation of
domestic and foreign economic subjects, and which are carried out via cross border
transactions. The state influences foreign economic relations via monetary policy, balance of
payments equilibrium policy, foreign trade policy and integration policy.
In national stabilisation policy, two basic concepts of national stabilisation policy compete.
The Post-Keynesian concept which we call "demand oriented economic policy" since it
focuses upon aggregate demand. The neo-classic concept which is called "supply oriented
economic policy" since it strives to influence aggregate supply. These two concepts of
economic policy are combined and overlapping in practice, and have their advantages and
disadvantages.

Questions:

1. What are the aims of macroeconomic stabilisation policy and what are the relationships
between them?
2. Using which partial policies can macroeconomic aims be achieved?
3. Explain the instruments and the way monetary policy works!
4. Explain the instruments and the way fiscal policy works!
5. Explain the instruments and the way income policy works!
6. Explain the instruments and the way monetary policy works!
7. Explain the instruments and the way the balance of payments equilibrium works!
8. Explain the instruments and the way foreign trade policy works!
9. Explain the instruments and the way integration policy works!
10. Explain the Post-Keynesian concept, i.e. "demand oriented economic policy"!
11. Explain the neo-classic concept, i.e. "supply oriented economic policy"!

References

1. BARÁNIK, M. A KOL. 1995: Národohospodárska politika, Ekonomická univerzita,

Bratislava, 293 s.
2. FELDERER, B., HOMBURG, S. 1995: Makroekonomika a nová makroekonomika, Elita,
Bratislava, 445 s.
3. FREY, R.L. 1992: Wirtschaft, Staat und Wohlfahrt, 7. Auflage, Helbing & Lichtenhahn,
Basel, Franktfurt am Main, 262 s.
4. PÄTZOLD, J. 1998: Stabilisierungspolitik, 6. Auflage, Paul Haupt, Bern, Stuttgart, Wien,
320 s.
5. SAMUELSON, P. A, NORDHAUS, W. D. 1989: Ekonómia 1, BRADLO, Bratislava, 420 s.
6. SAMUELSON, P. A, NORDHAUS, W. D. 1989: Ekonómia 2, BRADLO, Bratislava, 551 s.
7. SAMUELSON, P. A, NORDHAUS, W. D. 2000: Ekonómia, ELITA, Bratislava, 844 s.
8. SOBEK, O. 1991: Menová teória a politika, Ekonomická univerzita, Bratislava, 114 s.
9. STREIT, M. E. 1991: Theorie der Wirtschaftspolitik, 4. Auflage, Werner-Verlag,
Düsseldorf, 397 s.
10. ŠÁLKA, J., TRENČIANSKY, M. 2004: Lesnícka politika II: Teória hospodárskej politiky, učebné
texty, TU Zvolen, 90 s.
11. THIEME, H. J. 2000: Wirtschaftspolitik, Springer, Berlin, 347 s.
12. URAMOVÁ, M. at. al. 2003: Hospodárska politika, Ekonomická fakulta Univerzity Mateja
Bela, Banská Bystrica, 214 s.
13. VINCÚR, P. 1997: Základy makroekonomickej analýzy, KON-PRESS, Bartislava, 235 s.
14. VINCÚR, P. 2001: Hospodárska politika, Sprint, Bratislava, 396 s.
6 Structural and Sectoral Policy (Jaroslav Šálka, Zuzana Dobšinská)
6.1 Structural Policy

The need for structural policy is mainly due to changes in the structure of the national
economy caused by (PETERS 1975, 1988):
- sectoral problems such as insufficient mobility of production factors which negatively
influences economic growth and the increase in labour productivity,
- a structural imbalance in the form of excess capacities or narrow places which may
even lead to structural crises,
- the insufficient ability of economic subjects to adapt to changes in the structure of the
national economy,
- social problems, mainly structural unemployment induced by structural changes,
- insufficient functioning of market economy coordination mechanisms in some sectors
of the national economy.

6.1.1. Theory of structural changes

Structural changes are usually permanent changes in the sectoral structure of the national
economy. Structural changes may be divided into sudden (discontinuous) which are caused,
for example, by a natural disaster or political events, and gradual (continuous) which are the
result of economic development (PETERS 1975, 1988). Structural changes may be further
divided into reversible and irreversible. Reversible structural changes are mainly induced by
the conjunctural cycle and irreversible structural changes are caused by trend changes in the
national economy.
Structural changes are noticed in changes to qualitative or quantitative structural components
(education, number of employees, economic efficiency of sectors). Structural changes are
usually determined by permanent changes in production or a shift in prices. These changes
are long term and it is therefore a problem to develop a corresponding indication system.
Leontief input-output tables are used, known from the national accounting system.
The causes of structural changes are endogenous (caused by the economic process) or
exogenous (usually caused by the political process). Endogenous causes of structural
changes can be due to changes in demand, supply or technology.
Demand-conditioned structural changes arising from the varying income elasticity of
individual products. During a growth of income, this is expressed by demand in various ways
(foodstuffs).
Supply-conditioned structural changes which are caused by the fact that companies strive to
gain a share of the market via small changes in products and extending the assortment, but
this is not about new and improved products. This may induce structural changes via branded
products.
Technologically-conditioned structural changes which are caused by more rational production
methods, substituted products more advantageous in terms of costs or by developing products
with new technology.
Exogenous causes of structural changes are caused by economic policy measures.
Structural changes caused by the principles of market economy policy are based on changes
in the framework conditions for the functioning of the national economy (for example,
tighteningthe protection of competition). Structural changes caused by the regulation or
deregulation of natural monopolies are caused by opening or restricting markets. Structural
changes caused by process policy are induced by economic policy measures (for example,
supporting research and development or innovation).
Structural changes may even grow into a structural crisis. A structural crisis in a certain
sector is characterised by the fact that supply exceeds demand in the long term, even despite a
fall in prices. Structural crises in the labour market are expressed by structural
unemployment. Similarly to structural changes, structural crises are also induced by
endogenous and exogenous factors. Endogenous causes of structural crises could be the
following:
- incorrectly estimated predicted demand,
- incorrectly estimated job expectations,
- problems with adapting capacities,
- low mobility of labour and capital.
Exogenous causes of structural crises are mainly conditioned politically (for example, excess
investment aid by the state or unreasonable bonuses for decreasing capacities).
In order to visualise structural changes, we may divide the economy into several sectors based
on suitably selected criteria. COLIN CLARK (1940) divides the national economy into three
basic sectors in order to document structural changes in the national economy. He documents
development trends from an agriculturally oriented economy (primary sector) through
industry-based economies (secondary sector) to a services economy (tertiary sector). Some
authors also currently talk about the information industry as a fourth sector. FOURASTIÉ
(1963) developed this theory further and defined dividing criteria which are mainly based on
the influence of technical development upon production, measured by the productivity of
production factors and based on the degree of saturation of consumer demand measured by
elasticity of demand. These two most important criteria are supplemented by WOLFE (1955)
with two more criteria: the dominance of production factors and the lifetime of produced
products (Fig. 6-1).

Prevalence of Level of Type of good

Production Lifetime of goods
Sector/Criterion production technical and elasticity of
level produced
factors progress demand
Basic level of Land-intensive Average technical Production of Production of
production production progress short term essential goods
Primary sector (perceivable consumer goods with rigid
growth in elasticity of
productivity) demand
Processing Capital-intensive High technical Production of Production of
production progress (high medium-term goods for making
Secondary sector growth in consumer goods life easier, with
productivity) slight elasticity of
demand
Distribution of Labour-intensive Little or no Production of Production of
goods and production technical progress long term luxury goods with
Tertiary sector production of (little or no investment goods elasticity of
services growth in demand
productivity)
Fig. 6-1 Criteria for classification into primary, secondary and tertiary sectors (PETERS, 1988)

Trends in structural changes are mainly visible if we showed the development of employees
in individual sectors over time or the proportion of gross domestic product of individual
sectors of total gross domestic product (Fig. 6-2). Figure 6-2 clearly shows the development
of the economy based on the proportion of employees in individual sectors from an
agriculture economy, through an industrial economy to a services economy.

% % %
100 100

90 90

80 80
Curve I
70 70

60 60
Curve II
50 50

40 40
Curve III
30 30

20 20

10 10 Time
Dominant primary Dominant secondary sector Dominant tertiary
sector industrial society sector
agric. society services society

1800 1900 1985 2000

Curve I: Development of the proportion of employment in the primary sector

Curve II: Development of the proportion of employment in the secondary sector
Curve III: Development of the proportion of employment in the tertiary sector

Fig. 6-2 The development of employment in sectors (PETERS, 1988)

Recently, with the development of the service economy, some authors have proposed to
allocate the quaternary sector out of the tertiary service sector (e.g. KENESSEY 1987) and also
quintary sector (EC 2010). Quaternary sector comprises of finance, insurance, or real estate
trading. Quintary sector is focused on more specific services such as science, research,
education, health, culture and sport, which are often public or non-profit. Other authors speak
of the quaternary sector as the public service sector and quintary sector as the services
provided by non-profit organizations.
Again other authors (e.g. IVANIČKA et al. 2012) suggest including into quaternary sector
science and research, IT or automatized communication systems. Economic effects are
foremost indirect, but with a great impact on the economy and its market sphere, since it is
directly linked to intellectual potential and is concentrated mainly in the urban structures.
Quintary sector includes economic activities in the field of ecology and environment (e.g.
waste disposal systems). Its localization is in most cases linked to rural or contact structures.
6.1.2 Strategies and instruments of structural policy

At the beginning, we divided structural policy into passive and active. We divide passive into
conservation and accommodation. These basic types of structural policy are characterised by
their strategy and the economic policy instruments used (PETERS 1975, 1988, ŠÁLKA,
TRENČIANSKY 2004).
The aim of passive conservative structural policy is usually:
- securing sectoral income for the owners of production factors (e.g. agriculture and
forestry),
- maintain the status of ownership ratios in the sector (e.g. agriculture and forestry),
- equalising, stabilising and improving the income of producers in the sector (e.g.
mining, steel industry),
- securing jobs and income for employees (e.g. mining, steel industry, textile industry),
- maintaining production, market share and company size (e.g. railways),
- protection from competition (e.g. agriculture, steel industry),
- obstructing competition by substitutes (e.g. railways).
Passive conservative structural policy mainly uses the following instruments:
- stating fixed or minimum prices above market price levels,
- regulatory measures for protecting producers,
- subsidies keeping companies in the sector,
- import taxes, contingencies and licenses for export,
- restricting entry to the market for competitors,
- capacity restrictions for substitutive competition.

The aim of passive accommodation structural policy is usually:

- assistance in rationalising a sector by supporting fusions, consolidation and improving
the effectiveness of production (e.g. agriculture and mining),
- removing excess capacities in the sector (e.g. textile industry and mining),
- supporting gradual changes in production programmes in the sector (e.g. agriculture).
Passive accommodation policy uses the following instruments:
- supporting mergers and consolidations,
- bonuses for reducing capacities,
- financial aid for supporting the adaptation of production,
- decreasing the number of employees using premature retirement,
- financial support for changing the qualifications of labour power,
- bonuses for improving labour mobility.

The aim of active accommodation structural policy is usually:

- change the concentration in the sector (e.g. deregulation of telecommunications),
- supporting research in selected sectors of the future (e.g. biotechnology),
- supporting innovation in selected sectors of the future (e.g. the wood industry),
- improving the flexibility of production factors in the sector (e.g. mining).
Active accommodation policy uses the following instruments:
- supporting investment in selected sectors,
- financial support for research and development,
- consultancy in adopting innovation,
- financial support for adopting innovation.
6.1.3 The relationship of structural policy to stabilisation and distribution policy

Economic growth generally results in structural changes in the national economy (PETERS
1975, 1988). This means that a growth in the gross domestic product in agriculture, for
example, results in a relative decrease in demand per capita, in industry demand first grows
progressively then degressively, and the service sector grows fastest in the third development
phase. Another relationship between economic growth and the structure of the national
economy lies in the fact that growth in productivity in the individual development phases of
the economic cycle concentrates in certain sectors. Innovation in some sector lessens medium
term conjunctural fluctuations. If the investment options of a certain essential discovery are
exhausted, this is usually followed by a long term conjunctural fluctuation. The third
relationship between growth and structure arises from the fact that growth policy often
depends upon sectoral instruments. An example is the support of research in key sectors.
Conjunctural fluctuations do not influence all sectors equally. In sectors in which innovation
is only on a small scale, the growth phase of the conjunctural cycle is expressed in a general
growth in prices. When economic performance decreases, many companies are perceived as
being unprofitable, i.e. the performance of the whole sector decreases. In innovative sectors, a
recession is not expressed in absolute restriction of production, but only in a decrease in the
growth of production. Cyclical fluctuations in the level of production and prices can also be
observed in individual sectors. A typical example is, e.g. Cobweb systems observed in
agriculture which induce the need for stabilisation measures.
The main aims of conjunctural policy include reducing unemployment. Apart from the so-
called conjunctural unemployment, we also recognise structural, seasonal and frictional
unemployment. Frictional unemployment is caused partly by structural changes or
conjunctural factors in the national economy. Workers are leaving one sector but find a job
within growing sectors within a short time. Structural unemployment is long term
unemployment caused foremost by structural changes.
Another relationship between stabilisation and structural policy arises from the various
reactions of sectors to global interventions of the state into the economy. The low
effectiveness of conjunctural influence upon the whole national economy via fiscal and
monetary policy induced a requirements to shift to sectoral conjunctural policy, i.e. only apply
conjunctural policy in selected sectors.
The relationship between distribution policy and structural policy arises from the fact that
the market process determines allocation and redistribution. The market determines price
relationships and therefore also the result of allocation and redistribution. If there is
intervention into the market process within structural policy, this does not only change the
results of either allocation or distribution, but always both results. Interventions are usually
due to redistribution but these always result in unfavourable allocation results. If the state
determines minimum prices for agricultural products or limits the importation of agricultural
products from abroad, then the state's aim could be to secure sufficiently high income for
agriculturists. At the same time, however, this also influences the allocation of resources to
less effective production and decreases the sector's competitiveness, since some products
could be produced more cheaply abroad. Therefore, only such distributive state interventions
are recommended which result in improved allocation in the long term.

6.2 Forestry sectoral policy

The main aim of forestry sectoral policy is allocation policy focusing upon correcting market
failure (ŠÁLKA, TRENČIANSKY 2004). However, within a sector, i.e. also within forestry
management, the state administration of forestry management follows sectoral policy focusing
upon the aims of directing performance, competitiveness, employment, company structure
and economic stability within the sector. One of the reasons for applying such programmes
within forestry sectoral policy is the very poor effect of national economy programmes in
forestry. Apart from anything else, the lack of great influence is due to the low proportion of
gross added value by forestry in the gross domestic product or due to the low proportion of
employees in forestry against total employment. Forestry is becoming more important within
regional policy since it has a stronger position and options for supporting development in
economically weaker regions. However, such sectoral policy should be in compliance with
national stabilisation, distribution and structural policy arising from the vertical target
relationships in economic policy. State forestry administration has two basic strategies
available for achieving sectoral aims within improving economic performance,
competitiveness of the sector, influencing employment and ensuring economic stability
(TROJANUS 2000):
 "growth oriented strategy",
 "maintenance strategy".
The aim of growth oriented strategy is to improve investment activities and support
innovation and innovative behaviour in the sector. However, in terms of creating a
competitive environment, this should focus upon the economic infrastructure, improving the
market structure (e.g. economic associations of forest owners) and improving the economic
efficiency of companies. The support of innovative behaviour and investment activities in
forestry management is based on supporting the creation of new markets (e.g. in the field of
bioenergy), implementing the utility functions of forests in the market mechanism (e.g. the
recreation function of forests) or seeking new activities close to the heart of forestry (e.g. real
estate activity, wood production). The aim of such strategy is to involve forest management in
the fastest developing services sector. The most important instruments of such a strategy are
financial subsidies and consultancy. In the social area, such strategy is accompanied by
requalification measures and activities focused upon the entrepreneurial independence of
employees and therefore focusing upon lessening social upheaval.
Secondly, sectoral state administration may implement so called maintenance strategy with
the aim of maintaining the income of the population connected to forestry and to prevent the
loss of jobs in forestry before new jobs are created within the sector. Instruments of such
strategy mainly include financial subsidies keeping companies in the sector, administrative
measures to prevent a decrease in unemployment and to create new, even ineffective, jobs.
However, improving the economic efficiency, competitiveness as well sustainable
employment is disputable under this strategy. In the long term, however, such measures may
lead to a decrease in the sector's overall economic efficiency, to an increase in dependence of
the sector upon the state and to a deepening of the total economic imbalance in the sector with
in impact upon technologically-related sectors and the entire national economy.
These two strategies of state forestry administration are quickly fused into these basic areas of
forestry sectoral policy:
- influencing company structure in forestry,
- supporting investment and innovation in forestry companies,
- stabilising the wood markets,
- social policy and employment policy in forestry.

The main aim of influencing company structure in forestry should be to manage the
structural disadvantages of woods, to increase the economic efficiency and competitiveness of
forestry companies, to increase the competitive environment, to improve income from forest
assets and to ensure proper forest management. Common activities of owners of forests
covering a small area can be oriented upon fulfilling the following partial aims:
- economic and management planning,
- increasing efficiency in the sale of wood by individual members via associations,
- joint procurement of materials, the work of supplying companies, consultancy
activities,
- joint investment activities (building forest roads, joint procurement of mechanised
means),
- increasing employment, mainly by owners.
Stating the aims of a particular association should be by agreement by the owners. An
association should focus upon all aims and not just some. It is very common abroad that
associates are only oriented upon joint sales of wood or just upon constructing and
maintaining roads. The level of legal and economic integration also depends upon selecting
joint activities. Owners can act independently and only merge in order to perform one
activity, or they merge and perform all activities together whilst the owners have ideal shares
in the association.
From a forestry sectoral policy viewpoint, influencing company structure should ensure these
partial aims which create relationships to other policies:
- improving the competitive environment,
- improving the economic situation in rural regions,
- increasing unemployment,
- improving the economic efficiency of forestry companies,
- improving the fulfilment of utility functions,
- decreasing state administration costs.
The basic instrument for influencing company structure is financial support depending upon
the level of integration of the forest owners. This may apply to initial investment into
machinery, mechanisms, buildings or joint construction and maintenance of roads, and
supporting the sales of forest products. Financial contributions may be provided for
administration costs or personnel costs during the first years an association functions.
Another supporting measure could be tax relief.
A very important strategy in clustering forest owners is to create conditions for integrating
forest land. Here, mainly regulatory instruments are used which address the technical and
legal basis for consolidations. Financial support (e.g. focusing upon preparing geometric
plans) and awareness of the advantages and procedure of the merging process are very
important when merging land.
Effective accompanying measures for working with the public in the target group of small
forest owners which would intermediate the aims of forestry policy in this area in layman's
terms appears to be necessary. Forestry and economic awareness in this target group is
markedly deformed and important tasks therefore await state administration in this field since
only sufficient awareness of the advantages of being part of an association can bring the
required effect. It would be suitable to link publics relations activities to the advisory system
for the non-state sector.

Ensuring the aims of improving economic efficiency and increasing employment in forestry is
based on policy for supporting investment, innovation and innovative behaviour by forest
companies. This part of sectoral policy is closely related to protection of competition policy,
active structural and regional policy and, simultaneously, to national stabilisation policy.
Rejuvenation investment in forestry has been following a decreasing trend since 1990 and
similarly, the process of developing investment has only partially commenced. The low
investment activity in forestry was caused by low profitability of capital in forestry, high
interest on foreign capital, unfavourable loan conditions, low use of existing tangible assets,
mainly in state forests, and the low price of labour. Financial support for investment activities
also affects the creation and maintenance of jobs in forestry, although such support may have
the opposite effect due to crowding out of labour by capital. Financial support of investment
in forestry should also support greening of forestry (e.g. cable ways).
The support of innovation and innovative behaviour by forest companies is important in
forestry. According to SCHUMPETER (1934), innovative companies are those which:
­ introduce new products or services to the market;
­ use new methods of production;
­ apply new forms of organisation;
­ make new markets accessible for products;
­ make new markets accessible for production factors.
State forestry administration may use various instruments for supporting innovation and
innovative behaviour by forest companies. New framework conditions for introducing
innovative elements in companies are created by ensuring the functioning of markets (the
"exploring" function of competition) and by supporting research and development institutions.
Using economic instruments, they may strive to support new innovative investments and
implement innovations in forestry companies or establish new companies. Information
instruments play an important role in innovation policy for diffusing information about
possibilities for innovation by forestry companies. Information instruments should also play
an important role in promoting wood as a domestic, ecological and renewable raw material.
Another instrument is supporting so called innovation networks between forestry companies
and research and development institutions as well as creating innovation networks with wood
processing industry companies, the tourism industry, etc., or supply companies.

Social policy and employment policy in forestry is compatible with national distribution and
stabilisation policy without special programmes in forestry. Based on the transformation of
forestry to a market economy and long term structural changes, employment in forestry has
been constantly decreasing since 1990. The high proportion of manual labour is reasoned
objectively in forestry. Personnel costs in forestry companies form as much as 45% of total
costs. Since 1990, the supply of labour power in the job market has been higher than demand.
The decrease of employees in forestry since 1990 is approximately 50%. The majority of
forest workers come from rural areas. The unfavourable economic situation has an negative
impact upon employment, mainly in regions in Slovakia with a high rate of unemployment.
Special social policy and employment policy which arose from the needs of forestry focused
in the past upon maintenance strategy sectoral policy and served for easing the impact of
structural and transformation changes in forestry.

Some markets recorded great fluctuations in prices and quantities over time
(HENRICHSMEYER, WITZKE 1994). Such fluctuations induce the need for stabilisation
measures in individual markets. Great fluctuations in prices and quantities over time are
caused by the fact that elasticity of supply and demand are relatively low. Depending upon
the market structure, on the supply side companies usually respond by changing prices and
not quantities. Changes in the offered quantity usually depend upon natural conditions (length
of the production process, calamities) or upon political influences. A typical example is, e.g.
the cobweb model (Fig. 6-3). This model explains fluctuations in prices and quantities based
on two phenomena: response rates and uncertainty. Based on expectations, quantity and price
change on the supply side. Supply predicts price C1 at the beginning of the period and they
adapt their volume of production Q1 accordingly, but, for example, as a result of the length of
the production time, the situation on the market changes and demand is only able and willing
to purchase the offered amount for price C2. Supply revises its volume of production for the
next period to Q2 since they predict price C2. At the end of the production cycle, this amount
can be implemented at price C3. This means that in the next period, the price expectations of
the supply were not met and the produced quantity will again be changed. However, this
model has a tendency to converge until market equilibrium is reached.
When there is an imbalance on the market, adaptation processes may not lead to a new
optimum, but the market is even more destabilised. This can occur, for example, if:
- the adaptation of supply to the market price is late (agricultural, forestry),
- supply expects that the observed changes in prices will also take place in the future
(homogeneous expectations),
- supply derives the same conclusions from these expectations without having the
situation documented (imperfect information).

CD
Supply
curve
C1

C3

CR

C2

Demand
curve

Q2 QR Q3 Q1
Fig. 6-3 Cobweb model QD

In forestry, the need for stabilisation is induced by natural disasters (calamities). An excess
timber supply induces a decrease in prices. This situation is characteristic of large, open
economies in which the majority of production is processed by a their own wood processing
facilities, or a larger amount is imported. A typical measure for eliminating such an imbalance
is so-called wet storage. Stores play the role of a buffer acting against a market imbalance.
Another state intervention is providing subsidies for processing calamity wood since a
calamity induces great pressure upon a company's liquidity. Further, the infrastructure in
forestry companies is supported financially, for example, by building a forest transport
infrastructure. Such a measure assists forestry companies to economically manage the
processing of a large quantity of wood and tasks in the subsequent care of new stands. The
final measure is income tax relief since a calamity exceeding mining opportunities causes a
decrease in the substantial value of a company. Income from such calamities is usually taxed
at a lower rate or the tax duty can be split over several periods.
6.3 Policy of the wood processing sector (Andrea Sujová)

The sector of the wood processing industry is extremely multifunctional and provides
a wide range of materials and products. It provides an economic, environmental and social
contribution based on the utilisation of renewable resources. Wood-based products are
recyclable, reusable either in new products or as energy. They are biodegradable and can
substitute materials from non-renewable resources. Additionally, by storing carbon in forests,
its binding in products of mined wood and by replacing non-renewable raw materials with
wood, the forestry/wood sector contributes significantly towards buffering climatic changes.
The use of wood as a renewable raw material is of exceptional social importance since
wood and wood products sequester carbon and decrease its volume in the atmosphere, wood
products are produced in a low energy production system with minimum emissions compared
to other building materials, offcuts and other secondary residues of wood from sawmills and
timber mills are used for producing wood based panels, wood products can be re-used and
recycled and they can be used as a source of bioenergy at the end of their lifetime.
In terms of the raw materials used, all wood processing sectors producing cellulose,
paper, paper packaging, sawmill products, wood based panels, furniture and bioenergy have a
common denominator: it is either wood or recycled paper and wood. The production chain
starts with mining wood in a forest and ends with the final wooden product. The entire
competitiveness of production is greatly influenced by the competitiveness of individual
phases of the production process.
Due to the distribution of resources of raw materials, the wood processing industry is
important in terms of the regional development of small and medium business since it has good
opportunities to use changes in production technology and the results of innovation processes, it
can support the development of employment with a relatively low capital input and it responds
more quickly to market requirements. It plays an important role in retaining employment in
rural areas. Wood processing industry sectors are generally competitive and are world leaders
in many areas.
The wood processing industry sector is currently facing many problems and
challenges. It is directly influenced by climatic changes, competition in obtaining sources of
wood, fluctuations in consumer demand, increasing competition and the growing complexity
of production processes. Despite the mentioned problems, a great opportunity for the
traditional forestry/wood processing sector, using non-foodstuff renewable natural resources
in a sustainable and responsible way, is the increasing use of biomass - dendromass - in
comparison with fossil resources. The sector is an important part of a developing economy as
well as the whole of society, and a new, prospective direction based on biotechnology.
Since 2008, the Green Economy Initiative has given impetus for the government of
member states to invest in the environment which should, together with the development of
international policy, market infrastructure and reforms in domestic policy, ensure a transfer to
an economy which achieves growing affluence, provides decent employment, successfully
resolves the issue of ongoing poverty and decreases ecological and climate risk. An important
area related to the green economy is green building. Many comparative studies speak in
favour of the wider application of wood as a building material. They state that the production
of steel and concrete for construction purposes consumes twice the amount of energy as for
construction wood. The costs related to mining and transporting wood are much lower than
the costs related to mining iron and aluminium. Wood is also a natural temperature and noise
insulator.
The vision for 2030 for the European forestry/wood processing sector, in accordance
with a proposal prepared by the Forest-based Sector Technology Platform, states that the
forestry/wood processing sector will be an important component of a biotechnology-based
society. A current trend in the economic policy of states is the development of the use of
renewable resources of raw materials, materials and energy. The wood processing industry is
based on the use of a renewable resource which is wood as a raw material, and therefore has
great prospects and is amongst the permanently sustainable sectors. The aim of economic
policy is therefore to build an innovative, competitive and permanently sustainable wood
processing industry. The activities of the forestry/wood processing industry as whole fully
respect all three pillars of permanently sustainable development: economic effectiveness,
social acceptance and utility and environmental performance.
The main aim of sectoral policy in the wood processing industry is to increase this sector's
competitiveness. The key role in increasing the competitiveness of the wood processing industry
is to increase the utilisation of wood in other than the traditional sectors, such as the
construction and energy industry and to highlight individual sectors of the wood processing
industry. For this aim, it is necessary to increase the intensity of research and development in
the area of technology, and to increase the qualification level of employees in the wood
processing industry.
To achieve the main aim, it is necessary to prepare and mainly to apply a strategy of
permanently sustainable production, processing and utilisation of wood as a renewable raw
material, which is a necessary base for increasing the effectiveness of production processes
and the efficiency of direct and indirect supporting measures.
The main priorities of economic policy in wood processing can be considered as:
­ harmonising the quantity and qualitative structure of processing capacities with the
production (mining) of wood in the long term,
­ supporting possibilities for international cooperation in building and reconstructing
processing facilities with the use of domestic expert knowledge,
­ applying a regional principle in compliance with the priorities of a green economy:
reducing the carbon footprint via processing wood mass where it is produced without
the need for increased transport costs and via supporting small and medium
businesses,
­ ensuring a high level of quality in wood processing and finishing in the country
producing the wood,
­ increasing the use of wood and wooden products at the expenses of products made of
other materials,
­ supporting the domestic consumption of wooden products from domestic production,
­ increasing the rate and effectiveness of the energy utilisation of waste in wood
processing,
­ an active role by the state in the transfer to a green economy: mobilising wood
resources and increasing the potential for a permanently sustainable supply of wood,
replacing non-renewable materials and energy, and effective use of wood.
Wood processing industry policy uses instruments from several areas of economic
policy:
- structural policy: instruments for supporting innovation, increasing the
competitiveness of the sector,
- regional policy: supporting small and medium businesses in the region by using
locally accessible sources of wood as a raw material,
- foreign trade policy: supporting domestic processors of wood, limiting the export of
raw materials and the import of products with high added value,
- budgetary and monetary policy: forms of state aid for supporting investment in the
WPI,
- ecological policy: supporting ecologically suitable wood-based products,
 - competition policy: providing conditions for effective competition, mainly on the
wood raw material market, providing state aid in compliance with the general rules for
its provision.
Within economic policy for the wood processing industry sector, it is necessary to
define the government's instruments and measures which facilitate the achievement of the
stated aims and priorities, mainly to increase competitiveness and the innovation activities
within the sector, to decrease unemployment and to support regional development.
Increasing competitiveness and innovation in the sector:
- Involving domestic research and development institutions (universities, research and
development organisations) into the strategy of the FTP (Forest-based Sector
Technology Platform). Research in various areas such as the protection of the
environment and biodiversity, mining technology, wood processing, biotechnology,
etc., is necessary for resolving tasks in research and technological development, with
the aim of improving the sector's competitiveness via developing innovative products
and services as well as via more effective utilisation of raw materials and energy at
national and sectoral level. An irreplaceable role will also be played by the use of the
expert and research potential of universities and it is also necessary to increase the rate
of utilisation of the results of such research in practice.
- Creating an entrepreneurial infrastructure in the wood processing field (clusters,
forestry/wood processing consortiums, science and technology parks, business
incubators),
- Adapting the structure of processing capacities to the development of mining options
at home and to possibilities for actual import from the surrounding countries via
developing international cooperation and direct foreign investment in the production
of absentee products in the domestic markets of economies.
- In the interests of increasing the competitiveness of the whole sector, accompanied by
the creation of new jobs, it is necessary to implement effective measures for the
preparation of educated and skilled labour and specialist schooling; the measure needs
to be implemented with the cooperation of both sectors: public and private.
In order to achieve improved quality and rate of finishing of wood processing, the following
is necessary:
- Ensure the support of investment in production technology from state budget and EU
budget means. Investment in technology with the aim of increasing productivity of
work will contribute towards increasing competitiveness, better quality production and
to better finishing of wood in domestic conditions. Investment should be directed
towards the production of new materials for other industrial segments.
- Support interest rate subsidies on commercial loans and the issue of bank guarantees,
and therefore make available financial means from the banking sector for investment
under the condition of the creation of new jobs.
Support domestic processing of raw wood and timber can take place via the following
measures:
- Decrease the export of wood, mainly via improving the capacities of the domestic
wood processing industry, its finalisation mainly in processing the best quality wood
and improving customer-supplier relations. Another possibility to decrease the export
of raw wood is the stating of export quotas or granting export licences.
- The creation of an effective system of cooperation, trade and logistics relations
between forest management (wood producers) and the wood processing industry
production sectors. Implementation of measures for closer links between forest
management and the wood processing industry whilst relationships between sectors
must be based on the acknowledgement and respect of mutual needs.
 - Binding state support for wood producers for supplying wood to domestic processors.
- Preparation of a system of motivational economic instruments for supporting the
comprehensive processing of wood by domestic processors.
Supporting the adding of value to the potential of wood based on small and medium
businesses acting in the regions by using locally accessible resources, with the aim of
increasing employment and related regional development:
- Supporting small and medium businesses in wood processing in the region of origin of
wood mass (to avoid the large transfer of the wood mass), via budgetary and regional
policy instruments and via active policy in the employment market.
- Preparing a concept for supporting the comprehensive processing of logs which
subsequently facilitates the creation of other options for the use of poorer quality
wood, which will create further options for increasing employment as well as self-
sufficiency by regions in terms of raw materials for energy.
- Economic instruments should focus upon the creation and support of small and
medium businesses in the interests of increasing their competitiveness via innovating
the production process with the aim of achieving and increasing the added value of the
products. At the same time, this will result in increased employment and overall
development of regions.
Achieving increased utilisation of wood biomass as well as side products when processing
wood for energy purposes:
- For rational coverage of the increased demand for fuel biomass and in order to meet
the needs of the cellulose/paper industry, prepare a system of economic stimuli to
support the production of firewood with aim of increasing its economic accessibility,
weakening the pressure upon the use of wood for energy, better quality and more
effective distribution of support from public resources between producers of wood fuel
biomass and energy producers. Support permanently sustainable growth in the
production of wood fuel biomass, its economic efficiency and favourable ecological
impact.
- At regional and national level, support development of the market in fuel dendromass
produced in forestry, processing sectors and on non-forest land, in the interests of
more effective diversification of the use of primary energy resources and increasing
the energy self-sufficiency and safety of the supply.
- Support the growth and effectiveness of energy production using wood biomass:
support the building of resources for energy production using wood biomass, whose
energy, economic and ecological parameters correspond with the quality of fuel
accessible in the given location or region. Improve effectiveness in the production of
energy using wood biomass by suitably combining the use of energy resources owned
by the energy company, wood processors and other energy producers.
- Support long term and unilateral cooperation between producers of wood biomass and
energy producers based on economic links in green, low-carbon economy in order to
strengthen stability and economic effectiveness in this field.
Improving demand for wood products in compliance with the principles of permanent
sustainability:
- Support the development of the production and consumption of wood-based products
which have the potential to decrease the negative environmental impacts, such as
wooden constructions, fabricated buildings, building products, wooden products
consumed daily, etc. The measure focuses upon supporting wood products accepted as
less harmful to the environment, with the potential to obtain a national or international
"Environmentally Friendly Product" label.
 - Supporting measures for improving the image of wood processing industry sectors and
their products with the public. To improve the image, mainly use arguments about the
role of wood and wood products in lessening the impact of climate change, about their
advantages in comparison with other materials, emphasise the fact that when adhering
to the principles of permanently sustainable forest management, it is an ecologically
friendly and renewable raw material without a risk of exhaustion. Support promotional
programmes and campaigns focused upon damage and the wide public.
State aid may play a positive role in applying instruments. It is recommended that the
provision of state aid is applied to all companies, not only foreign, which contribute in
significantly developing the wood processing sector, the creation and maintenance of jobs and
regional development. In relation to the provision of state aid, however, it is necessary to
adopt measures to eliminate market deformities as a consequence of state aid.

Summary

The need for structural policy is mainly reasoned by changes in the structure of the national
economy caused by sectoral problems as well as insufficient mobility of production factors
which negatively influences economic growth and an increase in labour productivity,
structural imbalances in the form of excess capacities or narrow places which mean even lead
to structural crises, an insufficient ability by economic subjects to adapt to changes in the
structure of the national economy, social problems, mainly structural unemployment induced
by structural changes, poor functioning of market economy coordination mechanisms in some
sectors of the national economy. We divide structural policy strategy into passive and active.
We divide passive into conservation and accommodation. These basic types of structural
policy are characterised by their strategy and the economic policy instruments used.
The main aim of forestry sectoral policy is allocation policy focusing upon correcting market
failure. However, within a sector, i.e. also within forestry management, the state
administration of forestry management follows sectoral policy focusing upon the aims of
directing performance, competitiveness, employment, company structure and economic
stability within the sector. One of the reasons for applying such programmes within forestry
sectoral policy is the very poor effect of national economy programmes in forestry. State
forestry administration has two basic strategies available for achieving sectoral aims within
improving economic performance, competitiveness of the sector, influencing employment and
ensuring economic stability - "growth oriented strategy" and "maintenance strategy". These
two strategies of state forestry administration are quickly fused into these basic areas of
forestry sectoral policy: influencing the entrepreneurial structure in forest management,
supporting investment and innovation in forest companies, stabilising wood markets and
social policy and employment policy in forestry management.
The wood processing industry is based on the use of a renewable resource which is wood as a
raw material, and therefore is amongst sectors with great prospects based on biotechnology.
Wood processing industry policy follows on from forestry policy and shows signs of
protectionist policy. Its task is to ensure effective utilisation of sources of wood as a raw
material in the place of its production and therefore the permanently sustainable development
and competitiveness of the wood processing industry. Wood processing industry policy
favours a regional approach to processing wood raw materials, which supports local
production, consumption and trade, and increases employment in the given region. Apart
from supporting the production of traditional wood processing industry products, increased
attention of state policy is currently being paid to the use of wood biomass for energy
purposes and to the increased use of wood in the construction industry. A key role in ensuring
the competitiveness of the wood processing industry is played by an effective system of
cooperation between wood processors and producers and harmonising processing capacities
with the production options of individual types of wood raw material.

Questions:

1. Describe the reasons for the existence of structural policy!

2. Describe the structural changes and crises in the national economy!
3. Classify the national economy depending upon criteria into primary, secondary and
tertiary sectors and describe their historic development!
4. Describe the strategies of structural policy! Which strategies are suitable for
forestry/wood processing as a whole?
5. Describe the areas of forestry sectoral policy!
6. What strategies of forestry sectoral policy do you know?
7. Instruments of which areas of economic policy are used in wood processing industry
policy?
8. How and where is the protectionism of wood processing industry policy expressed?

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7 Economic integration and European Union policy (Andrea Sujová)

National economies are currently intensively influenced by internationalisation and

globalisation processes. The majority of countries have the nature of open economies where
international cooperation in various forms takes place. Economic integration and globalisation
are processes which also change the options of governments in influencing the economic
system in their country. Integration establishes the opportunity to coordinate individual areas
of economic policy in countries in a common integration group.
The aim of this chapter is to inform students about the processes of integrating
national economies, to define economic integration and its forms and to analysis processes of
European economic integration and their influence upon economic policy.

7.1 The basis and degrees of economic integration

Unlike globalisation, economic integration is a process into which economies enter

voluntarily based on positive expectations related to integration. Integration establishes the
opportunity to coordinate economic policy in countries in a common integration group. Each
economy participating in the economic integration surrenders part of its economic and
political instruments (HOLKOVÁ 2007).
Economic integration may be characterised as a process of the gradual removal of
economic barriers between independent states whilst the final aim is that the appropriate
groups of states functions economically as one unit. The result of economic integration is the
merging of individual countries into a larger, economically more advantageous units in which
obstacles caused by the borders between individual countries cease in a certain way.
The advantages of economic integration between states come from the principles of
international trade and international division of labour. The gradual merging of national
economies into higher integration units can be achieved in two basic ways (BALÁŽ ET AL.
2000):
- via the institutional method which lies in integration based on a decision by national or
multi-national bodies,
- via the liberal method, where a decisive role is played by the market itself so
integration is created without state intervention.
There are two criteria for classifying the integration processes:
- Depending upon the level of integration: if it is the direct connection of individual
market subjects, then it is microeconomic integration (e.g. transnational companies), if
it is the connection of national economies as units we talk about macroeconomic
integration and if the integration is only related to some sectors it is sectoral
integration.
- Depending upon the territory, we distinguish between regional integration, if the group
is within a continent (e.g. Europe) or global, i.e. global integration.
Further in this chapter we shall address macroeconomic and regional integration.
Macroeconomic integration is the linking of individual national economies in order to
create a multinational complex. It is carried out in an institutional way, mainly based on inter-
governmental acts. Depending upon the level of interconnection, macroeconomic integration
is divided into six levels (HOLKOVÁ 2007, LIPKOVÁ 2006):
­ The free trade zone is the integration of states between which there is mutual trade
without customs tariffs and quotas, whilst in international trade with other countries,
they apply their own, autonomous methods.
 ­ Customs union means the establishment of the same customs policy for states in the
free trade zone against third countries.
­ Apart from liberalisation of the movement of goods and services, a common market
also means the liberalisation of capital and labour.
­ Economic union: the common market is supplemented by mutual coordination in the
area of economic and social policy, or by the creation and existence of common
policies.
­ Monetary union: within economic union, there is a common currency and common
monetary policy.
­ Political union: takes place if integration proceeds towards formulating other aims,
not only economic, and their achievement is only possible via a common government.
Political union includes economic and political integration where there is one common
government, a central bank and common economic policy in all areas.

7.2 European Integration

European integration has the nature of regional economic integration. In terms of

European integration, this is the merging of European countries into a community. These
countries are united in various fields, e.g. economic, political, etc. The primary reason for
European integration was to ensure peace, prosperity and a new future for the continent. The
current name for European integrational grouping is the European Union.
Degrees of macroeconomic integration achieved in European integration:
­ Free trade zone: in 1960, by founding European Free Trade Association (EFTA),
which set itself the target of facilitating a free market without common institutions.
The founding Member States were: United Kingdom, Denmark, Ireland, Portugal,
Sweden and Switzerland.
­ Customs union: in 1968, by removing internal customs duties and implementing a
common tariff against non-member states as an intermediate stage to the common
market. However, the liberalisation of trade in agricultural products proceeded more
slowly. The creation of the Customs Union was part of the agreement of EEC Member
States (France, the Federal Republic of Germany, Italy, Belgium, Netherlands and
Luxembourg).
­ Common market: in 1993, by the cancellation of restrictions on the movement of
capital and the creation of the Schengen area in 1995, a space without borders, which
permitted even the final freedom of movement, i.e. the free movement of people.
­ Economic union: formed in 1994 - 1998, when the European Monetary Institute and
European Central Bank were established to coordinate monetary policy, economy
convergence was strengthened via the Stability and Growth Pact in the area of
budgetary policy and the name of the common European currency, the Euro, was
approved.
­ Monetary union was established in 1999 by the adoption of the common currency, the
Euro, by 11 member states and, at the same time, the new ERM II exchange rate
mechanism was established against states outside the European monetary union. At
present, 18 of the 28 European Union member states use the common Euro currency.
(Germany, Italy, France, Belgium, Luxembourg, the Netherlands, Ireland, Finland,
Austria, Portugal, Spain, Greece, Slovenia, Malta, Cyprus, Slovak Republic, Estonia,
Latvia, Lithuania).
7.2.1 The creation and development of the European Union

We can consider the official start date of European integration to be 9 May 1950 when
the French Minister of Foreign Affairs, Robert Schuman declared a memorandum which was
created by the Commissioner-General of the French National Planning Board, Jean Monnet.
This memorandum contained a proposal for creating the European Coal and Steel Community
with the aim of removing hostility between France and Germany (LIPKOVÁ 2011).
The establishment of the European Union was preceded by the creation of three
European communities: ECSC, EEC and EURATOM. The European Coal and Steel
Community (ECSC) was established in Paris on 18 April. 1951 by signing the Treaty of
Paris which became valid after its ratification in the parliaments of six member states: France,
the Federal Republic of Germany, Italy, Belgium, the Netherlands and Luxembourg on 25
July 1952 for a period of 50 years. The Treaty was related to mining products: coal, coke,
steel, iron ore and scrap metal, and is therefore sometimes known as Montan Union. Its aim
was to gradually replace individual national markets in these products with markets with a
common control, planning and sales management. In 1956 in Venice, a Treaty on the
European Economic Community (EEC) and a Treaty on the European Atomic Energy
Community (EURATOM) were prepared. These treaties were signed on 27 March 1957 in
Rome by representatives of France, the Federal Republic of Germany, Italy, Belgium, the
Netherlands and Luxembourg and are known as the Treaties of Rome. The main aims of the
EEC included the creating of a customs union. The aim of Euratom was to create a common
market in nuclear materials, to support their peaceful use and develop cooperation in the area
of the peaceful use of nuclear energy. The organisational structure of both communities was
based on the same principle as the ECSC, i.e. it had a Committee with executive rights, a
Council of Ministers as the legislative body, a Parliament assembly and a Court of Justice.
In 1967, the ECSC, EEC and EUROTOM merged into the European Community
(EC) based on the Merger Treaty signed in 1965. In terms of European integration, important
dates include 1 and 2 December 1969, when The Hague Summit decided on further extension
of the European Community. The mentioned communities now form the basis of the
integrated European group known as the European Union, established by the Treaty on the
European Union signed in Maastricht in 1992 which came into effect on 1 November 1993
(LIPKOVÁ 2011).
The EU currently has twenty eight members. The original six founding members of
the European Community were joined in 1973 by Denmark, Ireland and the United Kingdom,
in 1979 by Greece, in 1986 by Spain and Portugal and in 1995 by Austria, Finland and
Sweden. In 1990, after the unification of Germany, the former German Democratic Republic
joined the European Community. In May 2004, the widest expansion took place, when the EU
was extended to include another ten members which were Cyprus, the Czech Republic,
Estonia, Lithuania, Latvia, Hungary, Malta, Poland, the Slovak Republic and Slovenia. In
2007, Bulgaria and Romania became members states and the newest member is Croatia since
July 2013. Before entering the EU, all countries had to fulfil several political and economic
criteria known as the Copenhagen criteria.

7.2.2 EU Legal Framework

The first fundaments of European integration are treaties which gradually formed the
economic cooperation between member states.
The Paris Treaty signed in 1951: based on this idea and signature, the ECSC was founded in
1952.
The Treaties of Rome signed in 1957: founding the EEC and EURATOM in 1958.
The Schengen Agreement: was signed in 1985 by representatives of five countries: Germany,
France, Belgium, The Netherlands and Luxembourg, with the aim of removing controls on
internal borders and ensuring cooperation in the protection of external borders. This treaty
was not part of the legal regulations European Communities, but it only became part from
Treaty of Amsterdam. The Schengen Agreement became effective in 1995.
Single European Act: was signed in 1986, it changed and amended the treaty on the
establishment of the EEC and prepared conditions for the completion of a single internal
market.
Maastricht Treaty: signed in 1992, valid from 1993. By signing it, leading European
representatives finalised the significant reform of the founding treaties. In this new era,
cooperation in the area of "common foreign and security policy" and "justice and home
affairs" commenced at European level. Signature of the Maastricht Treaty established the
European Union, roofing all existing integrating activities and therefore this Treaty is also
knows as the Treaty on the European Union. Since the Maastricht Treaty, integrating
activities started to be divided into three main EU pillars. The first pillar: European
communities in which member states, via Community institutions, may apply their own
sovereignty in the areas included in treaties, including all activities implemented prior to
Maastricht. The second pillar: Common Foreign and Security Policy, and the third pillar:
Justice and home affairs - a common approach in the mentioned areas with the aim of
providing a high level of security for citizens in an environment of freedom, security and
justice.
The Treaty of Amsterdam signed in 1997, effective from 1999, extended cooperation within
the Third Pillar to include cooperation in immigration policy and the protection of minorities,
defined basic rights of EU citizens and the basic principles of common foreign policy. The
Schengen Agreement became part of the EU legal system.
The Treaty of Nice (signed in 2001, effective from 2003) represented a new stage in
preparation for expanding the EU to include Central and Eastern European countries,
Mediterranean countries and the Baltic countries. It should prepare European institutions to
also be able to operate after the planned expansion. It addressed their size and way of
functioning. It also extended the voting system to include other areas in which a majority vote
was sufficient, whereas a unanimous vote had previously been required.
Reform treaty, which obtained the official name Treaty of Lisbon (June 2007, effective from
December 2009), retaining the basis of the proposal Constitutions for Europe, but it has
another form and withdraws some political symbols included in the draft of the Constitution
which partially caused the failure of the EU Constitution project. The Treaty of Lisbon
replaces the Constitutional Treaty approved in 2004 which, however, never came into effect
since it was rejected by the people of France and The Netherlands.

7.2.3 EU Institutional framework

The basic principle of the functioning of the European Union is the transfer of rights which
were more under the authority of member states to European institutions. The basis of the
European institutions is the "Institutional triangle": Council of the European Union, European
Commission and European Parliament (LIPKOVÁ, 2011).
The highest political EU body is the European Council (not to be confused with the Council
of the European Union), the members of which are heads of state, the prime ministers of EU
member states and the President of the European Commission. It sessions four times per year,
decides on the most serious political and economic issues and defines the directions in which
the Union should proceed. The European Council makes decisions on a unanimous basis. It is
chaired by the head of state or the prime minister of the state which has presidency of the
Council. European Council summits determine overall EU policy and address issues which
cannot be resolved at lower levels (i.e. at ministerial level at regular sessions of the Council of
the European Union). Due to its importance, discussions in the European Council often last
until the early morning and attract great media attention.
The European Parliament functions as the supervisory and advisory body of the European
Union. It approves the composition of the European Commission and has the right to inspect
its activities, contributes in the creation of laws, expresses consent with international treaties
and the acceptance of new member states. It also has marked power in the area of the
common EU budget. Based on the Treaty of Nice, the European Parliament currently has 785
members which have been elected by EU citizens since 1979 for a period of five years.
Members therefore have the opportunity to associate in parliamentary groups based on
political affiliation and do not therefore sit in parliament in accordance with their nationality.
The seat of the parliament is in Strasbourg but the parliament also works in Brussels and
Luxembourg. The European Parliament shall act by a simple majority.
The Council of the European Union (Council of Ministers or Council) is the EU decision-
making institution and represents the interests of member states at European level. Despite the
fact that many powers in the past were delegated to the European Commission, it still remains
the most influential EU body. It has significant powers in the second and third pillars (e.g.
common foreign policy or police cooperation) and in the first pillar can only made decisions
based on the Commission's proposals. The Council consists of the ministers of the
governments of individual states who meet when necessary. There are nine different areas of
the Council:
­ General matters and foreign affairs
­ Economic and Financial Affairs (ECOFIN)
­ Justice and Home Affairs (JHA)
­ Employment, social policy, healthcare and consumer affairs
­ Competitiveness
­ Transport, telecommunications and energy
­ Agricultural and Fisheries
­ Environment
­ Education, youth and culture:
The Council has six main duties: approving European legal regulations, in many areas of
policy together with the European Parliament; coordinating the main economic policies of
member states; signing international agreements between the EU and other countries or
international organisations; approving the EU budget together with the European Parliament;
preparing common EU foreign and security policy based on instructions given by the
European Council; coordinating cooperation between national courts and policy forces in
criminal matters.
Sessions of the Council of Ministers take place in Brussels and Luxembourg. The Council
decides either unanimously, by a qualified two-thirds or simple majority vote. The Bureau in
the Council is rotating and the Council is presided over gradually by every member state. The
order of presidency by states is decided by the Council unanimously. Each Council Minister
is authorised to accept obligations on behalf of their government and is responsible to their
national parliament and citizens represented by that parliament. This guarantees the
democratic legitimacy of Council decisions.
The European Commission follows the interests of the European Union as a whole and
commissioners therefore should not favour the interests of individual countries. It has the
greatest power in the first pillar, has the right to initiate proposals of laws and supervises
adherence to adopted treaties. It also prepares drafts for the EU budget and inspects its
fulfilment. Further, the Commission represents the EU in international negotiations and has
the right, in compliance with the mandate approved by the Council of the European Union, to
negotiate agreements with third countries. It has significant powers in accepting new
members into the Union and maintains contacts with states not members of the EU. Based on
the Treaty of Nice, each country has one commissioner, of which there are currently 28. The
European Commission makes decisions on a majority basis. Its seat is in Brussels.
The main EU institutions also include:
Courts of Justice, which supervise compliance with European law and which are an important
EU inspecting body.
European Court of Auditors: established in 1977, its role is to inspect the management of the
financial means of all EU institutions and it submits reports on financial management to the
Council of the EU and the European Parliament.
Important advisory and consulting bodies of the European Union include:
Economic and Social Committee associates interests groups of employees, unions and
entrepreneurs which have an advisory capacity in the preparation of laws
The Committee of the Regions is an advisory body formed by representatives of the
municipalities of individual regions and represents their interests.
The European Central Bank is a key institution for the activities of the European Monetary
Union.
The European Investment Bank provides long terms loans for capital investments to public
and private subjects. The seat of the bank is in Luxembourg, with branches in Athens, Lisbon,
London, Madrid and Rome.
The European Investment Fund assists in expanding trans-European infrastructures and
provides guarantees for loans to small and medium businesses.
The European Ombudsman addresses complaints about the activities of EU bodies and
institutions.
The Convention: started to operate in 2002 and makes statements on EU expansion. Members
of the Convention are representatives from acceding and candidate countries.

7.3 European Union economic policy

Economic policy means state intervention into the economy (intervention by state
institutions). It has a particular hierarchy in its aims and in selecting instruments for achieving
these aims. EU economic policy can be divided into two levels:
­ EU common economic policy: powers are transferred to EU institutions, policies are
executed at EU level and are binding for all member states.
­ Coordinated (community) EU economic policy: the majority of powers are left at
national level in member states whilst the EU summarises coordinating activities so
national policies function under similar principles with similar aims.

A characteristic sign of EU economic policy is the coordination of the economic

policy of EU countries has been a permanent part of the European integration process since
the 1990s. It is a mechanism which strives to ensure that policies at multinational level
(mainly Common Monetary Policy) and policies at member state level (mainly fiscal and
structural policies) are mutually interlinked and complement each other.
 The coordination of the economic policy of countries which are integrating is based on
that fact that the economic/political measures taken in one country affect the economic
conditions in other countries: their growth, employment, mutual trade. These impacts can be
positive as well as negative, e.g. a unilateral increase in tax rates or devaluation of a domestic
currency can slow mutual trade. Vice versa, a positive effect ("spillover effect") will be
caused by economic growth, low inflation as well as stability and predictability of exchange
rates in countries linked intensively via mutual trade. The basic motive for coordination is to
balance the spillover effect of national policy with a cross border effect. Today we can adapt
economic/political measures adopted by one country to suit the conditions in another country
to a much greater extent than in the past. The coordination of economic policy therefore tries
to decrease or eliminate negative impacts, to support the positive effects and strives to put
them into economic/political practice. Although there is an article in the Treaty of Rome
about gradual convergence of the economic policy of member states, it is only within the
scope necessary to create a common market. Community bodies have not been given any
powers to coordinate economic policy. A completely new environment and a stronger
necessity for coordinated economic policy was created via the adoption of the Maastricht
Treaty and later by the adoption of the Treaty of Amsterdam. The basic change lay in the fact
that by creating an economic and monetary union, participating countries are joined via a
single monetary policy controlled centrally by the European Central Bank, whilst the situation
is different for fiscal and structural policy since it is executed by decentralised member states.
The coordination of economic policy is necessary in order for the a joint single monetary
policy to be executed by independent central fiscal and structural policy for which each
member state is responsible. Certain budgetary discipline by member states is necessary if the
credibility of the European Central Bank is to be ensured and maintained. Fiscal policy must
be embedded into a long term, stable framework (Bracjun 2008).
After adopting the Maastricht Treaty, the coordination of economic policy started to be
implemented via the following three mechanisms:
- setting and adopting Broad Economic Policy Guidelines,
- multilateral surveillance of economic development in every member state and in the
community as a whole,
- strict monitoring of fiscal policy: development of the budgetary situation and the
status of public debt based on the requirement that member states should avoid excess
public deficit defined in the Stability and Growth Pact adopted by the European
Council in 1996.
The Treaty of Amsterdam extended the range of coordinating economic policy to
include other areas. The most significant contribution was that it was decided to adopt the
coordination of employment policy via cooperation and exchange of experience in this area
between member states. For this purpose, orientation guidelines for employment policy
started to be adopted annually and should be taken into account by member states when
formulating their national employment policy along with their domestic conditions.

Governors of economic policy are those institutions which form, implement and control
economic policy. The governors of common EU policy are the European Commission, the
European Parliament, Council of Ministers, the European Central Bank, the European
Investment Bank, the Court of Auditors and EU Courts of Justice. In EU coordinated policy,
European institutions are also joined by institutions at member state national level
(parliament, government, central bank, judiciary) which implement policy.
The aims of EU economic policy change as it develops. Since the creation of European
integration, the main aim has been to create a common market, i.e. an area for the free
movement of goods, services, people and capital. This aim was fulfilled in 1995. At present,
the aims of EU economic policy are being concentrated in three areas:
­ faultless functioning of the economic and monetary union,
­ the integration of new European states into the Union,
­ permanently sustainable economic growth: achieving economic growth when creating
conditions for welfare, i.e. providing a high level of environmental protection, social
fairness, cohesion and economic prosperity.
The strategic aim of the European Union is to build the most competitive knowledge
economy.

7.3.1 Common EU policy

Common EU policy means that the formation and control of economic policy is under
the authority of EU institutions and member states are obliged to integrate EU regulations into
their legislation and follow European regulations. During the development of European
integration, the following areas of common economic policy were formed: trade, agricultural,
fisheries, transport and monetary policy.

7.3.1.1 COMMON TRADE POLICY

Common trade policy is one of the most important parts of EU foreign relations. It manages
trade between member states and trade between the EU and third countries. The legal basis of
trade policy is Article 133 of the EEC Treaty (one of the Treaties of Rome) which defines the
unified principles for implementing trade policy. In the EEC Treaty in 1958, the signatory
states agreed on the creation of a common market based on the existence of a customs union.
The creation of a customs union was completed in 1968 when EU common trade policy
started to be implemented. Common trade policy is currently addressed in Articles 206 and
207 of the Lisbon Treaty.
The aim of common trade policy is to develop and liberalise global trade and therefore
support global welfare, mainly the welfare of EU states.
Common trade policy instruments:
 The common customs tariff (customs tariffs and quotas) is the core of the customs
union. The EU proceeds with a common, single customs tariff for importing goods from
third countries. The customs tariff does not depend upon which country is the recipient of
the goods; customs tariffs are defined depending upon the production sectors and products
produced. Trade policy therefore represents a common preference for European goods.
The common customs tariff was originally an arithmetic average of national customs
tariffs which were valid in 1957 and this principle has remained unchanged. Customs
quotas and ceilings are determined by the quantity of imported goods which were released
into internal circulation at a decreased or even zero customs tariff. Their use is only
possible based on the ownership of a granted licence.
 Trade protection: The EU has created instruments for protecting domestic markets. They
can be used if there is a suspicion of unfair competition from third countries. The
measures are in compliance with World Trade Organisation rules.
- Anti-dumping measures are measures which are applied in case of dumping by sellers
from countries outside the EU which provably harms the European market. The result
of an anti-dumping measure can be punitive duties or a quantity limit on goods
imported into the EU.
 - Anti-subvention measures are established to protect against subsidised imports. The
EU may impose punitive customs duties upon goods from third countries which
subsidise their goods in order to export them to the EU at artificially low prices. In
2004, the EU first imposed punitive duties upon American goods.
- Import restrictions: The EU may restrict the import of certain goods if it is proven
that the import of the given goods increases so much within a short space of time that
it caused damage to domestic producers. The measures adopted must not discriminate,
which means that the measure must apply to all imports of these goods regardless of
its country of origin.
 Regulation of trade barriers: this is an instrument which supports exports to markets in
third countries via eliminating obstacles to trade, which will benefit those exporting goods
from the EU.
 The Generalised System of Preferences is a special trade regime applied against some
countries (mainly developing), which guarantees them preferential treatment in trade,
either duty free access or a reduction in tariffs. Important agreements include:
- The Lomé Convention with the ACP (African Caribbean and Pacific Countries) group,
- Agreements with Mediterranean countries,
- European agreements with Central and Eastern European countries,
- The Agreement on the European Economic Area signed with Norway, Iceland and
Lichtenstein;
The majority of EU foreign trade relations corresponds with agreements made within the
World Trade Organisation (WTO). The European Union ensures that all these instruments are
used in compliance with international trade regulations stated by GATT (WTO).
Governors of common trade policy:
­ The European Commission, or the Directorate General of Foreign Trade. The
Directorate General consists of six directorates. Proposals for changing customs
tariffs, for signing trade agreements or implementing trade/political protective
measures are prepared here.
­ The Council of the European Union is the decision making body within common
trade policy. As for general matters, the qualified majority decides on the
Commission's proposals.
­ The 133 Committee is a committee which supports the Commission in negotiations
about agreements with third countries or international organisations. It is called by the
Committee and consists of several sub-committees, consisting of national experts for
individual parts of trade policy.
­ The Trade Policy Committee (TPC) - the main task remains to harmonise the
decision-making mechanism in trade negotiations with third countries with the internal
decision-making regulations within the EU.
­ The WTO (World Trade Organisation) is the most important institution in global trade.
WTO directives form the framework in which the EU holds negotiations about matters
related to global trade with third countries.

7.3.1.2 COMMON AGRICULTURAL POLICY

Common agricultural policy contains a number of provisions and mechanisms which

manage the production and processing of agricultural products and their trade. Rural
development is currently becoming the core of this policy. The name "common" means that
all responsibility and decision-making was transferred from member state level to common
EU institutions, i.e. fully under the authority of the Council of Ministers and the European
Commission. The reasons for adopting Common Agricultural Policy did not lie in a lack of
foodstuffs in the regions of the founding countries, but more in its economic and political
impact upon entrepreneurs in the agricultural sector, upon small and large farmers. Common
Agricultural Policy has been implemented since 1962, when agreement on particular
principles of its practical implementation was achieved and these principles almost remain
unchanged today.
The principles of agricultural policy:
- A unified market: organisation of the agricultural market is the same for everyone, it
allows free movement of products within member states and the use of means and
common mechanisms for organising this market.
- The protection of European agriculture by customs duties imposed upon the import of
agricultural products from third countries. The creation of common agricultural
commodities markets is based on protectionist principles (stating unified high prices of
agricultural products, creating instruments for protecting against imports, common
subvention).
- Moral solidarity: purchasers in EU member states are morally obliged to favour
products from EU countries.
- Financial solidarity to support markets: expenses related to Common Agricultural
Policy are mainly paid from the EU budget and expenses paid from national budgets
are minimal.
The aims of CAP
The Treaty of Rome (EC Treaty) anchors the following CAP aims in Article 39, second
chapter:
- to increase agricultural productivity by supporting technical progress and by ensuring
the rational development of agricultural production and the optimum utilisation of the
factors of production, in particular labour,
- to ensure an adequate standard of living for agriculturalists, mainly by increasing
individual income of those working in agriculture,
- to stabilise markets,
- to ensure proper supplying of member states with agricultural products,
- to ensure supplies to consumers at fair prices.
Common organisation of agricultural markets was established to achieve these aims.
Depending upon the given products, this organisation is carried out in some of the following
forms: via common rules for competition, mandatory coordination of domestic market
systems or the European organisation of the market.
Agricultural policy instruments:
Several instruments, split into two pillars, are available for common organisation of the
agricultural markets:
 The first pillar contains market mechanisms, income subsidies and direct payments. These
instruments have existed since the beginning of CAP:
- import charges: this is a fee paid on top of customs duty for importing products, in
order to increase the price of the product to the pricing level in the EU,
- common foreign customs duty,
- intervention prices are the guaranteed minimum prices with guaranteed sales; if the
price of the given product falls, the EU purchases the excess until the guaranteed price
is again reached,
- direct subsidies for products which are only produced in the EU in small quantities,
- income subsidies: this subsidy was initially linked to the range of production and it
later fulfilled the function of equalising payments for decreased production.
 The second pillar was created with Agenda 2000 and with reform from 2003, and includes
intensive support of the countryside:
 - Cross-compliance anchors the level of direct payments to certain environmental
standards,
- anchoring direct payments per number of employees per company,
- modulation: reducing direct payments by 3% (2005), 4% (2006) and 5% in the
following years; the sum saved is divided between member states and is used for rural
development measures.
Since 2000, common agricultural policy has undergone several reforms. Key elements of the
newly reformed common agricultural policy are:
- A one-off payment to EU farmers regardless of production (multi payments can
remain up to a certain extent in order to prevent excess production); this payment will
be linked to legislation addressing environmental issues, food safety, the health of
flora and fauna and animal welfare, as well as to the requirement to keep agricultural
land in a good condition in terms of the agricultural as well as the environment (cross-
compliance).
- Strengthening rural development policy via a greater financing from the EU, new
measures to support the environment, the quality and welfare of animals and aid for
farmers in meeting EU production standards becoming valid from 2005.
- The new rural development policy will be financed by decreasing direct payments
(modulation) to larger farms.
- An asymmetric decrease in prices in the milk production sector: the intervention price
of butter will decrease by 25% over four years, which is an additional 10% price
decrease compared to Agenda 2000. For dried skimmed milk, a 15% decrease will be
maintained for three years, as approved in Agenda 2000.
- A reduction in monthly subsidies in the grain production sector by half whilst
maintaining the current intervention price.
- Reforms in the sector for producing rice, hard wheat, nuts, potato starch and dried
feed.
Financial instruments in agricultural policy:
Initially, the policy was financed by the European Agricultural Guidance and Guarantee
Fund (EAGGF), established in 1962. All member countries contribute to the fund in
compliance with the principles of financial solidarity. The expenses part of the fund has two
separate sections depending upon the purpose for using the funds:
- a guidance section (5%) is used for the financial support of long term, structural
changes in agriculture whilst the funds are mainly directed towards disadvantaged
areas with a low return from the soil, unfavourable climate, mountainous terrain, low
yield and low income for farmers,
- a guarantee section (95%) is used for subsidising agriculture via automatic payment of
a subsidy depending upon a determined overall pricing system.
Based on CAP reforms, CAP financing has been implemented in a new legal framework since
2007 since the concept of financing became non-transparent after many reforms in tasks,
instruments and aims. Two funds were established for the new financial concept:
- The European Agricultural Guarantee Fund: direct payments and measures for
regulating agricultural markets, such as interventions and export refunds.
- The European Agricultural Fund for Rural Development supports rural development
programmes.
The SAPARD programme is an instrument of pre-entry aid for candidate countries. It is
designed for modernising agriculture and developing rural areas. The distribution of support
for individual countries is carried out in the form of pre-payments for implementing the
programme and more often in the form of payment for costs incurred. The sum allocated to
each country is derived from the percentage of agriculturally active population, the total area
of agriculturally used land, gross domestic product and the specific situation in individual
areas.

7.3.1.3 COMMON FISERIES POLICY

Common fisheries policy is a framework for allocating fishing rights in the European Union
and it is related to fishing in Community waters as well as outside Community waters. The
legal basis for a Community decision in compliance with common fisheries policy is Chapter
II of the Treaty on the European Community, mainly Article 37. Common fisheries policy
therefore has had a significant structural component since its beginning.
Governors of CFP
In the European Commission, the Directorate General of Fisheries is responsible for fisheries:
a 290-member team of experts from various fields such as marine biology, shipbuilding,
economics, law, political sciences and veterinary medicine. These officials manage Common
Fisheries Policy in cooperation in interested parties. Fisheries management in the European
Union involves a number of technical commissions representing the offices of member states,
the scientific community, industry and consumers, who are represented in Advisory
Committee on Fisheries and Aquaculture and who submit their comments to proposals from
the Commission.
The aims of CFP
When following the particular aims of Common Fisheries Policy, the Community must ensure
the long term future for fishing activities and the sustainable use of resources and make basic
structural changes in order to achieve a balance between resources and capacities in fisheries.
The main aim of current Common Fisheries Policy is to maintain rational management in fish
resources and the activities of the Communities fleet.
Instruments (measures):
- Long term planning of the use of sources of endangered fish. Proposals for the amount
of fish which can be fished without threatening the stated aims are under preparation.
- Limiting the volume of caught fish which can be supplied to ports by boats is only one
of the means for protecting fish stock.
- Limiting the number of days during which boats can go to sea, or closing areas in
containing young fish or areas where fish lay eggs. Measures may also apply to some
types of fishing equipment, the size of nets and determining the minimum size of fish
can be netted by fishermen.
- Limiting the capacity of the EU fishing fleet: previous experience has shown that
efforts to limit fishing is not sufficient to prevent the extinction of fish if fishing is too
intensive. Technological developments in boating equipment has increased the
capacity of boats to a level exceeding the possibilities provided by the source of fish.
The Fleet Management Department cooperates with member states in decreasing the
capacity of the fleet via strictly controlling adherence to legislation limiting new
increments by the fishing fleet and by providing financial support in the permanent
disengagement of fishing boats.
Funding:
European Fisheries Fund - its task is to assist in changing structures in the production sector
and monitoring instruments in fisheries policy, as well as to support interest in cohesion vis-à-
vis the population and areas engaged in fishing activities. Each member state shall propose a
national strategy plan, stating the specific aims and priorities for Fund activities in terms of
Community strategy directives for Common Fisheries Policy. This strategic plan, which
outlines interventions and financial contributions from the Fund and other necessary sources,
will serve as a reference framework for proposing operational programmes.
In recent decades, the fishing industry, which depends upon rare and unstable natural
resources, has had to adapt to quickly changing conditions in order to remain competitive. To
support these processes of change, the European Union allocates aid via the Financial
Instrument for Fisheries Guidance (FIFG). Financial support from the FIFG flows to
companies processing fish products and fish farms needing support so they can meet the
directives of the European Union on hygiene conditions. The aid is also related to fishermen
who want to improve safety at work on their fishing boats, or production organisations which
take measures to ensure a balance between the supply of fish in member states and market
demand. Support is also given to equip fishing ports, to projects in ports and to projects
supporting small scale fishing. Officials of the Directorate General for Fisheries in member
states, based on cooperation, prepare FIFG investment programmes, monitor their
implementation and, if necessary, re-evaluate the aims of the FIFG.
International Cooperation:
The Community is an active member of many international organisations for fisheries
management which support multilateral cooperation and combat illegal fishing around the
world. It approves measures for common fisheries management with countries involved in
fisheries, and constantly strives to strengthen controls and enforce the law in international
waters. A large part of the European fleet fish outside European Union waters. In order to
manage its fleet, the Community closes bilateral partnership agreements with third countries.
These partnerships form close cooperation between the European Union and the appropriate
third countries within which both parties attempt to achieve development in the local fishing
sector and rational management of sources of fish in the waters of third countries.
7.3.1.4 COMMON TRANSPORT POLICY

Along with agriculture, foreign trade and fisheries, transport is the fourth sector in
which, by adopting the Treaties of Rome, member states decided to transfer all powers to
Community bodies, i.e. to execute common policy in this area. The complicated situation in
the transport sectors, mainly a combination of a state monopoly with an oversized business
sector, led in practice to complicated enforcement of the objectives of Common Transport
Policy. The main conceptual aims for its implementation therefore included:
- controlling monopolies, mainly in rail transport,
- monitoring externalities, mainly the impact upon the environment and safety in transport
systems,
- balanced regional development of the transport infrastructure as one of the conditions for
their social and economic progress,
- regulating prices for transport services if these services become a source of inflation
pressure.
Aim:
The aim of Common Transport Policy is to remove border restrictions between member
states and to therefore contribute towards establishing a common transport market, and the
free movement of people and services between European Union member states. One
objective is to complete the integration of the internal transport market, ensure permanently
sustainable development, innovate in the area of transport and to increase safety standards. In
1995, the Commission prepared the Common Transport Policy Action Programme,
originally declared as a long term aim for developing a single market in transport, was
amended by partial aims by which the Union mainly responded to externalities:
- sustainable development respecting the environment,
- increasing the safety and effectiveness of the transport infrastructure by supporting the
building of trans-European transport networks.
The principles of transport policy:
Based on the provision of the Treaty on the European Community, the following principles of
transport policy were defined:
- common rules valid for international transport where the place of consignment or delivery
is in the territory of a member state or which passes through the territory of one or several
states,
- conditions under which the provision of transport services within one member state will
also be permitted by transporters which are not registered within the territory of that state,
- measures for improving transport safety.
Concrete interpretation of the adopted principles and their enactment into law and executive
regulations was entrusted with the Council of the European Union.
Instruments:
There are legal, financial and information instruments within transport policy. The most well-
known instruments include the White Paper, the provision of the Lisbon Treaty, action plans
and explanatory reports. A number of qualitative measures were established in transport
policy to achieve the set partial aims:
- supporting the integration of transport systems as a basic prerequisite for decreasing
energy and ecological demands by transport (preference towards combined and
multimodal transport),
- supporting the development of trans-European networks where the Union initiates the
implementation of certain projects and studies and co-finances some of them,
- unifying and tightening ecological standards in haulage transport and
establishingEuropean standards for emissions in aviation,
- tightening standards conditioning transport safety, mainly for trucks and in the
transportation of dangerous loads,
- standardising working conditions in transport in terms of safety and protecting the health
of drivers,
- signing transport agreements with other states, including railway corridors.
One of the main instruments in EU transport policy is the Trans-European Network (TEN)
project. The aim of TENs is to create an integrated system which would include European
roads, railways, water and air transport, telecommunications and energy networks. The
mission of Trans-European Networks is to effectively connect European regions and national
transport networks via modern infrastructures. They are a necessary condition for the smooth
running of the internal market since they facilitate free movement of goods, people and
services. Networks are divided into three areas.
- TEN-Transport whose aim is to interconnect road transport with river, sea and high speed
railway transport. TEN-T also includes intelligent methods for managing transport and the
Galileo European satellite navigation system. After completion, the system should consist
of 30 satellites and should provide similar commercial services to the American GPS. In
2004, the European Commission proposed 30 key routes - high speed railway connections within the EU.
- TEN-Energy, with the mission of creating a single European market in energy and securing
energy flows within the EU.
- TEN-Telecommunications, secures the development of electronic networks and data
transfer and is part of the e-Europe initiative.
Financial instruments:
The Marco Polo Programme is a financial instrument supporting multimodal and cross-
border transport within the EU and with countries outside the EU. The aim of the programme
is to lighten road traffic and decrease the environmental burden by transferring the traffic to
ships, trains and aircraft, linking EU states with transport routes and therefore supporting
trans-national transport in the European internal market. The programme was created in 2001
and is the successor of the PACT programme.
From 2007, Marco Polo II started the new budgetary period, including new instruments such
as supporting new directives for preventing traffic jams, and its extension to countries
neighbouring the EU is under consideration.
The ISPA Fund focuses upon supporting projects for developing infrastructures within
transport and the environment. Means are distributed equally between the transport and
environment sectors. The highest share of EU means goes to infrastructure projects in rail
transport. However, the subject of special attention in TENs was and remains the building of a
European motorway system. The western European network is the subject of EU Common
Transport Policy and is fairly quickly spreading towards the south east. Eastern expansion
policy in EU transport policy has started to also consider the issues of developing and
modernising transport infrastructures in candidate countries, including their connection to
existing networks in EU member states.
Transport policy is a classic example of "negative integration", i.e. deepening integrating
bonds via creating conditions for free competition by gradually removing various protective
measures at national level. The result is acceptance of graduate and qualification certificates,
unifying the weights and dimensions of trucks, the load bearing capacities of bridges and
flyovers, implementing a European driving licence as standard and assigning them in
accordance with standard criteria.

7.3.1.5 EU MONETARY POLICY

EU monetary policy is specific in that it acts at both levels:

- common monetary policy is implemented in the states of the European Monetary Union,
i.e. in states which use the common Euro currency,
- coordinated monetary policy exists in EU states which use a national currency.
The main governor of monetary policy is the ESCB (European System of Central Banks)
which consists of the European Central Bank (ECB) and the National Central Banks (NCBs)
of EU member states. This means that the ESCB also includes the national central banks of
those EU member states who have not yet adopted the Euro. This means in practice that these
countries still have their own national currency, still execute their own monetary policy and
their central banks still retain their independence in monetary policy matters. NCBs in the
monetary union are within a narrower ESCB system, the Eurosystem, are absolved of
individual responsibility for the country's monetary policy and their tasks within the single
monetary policy are limited by securing the operating tasks of the ESCB. The basic tasks of
the ESCB are as follows:
- to define and execute the Community's monetary policy,
- to carry out foreign exchange operations,
- to maintain and administer the official foreign exchange reserves of member states,
- to support the fluent functioning of payment systems.
The legal basis of the ESCB is the Treaty establishing the European Community (renamed the
Treaty on the Functioning of the European Union which became effective on 1 December
2009) and the Statute of the European System of Central Banks and the European Central
Bank (ESCB Statute). The Treaty gives general authorisation to the ESCB to perform the
functions of a central bank for the Euro. The ESCB Statute more accurately establishes the
related tasks and functions of the ECB and national central banks.
The main aim of EU monetary policy is to maintain price stability. The ECB Governing
Council defined price stability within common monetary policy as "the year-on-year increase
in the harmonised index of Consumer Prices (HICP) in the Eurozone lower than 2%. Price
stability is maintained within the medium term".
Common monetary policy instruments:
ESCB instruments within single monetary policy can be divided into three groups:
- Operations on the free market: via operations on the free market, the ESCB fulfils the
most important tasks, i.e. mainly control of interest rates, directing liquidity on the
financial markets and signalising the aims of monetary policy. Operations on the free
market are initiated by the ECB and it determines the conditions and instruments for their
implementation. However, they are normally carried out by the NCBs.
- Automatic operations via which it provides and absorbs overnight liquidity. Interest rates
of automatic operations usually represent the lower and upper limits of overnight rates on
the financial markets. Unlike operations on a free market, they are initiated by financial
loan institutions which, if liquidity is required, have unlimited access to overnight loans
from the national central bank (overnight refinancing operations) and vice versa, in case
of excess liquidity, they can make overnight deposits there (overnight sterilisation
operations). Emergency loan resources and the possibility to make deposits are managed
via the NCBs.
- Mandatory minimum reserves: The ECB requires loan institutions established in
member states to maintain minimum reserves on accounts in the ECB and NCBs in
compliance with aims of monetary policy. The level of mandatory minimum reserves
which should be maintained by every institution is determined depending upon its base
for calculating mandatory minimum reserves. The base calculating mandatory minimum
reserves and the rate of mandatory minimum reserves determined in relation to the items
on its balance of accounts. The ECB can mainly use the mandatory minimum reserves as
an instrument for influencing liquidity and for stabilising interest rates on the financial
markets. Apart from loan institutions seated in monetary union member states, branches
situated in the Eurozone without their central bank in the Eurozone also contribute in the
creation of mandatory minimum reserves.
- Interventions in the foreign exchange market are ECB operations related to the
purchase or sale of Euros on the foreign exchange markets with aim of achieving or
maintaining the required Euro exchange rate.
Within the coordination of monetary policy, National central banks of countries outside the
Eurozone strive to maintain the principles of monetary policy focusing upon price stability.
Membership of the ESCB also means a varying level of active cooperation with the
Eurosystem in several areas, e.g. participation in the TARGET2 payment system and
supporting the collection of statistical data. The Exchange Rate Mechanism (ERM II) also
provides a framework for cooperation with the Eurosystem within monetary and exchange
rate policy, where the role of the national banks is to maintain the exchange rate of the
national currency against the Euro within a range of ± 15 %.

7.3.2 Coordinated EU policies

Coordinated EU economic policy represents areas of policy in which powers for creating and
implementing policy are left at member state level and, at the same time, coordination
instruments are created by EU institutions so their implementation is directed towards
achieving the set common EU aims. Coordinated areas of EU economic policy include:
budgetary policy, competition policy, structural and regional policy, industrial policy, policy
for supporting research and technological development and ecological policy (BRACJUN 2008)
.
7.3.2.1 EU BUDGETARY POLICY

EU budgetary policy is a set of aims and measures enforced by the EU via the EU budget.
Within caring for economic development, the European Union establishes rules for the
functioning of the economy and the financing of selected activities via direct investment or
subventions or subsidies, supports economic growth from budgetary resources, ensures
equilibrium in the economy, employment growth and supports exports in foreign trade.
Budgetary policy generally fulfils three functions: stabilisation, allocation and redistribution.
However, at EU level, this policy has certain differences from policy at national level, which
can be summarised as follows:
it does not fulfil the function of stabilisation policy,
it has very limited flexibility since the majority of budgetary expenses are of a mandatory
nature, i.e. determined in advance,
it is not based on taxation policy but is based on the unanimous decision of the Council and
only has a fixed allocated income for financing budgetary expenses,
it is understood as a long term instrument, leans on a long term budgetary framework for the
expenses section which states approximate sums for expenses for individual items, or at least
the mandatory development of their proportion of the total budget.
Objectives:
EU budgetary policy has two basic aims: to ensure sufficient income into the EU budget for
financing expenses and to achieve a balance on the EU budget.
Instruments:
The basic instrument is the EU budget. The budget is created and implemented in compliance
with the principles of unity, budget accuracy, annual validity, balance, accounting units,
universality, specificity, reliable financial management and transparency. The EU budget is
long term, not approved annually but usually for a six-year period corresponding with the
programme period of structural and regional policy. It is designed for financing EU economic
policy, the administrative costs of European institutions and for other stated purposes. Unlike
national budgets, it must always be "balanced", i.e. budget deficits are not permitted. The
amount of means available to the Union is determined via an agreement between member
states and parliaments. Based on the provision of the Council of the EU for the 2007 - 2013
period, budgetary costs must not have exceeded 1.24% of the EU gross national product.
Income to the EU budget is formed of:
­ customs revenue: this is customs fees for goods imported into the EU from third
countries, stated based on the Common Customs Tariff,
­ equalising agricultural subsidies which are charges and equalising subsidies for
imports of agricultural production from third countries,
­ a share of VAT from member states derived from the application of a single tariff
valid for all member states for estimates of harmonised VAT bases determined in
accordance with EU regulations,
­ a contribution from individual member states stated as a proportion of their GDP
(0.35% of GDP) which forms over 70% of budget revenue.
EU budget expenses are formed of:
­ expenses for financing common policies (mainly agriculture)
­ structural funds and the cohesion fund,
­ expenses for internal policy: for science and research, the environment, programmes
supporting youth, culture, energy and nuclear safety, transport networks,
­ foreign activity: humanitarian aid to countries outside the EU,
­ administrative: operating EU institutions,
­ pre-accession aid: funds for candidate countries.
 In Summer 2004, the Commission introduced a report on the Union's "own resources".
They proposed the implementation of a new system for financing the European budget which
should become valid from 2014. It would be based on a European tax either on energy, GCP
or company tax. By more transparent financing based on taxes, the EU wants to "create a
relationship between citizens and the EU budget".
Governors:
The budget is approved by the Council of Ministers of the European Union and the European
Parliament, and proposed and administered by the European Commission. The Court of
Auditors inspects whether the EU budget (financial means from taxpayers) has been prepared
correctly and that it is used for EU policy in accordance with legal regulations.
Instrument for coordinating budgetary policy: The Stability and Growth Pact
Adherence to the budget discipline required in the Stability and Growth Pact (SGP) assists
greatly in coordinating economic development in the EU, mainly in the Eurozone countries.
The main principle of the Stability and Growth Pact is the rule that all member states maintain
an almost balanced or a surplus budget. The next two pillars are the principles that a deficit
must not exceed 3% of gross domestic product (GDP) and the rate of debt calculated from
GDP should not exceed 60%. It is expected from the member states that in the future they will
protect themselves against the possibility of creating a deficit by setting aside more means for
"rainy days" during "good times" when their budgets are almost balanced or at a surplus, and
therefore decrease state debt to the border level. In case of too big a deficit, the Commission
may apply corrective measures or even award a fine.

7.3.2.2 POLICY FOR PROTECTING COMPETITION

The basic legal arrangements for protecting competition in the EU are set out in the Treaty on
the European Union, Articles 81 - 88. Legal arrangements at national level are usually based
on the Act on the protection of competition. Policy for protecting competition can be
characterised as a set of economic measures and legal standards via which the EU directly
influences the level of concentration in individual sectors and in individual markets,
supervises the markets in which dominant subjects act so they do not abuse their dominant
position, and sets the rules for the market behaviour of companies.
Aim:
In general, the Community's competition policy follows a strictly defined aim which is to
protect and develop effective competition in the single market. This is achieving a free and
dynamic internal market and also therefore supporting economic welfare. In accordance with
the Treaty on the EU, the main aim of EU competition policy is to create a system which will
ensure that competition in the internal market remains undisturbed.
Instruments:
The creation of an internal market within the EU anticipates the stating of unified rules in
order to prevent: agreements restricting competition, abuse of a monopoly position in the
market, undesired concentrations and state aid. In the mentioned areas for applying these
rules, prohibition is limited to methods which influence trade between member states and
excludes those which only influence the market within one state (Article 81 of the Treaty on
the EU). However, in exceptional cases, Article 81 of the Treaty on the EU also permits anti-
competition methods if they contribute towards the economy. Basically, these methods can be
permitted if their effects supporting competition prevail over their anti-competition effects.
The set of EU economic policy instruments can be defined as follows:
Prohibition of cartel agreements: The EU monitors the enforcement of the prohibition of
such competition-restricting agreements within the European Union: determining common
purchase or sales prices, limiting production, sales, technical development and investment,
division of markets or sources of supply, or handicapping other business partners. An
exception are agreements leading to improvements in production or economic progress and
which benefit the customer. The European Commission or the national body for competition
may order companies to terminate such illegal agreements and fine companies for closing
such contracts (up to 10% of company turnover). The same applies to agreements which are
not in writing, as well as to agreed practices.
Ban on the abuse of a dominant position: a ban on the direct or indirect enforcement of
inappropriate purchase and sales prices or business conditions (price discrimination, binding
agreements about taking products, reciprocal trade, limiting production, supply, market or
technical development at the expense of the consumer, the use of unequal conditions in
contracts for the same transactions with other contracted parties, by which they are put at a
disadvantage and the denial of an owner to access unique equipment. The contract does not
prohibit a dominant position itself, but only its abuse under the assumption that it disturbs
trade between member states.
Ban on unfair competition: this is activity which is in contradiction with the good practice of
competition, and can cause damage to other competitors or to consumers. Unfair competition
instruments include: false advertising, misleading labelling of goods, inducing a danger of
substitution, spreading false information about competitors, threatening health and the
environment, bribing, benefiting from another's reputation, breaching trade secrets.
Control of concentrations: this monitors the process of economic merging of businesses,
which is the fusion or amalgamation of two or more independent businesses, whose joint
turnover exceeds 5 billion Euros, whilst within the European, the turnover of at least one of
the merged companies exceeds 250 million Euros. Mergers of Community dimensions must
be reported to the Commission for approval prior to becoming effective. At the end of this
procedure, the Commission may conditionally or unconditionally permit the merger, or forbid
it, mainly in cases where the companies were not able to propose suitable solutions to
problems stated by the Commission. Conditions related to the permission often require the
sale of assets, shares, patents, etc., to the competition.
Control of liberalisation and state intervention: The EU sets out the activities of firms to
whom governments allocated exclusive rights, referring to actions in the public interest. These
include the energy industry, telecommunications, transport, water supply and postal services,
the railways and marine transport. At the same time, it requires adherence to valid obligations
when opening a market in these areas. The Commission encourages governments to open
these services of general economic interest to competitors which should bring more fair prices
to the consumer and better quality services. However, at the same time, it is necessary to
ensure that these services are accessible to everybody, even in those parts of the country
where their provision is unprofitable.
State aid control: the EU state aid system has the aim of preventing member states from
protecting or supporting companies at the expense of their competitors within the EU. Aid
given by individual member states or which originates from state sources, and which can
influence trade between member states or disturb competition, is prohibited under Article 87
of the Treaty on the EC. State aid control reflects the need to protect freedom and fair
competition within the European Union. The EU system for controlling state power is the
central pillar - acquis. It supplements the anti-trust control system and systems for controlling
fusions between companies in the Union. However, state aid can be permitted in cases where
it is fulfilling aims in the common interest: aid for supporting the development of
disadvantaged areas or services in the general economic interest, small and medium
businesses, research and development, environmental protection, expert preparation,
employment, culture.
Governors:
Policy for protecting competition is formed and implemented by the European Commission
who, together with the Courts of Justice, is responsible for its observance. The Commission
established the position of hearing officer with the aim of providing the correct procedure in
administration proceedings in anti-trust and concentrations cases via an independent person
who is experienced in the issues of competition and who has the impeccability necessary for
providing objectivity, transparency and effectiveness in these proceedings. The European
Parliament approves regulations and measure proposed by the Commission.
Instrument for coordinating policy:
The European Commission and national competition authorities in all EU member states
cooperate via the European Competition Network (ECN) by informing each other of new
cases and decisions, coordinating their investigations if necessary, assisting each other in
investigations and exchange of evidence. The main aim of the ECN is to ensure that EU legal
regulations on competition are uniformly applied throughout the EU. Via the ECN,
competition authorities inform each other of proposed decisions and accept comments from
other competition authorities. If it is necessary to ensure uniform and effective application of
legal regulations, the European Commission may decide that they themselves shall deal with
the case.

7.3.2.3 EU STRUCTURAL POLICY

The creation of EU structural policy is linked to the signing of the Treaty of Rome (1957),
later amended by The Single European Act (1985) and the Maastricht Treaty (1991). In
European Union economic policy, structural policy is understood to be a large set of
programmes and measures focusing upon effective allocation of resources in the economy,
which should contribute towards achieving one of the EU structural aims defined in primary
EU law. Its task is to create and optimise sectoral and regional economic conditions with the
aim of achieving effective economic growth.
Aims:
The main aim of structural policy is to increase the efficiency and competitiveness of the
economy via implementing structural changes. Its main aims may include: optimisation of
the economy's structure in relation to increasing the quality of economic growth, developing
promising production and suppressing stagnating non-promising production.
The principles of EU structural policy:
- cohesion: decreasing economic differences between EU member states,
- concentration: support from structural funds focusing upon fixed aims,
- programming: programmes are created based on development programmes submitted by
member states in the form of programme documents; medium and long term programmes
prevail in structural policy,
- partnership means cooperation between several partners in order to ensure coordination
in planning, control and evaluation of the fulfilment of programmes. They are firstly
submitted and evaluated within the appropriate state in order to verify their compliance
with EU regulations and then the appropriate institution submits them to the Commission
within the state term.
- complementarity: means from structural funds must not replace means for the state
budget of individual member states, means from the Union is extra money, it supplements
and, in a certain way, also initiates means from the state budget of the appropriate
country,
- monitoring and evaluation of taken measures and the implementation of particular
projects and the control of overall effectiveness of the use of expended means,
Instruments:
The main instruments of this policy are structural funds, the Cohesion Fund, community
initiatives and funds for pre-accession aid. Structural and other funds provide non-refundable
support. Each has priority aims defined by special statutes. Four structural funds have been
created:
- The European Social Fund - ESF - assists in developing employment by supporting
employment, enterprising and equal opportunities, and by investing in human resources; it
provides support to member states in adopting new active policies and systems for
combating the hidden causes of unemployment and for improving their skills.
- The European Regional Development Fund - ERDF - assists in decreasing the difference
between the levels of regional development and standards of living in the various regions,
and the rate of lagging behind by the least supported regions. It assists in equalising the
main regional inequalities in the Community by participating in the development and
structural adaptation of regions which are lagging behind, and by participating in economic
and social conversion of the regions.
- The European Agriculture Guidance and Guarantee Fund - EAGGF - finances EU
common agricultural policy, its purpose is to provide market support, equalise and support
structural reforms in agriculture.
- Financial Instrument for Fisheries Guidance - FIFG - supports adaptation of fisheries
structures, the modification and modernisation of the fisheries sector, related industry and
the marketing of its products.
Structural funds provide non-refundable support. Each has priority aims defined by special
statutes. In this way, regional development fund activities are limited to underdeveloped
regions and are mainly related to investment into production and infrastructures.
A special tool is the Cohesion Fund - CF - which finances projects in the area of the
environment and transport infrastructures. A peculiarity of the Cohesion Fund is the fact that
it supplements existing funds, follows the aim of reducing existing social and economic
differences in the EU. Structural Funds and the Cohesion Fund together form as much as one
third of the total EU budget which, after agriculture, is the second largest item in the Union's
budget.
The European Union also proposed four special programmes known as community
initiatives, which focus upon seeking common solutions to problems affecting the whole of
the European Union. Each initiative is financed from one of the structural funds:
- Interreg supports cross-border, multinational cooperation and cooperation between
regions, i.e. creating cross-border partnerships for supporting balanced development in
multi-regional areas (financed from the European Regional Development Fund (ERDF)).
- Leader is oriented upon rural development, strives to connect active subjects in rural
communities and the economic sphere in order to seek new local strategies for sustainable
development (financed from the EAGGF).
- Urban is oriented upon supporting innovation strategies for regenerating towns and
decaying parts of towns (financed from the European Regional Development Fund -
ERDF).
- Equal strives to eliminate factors leading to inequalities and discrimination in the labour
market (financed from the European Social Fund - ESF).
A special group of structural policy instruments is formed by instruments pre-accession
assistance which the EU created to assist candidate countries:
- PHARE (Poland and Hungary Assistance for Restructuring of their Economies) – a
modified PHARE programme oriented upon supporting measures leading to adopting and
applying acquis communautaire, extended to include investment support for measures
focusing upon achieving economic and social cohesion in EU countries. The programme is
 the predecessor of or is rather implemented in accordance with the rules for ERDF and
ESF structural funds.
- The ISPA (Instrument for Structural Policies for Pre-Accession) focuses upon supporting
projects for developing infrastructures within transport and the environment. The ISPA is
known as the predecessor of the Cohesion Fund.
- SAPARD (Special Aid for Pre-Accession Measures for Agriculture and Rural
Development) is designed for modernising agriculture and developing rural areas. The
fund finances: investment into agricultural projects, improving veterinary and
phytosanitary control, regeneration of villages, development of rural infrastructures,
supporting ecologically safe management methods, etc. It is the predecessor of the
EAGGF structural fund.
The instruments of this policy are not only subsidies from earmarked funds from public
means, but they also create better access to loans, tax relief, special supportive programmes,
price regulation, production and import quotas, export benefits and various priorities anchored
in legal standards.
Governors:
The main governor of structural policy is the European Commission. Other governors are the
European Investment Bank and the European Investment Fund, which provide guarantees and
loans, mainly to small and medium companies for approved projects.

7.3.2.4 EU REGIONAL POLICY

In order to address inter-regional inequalities and imbalances inside the region, activities
focusing upon activated initiatives come to the fore, with the aim of managing the economic
development process in the conditions of individual regions. The task of regional policy is to
equalise disproportions in the levels of economic development achieved in individual regions
of the Union and to reduce the level by which less developed regions lag behind. Within this
aid, economically stronger countries assist economically weaker countries based on the
principle of solidarity (IVANIČKOVÁ 2007).
The principles of EU regional policy:
- the principle of endogenousity in accordance with which financial or other resources for
regenerating those regions lagging behind or otherwise affected regions should mainly be
sought from within individual countries,
- the principle of subsidiarity, which is one of the universal principles of democracy and
expresses the transfer of decision-making powers, means and responsibility to the lowest
possible level of public administration.
Aims:
- Convergence: is the key aim in stimulating growth potential. The strategy of aim 1
focuses upon investments and collective services which require long term
competitiveness, upon the creation of jobs and permanently sustainable development.
This aim addresses the less-developed regions whose GDP per capita is less than 75
per cent of the average GDP per capita in developed EU states.
- Regional competitiveness and employment focuses upon strengthening the
competitiveness of regions, making them more attractive and upon supporting
employment in regions which do not fall under the Convergence aim.
- European Territorial Cooperation arises from the INTERREG initiative and represents
support for the development of regions which are situated along EU internal and
external, inland and maritime boundaries.
The final aim of regional policy is to create conditions for even settlement in individual
regions and even development of economic activities in less developed regions.
Instruments:
The main regional policy instruments are three of the structural policy funds: The European
Regional Development Fund, The European Social Fund and The Cohesion Fund.
The Nomenclature of Territorial Units for Statistics - NUTS - was prepared and is used for
mutual comparison of regional statistics within the EU and it consists of regional levels from
1 to 5.
Governors:
The governors of regional policy at trans-national level are the European Commission and
other European institutions. At national level these are the government, ministries and other
bodies of state administration in the appropriate state. At regional level, these are the
municipalities and, ultimately, the key actors - companies, entrepreneurs and institutions.
Coordination of regional and structural policy:
The content and scope of use of structural funds is stated in programme documents
(Community Support Framework - CSF and Single Programming Document - SPD) CSF's
programme approach also determines the structure of management and payment bodies. A
member state establishes a National Strategic Reference Framework, i.e. a plan for using EU
structural funds for each programme period, which contains: aims, Vertical and Horizontal
Priorities of the State, Operational Programmes and their priority axes. Based on the NSRF,
the European Commission allocates financial means to the member state from structural
policy funds. States and their regions manage programmes and implement selected projects.
The EU Commission monitors and controls the progress of programmes.

7.3.2.5 EU SOCIAL POLICY

The European Union's social policy is a complex of long term aims and measures focusing
upon on improving the living and working conditions of citizens in the Union. The area of
social policy was already anchored in the Treaty of Rome of 1957, establishing the European
Economic Community (EEC) and it contained measures ensuring the improvement of living
and working conditions of employees and equal pay for men and women. The instruments
which the EU had available, however, were limited until the adoption of the Single European
Act in 1987. The Single European Act (SEA) embedded two new Articles into original
Treaty on the EEC addressing the issues of health and safety at work and dialogue between
social partners at European level. In 1989, the highest representatives of states and
governments adopted the Social Charter related to working hours and part of the Maastricht
Treaty was also a Social Protocol which addressed other working conditions. In 2009, the
Lisbon strategy introduced accurate methodology and aims in the social area so the success or
failure of social policy could be measured accurately (MELÍŠEK 2012).

Aims:
The European social model adopted in Lisbon, with its developed system of social protection,
must support the transformation of the economy towards a knowledge-based economy. The
EU stated the following aims for the area of social policy:
- facilitating participation in employment and access to resources, rights, goods and services
for all people and, from 2020, achievement of a 75% employment rate for citizens from 20
- 64 years of age,
- preventing the risk of social exclusion and aid for the most threatened groups of the
population,
- mobilising all parties involved in combating poverty and social exclusion, and reducing the
number of people who are at threat of poverty and social exclusion by at least 20 million
by 2020,
- decreasing the rate of premature school leavers to below 10% and increasing the number of
people aged 30 - 34 years who graduate from higher education to a minimum of 40%,
- to ensure equality of opportunity between men and women in the labour market.
The following initiatives serve for achieving these aims and form part of Europe 2020
strategy:
­ Youth on the Move: for young people interested in studying or working abroad;
­ Agenda for new skills and jobs: addressing structural problems in the European labour
markets, supporting reforms to improve adaptability and safety in the labour market.
­ European platform against poverty and social exclusion: support EU member states in
the given area.
Instruments:
The most important instruments in the area of employment and social policy are:
­ European Social Fund (ESF): is a financial instrument for supporting European
employment in member states. It mainly supports the development of active labour
market policy focusing upon the fight against creating unemployment, mainly long
term, the employment integration of young people, improving education, specialist
schooling, advice and conditions for life-long education, measures for improving
women's access to the labour market.
­ The European Employment and Social Innovation Programme (Employment and
Social Innovation - EaSI programme) is a financing instrument at EU level to
promote a high level of quality and sustainable employment, guaranteeing adequate
and decent social protection, combating social exclusion and poverty and improving
working conditions. It contains three priority axes:
­ PROGRESS programme: a financial instrument which supports the development and
coordination of EU policy in the following five areas: employment, social inclusion
and social protection, working conditions, combat against discrimination, gender
equality.
­ EURES Programme: a European job mobility network that provides information,
guidance and recruitment/placement services to employers, jobseekers and any citizen
­ European Progress Microfinance Facility: increases the accessibility of microloans,
i.e. loans less than 25,000 EUR, designing for establishing or developing a small
company.
­ Fund for European Aid to the Most Deprived - FEAD: supports member states in the
area of providing material aid to the most deprived.
­ European Globalisation Adjustment Fund (European Globalisation Adjustment Fund
- EGF): provides support to people who lose their job as result of the great structural
changes in global trade due to globalisation.
­ NOW (New Opportunities for Women): the aim is to allow women to get employment
and to allow those women who are already employed to achieve a position comparable
with the position of men, providing specialist training for women so they can find
employment more easily, activities focusing upon creating awareness in men and
women about the need for equal opportunity.
Areas of EU social policy:
­ Employment law: in order to harmonise aspects of employment law, the EU issued
directives in these areas:
o mass redundancies,
o the duty of an employer to inform an employee of conditions arising from an
employment contract,
o the protection of young people at work,
o the organisation of working hours (part-time work and temporary work).
 ­ Combating discrimination in the labour market: the issue of combating any
discrimination is an important and priority component of EU social policy. Similarly
to Slovak legislation, EU legislation also forbids discrimination based on gender.
­ Social protection: this area falls under the authority of individual member states who
must ensure such systems of social protection that are in compliance with EU aims.
Some minimum social standards were adopted at European level. Anywhere in the
EU, people may rely on a high level of protection in matters such as safety at work,
equal treatment for men and women or the protection of children and adolescents.
­ Public health: The EU places great importance upon ensuring a high level of
protection of health including the provision of information on monitoring the
healthcare system and the control of contagious diseases.
­ Health and Safety at Work: in the area of implementing health and safety at work, the
acceptance of EU legislation in terms of decreasing injuries at work and work related
diseases is a contribution.
Governors:
By a qualified majority and via directives, the Council of the European Union, in cooperation
with the European Parliament and after discussions with the Economic and Social Committee,
approves the Commission's proposals for the minimum requirements for gradual
implementation taking into account the conditions and technical regulations in each member
state.
The coordination of EU social policy:
The main coordination instrument has become the Open Method of Coordination which lies
in a common procedure in labour policy, social protection and social inclusion policy and in
the area of healthcare and long term care. The revised Lisbon strategy mainly newly
orientates upon growth and employment. The instrument for its implementation are three-year
reform programmes, the National Reform Programmes which include reforms within
economic policy and employment policy. This revision also included modifications within
social inclusion strategy. Three separate coordination processes in the area of social inclusion,
pensions and healthcare and long term care were harmonised into one process. Since 2006,
instead of three separate reports, member states just submit one report which is the National
Report on the Strategy of Social Protection and Social Inclusion which consists of a common
part and three themed plans involving all three areas (National Action Plan for Social
Inclusion, National Strategy Report on Pensions, National Strategies for Healthcare and Long
Term Care).

7.3.2.6 INDUSTRIAL POLICY

Industrial policy is a set of aims and measures by the European Commission focusing upon
supporting the competitiveness of EU industry. European Union industrial policy overlaps
with many other EU policies such as science and research policy, education development
policy, competition policy or environmental policy. The first foundation of the policy is SEA,
Technological Policy Chapter, which is considered to be the first implementation of industrial
policy into the Community's treaties and forms the legislative frame work for its operation in
science and technology. The aims of industrial policy were defined in the Treaty on the EU
(1993). In 2002, the European Commission prepared the document, Industrial Policy in an
Enlarged Europe. The Lisbon Strategy includes a group of new initiatives whose aim is to
increase the attractiveness of our industrial sectors for investment and new jobs.
Aims:
The main aim is the long term competitiveness of EU industry, i.e. the ability of the economy
to provide the population with a high standard of living and high employment on a
permanently sustainable basis. The following aims were defined in order to achieve the main
aim:
- quickening adaptation to industrial structural changes,
- initiating an environment favourable for developing business and cooperation between
companies within the whole Community,
- attention upon better utilisation of the potential of policy for innovation, research and
technological development,
- supporting ecologically efficient production less demanding upon resources.
Areas of industrial policy:
The Council of the EU identified several priority areas for improving the competitiveness of
European industry: trade policy (the protection of business subjects of EU member states in
international competition), competitiveness policy (protection of competition), research and
innovation policy (supporting research and development projects), cohesion policy (depending
the internal market, development of industrial cooperation), environmental policy.
Instruments:
- creating a legislative and institutional environment suitable for the competitiveness of
European companies,an effective system of technical standardisation: introducing common
standards, certificates, regulatory measures and environmental standards,
- supporting innovation focusing upon quality strategies and the use of new technology
- supporting the restructuring of industry (defence, steel, textiles industry),
- stimulation of the competitiveness of new sectors of industry (space research,
biotechnology, nanotechnology, etc.).
The support of industry is mainly carried out via improving legislative and non-legislative
framework conditions, further improving the quality of the internal market, forming a
successful transfer to an eco-efficient economy, restructuring industry, supporting knowledge
and skills, improving access to raw materials increasing investment into research and
innovation and supporting open markets.
Coordination of industrial policy:
The European Technology Platform, Manufuture, which concentrates and coordinates all
European initiatives related to production with the aim of achieving long term
competitiveness in the production sector. The programme is one of a series of technological
programmes whose main feature is the regeneration, rejuvenation and restructuring of
traditional industrial sectors.
EU programme for supporting small and medium businesses: the basic aims of the
programme include increasing the growth and competitiveness of companies in a knowledge-
based, internationalised society, supporting enterprising, simplifying and improving the
administrative and regulatory framework for companies. In order to develop research,
innovation and the creation of companies and to improve the financial environment for
companies, mainly small and medium.

7.3.2.7 POLICY FOR SUPPORTING RESEARCH AND TECHNOLOGICAL DEVELOPMENT

This is the most important part of EU industrial policy. The purpose of the policy is not to
coordinate the entire area of research and development in EU countries, but to define certain
priorities, stimulate cooperation between interested subjects from member states and to
contribute financially towards costs related to scientific and technological development. The
nature of the policy is given by the fact that the basic and long term EU problem is not a lack
of scientific/technical potential but its insufficient rational and effective utilisation
(fragmentation, parallel research in several member states, uncoordinated approach to basic
scientific problems). This status prolonged and increased the cost of research and
development, which finally resulted in Europe falling behind in the technology race.
The coordination of research and technological development is carried out via a system of
institutions, instruments and programmes. Execution of policy is under the power of the
European Commission, the Commissioner responsible for forming and inspecting its
fulfilment and several Directorate Generals, mainly the DG for research whose task is:
- to develop European Union policy in the area of research and technological development
and to therefore contribute towards the competitiveness of European industry.
- to coordinate research activities carried out at European level with the research activities in
member states,
- to support EU policy in parallel areas, mainly in the area of environmental protection,
health science, new sources of energy, regional development, etc,
- to support social dialogue at European level on problems related to research and
technological development.
The main instrument of the policy for supporting research and technological development in
the EU are four-year framework programmes for research and technological development.
The framework programme is defined as a set of actions at European level which finance and
support research and innovation from the EU budget. They determine the strategic focus of
the policy and, via a co-financing mechanism and other types of assistance, support explicitly
defined practical areas of research and development. In the framework programme, the EU
determines:
- scientific and technological aims which should be achieved as well as the appropriate
priorities,
- the main directions of these activities,
- the highest total sum and details of EU financial participation in the framework
programme.
The framework programme is implemented via separate programmes prepared for each
activity. Separate programmes are approved by the Council by a qualified majority. The EU
can establish common business subjects or other structures necessary for proper execution of
research programmes, technological development programmes and demonstration
programmes of the EU.

7.3.3 Rural Development Policy and Forestry (Jaroslav Šálka)

Rural development policy is usually considered in the EU as the second pillar of Common
Agricultural Policy (CAP). This policy is presented as an integrated policy created to address
the needs of multifunctional rural development, solving complex environmental problems and
rural areas governance problems (Papadopoulos, 2005). From the forestry perspective this
policy is dominant at present. It presents a very complex policy which we try to define using
the perspective of economic policy theory (ŠÁLKA, SARVAŠOVÁ 2011).
Since the late 80s the rural development receives a prominent place on the agenda of the EU
and its Member States, among several other related issues such as sustained urban growth,
urbanization, rural disparities and the crisis of the Agricultural sector. Putting the concept of
rural development in public policy requires further research in order to assess the relevance of
the words “rural” and “rurality” in a new context and if they yet have a significance for the
understanding and analysis of political action (operations) in this area. Development of the
modern approaches to sectoral and cross-cutting policies has led to the abandoned of
automatic understanding of the word “rural” in conjunction with its established meaning. The
literature reports two main concepts of the terms “rural” and “rurality”, “rural” is defined on
the basis of location and “rurality” as a social expression (MORMONT, 1990; GRAY, 2000;
TERLUIN, 2001).
The first concept is based on the fundamental empirical outlines of rural areas as physical and
population characteristics, social and economic organization, social relations and relations
with other rural and urban areas. Based on the positivist approach it can be argued that the
term “rural” is out of date and it would be appropriate to replace it in other words, for
example regional or local. On the other hand, constructivists see rural areas as spatially
unlimited image of rural culture, which may reflect the nature of the country, its remote areas
and / or an idealized image of the society. In this sense, the countryside is not just a one-
dimensional reality, but it is something based on personal experience, which is created on the
basis of socio-cultural phenomena. It is obvious that if the theory disregards the rural socio-
economic, cultural and spatial diversity of rural areas it is dependent on extinction. “Rurality”
can be understood as “permanent collaboration of man and nature” (VAN DER PLOEG, 1997),
which means that society and nature are interdependent, heterogeneous parties whose
interactions cannot be defined. With clashes of society and nature the countryside arises,
however, is not solely agricultural and forestry but includes a number of economic, social,
political and cultural phenomena. The current “rurality expansion” (VAN DER PLOEG, 1997)
gradually overcomes some conventional division of existing research, e.g. distribution of
production and consumption.
Based on existing literature it is possible to establish the following four theoretical points that
help to understand the nature of rural development (PAPADOPOULOS, 2005):
1. The gradual distancing of rurality from agriculture led to a conceptual problem that is
further exacerbated, since agriculture itself already is difficult to define because of
industrial (bio)technological and post-industrial process, which contradicts the
fundamental essence of primary production (FRIEDLAND, 2002 in PAPADOPOULOS,
2005).
2. Controversial and different understanding of rurality with multiple meanings can be
considered a kind of “hybrid” that unifies previously separate phenomena in the
common spatial platform (WHATMORE, 2002 in PAPADOPOULOS, 2005).
3. Reshaping the concept of rurality, stemming from complex interactions and conflicts
between the globalization systems and rural specifics which led to the current
attribution of concerned parties importance (agencies, administrations, farms, etc.)
says that “rural” is interpreted and experienced by different social actors and is rooted
in their habits (practices) (VAN DER PLOEG, 1997 in PAPADOPOULOS, 2005).
4. The revised concept of rurality, which fills the gap between geographical areas and
their social representation, is the result of its rediscovery in the context of European
Union policy, which serves different purposes (GRAY, 2000 in PAPADOPOULOS, 2005).

These theoretical considerations do not present a coherent view on rurality or rural

development, but emphasize pluralist and / or fragmented nature of any attempt to define
these terms. The absence of a single, wider accepted and formally defined model of rural
development is the most frequently reported problem in the creation of its theory.
The process of rural areas development gradually deposed agriculture from its dominant
position. Rural development has become a topical issue of socio-economic practice and
policy, while it goes beyond the modernization of agriculture and customs of farm families
and involves many actors, sectors, practices and customs, spatial context and also parts of
innovation policy (VAN DER PLOEG ET AL., 2000). For this reason it rural development can be
considered as a multi-level process involving many actors and is determined by many aspects
(VAN DER PLOEG, 2003). It represents more than just diversification of the rural economy and
the commodification of rurality. It can be identified based on changes in power relations that
constitute new disputes, conflicts, new concepts of understanding rural and rurality and new
forms of participation in rural areas (O`HARA, 2002).
In practice, rural development deals with an increasing number of issues and questions, which
had to be inevitably reflected also in its policy. Rural development policy alone is conceived
as an integrated policy, creating links between economic sectors, political issues / topics,
political and administrative fields of competence, spatial levels, the social partners and the
political process. In addition, the subject of rural development policy is such manifold that its
delineation from regional development becomes extremely challenging (BRYDEN, 2000).
Rural development policy has become a priority for the EU mainly because of the change in
the rural development concept from sectoral (agricultural) into territorial (spatial). Some
experts see this change as very promising, but thought still ongoing step (BRYDEN, 2000),
while others criticize it because of the danger resulting from the predominance of the spatial
arrangement of rurality and its agricultural specifics (RICHARDSON, 2000; HADJIMICHALIS,
2003).
SARACENO (2002) claims that it cannot be unequivocally determined whether EU rural
development policy was established to solve the current problems of rural areas, or as part of
the reform of the common agricultural policy. He further states that rural development policy
as the “second pillar” of the common agricultural policy fulfills two basic functions or vision
of rural development. The first covers the structural needs of the Agricultural Sector in the
reformed Agricultural Policy (sectoral function), the second is the development of rural areas
using multi-sector, integrated approach (territorial function). Both of these functions are
regarded as legitimate and relevant to rural development and this appears to be necessary in
describing the policy to resort to a compromise between them. In compiling such a
compromise, however, we need to ask the following questions:
1. How to achieve such a compromise?
2. Which actors will defend such a compromise and who will fight against it?
3. What social forces they are for or against the adoption of the sectoral / territorial
approach for the content of the rural development policy?
4. Who should gain the most?
5. What is the expected outcome of potential confrontations relevant stakeholders in the
formulation of such a question?
Based on the above questions, it can be stated that the question of describing rural
development policy leads to the theory of policy integration.

European rural development policy addresses the following areas (PAPADOPOULOS, 2005):
1. Investments into agricultural and forestry companies, which contribute to increasing
income in agriculture and improving living conditions, work and production.
2. Supporting young farmers to revitalize rural areas and achieve the desired age
structure of rural populations.
3. Vocational training, which focuses on job skills, skills of farmers and others in the
sector. It may also include measures required to change their profession.
4. Early retirement, which aims to provide an income for elderly farmers who decide to
withdraw their support, and as their replacement by farmers who will be able to
improve the situation in this business, or as support to change in land use for non-
agricultural use.
5. Promoting less viable activities (due to their natural characteristics) and in areas with
environmental restrictions.
6. Agricultural-environmental measures, which are used for supporting agricultural and
forestry activities that protect the environment and maintain the rural character.
 7. Support for improving the processing and marketing of agricultural and forestry
products, leading to increasing competitiveness and value added products through
rationalization of processing and marketing techniques.
8. Contributing to sustainable forest management, forestry development, maintenance
and improvement of forest resources and increasing forest area. These measures
support forestry to maintain and develop the economic, social and environmental
functions of forests.
9. Facilitating the adaptation and development of rural areas. This includes all other
measures that do not fall into the above categories.

Subject of rural development policy and rural development regulation is defined

pluralistically, and includes specific subjects dealing with the above-mentioned groups of
measures. These specific subjects can be classified into the following groups:
1. agricultural (sectoral) development of rural areas,
2. spatial (territorial) development of rural areas,
3. economic development of rural areas.

Subject of rural development relates to various actors (individuals, households, agricultural /

forestry enterprises) and places (areas, regions and ecologically defined areas). Each of the
specific subjects of regulation of rural development is relatively coherent and provides
incentives for the various players at a certain spatial level to achieve the objectives of rural
development policy. For instance, investments in agricultural / forestry enterprises are
inevitably reflected in the improvement of land management structures, because such as aid
enhances their competitiveness. For individuals and households these investments will have
an impact on increasing their income, hence living standards.
As discussed in this textbook, rural development policy approaches to the development of
rural areas as territorial as well as sectoral. In terms of the scope of this policy, we can find
three relatively different approaches (PAPADOPOULOS, 2005):
1. territorial approach to the subject of rural development,
2. approach, based on the European model of multifunctional agriculture (EMA),
3. combined approach.

The first approach encourages further territorialisation of rural policy, which requires closer
approach to regional and local development (BRYDEN, 2003), because there are significant
differences in the rhetoric of Agenda 2000 and the proposed regulations (BUCKWELL, 1998).
Significant changes in rural support from price interventions for integrated and balanced rural
policy, regulation of prices, further integration of environmental concerns into rural
development are indeed a reality, but their actual scope is greatly spatially limited
(BUCKWELL, 1998). This approach leads to fragmentation of rural development policy locality
when the policy is adapted to the needs of individual rural areas. Multifunctional European
model of agriculture points out that rural development must take into account the fact that
agriculture not only produces food, but also provides environmental and other public goods
and is the primary factor in the viability and maintaining the quality of life in rural areas
(HERVIEU a BERANGER, 2000). This approach builds on the principle of multi-functionality
and holistic picture of rural development, referring to the unity between society, landscape
and agriculture as an important tool that will in the future replace the normative framework of
Agricultural Policy and rural development (DEPOELE, 2000). It describes the link between the
territorial organization of farms and external factors, while stressing the need of a new
contract between farmers and the broader community, which would allow the formulation of
rural development strategy (COLSON AND MATHURIN, 2002). The last of these approaches says
that “sectoral and territorial functions can be seen as complementary dimensions of rural
development, which implies that the space and sector no more overlap (SARACENO, 2002), asi
it is the case in the multifunctional European agriculture model. The particular mix of sectoral
and territorial functions varies depending on the relevance of agriculture in rural areas, the
needs of the restructuring and the degree of diversification of these areas (MANTINO, 2003).

Generally, the rural development policy has the aim that its instruments achieve the
development and structural change of less developed regions, and to support economic and
social conversion of areas facing structural difficulties. Main objectives of rural development
policy are (PAPADOPOULOS, 2005):
- Improve structures in agricultural and forestry holding and structure for processing
and marketing of agricultural products (agricultural objective).
- Achieve conversion and re-orientation of agricultural production potential, introducing
new technologies and improve the quality of agricultural products (agricultural
objective).
- Increase the production of non-food products (economic objective).
- Continuous forest growth (environmental objective).
- Increase the diversification of activities aimed at supporting complementary or
alternative activities (economic objective).
- Maintain and strengthen viable social structures in rural areas (social objective).
- Development of economic activities and maintaining/creating employment aimed at
securing better use of existing own potential (economic objective).
- Improving working conditions and living conditions (social objective).
- Maintenance and promotion of low-input farm systems (agricultural objective).
- Protection and promotion of naturally valuable and sustainable agriculture and forestry
respecting environmental requirements environmental objective).
- Inequalities elimination and promotion of equal opportunities for men and women by
supporting projects initiated and
- implemented foremost by women (social objective).

From the text above it is clear that rural development policy is complex, and its
comprehensive and consistent definition is very problematic. Therefore rural development
policy in the forestry context can be defined using three theories: economic policy, policy
coherence and governance theory. We try to create a definition from the economic policy
theory perspective presented in this textbook.

Based on the economic policy theory we can define rural development policy (fig. 8-1): Rural
development policy is a complex public policy that was created by partial integration of
allocation policies based on environmental principles of rural development, distributional
policies based on spatial and social development of rural areas, sectoral policies based on
agricultural development of rural areas, stabilization macroeconomic policies to promote
economic growth and employment through the development of rural areas with the aim of
economic, social and environmental rural development (ŠÁLKA, SARVAŠOVÁ 2011).

Allocation policy
Definition externalities,
public goods,
meritorious goods,
tendencies of market power
Rural Environmental objectives:
Development  The protection and
Policy promotion of valuable
natural and sustainable
agriculture and forestry,
respecting environmental
requirements
 Continuous forests growth
Fig. 8-1 Objectives of rural development policy and economic policy theory fields (ŠÁLKA, SARVAŠOVÁ 2011)
Classification of economic policy fields
Distribution policy
redistribution:
interpersonal,
interterittorial
Social objectives:
 Maintaining and
strengthening a viable
social fabric in rural areas
 Improving working
conditions and living
conditions of the rural
population
 Eliminate inequalities and
promote equal
opportunities for men and
women by supporting
projects initiated and
implemented mainly by
women
Stabilization policy
macroeconomic objectives:
economic growth,
employment, inflation, foreign
economic relations
Economic objectives:
 Development of economic
activities and maintaining
/ creating employment in
order to ensure better
exploitation of existing
inherent potential
 Increase the
diversification of activities
with a focus on promotion
of complementary or
alternative activities
 Increase the production of
non-food products
Structural and Sectoral
Policy
Influencing sectoral structure
of the national economy
Agricultural objectives:
 To improve structures in
the agricultural and
forestry holdings and
structures for the
processing and marketing
of Agricultural products
 To achieve the
transformation and
reorientation of the
Agricultural production
potential, the introduction
of new technologies and
improve the quality of
Agricultural Products
 Maintain and promote
low-accession farm
systems
Summary

Economic integration represents the gradual interlinking of economies via removing barriers
in international cooperation resulting in the merging of national economies into higher
economic units. Economic integration at state level is macroeconomic integration where we
distinguish between six levels: a free trade zone, customs union, common market, economic
union, monetary union and political union.
European economic integration began in 1951 by establishing the European Coal and Steel
Community The first level of macroeconomic economic integration was achieved in 1960 by
the creation of the European Free Trade Association. At present, the European integration
group called the European Union is at economic union level and in part of the EU (in 18 out
of the 28 member states) there is monetary union, also known as the Eurozone. EU economic
policy is implemented at two levels: the level of common economic policy and coordinated
economic policy. Powers in forming, implementing and controlling common economic policy
are transferred to EU institutions. Common policies include: trade, agricultural, fisheries,
transport and monetary policy in Eurozone states. In coordinated economic policy, the
majority of powers are left at national levels of member states and instruments for
coordinating policies are established at EU level. Coordinated areas of policy are: budgetary,
structural, regional, social and industrial policy, policy for protecting competition and
monetary policy in member states outside the Eurozone. The strategic aim of EU economic
policy is to build the most competitive knowledge economy. The main governors of EU
economic policy are the European Commission, the Council of the EU and the European
Parliament.
The dominant EU policy for forestry in Slovakia is the rural development policy which can be
defined based on the economic policy theory presented in this textbook.

Questions:

1. What is the basis of economic integration process and what integration processes exist in
terms of the level of integration?
2. Where does the difference between European Communities and the European Union lie?
3. What are the features of European Monetary Union and of which EU states is it formed?
4. Which institution has the greatest powers and rights in creating and implementing EU
economic policy?
5. In which areas of economic policy did states lose powers at national level after EU
accession?
6. Which common policies have a high rate of protectionism, i.e. protecting the EU internal
market?
7. What is the difference between common and coordinated EU monetary policy?
8. What are the special features of EU budgetary policy and the EU budget?
9. What significance do EU structural funds have for member states?
10. In your opinion, what are the advantages and disadvantages arising from EU
membership?
11. Define European rural development policy based on the theory of economic policy.
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