BETTER REGULATION SERIES Vol. 2 by World Bank in Bulgaria

BETTER REGULATION SERIES

Vol. II

Bulgaria

ADMINISTRATIVE AND REGULATORY BARRIERS TO BUSINESS

JULY, 2010

Europe and Central Asia Region Private and Financial Sector Development Department

Report No. 55727-BG

BULGARIA Administrative and Regulatory Barriers to Business

Vol. July, 2010

THE WORLD BANK PRIVATE AND FINANCIAL SECTOR DEVELOPMENT DEPARTMENT CENTRAL EUROPE AND THE BALTIC COUNTRIES EUROPE AND CENTRAL ASIA REGION WASHINGTON, DC

© 2010 The International Bank for Reconstruction and Development / The World Bank 1818 H Street NW Washington DC 20433 Telephone: 202-473-1000 Internet: www.worldbank.org All rights reserved 1 2 3 4 13 12 11 10 Manufactured in the Republic of Bulgaria First printing: November, 2010 Report No. 55727-BG This volume is a product of the staff of the International Bank for Reconstruction and Development / The World Bank. The findings, interpretations, and conclusions expressed in this volume do not necessarily reflect the views of the Executive Directors of The World Bank or the governments they represent. The World Bank does not guarantee the accuracy of the data included in this work. The boundaries, colors, denominations, and other information shown on any map in this work do not imply any judgement on the part of The World Bank concerning the legal status of any territory or the endorsement or acceptance of such boundaries. In case of any discrepancies, the English language of the report “Administrative and Regulatory Barriers to Business” will govern. The material in this publication is copyrighted. Copying and/or transmitting portions or all of this work without permission may be a violation of applicable law. The International Bank for Reconstruction and Development / The World Bank encourages dissemination of its work and will normally grant permission to reproduce portions of the work promptly. For permission to photocopy or reprint any part of this work, please send a request with complete information to the Copyright Clearance Center Inc., 222 Rosewood Drive, Danvers, MA 01923, USA; telephone: 978-750-8400; fax: 978-750-4470; Internet: www.copyright.com. All other queries on rights and licenses, including subsidiary rights, should be addressed to the Office of the Publisher, The World Bank, 1818 H Street NW, Washington, DC 20433, USA; fax: 202-522-2422; e-mail: pubrights@worldbank.org. Cover design by Boris Balabanov

CURRENCY AND EQUIVALENT UNITS (Exchange rate effective July 13, 2010) Currency Unit=Bulgarian Lev (BGN) EUR 1=1.95583 US $ 1=1.55607 BGN FISCAL YEAR 1 January – 31 December WEIGHTS AND MEASURES Metric System

Vice President: Country Director: Sector Director: Sector Manager: Task Team Leader:

Philippe H. Le Houerou, ECAVP Peter C. Harrold, ECCU5 Gerardo Corrochano, ECSPF Sophie Sirtaine, ECSPF Evgeni Evgeniev, ECSPF

ABBREVIATIONS AND ACRONYMS ARC BEEPS BGN BNB CEG CEO COM CoM ECSPF EPO EU EUR FDI FIAS GDP GNI ICT IMF ISO IT LARACEA NSI NSSI OECD R&D RIA SIGMA SG SMEs USPTO VAT WEF

Administrative and Regulatory Costs Business Environment and Enterprise Performance Survey Lev (Bulgarian national currency) Bulgarian National Bank Council for Economic Growth Chief Executive Officer Communication Council of Ministers Finance and Private Sector Development Department, World Bank European Patent Office European Union Euro (currency) Foreign Direct Investment Foreign Investment Advisory Service â&#x20AC;&#x201C; joint World Bank and International Finance Corporation program Gross Domestic Product Gross National Income Information and Communication Technologies International Monetary Fund International Organization for Standardization Information Technology Limiting Administrative Regulation and Administrative Control on Economic Activity (Act) National Statistical Institute National Social Security Institute Organization for Economic Co-operation and Development Research and Development Regulatory Impact Assessment Joint initiative by the OECD and the EU State Gazette Small and Medium-sized Enterprises United States Patent and Trademark Office Value Added Tax World Economic Forum

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TABLE OF CONTENTS ACKNOWLEDGEMENTS .................................................................................................... viii EXECUTIVE SUMMARY ....................................................................................................... ix I. INTRODUCTION ................................................................................................................... 1 1.1 Background .................................................................................................................... 1 1.2 Sources of Information and Report’s Objectives ........................................................... 3 1.3 Structure of the Report ................................................................................................... 4 II. OVERALL BURDEN OF REGULATION......................................................................... 5 2.1 Bulgaria’s “Doing Business” Standing .......................................................................... 5 2.2 Findings from Surveys ................................................................................................... 6 III. SPECIFIC AREAS OF ADMINISTRATIVE AND REGULATORY BARRIERS .... 11 3.1 Frequency of Interactions with Regulatory Authorities............................................... 11 3.2 Compulsory Certificates, Operating Licenses, and Trading Licenses ......................... 12 3.3 Inspections ................................................................................................................... 13 3.4 Barriers to Entry ........................................................................................................... 15 3.5 State Fees ..................................................................................................................... 17 3.6 Closing a Business ....................................................................................................... 18 IV. PERCEPTIONS ABOUT REGULATION AND TAXATION...................................... 20 4.1 Perceptions about Regulation ...................................................................................... 20 4.2 Perceptions about Taxation .......................................................................................... 22 V. REGULATORY CONSTRAINTS RELATIVE TO OTHER CONSTRAINTS ........... 25 5.1 Problems with Perceptions and Use of Rankings ........................................................ 25 5.2. Perceptions of Manufacturing Firms ........................................................................... 25 5.3. Perceptions of IT Firms ............................................................................................... 26 5.4 Similarity in Perceptions .............................................................................................. 28 5.5 Differences in Perceptions for Different Types of Firms ............................................ 30 5.6 Comparisons with Earlier Surveys............................................................................... 32 5.7. The Link to Innovation ................................................................................................ 32 VI. ROLE OF THE BULGARIAN GOVERNMENT AND BUSINESS ASSOCIATIONS .................................................................................................. 34 6.1 The Role of the Bulgarian Government ....................................................................... 34 6.2 The Role of Business Associations .............................................................................. 37

TABLE OF CONTENTS VII. CONCLUSIONS AND KEY RECOMMENDATIONS ................................................41 7.1 General Findings...........................................................................................................41 7.2 Specific Findings for Manufacturing and IT Firms ......................................................42 7.3 Key Recommendations .................................................................................................44 7.3.1 Policy .....................................................................................................................44 7.3.2 Institutional............................................................................................................45 7.3.3 Legislative .............................................................................................................45 REFERENCES ..........................................................................................................................47 ANEXES .....................................................................................................................................51 Annex 1. The importance of regulatory reform for economic growth .......................................51 Annex 2. Sources of information ................................................................................................54 Annex 3. Standards and certification in Bulgaria .......................................................................57 Annex 4. Regulatory barriers to investment: survey results .......................................................58 Annex 5. Problems with Perception Data ...................................................................................62 Annex 6. Comparison with the 2008 BEEPS and 2007 Enterprise Survey ................................66 Annex 7. Innovation indicators ...................................................................................................68

TABLE OF CONTENTS Table 1

Table 2 Table 3 Table 4

Figure 1 Figure 2 Figure 3 Figure 4

Figure 5 Figure 6 Figure 7 Figure 8 Figure 9 Figure 10 Figure 11 Figure 12 Figure 13

Figure 14 Figure 15 Figure 16 Figure 17

Figure 18 Figure 19 Figure 20

Although improvements have not been uniform – and some setbacks have occurred – Bulgaria’s Doing Business ranking has improved since 2004 Time and cost of starting a business, selected countries Time and cost of closing a business, selected countries Characteristics of members and non-members Although the burden of regulation is higher in Bulgaria than in the best performing countries in the EU, it has improved in recent years Bulgarian firms reported spending more of their time dealing with regulations in 2008 than firms in other recent entrants to the EU Manufacturing firms report that their senior managers spend about 5 percent of their time dealing with regulatory requirements in 2009 Fewer managers of manufacturing firms said that regulatory policies were interpreted inconsistently or unpredictably in 2009 than said the same in 2007 In 2007, firms in Bulgaria were more concerned about the predictability and consistency of how regulations were interpreted IT firms were less likely to report applying for licenses and Compulsory certificates than manufacturing firms Dealing with licenses and Compulsory certificates in terms of time and money IT firms reported fewer inspections than manufacturing firms Few firms had complaints about the delivery of service by inspectors Dealing with compulsory inspections in terms of time and money Firms that registered electronically were less likely to say that registration procedures were too costly or took too long Few firms use electronic registration — although the number is increasing In the areas of regulation, the most serious concerns for manufacturing firms are competition protection law, Compulsory certificates, standards and certification, and the stability of policy by the authorities IT firms had different perceptions about the investment climate than manufacturing firms Few manufacturing firms complained about any area of taxation Very few managers of IT firms complained about any area of taxation Practices of informal firms, corruption, and access to finance are the areas of the investment climate that Bulgarian managers of manufacturing firms were most likely to say were serious concerns IT firms had different perceptions about the investment climate compared to manufacturing firms IT firms have greater losses due to crime In 2008, very high percentage of companies in Bulgaria identify unfair competition practices from informal business as major impediment

6 16 18 38 5 7 8 8 9 11 12 13 14 14 16 17 21

21 23 24 26 27 28 29

TABLE OF CONTENTS Figure 21 Figure 22 Figure 23

Figure 24 Figure 25

Box 1 Box 2

Index of unreported economic activity in Bulgaria (2003-2009) Percent of companies identifying corruption as the first major impediment in EU-10 (2008) Small firms were more likely to say that tax rates, access to land and finance, corruption, and informality were serious problems than other firms Older manufacturing firms are more likely to belong to business associations than new manufacturing firms or IT firms For firms that belonged to business associations, the most common forms of support were resolving disputes with officials, workers or other firms Business Inspections. Issues, Solutions, Implementation and M&E Focusing on Small Business

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29 30 31 37 39

15 32

ACKNOWLEDGEMENTS This report has been prepared as a part of the ongoing Regulatory Reform Economic and Sector Work of the World Bank. The World Bank team was led by Evgeni Evgeniev, Private Sector Development Specialist, Finance and Private Sector Development Department (ECSPF), and comprised George R. Clarke (Consultant, international expert, Texas A&M International University), John Gabriel Goddard (Economist, ECSPF) and Yana R. Ukhaneva (Consultant, ECSPF). Snejana Dimitrova, Director of Strategic Planning and Governance Directorate and then Director of the State Administration Directorate at the Council of Ministers (until November 2009), Tzveta Kamenova, Director of the Economic and Social Policy Directorate, Council of Ministers, and Pavel Ivanov, Chief Expert, State Administration Directorate, Council of Ministers, collaborated closely with the team since inception of the task and provided strategic guidance at all stages of the work. The World Bank team would like to thank the Government counterpart for funding the Administrative and Regulatory Costs Survey, which is the main source of information for this report. The survey tool was designed by George R. Clarke, Evgeni Evgeniev and John Daniel Pollner, all from the World Bank. Anne T. John, Marga O. De Loayza, Nikolinka Ivanova and Vessela Stambolyiska, all from the World Bank, provided precious technical support. This report is also a result of the devoted work of the translator, Chavdara Bosilkova, who made its final Bulgarian version possible. The report was prepared under the general guidance of Theodore O. Ahlers (Country Director for Bulgaria since May 15, 2009) and Peter C. Harrold (Country Director for Bulgaria since January 25, 2010), Fernando Montes-Negret (Sector Director, ECSPF until December 21, 2009), Gerardo Corrochano (Sector Director, ECSPF since February 15, 2010) and Sophie Sirtaine (Sector Manager, ECSPF). Florian Fichtl (Country Manager for Bulgaria) provided strategic guidance to the team during the process of consultation with public and private actors and contributed with valuable comments on earlier drafts. The team thanks Irina Astrakhan (Lead Private Sector Development Specialist, ECSPF), Paulo Correa (Lead Economist, ECSPF), John Daniel Pollner (Lead Financial Officer, ECSPF), and Sophie Sirtaine (Sector Manager, ECSPF), and Stella Ilieva (Senior Economist), all from the World Bank, for reviewing earlier drafts of the report and providing helpful comments and suggestions. Thanks also goes to Marc Reichel (international expert on administrative barriers). The World Bank team is also appreciative of the feedback received during the July 6, 2010 public meeting of the Council for Economic Growth and of the support of colleagues from line ministries and public agencies, of their willingness to share information and valuable insights. Peer reviewers of the report were Jorge Luis Rodriguez Meza (Program Coordinator, Global Indicators and Analysis, World Bank) and Alistair Nolan (Head of the Investment Compact for Southeast Europe, OECD). The team would like to thank everybody for their contributions.

viii

EXECUTIVE SUMMARY Context and Objectives Bulgaria has achieved progress in recent years towards the “Better Regulation” Agenda. With its accession to the EU, Bulgaria first made progress in the area of regulatory reform by adopting the European legislation through the acquis communautaire. In 2002, Bulgaria moved further with the establishment of the Council for Economic Growth, and, in 2003, with the adoption of the Act on Limiting Administrative Regulation and Administrative Control on Economic Activity (LARACEA). The Council promoted the introduction of the Regulatory Impact Assessment in Bulgaria, which was also an important step ahead. Since 2008, business confidence increased because the Government put regulatory reform on top of its agenda. The Better Regulation Unit in the Council of Ministers Administration, directly reporting to the Prime Minister, took the leadership role in coordinating government efforts to prepare the Better Regulation Program 2008-2010. After its adoption in April 2008, the Better Regulation Unit continued to manage, monitor, and control its implementation, and report annually to the Council of Ministers. As a result, business confidence increased as reflected in 2009 surveys among firms and the Doing Business indicators. The present Report on the Administrative and Regulatory Barriers to Business is part of an ongoing World Bank Analytical and Advisory support to the Government of Bulgaria in the area of regulatory reform. Since 2006, the World Bank has provided Analytical and Advisory support to the government in this area. In 2007, the Bank reviewed administrative procedures in the tourism, food, and road transportation sectors, calling for reduction and simplification of certain burdensome administrative regimes and emphasizing superfluous regulation at the municipality level. Another report on Bulgaria’s Policy for Regulatory Reform in the European Union: Converging with Europe’s Best Regulatory Environments recommended a nine-step national strategy that was approved by the Council for Economic Policy on October 19, 2007. The two reports and the consultation process with other line ministries, business associations, and think tanks effectively paved the way for the Better Regulation Program 2008-2010. A June 2009 World Bank study called for a systematic, fair, and transparent regime of state fees. Finally, a forthcoming World Bank study on Ex-Post Impact Assessment of the LARACEA Act aims to provide recommendations to improve the enforcement of the latter. This report aims to identify ways in which Bulgaria can further remove obstacles to business regulation, recognizing that achieving pre-crisis growth levels, raising labor productivity and improving the business environment will require continued reforms to eliminate administrative and regulatory barriers to business. The main source of information for the report is the 2009 Bulgaria Administrative and Regulatory Costs (ARC) Survey of about 320 firms, mostly SMEs, supplemented with comparative data from other surveys and sources. The report serves three purposes: 



Providing the economic backdrop and comparators of Bulgaria’s regulatory environment. The report puts into context and compares with peers Bulgaria’s progress (or lack of such) over time on regulatory measures in a number of primary areas directly affecting the business environment. Reporting on survey results including assessments by and perceptions of senior managers of Bulgarian enterprises. The ARC Survey provides testimony of participating firms on the quality of public services delivery and formal procedures with which businesses must comply, and that remain key obstacles to enterprises in the current environment. Identifying strategic reform recommendations, including regulatory changes, institutional upgrading and capacity building, and legislative amendments. ix

General Findings Regulation in Bulgaria is not as burdensome as in many countries in the world. Surveys in Bulgaria suggest that the burden of regulation on managers has been falling in recent years. Senior managers report spending less time on dealing with regulations in 2009 than in 2008 and 2007. In 2008, Bulgaria entered the list of Doing Business Top 10 reformers in the world, underscoring that reductions in the number of procedures, the time to register, the cost of registration, and the minimum capital requirement have made starting a business considerably easier since 2004. Moreover, recent governmental measures for reducing the paid-in minimum capital from EUR 2,500 to EUR 1 for the registration of limited liability companies have been introduced, responding to business needs. Furthermore, corporate taxes were reduced, and the regimes of contract enforcement and paying taxes were improved in recent years. Yet Bulgaria’s position is less favorable than that of many EU countries, and given the challenges ahead, there is room for improvement. Bulgaria’s macroeconomic environment was favorable in recent years and this, combined with the benefits of EU membership, allowed the country to attract foreign direct investment and to grow successfully. However, the global financial crisis has been challenging for Bulgaria’s export-oriented economy. Over the past two years, output has declined, businesses have closed and workers have been laid off. It has been particularly challenging for SMEs, which found it especially difficult to cope with the contraction of credit and the shrinking EU market. The main challenges to business relate to informality, corruption, lack of transparency, the state fee regime, and the regime to close a business.  Informality and corruption consistently rank among the top three constraints for businesses.  Low transparency in policymaking. Concerns about the predictability and consistency of regulation remain higher in Bulgaria than in the other new EU member states from Central and Eastern Europe. There are several reasons for this. First, the LARACEA Act is not functioning well, which creates a burdensome regulatory environment and creates conditions for non-transparency and corruption (e.g. illegal application of local regulatory regimes, duplication of submission of documents, non-transparency of procedures in applying for licenses, permits, etc.). Second, regulatory impact assessments of important legislation are only conducted on an ad hoc basis. Third, the Better Regulation Unit lacks both an official mandate with a direct linkage to the Prime Minister and its own budget.  The state fees regime is weak, unfair, and non-transparent due to the outdated legal framework, weak institutional structure, and lack of government policy for setting state fees.  Closing a business is costly and takes time. In recent years there has been progress in reforming the bankruptcy and insolvency procedures, and further progress is expected, as simplifying the procedures and reducing the time associated with insolvency cases are among the objectives of the program of 60 anti-crisis measures, adopted in late March 2010 by the new Government. However, Bulgaria still compares poorly with respect to the time and cost of closing a business.

Specific Findings The 2009 ARC Survey provided some other specific findings about regulatory and administrative burdens in Bulgaria for new manufacturing firms (established after 2006), older manufacturing firms, and IT firms, as follows:  Firms were relatively satisfied with company registration procedures. However, relatively few firms used electronic business registration (although the trend is positive).  Only few firms had complaints about the delivery of service by inspectors, tax rates or tax administration. Interactions with inspection bodies are frequent, and the inspection cost is high. IT firms reported the highest median cost in dealing with inspections, while new manufacturing firms reported the highest median number of days in dealing with inspections. In the area of taxation, the frequency of changes in tax rules and rates and tax penalties were the most common concerns.  The survey also highlighted differences in obstacles for manufacturing and IT firms. Informality, corruption and access to finance were identified as serious problems by both manufacturing and IT firms, but IT firms also saw instability, crime, and courts as serious impediments.  Regulation is more burdensome for small firms than for large firms. Managers of small firms were more likely to say that regulations and taxation were serious problems than managers of large firms were. Furthermore, managers of small firms were more likely to complain about access to finance and access to land than were managers of large firms. Finally, small firms did appear to be affected more significantly by corruption and informality.  Business associations are only partly successful in helping their members with information on various aspects of government policy. About one-third of firms in each sector reported that they belonged to a business association. Of these, about half reported receiving benefits from the association. The most common forms of benefits were resolving disputes and obtaining information and contacts in domestic markets. There is less evidence that business associations are highly successful with respect to providing information on regulation or lobbying for better regulation.

Moving Forward In spring 2010, the Ministry of Economy, Energy and Tourism developed an Action Plan to reach a 20 percent reduction in administrative burden by 2012. Thus, Government authorities prepared a new Better Regulation Program to cover the period until 2013, which was adopted by the Council for Economic Policy in April 2010. While this is a good step forward, the Government of Bulgaria should sustain its efforts to limit administrative and regulatory barriers to business in line with EU policies. Specific recommendations to the Government are presented in the Summary Matrix. In addition, further study is recommended on: (i) business exit procedures; (ii) the role of competent authorities and mechanisms set up by the legal framework for protection of competition; and (iii) the relationship between regulatory constraints and innovation.

SUMMARY MATRIX Issue

Recommendation

Timeline *

Develop a Policy on State Fees in line with the principles and economic criteria set out in the World Bank Report on Reforming the Regime of State Fees.

Short-term to Mid-term

Mandate the Council for Economic Growth and the Administrative Reform Council to regularly consult key stakeholders on Better Regulation, appoint a spokesperson, and devise a Communication Strategy on Better Regulation covering the period 2010-2013.

Short-term

Policy 1. The regime of state fees unnecessarily burdens the enterprise sector. Institutional 2. The dialogue with national business associations, think tanks, and academia on Better Regulation is intermittent, and public communication by the Government on Better Regulation Policy is limited. 3. State authority responsible for the management, monitoring, and control of the implementation of the Better Regulation Program is weak. 4. Low rate of electronic company registration and high cost of administrative services.

5. State fees for businesses are excessive. 6. Businesses perceive the regulatory environment as non-transparent, the public administration as corrupt, and predictability of public policies as low. Legislative

Give an official mandate to the Better Regulation Unit to report directly to the Prime Minister, with an established own budget. (i) Promote information campaigns encouraging company electronic registration. (ii) Set up a Working Group chaired by the Ministry of Transport and ITC to implement a Plan to expand egovernment for services frequently used by the business sector. Empower a state authority to deal with the state fees regime and adopt a single-cost calculation model for setting state fees. Set up an on-line Administrative Register documenting regulatory regimes and related procedures to hold public bodies accountable to a published set of rules.

7. Irregular regulatory regimes continue to exist, and municipalities continue to introduce superfluous new regulations.

Amend the LARACEA Act to increase its scope and cover the afore-mentioned instances.

8. Regulatory Impact Assessments are used ad hoc.

Amend the Law on Normative Acts to introduce RIA as a mandatory tool for important legislation and policies, аs well as for EU regulations and directives to be transposed in Bulgarian legislation, and with a special focus on the regulatory impact on SMEs. Amend the LARACEA Act to set up an external control and sanctioning mechanism over civil servants and improve coordination among inspection bodies. Increase inspection fines while rationalizing the process. Amend the existing State Fees Act or adopt a new Act, based on analysis to be undertaken and new policy principles adopted for the state fees regime. Adopt a Business Associations Act to strengthen the functions of business associations in supporting their members.

9. Frequency of inspections is high, and they are burdensome for businesses. 10. The Act on State Fees is outdated and does not support a modern fee structure including economic rationale for fees. 11. New firms are less likely to be members of business associations; business associations are not fully supportive of their members in providing information for overcoming regulatory and administrative burdens. 12. IT firms suffer from instability of the regulatory environment and time for dealing with regulations and they have high concerns about protection of competition policy.

Strengthen the competition regulation function of the IT sector and undertake a review of the regulatory framework.

* Short‐term < 1 year; Mid‐term 1 – 3 years; Long‐term > 3 years

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Short-term to Mid-term Short-term Short-term to Mid-term Mid-term

Long-term

Short-term to Mid-term

Short-term to Mid-term Mid-term

Mid-term

Mid-term to Long-term

SECTION

I INTRODUCTION

1.1

Background

Business confidence increased as a result of Bulgaria’s significant progress in recent years towards the “Better Regulation” Agenda. As an EU Accession Member, Bulgaria made progress in the area of regulatory reform by adopting the European legislation through the acquis communautaire. In 2003, the country advanced with the adoption of the Act on Limiting Administrative Regulation and Administrative Control on Economic Activity (LARACEA) and with the establishment of the Council for Economic Growth (CEG) one year earlier. In fact, the CEG promoted the introduction of Regulatory Impact Assessment (RIA) in Bulgaria, which was also an important step ahead. In 2007, the Ministry of Economy and Energy emerged as a strong champion of Regulatory Policy and RIA initiatives by working closely with other line ministries, business associations, think tanks and the World Bank. One year later, the leadership role was transferred to the Better Regulation Unit at the Council of Ministers (CoM) Administration, directly reporting to the Prime Minister.1 This unit took the lead in coordinating government efforts to prepare the Better Regulation Program 2008-2010.2 Thus, the Government put regulatory reforms on top of its agenda and the business increased its confidence in the government policy in this area as reflected from 2009 surveys among firms and the Doing Business indicators. This report is part of the ongoing World Bank Analytical and Advisory support to the Government of Bulgaria in the area of regulatory reform. The collaboration between the Government and the World Bank through World Bank Analytical and Advisory support since 2006 contributed to Bulgaria’s progress in the area of regulatory reform. The first joint World Bank and Ministry of Economy and Energy report that came out in October 2007 analyzed administrative procedures in three sectors of the economy — tourism, food, and road transportation sectors — calling for reduction and simplification of certain administrative regimes that are burdensome. It emphasized superfluous regulation at the municipality level as well. Another report on Bulgaria’s Policy for Regulatory Reform in the European Union: Converging with Europe’s Best Regulatory Environments recommended a national nine-step strategy that was approved by the Council for Economic Policy on October 19, 2007. The two reports and the consultation process with other line ministries, business associations, and think tanks paved the way for the Better Regulation Program 2008-2010, approved by the Bulgarian Government in April 2008. A more recent World Bank study, which came out in June 2009, called for a systematic, fair, and transparent regime of state fees. In collaboration with the Ministry of Economy, Energy and Tourism, a study on Ex-Post Impact Assessment of the LARACEA Act provide recommendations for amendments to the Act to improve its enforcement.

For more information regarding policies and measures of the Bulgarian Government in the regulatory reform area, see World Bank (2008b). 2 Results from the implementation of the first year of the Better Regulation Program 2008-2010 are summarized in World Bank (2010a). 1

The “Better Regulation” Agenda in Bulgaria is challenged by the impact of the global financial crisis. The recession in high-income countries, which had an impact on the demand for Bulgaria’s exports,3 and the global financial crisis, which reduced capital inflows thus lowering domestic demand, hit Bulgaria in late 2008 and the economy contracted.4 Unlike in high-income countries, the global financial crisis is having a different impact in Bulgaria — it is not a finance crisis, but it is a demand crisis. In addition, the real exit rate for firms in Bulgaria has been much higher than expected.5 With the demand crisis and the high real exit rate for firms, increasing the productivity of the Bulgarian economy to converge with the EU-average and developing a friendly business environment remain highly challenging for Bulgarian policymakers. The new Bulgarian government introduced prudent fiscal policy and achieved low gross debt as a response to the global financial crisis. International rating agencies, like Moody’s and Standard & Poor’s, have increased their ratings for Bulgaria in late 2009 and early 2010, which is expected to further increase international business confidence in the Bulgarian economy.6 However, the Bulgaria government needs to sustain the efforts to raise labor productivity and compete on global markets. Bulgaria will need to have, on one hand, a labor force with the capacity to innovate — absorb, adapt, develop and commercialize new technologies and processes. On the other hand, Bulgaria will need to have a more friendly business environment with a sound regulatory system to correct for market failures that inhibit productive and innovative investment and to reconcile the interests of firms with the interests of society. The new Government adopted several Programs, introducing concrete measures in the area of regulatory and administrative reform. The new Bulgarian Government, which took office in July 2009, introduced short-term economic measures aimed at the recovery of the economy in the context of the global financial crisis.7 One of the strategic objectives of the Governmental Program was the introduction of legislative and regulatory measures to reduce restrictions and bureaucratic obstacles to the development of businesses and to encourage foreign investment. A number of measures to improve the business environment were envisaged to be implemented by April 2010. Additionally, at end-January 2010, the Bulgarian Government adopted a Convergence Program for the period until 2012, targeting improvement of the business environment, among other objectives. The Convergence Program re-confirmed the commitment of the previous government to reduce the administrative burden by 20 percent 3

Germany, Italy and Greece (circa 10 percent from Bulgaria’s export market share, each) — are expected to achieve a close-to-zero economic growth in 2009 and 2010 as per IMF (October 2009). 4 The country slowed down from an average of 6 percent (y-o-y) between 2003 and 2008 to -5 percent in 2009 (NSI preliminary 2010 data). A modest growth of 0.3 percent is expected in 2010. Foreign direct investment (FDI) declined substantially, reaching ca. EUR 3.2 billion in 2009 (9.5 percent of GDP) compared to EUR 6.5 billion in 2008 and EUR 8.5 billion in 2007. 5 As per recent World Bank studies, about 80 percent of firms in Bulgaria interviewed in mid-2009, declared that the main effect of the crisis was a drop in demand (Ramalho, Rodríguez-Meza and Yang, 2009). This is similar to what has been reported for other countries from the region, such as Hungary, Latvia, Lithuania, Romania and Turkey. Basic metals, construction, non-metallic mineral products, information technology (IT), garments and textiles are the sectors that have suffered the most in all six countries in terms of sales and capacity utilization decline (Correa and Iootty, 2009). Moreover, younger firms (< 5 years old) experienced a larger contraction compared to older firms in all six countries. That is particularly valid for Bulgaria, as these firms declined by 46 percent between July 2008 and July 2009, compared to 37 percent of decline in older (> 10 years old) manufacturing firms. Moreover, innovative firms in all countries, including Bulgaria, reported also higher drops in demand compared to non-innovative firms (0.29 percentage points, on average). Furthermore, based on the World Bank Financial Crisis Survey, Ramalho, Rodríguez-Meza, and Yang (2009), and Correa and Iootty (2009) also found that many companies in Bulgaria were not located — suggesting that the real exit rate in the economy might be much higher than the 0.9 percent of firms in the survey sample that were confirmed to have closed down or were in a process of closing down. In fact, Bulgaria turned out to be the second highest in the sample (after Romania) based on this criterion. 6 On December 1, 2009 Standard & Poor’s upgraded the outlook of Bulgarian sovereign debt from negative to stable. Moody’s improved the outlook on the Bulgarian government's Baa3 ratings to positive from stable on January 21, 2010. 7 Ministry of Finance (2009a). 2

by 2012 as a response to the “Better Regulation” Agenda of the European Commission (EC). Few months after the Convergence Program came out, tripartite negotiations among Government, business and labor unions led to the adoption of another Governmental Program of 60 anti-crisis measures, two of which aim at improving the business environment. The first measure is in terms of the adoption of a timetable for the accelerated development of a fullrange electronic government to reduce corruption and increase transparency and efficiency of public expenditures, as well as to reduce fees for services. The second measure targets simplification of bankruptcy procedures and aims at shortening the delays of bankruptcy proceedings. However, achieving pre-crisis growth levels, raising labor productivity and improving the business environment will require continued reforms to remove administrative and regulatory barriers to business. Bulgaria has achieved substantial progress in removing obstacles to business regulation. However, there is a great deal of room for improvement, especially to reduce regulatory and administrative costs to business. This would help boost economic growth. Indeed, regulatory burden seriously affects productivity, competitiveness, and firm growth and influences foreign direct investment decisions. By contrast, well-designed administrative procedures can help stimulate business activities, productivity, and firm growth (see Annex 1 for more information on the relationship between economic growth and regulatory reform).

1.2

Sources of Information and Report’s Objectives

The report uses data from surveys, information from reports of governments and international institutions, as well as analysis from secondary sources. The report uses comparative data from the World Bank Enterprise Survey and Doing Business Report on EU10 economies8, Business Environment and Enterprise Performance Survey (BEEPS), Bulgaria 2009 Administrative and Regulatory Costs (ARC) Survey, communications and reports from the EC, Government, OECD and World Bank, as well as secondary literature. More detailed information about the sources of information is provided in Annex 2. The report serves three purposes:  Providing the economic backdrop and comparators of Bulgaria’s regulatory environment. The report puts into context and compares with peers Bulgaria’s progress (or lack of) over time on regulatory measures in a number of primary areas directly affecting the business environment.  Reporting on survey results including assessments by and perceptions of senior managers of Bulgarian enterprises. The ARC Survey provides testimony of participating firms on the quality of public services delivery and formal procedures with which businesses must comply, and that remain as key obstacles to enterprises in the current environment.  Identifying strategic reform recommendations, including institutional upgrading and capacity building, and legislative changes.

regulatory changes,

The EU-10 economies include Bulgaria, Romania, Lithuania, Latvia, Estonia, Czech Republic, Hungary, Slovenia, Slovakia, and Poland. 3

1.3

Structure of the Report

The structure of the report is as follows. The next Section 2 provides a review of the overall burden of regulation, as per other reportsâ&#x20AC;&#x2122; findings, while Section 3 focuses on objective questions as per the ARC Survey findings in specific areas of administrative and regulatory barriers to business. Section 4 builds on ARC Survey findings from perceptions about regulation and taxation, whereas Section 5 compares responses on regulatory constraints to responses about other investment climate constraints based on results of surveys. Results across time are also compared. The link to innovation based on descriptive statistics and econometric analysis is separately discussed. Section 6 emphasizes the role of the Government and the role of business associations in reducing administrative and regulatory burden to business in Bulgaria. The final Section 7 presents conclusions and provides key recommendations in the policy, institutional and legislative areas to reduce administrative and regulatory barriers to business in Bulgaria.

SECTION

II OVERALL BURDEN OF REGULATION

This section will provide information on the regulatory burden in Bulgaria, how it has changed over time, and what enterprise managers see as the main areas where improvement is possible. Measuring the burden of regulation is difficult to do. Because of this, this section will present information from various sources to demonstrate the robustness of the analysis to different measures of regulation. In addition to using information from the ARC Survey, this section will also present information from the BEEPS, World Bank Enterprise Survey, the Doing Business Report, and other sources where appropriate.

2.1

Bulgaria’s “Doing Business” Standing

Regulation in Bulgaria is not as burdensome as it is in many countries in the world, but Bulgaria’s ranking in the Doing Business is less favorable than that of many EU countries. In the most recent Doing Business 2010 Report, Bulgaria ranked 51st out of 181 countries. Although this shows that regulation is not as burdensome as it is in many countries in the world, Bulgaria compares less favorably with both other countries in the EU and with the new entrants to the EU from Central and Eastern Europe (see Figure 1). As well as ranking below countries such as the United Kingdom, Demark, Ireland and Finland, Bulgaria also ranks below recent EU entrants such as Estonia, Lithuania, Latvia, Slovenia and Slovakia. This suggests that Bulgaria could improve its rankings further. Figure 1: Although the burden of regulation is higher in Bulgaria than in the best performing countries in the EU, it has improved in recent years

Source: Doing Business 2010 (World Bank, 2009c). Note: This ranking does incorporate the change in the DB2010 methodology.

The fact that there is still room for improvement should not overshadow the progress that Bulgaria has achieved over the past five years with respect to its Doing Business rankings. Although there have been some areas in which Bulgaria’s relative positions have stayed the same (e.g., protecting investors) or even gotten worse (e.g., number of procedures and time to 5

get a construction permit), Bulgaria has improved in many aspects (see Table 1). For example, reductions in the number of procedures, the time to register, the cost of registration, and the minimum capital requirement have made starting a business considerably easier since 2004. Similarly, the total tax rate and the number of payments have been reduced. Table 1: Although improvements have not been uniform — and some setbacks have occurred — Bulgaria's Doing Business ranking has improved since 2004 Indicators Starting a Business

Dealing with Construction Permits Registering Property Getting Credit

Protecting Investors

Paying Taxes Trading Across Borders

Enforcing Contracts Closing a Business

Procedures (number) Time (days) Cost (% of income per capita) Min. capital (% of income per capita) Procedures (number) Time (days) Cost (% of income per capita) Procedures (number) Time (days) Cost (% of property value) Strength of legal rights index (0-10) Depth of credit information index (0-6) Public registry coverage (% of adults) Private bureau coverage (% of adults) Extent of disclosure index (0-10) Extent of director liability index (0-10) Ease of shareholder suits index (0-10) Strength of investor protection index (0-10) Payments (number per year) Time (hours per year) Total tax rate (% profit) Documents to export (number) Time to export (days) Cost to export (US$ per container) Documents to import (number) Time to import (days) Cost to import (US$ per container) Procedures (number) Time (days) Cost (% of claim) Recovery rate (cents on the dollar) Time (years) Cost (% of estate)

2004 or earliest available 11 32 10.4 86.7 20

2009

127 475.2 9 19 2.4 8 3 1.3 0 10 1 7 6 31 616 46 7 26 1233 10 25 1201 40 564 23.8 33.8 3.3 9

139 436.5 8 15 2.3 8 6 34.8 6.2 10 1 7 6 17 616 31.4 5 23 1551 7 21 1666 39 564 23.8 32.1 3.3 9

4 18 1.7 20.7 24

Source: Doing Business 2010 (World Bank, 2009c).

Since the last Doing Business results, the improvements in the area of regulation have continued. For example, since the most recent Doing Business 2010, which includes improvements through June 2009, the new government has reduced minimal paid-in capital for limited liability companies to EUR 1 from EUR 2,500. This emphasizes the potential for continued improvement along a number of dimensions.

2.2 Findings from Surveys The ARC Survey also provides evidence of reduction in the burden of regulation in recent years. Rather than relying primarily upon the legal requirements related to specific areas of regulation, the ARC Survey — and the earlier BEEPS and Enterprise Survey — collect information on firms’ actual experience with regulations and regulatory authorities. Differences between the Doing Business indicators and survey data can, therefore, be the result

of uneven implementation of regulatory requirements, differences between written regulations and the way regulations are implemented, and differences in the scope of coverage. Survey evidence suggests that the burden of regulation on managers in Bulgaria appears to be continually falling in recent years. There are also many similarities between the Doing Business Report and the surveys in terms of general results. In the 2009 ARC Survey, the 2007 Enterprise Surveys, and the 2008-09 BEEPS, firm managers in Bulgaria were asked how much time senior management in their firm spent dealing with regulatory requirements such as dealing with officials and completing forms — including taxes, customs, labor regulations, licensing and registration. In 2007, the average manager of a manufacturing firm reported that senior management spent about 17 percent of their time dealing with regulations. In 2008, the average manager reported spending about 9 percent of his/her time doing the same. By 2009, the average manufacturing firm manager reported that his/her senior management spent about 5 percent of their time dealing with regulatory requirements. Consistent with the results from the Doing Business, this suggests that the burden of regulation has declined significantly in Bulgaria in recent years. Figure 2: Bulgarian firms reported spending more of their time dealing with regulations in 2008 than firms in other recent entrants to the EU

Source: BEEPS (2008‐09). Note: Figure 2 includes information on all sectors, not just manufacturing firms.

At this time, the average time that senior managers reported spending dealing with requirements imposed by government regulations was 10.6 percent of their time (see Figure 2). This was slightly higher than in most other new EU member states from the Central and Eastern European region. For example, the average manager in Estonia reported spending only about 5.5 percent of his/her time.9 The burden of regulation imposed on managers, however, differs across sectors and across old and new firms. As per the 2008 BEEPS, the average time that senior managers reported spending dealing with requirements imposed by government regulations was 10.6 percent of their time (see Figure 2 above). In the 2009 ARC Survey, although the average senior manager of a manufacturing firm reported spending only about 5 percent of his/her time dealing with regulation, managers of new manufacturing firms and IT firms reported spending longer doing the same thing. In particular, senior management of a new manufacturing firm spent 10 percent of their time and the average manager of an IT firm reported that their senior management spent about 11 percent of their time doing the same (see Figure 3). 9

Throughout the report, whenever the term the ‘average manager,’ ‘average firm,’ or ‘median firm,’ or ‘median manager’ is used, it refers to the average or median response on that particular question. This is used because it is less cumbersome than referring continuously to the ‘average response by a firm manager on this particular question.’ 7

Figure 3: Manufacturing firms report that their senior managers spend about 5 percent of their time dealing with regulatory requirements in 2009

Source: Bulgaria ARC Survey (2009).

Although the burden that regulation imposes on managers has fallen in recent years, a significant concern is the predictability of how regulations are enforced and interpreted. Many firm managers complained that regulations were applied inconsistently and that regulatory policy was unstable — over half the managers of all types of firms in the ARC Survey said that regulations were applied inconsistently and unpredictably (see Figure 4). Similarly, the greatest area of concern related to taxation was the frequency of rule and rate changes. Figure 4: Fewer managers of manufacturing firms said that regulatory policies were interpreted inconsistently or unpredictably in 2009 than said the same in 2007

Source: Bulgaria ARC Survey (2009), Enterprise Survey (2007), BEEPS (2005).

Concern about the predictability and consistency of regulation is higher in Bulgaria compared to the other new EU entrants. In the 2007 Enterprise Survey, about 75 percent of firm managers — and 72 percent of managers of manufacturing firms — in Bulgaria either strongly disagreed or tended to disagree with the statement that laws and regulations were interpreted consistently and predictably by public authorities. This was higher than in the other new EU entrants and higher than in 2005 (see Figure 5). Figure 5: In 2007, firms in Bulgaria were more concerned about the predictability and consistency of how regulations were interpreted

Source: BEEPS (2005) and Enterprise Survey for Bulgaria (2007). Note: 2005 BEEPS data are provided for all other new EU member states. This figure contains information on all firms — not just manufacturing firms.

Despite the high level of concern about the predictability and consistency of regulation, it is important to note that the concerns of manufacturing firms appear lower in 2009 than in 2007. Since the 2009 ARC Survey only contained manufacturing and IT firms, it is not possible to compare perceptions for all firms. It is, however, possible to compare the perceptions of managers of manufacturing firms across the two samples. Making this comparison, fewer managers of manufacturing firms said that regulatory policies were interpreted inconsistently or unpredictably in 2009 than those who said the same in 2007 (see Figure 4). In fact, concerns appear to have fallen to levels similar to the levels observed in 2005. Enterprises in the IT sector were also concerned that regulations were enforced inconsistently and unpredictably. About 63 percent of IT firms said that regulations were enforced unpredictably and inconsistently. In comparison, only about 57 percent of new manufacturing firms said the same (see Figure 4). The higher levels of concern about unpredictable and inconsistent enforcement of regulation among IT firms are also reflected in other questions in the ARC Survey. In particular, as discussed later in greater detail, firm managers were also asked whether instability of regulatory policy and inconsistent application of regulations was a serious problem for their firm. Managers of IT firms were also more likely to say that these areas of regulation were serious problems than managers of other firms were. About 23 percent of IT firms said that each represented serious problems, compared to about 12 percent of manufacturing firms that said that inconsistent application of regulation was a serious problem and 14 percent that said that instability of regulatory policy was a serious problem.10 10

Although the point estimates suggest that the instability of regulatory policy and the inconsistency of its application is a greater problem for IT firms, it is important to note that these differences are mostly not 9

Overall, regulation in Bulgaria is not as burdensome as it is in many countries in the world, but Bulgariaâ&#x20AC;&#x2122;s ranking in the Doing Business is less favorable than that of many EU countries. Although there have been some areas in which Bulgariaâ&#x20AC;&#x2122;s relative positions have stayed the same or even gotten worse, Bulgaria has improved in many areas of regulation. For example, reductions in the number of procedures, the time to register, the cost of registration, and the minimum capital requirement have made starting a business considerably easier since 2004. Similarly, the total tax rate and the number of payments have been reduced for paying taxes. Moreover, survey evidence suggests that the burden of regulation on managers in Bulgaria appears to be continually falling in recent years. For example, senior managers report spending less time dealing with regulations in 2009, compared to 2008 and 2007. However, it is important to emphasize that senior managers of IT firms and new manufacturing firms report spending more time on dealing with regulations compared to old manufacturing firms in 2009. Although the burden that regulation imposed on managers has fallen in recent years, concerns about the predictability and consistency of regulation remain higher in Bulgaria compared to the other new EU entrants. Therefore, Bulgaria has achieved progress over the past few years but there is still room for improvement.

statistically significant after controlling for other things (see Annex 4, Table A). Similarly, the differences in perceptions are also not statistically significant (see Annex 4, Table D). 10

SECTION

III

SPECIFIC AREAS OF ADMINISTRATIVE AND REGULATORY BARRIERS This section will present objective information on specific areas of regulation and administrative costs for businesses. Using information from the ARC Survey and other sources such as the Doing Business Report, this section will emphasize areas such as the number of inspections and information on a number of licenses and compulsory certificates11 that firms have applied for in the past couple of years. Some administrative and regulatory costs for businesses shall be presented as well.

3.1

Frequency of Interactions with Regulatory Authorities

An important question is how often firms apply for licenses and compulsory certificates and how often they interact with inspection authorities. Among the questions in the ARC Survey, firms were asked whether they had had to apply for a number of licenses and compulsory certificates to produce or sell any of its products or services in the past year or past two years.12 Before looking at the time and costs of these interactions, this section will present information on how common these interactions are. Figure 6: IT firms were less likely to report applying for licenses and compulsory certificates than manufacturing firms

Source: Bulgaria ARC Survey (2009).

Applying for compulsory certificates was more likely than applying for licenses. Firms of all types were more likely to say that they had had to apply for compulsory certificates than for trade or operating licenses (see Figure 6). Manufacturing firms were more likely to say that they had to do this than IT firms were. Whereas only about 14 percent of IT firms said that 11

IT firms understood under compulsory certificates those certificates they needed to obtain in order to carry out their activities, whereas according to the understanding of manufacturing firms, compulsory certificates refer to certificates they needed to obtain for manufacturing of a particular product. IT and manufacturing firms need to obtain compulsory certificates periodically. 12 The LARACEA Act (Art. 4, par.1) distinguishes between the following regulatory regimes: licenses for economic activity, registration of economic activity, issuance of compulsory certificates or filing a notification to conduct a separate deal or action. 11

they had to apply for compulsory certificates, about 27 percent of new manufacturing firms and 37 percent of older manufacturing firms said the same. A significant number of firm managers also said that they had applied for trading licenses in the past two years. About 24 percent of new manufacturing firms, 15 percent of old manufacturing firms and 14 percent of IT firms said that this was the case. Far fewer firm managers said that they had applied for an operating license — less than one in ten. Very few old manufacturing firms, in particular, said that they applied for one in the past two years. Most firms reported that they had been inspected in the past year. Over half of new manufacturing firms and close to three-quarters of old manufacturing firms said that this was the case, compared to about 40 percent of IT firms (see Figure 6). This suggests that inspections have the potential to be a significant burden on firms because businesses are subject to numerous inspections due to multiple types of administrative regulations. The high frequency of inspections is also likely to be a result of lack of good coordination among inspecting bodies, which produces a burden for the business.

3.2 Compulsory Certificates, Trading Licenses

Operating

Licenses,

and

Getting compulsory certificates is more costly but takes less time than getting licenses. Firms that reported getting licenses and compulsory certificates were also asked how much time it took them to get them and how much it cost.13 For firms reporting that they had to get a permit, the median response was that it took about 7 working days to get the document (see Figure 7). This was slightly shorter than the median responses given by firms that got trade and operating licenses (10 and 15 days, respectively).14 Although this suggests that the amount of work is not overly burdensome, it is important to note that several firms reported far longer times — in excess of one year, for getting general trading licenses and compulsory certificates. Figure 7: Dealing with licenses and compulsory certificates in terms of time and money

Source: Bulgaria ARC Survey (2009). Note: Only includes firms reporting that they received that type of license.

Because only a small number of firms applied for some licenses, it is not possible to divide the sample into new manufacturing firms, old manufacturing firms and IT firms. As a result, in several sections, unweighted averages are presented rather than weighted averages. This is because weights were not available for the firms in the IT sector or the new manufacturing firms due to the sampling methodology. 14 As noted above, we will use ‘median/average firm’ to denote the median or average response on these questions. Medians are used because outliers can be a problem in open-ended questions. 12

Firms were also asked how much they spent on obtaining licenses and compulsory certificates. These amounts included all costs including official fees, formal and informal payments, and other associated costs. Although the median response of firms to these questions suggested that they spent less time getting compulsory certificates than other licenses, the median monetary cost was higher for getting compulsory certificates than for either of the other two licenses (see Figure 7). Given that more firms reported that they needed compulsory certificates than operating or general trading licenses, these costs were multiplied for getting compulsory certificates.

3.3 Inspections In addition to being asked about licenses and compulsory certificates, firms were also asked about inspections by a number of public agencies. Because more firms report inspections than getting licenses, data is presented for different groups of firms separately. The most common inspections are tax inspections, National Social Security Institute (NSSI) inspections, and, for old manufacturing firms, hygiene inspections. IT firms reported fewer inspections than manufacturing firms did (see Figure 8). The average response for IT firms was only about 0.5 tax inspections per year and even fewer of other types of inspections. In this respect, the burden of inspections is far less for IT firms than for other types of firms. This evidence is consistent with the evidence on perceptions that suggests that IT firms are less concerned about inspections than manufacturing firms are. Figure 8: IT firms reported fewer inspections than manufacturing firms

2,0

Number of Inspections

1,5

1,0

0,5

0,0 NSSI

Police

Hygiene

New Manufacturing

Fire

Environmental

Tax

Old Manufacturing

Source: Bulgaria ARC Survey (2009). Note: One extreme outlier, which reported 200 tax and NSSI inspections, is excluded from the average.

New manufacturing firms also, for the most part, reported fewer inspections than old manufacturing firms did. The main exceptions to this were tax and environmental inspections — new manufacturing firms reported more of these than other firms did.

Figure 9: Few firms had complaints about the delivery of service by inspectors

Source: Bulgaria ARC Survey (2009). Note: Because there are few firms with observations for each type of inspection, unweighted pooled means are presented. Weights were not available for IT or new manufacturing firms.

Firms were also asked to assess the quality of service provided by inspectors from each agency. For the most part, firms had few complaints. Between 70 and 85 percent reported that service was either good or very good (see Figure 9). The agency that received the lowest rating was the NSSI, which about 72 percent of managers said provided good service. Despite the large number of inspections, the time to deal with inspections is quite low but the cost of dealing with inspections is high. The median response that firms gave to questions about the time that they spent dealing with inspections was between 2 and 3 working days, and companies did not report spending any money on direct or indirect expenses (“bribery tax”). The median response to the question on cost to deal with inspections was between about BGN 1,000 and BGN 2,500. IT firms reported the highest median cost in dealing with inspections, while new manufacturing firms reported highest median days in dealing with inspections (see Figure 10). Figure 10: Dealing with compulsory inspections in terms of time and money

Source: Bulgaria ARC Survey (2009). Note: Only includes firms reporting inspections.

As discussed above, frequency of interactions, time and cost for business related to dealing with inspection authorities in Bulgaria have the potential to be a significant burden on firms. See Box 1 for a summary of the main weaknesses of an inefficient inspection system and solutions for transforming the inspection regime into an instrument to increase accountability and transparency. Box 1: Business Inspections. Issues, Solutions, Implementation and M&E

Source: IFC, www.ifc.org.

3.4 Barriers to Entry Bulgaria has reduced the barriers to starting a business considerably over the past five years. In 2004, new businesses had to complete 11 procedures that took 32 days and cost over 10 percent of per capita GNI to complete (see Table 1). By mid-2009, this had been reduced to 4 procedures that took 18 days and cost less than 2 percent of per capita GNI to complete. Firms in Bulgaria were relatively satisfied with registration procedures. Only about 12 percent of managers of manufacturing firms and 4 percent of IT managers said that it was a serious problem for their business.15 Although this might suggest that firms are unable to see much room for improvement, it is however important to note that about 52 percent thought that costs should be lower and about 47 percent reported that the time should be reduced further (see Figure 11). It is believed that the new measures of the government for reducing paid-in minimum capital from EUR 2,500 to EUR 1 for registration of limited liability companies meet business needs. This puts Bulgaria in line with European best practices.16 However, it seems there is room for improvement, regarding the time to register a business (see Table 2).

15 16

Firms, however, deal with business registration only at the start of their activities. The entry of more companies increases GDP and the demand for labor. See Djankov et al. (2002b). 15

Table 2: Time and cost of starting a business, selected countries 2008 49 6 x 15 7 5 16 26 31 10 16 19

Bulgaria (Sofia) EU Best Practice (Denmark) OECD Czech Republic Estonia Hungary Latvia Lithuania Poland Romania Slovakia Slovenia

Time (days) 2009 18 6 13 15 7 4 16 26 32 10 16 6

Cost (% of income per capita) 2008 2009 2 1.7 0 0 x 4.7 9.6 9.2 1.7 1.7 8.4 8 2.3 2.1 2.7 2.4 18.8 17.9 3.6 2.9 3.3 2 0.1 0

Source: Doing Business (World Bank 2008a, 2009c).

The Government has improved the registration procedures in two ways. One way in which the government has improved business registration is by transferring procedures away from courts to a special Registration Agency. Another way in which the government has facilitated business registration is through the introduction of electronic Trade Registry in early 2008, and, as we know, introduction of electronic registers for businesses reduces time to register, requires fewer procedures and costs less (Klapper and Delgado, 2007). Few firms use electronic registration. Although the electronic registration could potentially reduce the time and cost of registration, the potential is not fully exploited by businesses in Bulgaria yet. This may be a problem of information. In fact, among firms that registered or reregistered in 2008 and 2009, only about 20 percent used electronic registration procedures (see Figure 12).

% of firms saying procedures took too long or were too costly

Figure 11: Firms that registered electronically were less likely to say that registration procedures were too costly or took too long 60% 50% 40% 30% 20% 10% 0% -10%

All

Registered electronically

Time should be reduced

Did not register electronically

Cost should be reduced

Source: Bulgaria ARC Survey (2009). Note: Because there are few firms with observations for each type of registration, unweighted pooled means are presented. Weights were not available for IT or new manufacturing firms. Only firms that registered or re‐registered in 2008 or 2009 are included.

However, the number of companies registering electronically is increasing. In 2009, close to one-third of firms that registered or re-registered did so electronically. Not surprisingly, firms that had broadband connections were far more likely to register electronically. About 7 percent of firms without broadband connections registered electronically compared to about 23 percent of firms with broadband connections. 16

Figure 12: Few firms use electronic registration — although the number is increasing

Firms that registered electronically were less likely to say that registration costs should be reduced and that the time for registration should be cut. Only about 38 percent of firms that registered electronically said the time should be reduced and only 27 percent said that the cost should be reduced. In comparison, about 55 percent and 50 percent of firms that did not register electronically said that this was the case. The improved perceptions about cost might denote that firms that register electronically are more willing to pay for the improved service than firms that register using other methods.

3.5

State Fees

Businesses, especially SMEs, have to deal with a state fees regime that can be unfair and non-transparent. State fees made up BGN 850 million for the state budget in 2008.17 The increase of state fees between January 2005 and November 2008 has been substantial — 60 percent (without the calculation of the Ministry of Health Tariff, the increase of which has been the greatest).18 A recent World Bank report (2009b) noted that one reason for the “wild” development of tariffs including state fees was the lack of governmental policy on setting state fees and the outdated legal framework of the state fee regime. Moreover, there is weak institutional framework to monitor the setting and approval of state fees by executive agencies and ministries; wrong incentives are in place — there is rather a focus on the revenue generating function of fees and fines than on the legal requirements, namely the principle of cost recovery proclaimed by the EC when it comes to administration fees. An example could be given with the tour operator fee that remains ungrounded — BGN 5,000 (BGN 1,000 for application processing and BGN 4,000 for registration). Additionally, the regulatory regime for independent restaurants/cafes still exists although it is almost inapplicable worldwide. Neither the process to set fees nor to distribute retained fee revenues is transparent — agencies are free to determine on their own and without clear criteria what budget to be put aside for additional bonuses for staff from those 25 percent, with sometimes even 75 percent of state fees revenues remaining in the agencies. Australia offers a best practice case in implementing the principle of cost recovery through a five-phase approach, whereas the State of Hamburg (Germany)

17 18

Ministry of Finance Report of the Consolidated State Budget, as of 31 December 2008. Government draft report (____2009b). 17

provides a best practice case of single cost calculation in setting fees that follow European best practice.19

3.6 Closing a Business Although the procedures to start a business have been reduced considerably since 2004, less progress has been made with respect to the procedures to close a business, which remain time consuming and costly. Closing a business has become more problematic recently due to the international financial crisis. Bankruptcy proceedings take long in Bulgaria to complete and assets depreciate considerably during the process. In fact, no progress has been made regarding business exit since 2004 — it takes 3.3 years to close a business and costs 9 percent of estate value with a recovery rate of 32.1 percent (see Table 3). The insolvency procedures are highly burdensome in Bulgaria, and these indicators are lagging far behind the OECD average (1.7 years, cost is 8.4 percent of estate, and 69 percent recovery rate). Table 3: Time and cost of closing a business, selected countries Countries Bulgaria (Sofia)

Time (years) 2008 3.3

2009 3.3

Cost (% of estate) 2008 9

EU Best Practice 0.9 0.9 4 (Finland) OECD 1.7 1.7 8.4 Czech Republic 6.5 6.5 15 Estonia 3 3 9 Hungary 2 2 15 Latvia 3 3 13 Lithuania 1.7 1.5 7 Poland 3 3 30 Romania 3.3 3.3 9 Slovakia 4 4 18 Slovenia 2 2 8 Source: Doing Business (World Bank 2008a, 2009c).

2009 9

Recovery rate (Cents on the USD) 2008 2009 32.1 32.1

87.3

8.4 15 9 15 13 7 20 11 18 8

68.6 20.9 37.5 38.4 29 48 29.8 29.5 45.9 45.5

68.6 20.9 37.5 38.4 29 49.4 29.8 28.5 45.9 45.5

In recent years, there has been progress in reforming the bankruptcy and insolvency procedures in Bulgaria but there is a lot of room for improvement. A step forward in providing better environment for firms to exit is that power has shifted to creditors and court proceedings have been simplified in recent years — bankruptcy cases are heard by the District Court and the Court of Appeal, rather than in three instances as it used to be. Yet the court procedure on exit of firms needs to be speeded up. Furthermore, steps have been already undertaken to speed up liquidation of businesses through amendment of the Commercial Register Law (Transitional and Final Provisions § 4. (1)) – if a company does not re-register with the Commercial Register by end-December 2010, it should be declared in liquidation. However, there is no specific timeframe identified for the liquidation process. A step forward was also the new package of 60 anti-crisis measures of the Bulgarian Government, which came through in March 2010 as a result of negotiations with the business and the labor unions, provisioning one measure aiming at simplifying the procedures and reducing the time spent for insolvency cases. However, implementation results in the area of bankruptcy and insolvency procedures to reduce time and cost of closing a business are yet to be seen.

For more information about the case of Australia and the case of the State of Hamburg, see World Bank (2009b).

Overall, this section presented the frequency of interactions for getting licenses, compulsory certificates or interactions with inspection bodies and also looked at starting and closing a business, and at the state fees regime. It concluded that firms apply for compulsory certificates more often than for operating or trade licenses. Getting compulsory certificates was also more costly compared to getting licenses, but it took less time. Survey analysis found that interactions with inspection bodies (e.g. tax, National Social Security Institute, hygiene inspections) were frequent. It was suggested that that businesses are subject to numerous inspections due to multiple types of administrative regulations. Firms did not complain about the quality of service of inspection bodies, and the time for dealing with inspections was quite low. However, the cost of being inspected was found to be high. For instance, IT firms reported highest median cost in dealing with inspections, while new manufacturing firms reported highest median number of days in dealing with inspections. The section also concluded that Bulgaria had reduced the barriers to starting a business considerably over the past five years. For instance, business registration procedures were transferred away from courts to a special Registration Agency, whereas electronic Trade Registry was installed a couple of years ago. In addition, the new measures for reducing paid-in minimum capital from EUR 2,500 to EUR 1 for registration of limited liability companies meet business needs. The ARC survey found that few firms used electronic registration, although the number of companies registering electronically was increasing. With respect to closing a business, it was found that in recent years, there has been progress in reforming the bankruptcy and insolvency procedures. A new governmental measure, aiming to simplify the procedures and reduce the time spent for insolvency cases, is provisioned as well in a program of 60-anti crisis measures, adopted in March 2010. However, implementation results to reduce time and cost of closing a business are yet to be seen. This section also emphasized the state fees regime which continues to be burdensome for the business due to outdated legal framework, weak institutional structure and lack of government policy for setting state fees.

SECTION

IVÂ

PERCEPTIONS ABOUT REGULATION AND TAXATION This section will complement the earlier discussion of objective questions on regulation with an elaboration of perception-based firm-level data on the burden of regulation and taxation. The 2009 ARC Survey also contains several additional questions on the way in which firms perceive the burden of regulation and taxation. In the area of regulation, firms were asked whether competition protection law, instability of regulatory policy, inconsistent application of regulation, standards and certification, compulsory certificates, environmental regulation, and inspections were serious problems. In the area of taxation, firms were asked about frequency of tax law changes, tax penalties, appeal mechanisms, tax audits, their treatment by the tax authorities, availability of information, tax inspections, and tax forms. Perception-based data may have some drawbacks, but it provides complementary information for the analysis. Although, as discussed in detail below, perception-based data has some drawbacks, these questions include information on some areas that are not included among the objective questions (i.e., perceptions about competition protection law) and some areas for which it is difficult to design purely objective questions (e.g., instability of regulatory policy). Even in areas that overlap with the objective data, the perception-based data can provide complementary information that confirms the previous analysis. Because weights can be constructed for the manufacturing firms in the sample, the initial analysis will focus on these enterprises. Later parts of the analysis will look at perceptions of IT firms and new manufacturing firms.

4.1

Perceptions about Regulation

The areas of regulation that manufacturing firms were most likely to say were serious problems were competition protection law, compulsory certificates, standards and certification, and instability of regulatory policy. Between 14 and 26 percent of manufacturing firms said that these were serious problems (see Figure 13). The ARC Survey does not provide much additional data on two of these areas â&#x20AC;&#x201D; competition protection law and standards and certification. This suggests that additional information on these areas would be useful. A previous World Bank report, the 2008 Investment Climate Assessment, addressed the issue of standards and certification in detail (see Annex 3). Concern about the instability of regulatory policy was consistent with the previous analysis that suggested that many firms believed that regulations were enforced inconsistently and unpredictably. As noted above, although firms reported fewer concerns about this in the 2009 ARC Survey than in the earlier 2007 Enterprise Survey, they remained more concerned than their counterparts in many of the other new EU entrants from Central and Eastern Europe.

Figure 13: In the areas of regulation, the most serious concerns for manufacturing firms are competition protection law, compulsory certificates, standards and certification, and the stability of policy by the authorities

Source: Bulgaria ARC Survey (2009).

Managers of IT firms reported very different constraints with respect to regulation compared to managers of manufacturing firms. By far, the biggest constraints were related to the stability of regulatory policy and the consistent application of regulations (see Figure 14). Managers of IT firms were more likely to say that these constituted a serious problem than managers of manufacturing firms were. Figure 14: IT firms had different perceptions about the investment climate than manufacturing firms

Source: Bulgaria ARC Survey (2009).

In contrast, managers of IT firms were generally less likely to say that other areas of regulation were serious problems. With the exception of competition protection law, fewer than 5 percent of IT managers said that any of the specific areas of regulation represented serious problems. Although about 12 percent said that competition protection law was a serious problem, this remained lower than for manufacturing firms. As discussed later, many of these differences are statistically significant even after controlling for other factors.

IT firms are not the only firms that might have different perceptions about regulation, and there is a need for further explanation. It is possible that there are other systematic differences in perceptions about regulation between firms of different types. One way of exploring whether this is the case would be simply to compare average responses across firms of different types. For example, it would be possible to look at how many firms of different types rated a particular regulatory issue as their biggest constraint or how many firms rated it as a major or very severe constraint. Although this approach is intuitive, this is difficult in practice for two reasons. First, the sub-samples of different types of firms are relatively small. Second, there are also systematic differences in other firm characteristics across types of firms. Exporters tend to be both larger than non-exporters and more likely to be foreign-owned. Differences in perceptions between managers of exporters and non-exporters might therefore reflect differences in size or ownership rather than whether their firm exports. If you ignore these, sampling variation can result in apparent differences in perceptions that do not reflect true differences.20 Econometric analysis for firms with different characteristics demonstrates other interesting results. As noted earlier, IT firms are less likely to say that some areas of regulation are serious problems than manufacturing firms are. In particular, managers of IT firms were less likely to say that compulsory certificates, inspections and environmental regulations were problems. The first two are consistent with objective data — fewer IT firms reported that they had been inspected and fewer also noted that they had had to acquire compulsory certificates (see Annex 4, Table D). There were some other differences. In general, foreign-owned firms were less likely to say that most areas of regulation were serious problems than domestic firms were. The differences were statistically significant for two areas: inconsistent application of regulations and instability of policy. This is encouraging because it suggests that regulation might not be a very serious constraint on foreign investment. Inconsistent application of regulation and instability of regulatory policy were, however, a greater concern for exporters. In addition, new manufacturing firms were generally less likely to say that most areas of regulation were a serious problem than older manufacturing firms were. There were few differences between large and small firms. The coefficient on firm size was statistically insignificant in most regressions with respect to regulation — for both variables that were on both the ARC Survey and Enterprise Surveys and for variables only in the ARC Survey. The only exception was the regression for compulsory certificates — managers of large firms were less likely to say that these were serious problems than managers of small firms were.

4.2 Perceptions about Taxation Few firms rated tax rates or tax administration as serious problems in 2009. Only about 8 percent of manufacturing firms said that tax rates were a serious problem and only about 3 percent said that tax administration was a serious problem. Firms were, however, asked several additional questions about their perceptions about tax administration. In particular, they were asked whether the firm’s treatment by tax authorities, completing tax forms, tax inspections, the burden of audits, frequency of rule changes, severity of penalties, and the appeal mechanism were serious problems. 20

These two issues will be addressed with the help of Annex 4, which presents relevant econometric results. First, by using a multivariate regression approach, it is possible to look at differences in perceptions after controlling for other systematic differences between firms. Second, it is possible to look at the statistical significance of the results (i.e., to see whether it is likely that the differences are due to random variation). A similar approach will be used in later sections as well.

Relatively few manufacturing firms complained about most of these areas related to taxation. With two exceptions, fewer than 13 percent of firms complained about any of these areas of taxation (see Figure 15). The main exceptions are frequency of changes in rules and rates and tax penalties. About 23 percent of manufacturing firms said that these were serious problems. Figure 15: Few manufacturing firms complained about any area of taxation

Source: Bulgaria ARC Survey (2009).

As for managers of manufacturing firms, the largest concern of managers of IT firms was the frequency of changes of tax rates and rules. Although it remained as the greatest concern for managers of IT firms, far fewer managers said it was a serious problem — only 8 percent compared to 23 percent of managers of manufacturing firms. (see Figure 16) The second and third greatest concerns for managers of IT firms were the appeal mechanism and tax penalties, whereas for managers of manufacturing firms those were the third and second greatest concerns. As with the frequency of rate and law changes, however, far fewer IT managers said that these were serious problems. Less than five percent of IT managers said that any other area related to taxation was a serious problem. There are limited differences in perceptions about taxation between IT firms and manufacturing firms. As noted above, there are only limited differences between IT firms and manufacturing firms. IT firms were less likely to say that the appeals mechanism was a serious problem — although it remained among their top concerns in the area of taxation. They were also more likely to say that tax audits were a serious problem — although it did not rank among the top concerns either.

Figure 16: Very few managers of IT firms complained about any area of taxation

Source: Bulgaria ARC Survey (2009).

There is a difference in perceptions about taxation between small and large firms. For the most part, small firms were more likely to say that most areas of taxation were a serious problem that large firms were. Several of these differences are statistically significant. For example, they were more likely to say that their treatment by the tax authorities was a problem and were more likely to say that the appeals mechanism was a serious problem. Furthermore, they were more likely to say that tax rates were a serious problem. Despite the difference, however, only 8 percent of small firms said it was a serious problem — meaning that tax rates were not among the top concerns even of managers of small firms. Overall, this section about perceptions of regulation and taxation can be summarized as follows. Although relatively few firms complained about tax rates or tax administration, there were more complaints about several specific areas related to taxation and regulation. Specific areas of regulation that firms complained about included competition protection law, standards and certification, the instability of regulation, and the frequency of changes to the tax system. Despite these concerns, it is important to note that perceptions about regulation and taxation have improved in recent years. Fewer firms said that tax rates and tax administration were serious problems in 2009 than in 2007. Moreover, fewer firms said that regulations were applied inconsistently or unpredictably.

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VÂ

REGULATORY CONSTRAINTS RELATIVE TO OTHER CONSTRAINTS This section compares survey responses to questions on regulatory constraints to responses to questions about other investment climate constraints. The section focuses on those investment climate constraints that are asked about on the BEEPS, Enterprise and ARC Surveys. This includes some constraints related to regulation and taxation â&#x20AC;&#x201D; although not all of the constraints that are asked about in the previous section. This makes it possible to compare results across time. The section also links findings on innovation.

5.1

Problems with Perceptions and Use of Rankings

There are problems using perception-based data, but it makes sense to take concerns of enterprise managers seriously. Since enterprise managers know more about the immediate problems their businesses face than do government officials, academic researchers or other outside experts, it makes sense to take their concerns about the investment climate seriously. There are some questions about perception-based data that need to be further clarified, such as: (i) whether firm managers can provide consistent and reliable information about the constraints they face; (ii) whether the perceptions of the enterprise managers interviewed in the survey reflect what the biggest constraints in the country really are; and (iii) whether perception-based data provides reliable information on constraints that allows researchers to make cross-country and cross-time comparisons.21 (see Annex 5 for more discussion). This report uses ratings, not rankings. The reason for using only data on ratings in the report is because the ARC Survey did not collect any information on rankings (i.e., what firms saw as the biggest problem that they faced) and therefore this information was not available.22 Crosstime comparisons will, therefore, be based upon ratings, not rankings.

5.2. Perceptions of Manufacturing Firms This section will focus on the 17 obstacles that are asked about in the standard enterprise survey. Because these were asked about in the earlier 2007 Enterprise Survey and the 20082009 BEEPS, it is possible to compare results from the 2009 ARC Survey with the results from the earlier surveys for these measures. The previous section focused on several areas of regulation and taxation that were not asked about in the two earlier surveys. Before looking at the IT and new manufacturing samples, it is interesting to look at the broader sample of manufacturing firms.23 21

Although the concerns about using perception-based data are serious, it is important not to overemphasize these problems. Recent work suggests that perception-based measures line up reasonably well with objective macroand micro-economic indicators even on a cross-country basis (See, for example, Gelb, Alan, et al. (2006); Hellman, Joel, et al. (1999); and Hallward-Driemeier, Mary, and Reyes Alterido (2009)). That is, despite concerns about subjective measures, they seem to provide useful information.

Rankings are based upon questions that ask enterprise managers what the top constraints they face are. For example, in the Enterprise Surveys, firms are asked to rank the top three constraints that they face. Constraints can then be ranked based upon the percent of firms that said that each was the biggest constraint they face. Ratings, in contrast, are based upon questions that ask enterprise managers to rate each constraint on a fixed scale. 23

The reason for this is that the weights that can be constructed for these firms make it possible to construct measures that should be representative of the entire population of manufacturing firms. 25

The areas that manufacturing firms were most likely to say were serious problems were informality, corruption, and access to finance. Close to 40 percent of manufacturing firms said that informality was a serious problem and close to 34 percent said that corruption was a serious problem (see Figure 17). Slightly fewer firms said access to finance was a serious problem — about 30 percent of firms. Figure 17: Practices of informal firms, corruption, and access to finance are the areas of the investment climate that Bulgarian managers of manufacturing firms were most likely to say were serious concerns

Source: Bulgaria ARC Survey (2009).

Few firms said most of the individual areas of regulation that reflected the earlier BEEPS and Enterprise Surveys were serious problems. Only about 12 percent of firms said that business registration and licensing was a serious problem, only about 2 percent said that labor regulation was a serious problem, and nearly none said that trade regulation was a serious problem.

5.3. Perceptions of IT Firms IT firms have some different views about the investment climate in comparison with manufacturing firms. IT firms appear, at least at first glance, to have similar views about the investment climate to those of manufacturing firms. IT firms were most likely to say that instability, corruption, crime, informality, courts, and access to finance were serious problems (see Figure 18). There were, however, in some cases significant differences in the percent of firms that said different areas were serious problems. In particular, IT firms were far less likely to say that informality (21 percentage points difference), access to finance (19 percentage points difference), tax rates (12 percentage points), and courts (12 percentage points) were major problems. They were also far more likely to say that instability (25 percentage points difference) and crime (10 percentage points) were major problems. The other differences were smaller.

Figure 18: IT firms had different perceptions about the investment climate compared to manufacturing firms

Source: Bulgaria ARC Survey (2009).

Most of the areas that ranked among the top concerns of IT managers were also among the top concerns of manufacturing managers. Despite the sometimes large differences in the percent of firms that said particular areas were major problems, and although the order was somewhat different compared to manufacturing, most of the areas that ranked among the top concerns of IT managers ranked among the top constraints for managers of manufacturing firms as well. In particular, instability ranked as the sixth greatest constraint among manufacturing firms, corruption ranked as the second largest constraint, informality ranked as the top constraint, courts ranked as the fourth largest constraint, and access to finance ranked as the third greatest constraint. The one exception was crime that was ranked as the ninth greatest constraint for manufacturing firms but as the third greatest constraint for IT firms. Another similarity was that relatively few IT firms rated tax administration or the specific areas of regulation (e.g., labor regulation, business licensing, or trade regulation) as serious problems. Despite the differences, it is important to note that many of these differences are not statistically significant. It is difficult to assess how important these differences are — that is, they could be due to sampling variation. The one exception is crime — the difference is large, it makes a large difference in relative rankings, and the difference is statistically significant (see below). The objective data is consistent with the perception based data. IT firms were more likely to report losses due to crime and were more likely to say that they spent money on security (see Figure 19). To the extent that they are more likely to sustain losses — and more likely to invest in prevention — it is not surprising that they are more concerned about crime. This could reflect that IT firms have capital (i.e., computers) that can be stolen easily and that can be sold easily afterwards.

Figure 19: IT firms have greater losses due to crime

Source: Bulgaria ARC Survey (2009).

5.4 Similarity in Perceptions Although, as noted above, most of the specific areas of regulation that were asked about in the broad Enterprise Surveys were not considered problems, this does not imply that regulation is not a serious concern in Bulgaria. One piece of evidence from the ARC Survey that suggests that red tape and burdensome regulation may remain an obstacle to firm operations in Bulgaria is that corruption and informality remain serious concerns for enterprises in Bulgaria. About 40 percent of firm managers said that informality was a serious problem and close to 34 percent said that corruption was a serious problem. Many studies have found that both are linked to burdensome regulation, red tape, and taxation.24 Although as discussed above, cross-country comparisons of perceptions are difficult to make, it is important to note that both corruption and informality are hard to measure in a consistent and objective way across countries. In particular, lying and non-responses mean that even objective questions on corruption and informality should be treated cautiously.25 For this reason, this sub-section will make some cross-country comparisons using perception-based data from the 2008-09 BEEPS. This survey is used for Bulgaria, rather than the ARC Survey, because the BEEPS had identical coverage in terms of sectors across countries and were completed at similar times. This makes comparisons using the BEEPS data for Bulgaria easier than using the BEEPS for the other countries, and the ARC Survey for Bulgaria. The percentage of firms in Bulgaria identifying unfair competition practices from informal business was higher compared to other new EU member states. More firms in Bulgaria said it was a problem than in any other country except Lithuania. (see Figure 20)

See Friedman and others (2000), Djankov and others (2002a), Djankov (2002b), Johnson and others (1998), Schneider and Enste (2000), Schneider and Klinglmair (2004), Shleifer and Vishny (1993), Svensson (2005) and World Bank (2003). 25 See, for example, Azfar and Murrell (2009) for a discussion of problems with objective measures of corruption and the problems associated with lying. 28

Figure 20: In 2008, very high percentage of companies in Bulgaria identify unfair competition practices from informal business as major impediment

Source: BEEPS (2008‐09)

Another evidence suggests that informality is a serious concern in Bulgaria. Renooy and others (2004) and World Bank (2007) estimate that undeclared work in Bulgaria is between 2230 percent of GDP. This is higher than in many of the other new EU entrants, like the Czech Republic (9-10 percent), Poland (14 percent), and Estonia (8-9 percent). With the exceptions of Greece (20+ percent) and Italy (17 percent), the informal economy is usually between 1-7 percent in most of the core EU countries. Other recent studies also support the finding that the hidden economy in Bulgaria is relatively high. A local think tank has estimated an annual index of unreported economic activity in Bulgaria since 2003. Based upon two criteria, employment and turnover, they find that Bulgaria has high levels of hidden economic activity (see Figure 21). Figure 21: Index of unreported economic activity in Bulgaria (2003–2009)

Source: Hidden Economy Survey on Population 2009. Vitosha Research, Center for the Study of Democracy. Note: This study involves a survey which tries to capture the dynamics of the three indices. Hidden employment index is related to perception‐ based data, whereas Hidden Turnover and Hidden Economic Activity Indices are based on objective data.

As with informality, Bulgaria also compares poorly with the best performing countries in terms of perceptions about corruption. Although fewer firms said corruption was a serious problem than in Romania, Lithuania and Latvia, more firms in Bulgaria said it was a problem than in the best-performing new EU entrants from Central and Eastern Europe (see Figure 22). 29

Figure 22: Percent of companies identifying corruption as the first major impediment in EU‐10 (2008)

Source: BEEPS (2008‐09).

5.5

Differences in Perceptions for Different Types of Firms

In addition to the differences between IT firms and manufacturing firms, there were also some other differences in perceptions between firms of different types. As discussed in the previous subsection on perceptions about regulation and in the Annex, it is important to keep in mind that some observed differences can be due to sampling variation or omission of other factors that might affect perceptions. To avoid this problem, major results from statistically significant differences from the regression analysis shown in Annex 4 are presented below. IT Firms. Managers of IT firms were more likely to say that several areas of the investment climate were serious problems than managers of manufacturing firms were. In particular, they were more likely to say that transportation, trade regulations, and crime were serious problems than managers of other firms were. As noted earlier, however, although the differences for transportation and trade regulation are statistically significant, these differences are mostly not large in absolute terms. The one exception to this rule is crime, which ranks as the third biggest constraint for IT firms. As noted above, the objective data also suggests that IT firms are vulnerable to crime. New Manufacturing Firms. Managers of new manufacturing firms were less likely to say that several areas of the investment climate were serious problems than other managers were. In particular, they were less likely to say that tax rates, courts and crime were serious problems. Firm Size. Large and small firms had different views about the investment climate for several of its important areas. For the areas unrelated to regulation and taxation, large firms were less likely to say that access to land and access to finance were serious problems than other firms were. This is not surprising, especially for access to finance. In most countries of the world, large firms find it easier to gain access to finance than small firms do. Several cross-country studies have found results that are consistent with these results for Bulgaria (Gelb and others, 2006; Hallward-Driemeier and Alterido, 2009). These results suggest Bulgaria is no exception in this regard. Another difference is that large firms were more likely to say that transportation was a serious problem. Again this is not surprising — and is consistent with previous studies (Gelb and others, 2006; Hallward-Driemeier and Alterido, 2009). Large firms are more likely to sell in national and international markets — as opposed to just local markets — than small firms are, making them more vulnerable to problems in the transportation sector.

Although these differences are statistically significant, they often do not have much effect on actual ratings. For example, although managers of large firms were more likely to say that transportation was a problem than managers of small firms were, only 3 percent actually said it was a serious problem (see Figure 23). Similarly, few managers of small firms said that access to land was a serious problem, even though they were more likely to say so than managers of large firms were. Figure 23: Small firms were more likely to say that tax rates, access to land and finance, corruption, and informality were serious problems than other firms

Source: Bulgaria ARC Survey (2009).

Access to finance is different in this respect. Managers of small firms were more likely to complain about access to finance than managers of large firms were. Moreover, the difference is large in absolute terms. Whereas about 29 percent of managers of small firms said access to finance was a serious problem, only 7 percent of managers of large firms said the same. As a result, although access to finance was among the top concerns of managers of small firms, it was not a top concern of managers of large firms. Although there was no difference for large and small firms with respect to most specific areas of regulation asked about in the ARC Survey, small firms do appear to be affected more significantly by corruption and informality. About 30 percent of managers of small firms said that corruption was a serious problem and about 47 percent said that informality was a serious problem. Firm managers of large firms were far less likely to say that both were serious problems (11 percent and 33 percent, respectively). See Box 2 for lesson learned from OECD economies.

Box 2: Focusing on Small Business

Source: OECD (2010).

5.6

Comparisons with Earlier Surveys

Although it is difficult to make cross-time comparisons of perceptions, it is interesting to see how perceptions have changed since the earlier 2008 BEEPS and the 2007 Enterprise Survey. The BEEPS provides some information on how perceptions changed as the worldwide financial crisis deepened, while the comparisons with the 2007 Enterprise Survey makes it possible to assess how the economy has changed since the pre-crisis time (World Bank, 2008b). As discussed below, because these surveys had slightly different coverage than the 2009 ARC Survey, these comparisons must be made carefully. Informality and corruption ranked among the top three constraints in the 2008 and the 2009 surveys. There are several similarities with the results from the 2008 BEEPS (see Annex 6, Figure A). Most notably, corruption and informality ranked among the top three constraints in both the 2008 and 2009 surveys based upon the percent of firms that said each was a serious problem. Concern about informality was slightly more pronounced in the 2009 survey, but otherwise the differences were small. The concerns of managers in the 2007 Enterprise Survey were similar to results from the 2008 BEEPS and 2009 ARC Surveys in some ways. In particular, based upon the percent of firms that said each area was a serious problem, informality and corruption also ranked among the top constraints in the 2007 Enterprise Survey (see Annex 6, Figure B).26 Similar number of firms said informality was a serious constraint in 2009 (about 40 percent) and significantly fewer firms said that corruption was a serious problem in 2009 (34 percent compared to 46 percent). The lower level of concern about corruption in 2009 is encouraging.

5.7. The Link to Innovation The econometric analysis of the 2009 ARC Survey does not reveal statistically significant relationships between innovation indicators and regulatory indicators, but it is useful to study this linkage further. Although the econometric analysis of the 2009 ARC Survey does 26

See World Bank (2008b) for more details on the 2007 survey. Although the sample was slightly different in the 2007 survey—covering retail trade and services in addition to IT and manufacturing, manufacturing firms had similar views about corruption and informality as retail trade and service firms.

not find any statistically significant relationship between innovation indicators and regulatory indicators, it is still useful to study further this linkage.27 Recovery from the downturn would be supported by a friendly business environment and incentive mechanisms advancing innovation and technology absorption. A step forward in this direction is the new package of 60 anti-crisis measures of the Bulgarian Government, adopted in March 2010. One of these measures prescribes changes in the Regulation to the Investment Encouragement Act to provide more incentives to firms that invest in high-tech, R&D, education, health, and IT, among others. Another initiative of the Government is the cooperation with the World Bank through Analytical and Advisory work on Enhancing Bulgariaâ&#x20AC;&#x2122;s Competitiveness through Innovation that has been initiated in April 2010. Overall, this section compared survey responses to questions on regulatory constraints to responses to questions about other investment climate constraints. An attempt to link regulation to innovation indicators was also made. This section used perception-based data, explaining the limitations but also emphasizing that it makes sense to take concerns of firm managers seriously. Cross-time comparisons were presented, using the 2009 ARC Survey, 2008 BEEPS and the 2007 Enterprise Survey, based upon ratings, not rankings. The areas that manufacturing firms were most likely to say were serious problems were informality, corruption, and access to finance, as per the ARC Survey findings. Earlier surveys also found very high percentage of companies identifying unfair competition practices from informal business and corruption as major impediments. IT firms have quite different views about the investment climate from those of manufacturing firms. IT firms were most likely to say that instability, corruption, crime, informality, courts, and access to finance were serious problems. IT firms were also more likely to report losses due to crime and were more likely to say that they spend money on security. As far as the link to innovation is concerned, statistically significant relationships between regulatory constraints and innovation indicators were not found. However, it was suggested to study this linkage further.

Annex 7 presents descriptive statistics and econometric results connecting firmsâ&#x20AC;&#x2122; innovation propensity to characteristics of firms such as size and location, based on the 2009 ARC Survey. 33

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ROLE OF THE BULGARIAN GOVERNMENT AND BUSINESS ASSOCIATIONS As discussed earlier, the burden of regulation appears to have fallen in recent years, but progress remains to be achieved. Several objective measures of regulation — based upon the Doing Business Report and the 2009 ARC Survey, 2008 BEEPS and 2007 Enterprise Survey — suggest that this is the case. This section will look at the role of the Government and business associations in Bulgaria in reducing the regulatory and administrative barriers to business.

6.1

The Role of the Bulgarian Government

In line with EU priorities, Bulgaria has put regulatory reform very high on its political agenda. The improvement of the regulatory environment and regulatory processes and the simplification of administrative barriers to business at the level of the EU Institutions and at the level of the EU Member States are key factors in the Lisbon Strategy for Growth and Employment and its relaunch at the European Council in March 2005. The EU recognized that the creation of regulatory regimes that support the business environment was essential for continued productivity, growth and development. One of the means to facilitate this growth and development is the creation and implementation of an explicit Better Regulation Policy, which includes reduction of the administrative burden for business. „Better Regulation Policy does not mean more regulation or less regulation but involves the putting in place of processes which ensure that good quality policy making takes place and that all regulations drafted are easy to understand, apply, comply with and are, therefore, of high quality“. OECD (2008)

The progress that the government has achieved towards Better Regulation in Bulgaria in recent years has been supported by international partners. The European Commission,28 the Organization for Economic Co-operation and Development (OECD)29, and the World Bank supported the Government in the past few years to improve the business environment. Some of the major steps the country has achieved towards improving the business environment were:  The work of the Inter–ministerial Working Group for the Optimization of Regulatory Regimes. The group reviewed 360 regulatory regimes, eliminating 71 regimes and amending 121 others;30  The enactment of the LARACEA Act in late 2003 (State Gazette (SG) No.55 from June 17, 2003);31  The development of eight Measures for Implementing Better Regulation Principles (August 2006); 32 28

The EC conducted bi-annual monitoring of the Better Regulation Policy in Bulgaria. The Bulgarian Administration benefited from grant funding at the amount of EUR 1.25 million for Better Regulation initiatives through the Administrative Capacity Operational Program. The activities included development of reports, methodological manuals, trainings, among other, for the period between January and June 2009. 29 SIGMA analyzed Regulatory Management Capacity of the Bulgarian Government in 2007-2008, whereas in 2008-2009, OECD conducted a research on the Investment Reform Index in Bulgaria. 30 This work was based on CoM Decision No. 393 of 2002. 31 The World Bank’s Programmatic Adjustment Loan (2004) provisioned the adoption of the LARACEA Act as one of the conditions for the loan’s approval. 34

 The related progress on reforming the Public Administration System (2003-ongoing);  The adoption of the Better Regulation Program 2008-2010 by the Government in compliance with the Better Regulation Agenda of the European Commission (April 2008).33 The Better Regulation Program 2008-2010, adopted by CoM in April 2008, has been the cornerstone of the Bulgarian Government’s regulatory reform work. The Program’s implementation began soon after its adoption, but the results from the implementation of the Program are mixed. By June 2009, the Better Regulation Program had made considerable progress: (i) the Better Regulation Unit was created in the CoM Administration (officially since February 2009);34 (ii) at the end of its mandate, the previous Government removed or simplified 25 regulatory regimes, after broad public consultations — the majority of these regimes, however, are still awaiting first reading at the National Assembly; (iii) www.strategy.bg became a portal for the initiative, but it is rarely providing any feedback from stakeholders; (iv) 181 illegal municipality regimes were abolished, but there are many other that need to be abolished; (v) 14 Regulatory Impact Assessments (RIAs) were conducted for important legislation, but RIA is not established as a regular practice; (vi) over 250 bureaucrats were trained in applying RIAs, but there is no strategy how to use this human potential; and (vii) a target of 20 percent by 2012, as per EC guidance, for reducing administrative burden for the business was adopted by the Government.35 The new Bulgarian Government contributed to the progress in the area of regulatory and administrative reforms. The new Government came to power in July 2009 and soon afterwards created the Council on Administrative Reform as an Inter-ministerial council chaired by the Minister of Finance. Proposals for a reform in the field of payments in the state administration were discussed, and a government report is expected to come out on the state administration payment system. In addition, a reform for streamlining of the administrative structure was initiated in September 2009 – 15 percent cut in administrative expenditure was targeted by end-2010. Furthermore, a draft Law on Normative Acts, introducing RIA as a mandatory tool, was prepared and presented to the European Commission for Democracy through Law (called the Venice Commission) for opinion, which was granted in early September 2009. The Draft Act, however, has not been taken to the Bulgarian Parliament yet.36 The new Government embarked also upon a Reform in the Customs and National Revenue Administration — they became two key priorities in the field of administrative reform. Last, but not least, the Ministry of Economy, Energy and Tourism prepared in the spring of 2010 an Action Plan for reduction of the administrative burden for business by 20 percent until 201237, whereas the Council of Economic Policy approved in late April 2010 a new Better Regulation Program, developed by government authorities, which covers a period until 2013.38 32

These measures were drawn up by the CEG, Consultative Council chaired by the Minister of Economy, Energy and Tourism. 33 The Better Regulation Program (2008-2010) was adopted by CoM after one-month public consultations. The program contains several measures under four main pillars: (i) removal and reduction of administrative regimes; (ii) establishment of an institutional structure for management, monitoring and control of the Better Regulation Policy; (iii) better dialogue with interested parties; and (iv) strengthening municipal and regional regulation capacity. A list of 16 administrative procedures was proposed for reduction or simplification, after consultation with business associations, in particular, and the public, at large. 34 The functions of the Better Regulation Unit at the CoM administration were undertaken by the Economic and Social Policy Directorate at CoM in autumn 2009. 35 “Better Regulation Program” Report for the period April 2008-April 2009, prepared by the Strategy Planning and Governance Directorate of the Council of Ministers Administration, available at www.strategy.bg. For additional information on the progress of the Better Regulation Program, see World Bank (2010a). 36 The Draft Law on Normative Acts and the opinion of the Venice Commission can be obtained from www.venice.coe.int/docs/2009/CDL(2009)115-e.asp. 37 The Action Plan is available at: http://www.mee.government.bg/bids.html?id=314522. 38 The Better Regulation Program 2010-2013 is available at www.strategy.bg. 35

Despite the difficulties with public spending, the new Government has programmed budgetary and other measures to continue administrative reform efforts. Between 2006 and 2009, the Government of Bulgaria spent EUR 10.6 million on strengthening of the administrative capacity in key areas, such as state management, including regulatory authorities and the judicial system. In 2010, in spite of cutbacks in public spending, the Government is planning to spend another EUR 11.3 million (0.03 percent of GDP) on Administrative Reform (as per the Convergence Program 2009-2012). A recent review for the Ministry of Economy, Energy and Tourism identified 398 (by December 2007) notification obligations stipulated in 33 national laws and the corresponding secondary legislation. The administrative costs related to them amount to EUR 81 million, and the administrative burden to EUR 51.5 million. The report recommended an elimination of 136 obligations, estimated to alleviate the administrative burden for businesses with around EUR 13 million. This has been emphasized in the Convergence Program 2009-2012 with a view to reform the regime of notification obligations. Furthermore, the Government re-confirmed recently the commitment to reduce administrative burden for businesses by 20 percent by 2012.39 The Government estimates that the reduction of administrative burden for businesses in Bulgaria by 20 percent would result in an increase in GDP by 0.72 percent by 2025.40 Although a political will is demonstrated, there is a need that the government devote more attention to reducing the administrative burden. A recent report by Open Europe (2009)41 estimated that the cumulative cost of regulation introduced in 1998-2008 (2008 prices) in Bulgaria was EUR 4.3 billion (58 percent attributed to EU legislation vis-a-vis national legislation),42 whereas the annual cost for 2008 of regulation in Bulgaria was estimated at EUR 867 million (50 percent attributed to EU legislation) or around 2.6 percent of the GDP in 2008. In April 2010, the Government authorities planned 136 measures to further reduce the administrative burden, which will get closer to the 20 percent reduction target by 2012. However, progress in this area is yet to be seen. To improve the business environment, the new Government needs to amend the LARACEA Act to improve conditions for business. Business in Bulgaria continues to be overloaded by non-compliance with the provisions of the law, regarding enforcement of regulatory regimes. The LARACEA Act is the common law on regulatory regimes. The adoption of this law in 2003 is widely considered by policymakers as a huge step forward, but the law does not function well. A step forward in this direction is the cooperation of the Ministry of Economy, Energy and Tourism with the World Bank in preparing an Ex-post Impact Assessment of the LARACEA Act. The World Bank (2010a) report summarized that the Act was intended to reform the regulatory environment by providing incentives for the business in simplifying administrative regimes and administrative control. However, the implementation of the Law still continues to function poorly, despite its 16 amendments — there are still too many irregular regulatory regimes, primarily introduced by municipalities in order to collect fees, issuing superfluous regulations that burden the business in terms of cost and time. Moreover, a number of important objectives, specified in the LARACEA Act have not been achieved, such as: increasing transparency during the implementation of regulatory regimes; decreasing opportunities for corruption by limiting the discretionary authority of the administration; 39

“Convergence Program 2009-2012”, Document of the Government of Bulgaria. As per Government’s Convergence Program 2009-2012. 41 The report builds on a UK case to estimate the impact of regulation on businesses, involving analysis of over 2000 regulatory impact assessments. Most of the regulatory cost relates to the private sector only, not to the economy as a whole. The measurement includes primarily the policy costs and administrative burdens involved in complying with regulations. In a few cases, direct financial costs were also included, as fees paid directly to the Government. EU/national legislation impact on regulatory cost is estimated. 42 Calculated on the basis of Open Europe’s Regulation database, World Bank’s Doing Business rankings, DG Enterprise; Kox, Henk (2005) and Eurostat data. An extrapolation on EU-27, based on the United Kingdom estimates has been done. 40

ensuring publicity of the activities of administrative authorities in their application of statutory instruments relating to regulation and control; optimization of inter-institutional coordination; and optimization of the coordination between the different departments. The forthcoming World Bank Assessment also specifies that the Act has a limited scope since most regulation of business remains beyond the scope of the Act and is covered by the Administrative Procedures Code and other special laws. There is also limited application of the principle of “silent consent.” Although Art. 28 of the Act provides that this principle relates to the issue of compulsory certificates and certificates for individual deals or actions, research indicates, in general, that special laws avoid the application of the principle of “silent consent.” In fact, only six laws apply this principle. Furthermore, no ex-ante impact assessment is made during the drafting and submitting of new regulatory regimes, although this is required by the Act. Finally, there is no adequate institutional framework for the Act that would oversee its implementation. As a result of the assessment, the World Bank report puts forward recommendations, covering instrumentalities and institutional and economic aspects that may improve the functioning of the Act, thus improving the regulatory environment affecting all businesses.

6.2 The Role of Business Associations Firms were also asked whether they belonged to business associations. Older manufacturing firms were the most likely to say that they belonged to business associations. About 36 percent of managers of old manufacturing firms said that they belonged to a business or sectoral association compared to only about 32 percent of IT firms and 29 percent of new manufacturing firms (see Figure 24). Figure 24: Older manufacturing firms are more likely to belong to business associations than new manufacturing firms or IT firms

Source: Bulgaria ARC Survey (2009).

One reason for this pattern is that older firms appear to be more likely to belong to business associations than younger firms do. Close to two-thirds of IT firms that were business association members were over 10 years old compared to only one-third of IT firms that were not business association members (see Table 4). Similarly, 97 percent of older manufacturing firms that belonged to business associations were over 10 years old compared to only 69 percent of manufacturing firms that were not members. Another reason for that might be that business associations in Bulgaria have limits as to how they can organize their work and what kind of functions for support to their members they can have. Although the lack of a 37

Business Assiciation Act makes business associations underfunded, functionally weak, and rather scattered, they have nevertheless mushroomed in the past two decades. There were several noticeable differences between members and non-members of business associations. The 2009 ARC Survey shows that non-members tend to be smaller than members (see Table 4). For manufacturing firms, the average non-member had only 7 workers compared to 15 workers for members. Similar patterns hold for younger manufacturing firms and IT firms. Members were also more likely to be involved in exporting, more likely to be limited liability companies, more likely to have broadband internet access, and more likely to be involved in Research and Development (R&D). For new firms and IT firms, they were also more likely to license foreign technologies, more likely to have international certification (e.g., ISO 9001), and were more likely to have introduced new products. Overall, this suggests that members appear to be larger and more sophisticated than non-members as per a number of dimensions. Table 4: Characteristics of members and non‐members Manufacturing Members

Non-

New Manufacturing Members

members Number of Workers

Non-

IT Members

Non-members

members

Over 10 years old

97%

69%

66%

36%

Exports

26%

Limited Liability

22%

20%

79%

56%

88%

79%

Sole Proprietorship

78%

80%

21%

41%

12%

19%

Has Broadband Internet

62%

49%

86%

71%

100%

97%

Licenses foreign

18%

37%

10%

ISO or other certification

19%

30%

43%

13%

Sofia

22%

43%

30%

Plovdiv

17%

39%

47%

31%

30%

Varna

28%

24%

14%

17%

14%

22%

Bourgas

64%

37%

43%

27%

11%

18%

New Products

45%

46%

68%

35%

80%

63%

Any R&D expenditure

20%

21%

34%

14%

68%

64%

56%

66%

61%

technologies

Time dealing with regulation Regulation is unpredictable

Source: Authors’ estimates based on the ARC Survey (2009).

Business associations are partly successful in helping their members. Although not the primary purpose of business associations, business associations can potentially help members with information on various aspects of government policy. In this capacity, they could provide information on government regulations and how to deal with them. The evidence from the 2009 ARC Survey suggests that they are only partly successful in this respect. In particular, firms that belonged to business associations were generally no more likely to say that regulation was predictable or to spend significantly less time dealing with regulation (see Table 4). For example, manufacturing firms that belonged to business associations were more likely to say that regulation was unpredictable than firms that were not (68 percent compared to 64 percent) and reported spending more time on average dealing with government regulations (6 percent compared to 4 percent). 38

IT firms that belonged to business associations reported spending slightly less time dealing with regulation but were more likely to say that regulations were unpredictable. Although this correlation does not imply causation — firms having trouble with regulation might be more likely to join business associations — it does suggest that they are not fully successful in this regard. Firms were also asked several direct questions on support that they received from business associations.43 Of the 119 firms that reported they belonged to a business association, slightly over half (62 firms) reported that they received some form of support from the association. The most common support was in resolving disputes with government officials, workers or other firms — of the fifty percent of firms that reported receiving any benefits, about 86 percent reported this kind of support (see Figure 25). Over 60 percent of firms that reported receiving any benefits reported that they benefited from reputational benefits, and information and contacts in domestic markets. Fewer firms reported benefits related to regulation. Of the firms that reported receiving any benefits, over half reported that they got information on accreditation and quality standards and about half - receiving information on regulation (see Figure 25). Since only about half reported any benefits, this suggests that only about one in four felt that business associations provided them with information on regulation. Even fewer reported that they felt that they benefited from the business associations’ lobbying for better regulation. Figure 25: For firms that belonged to business associations, the most common forms of support were resolving disputes with officials, workers or other firms

Source: Bulgaria ARC Survey (2009). Note: Only includes the 50 percent of firms that report any benefits. Because there are few firms that belong to business associations and report any benefits, the means are unweighted means for all firms.

Although only about half of firms reported any specific benefits from belonging to a business association, many firms appeared happy with the business associations. Of the business association members that received support from the associations, about 15 percent said that they were very positive about the support and about 65 percent said that they were positive. Only 3 percent said that they felt negatively about the support. Overall, the role of the Bulgarian Government and Business Associations can be summarized as follows. The adoption of legislation, as well as the adoption of policies and institutional reforms that address “Better Regulation” have contributed to Bulgaria’s recent 43

Because of the small number of firms that belonged to business associations, the three samples are pooled in the following statistics. Because of the difficulty of applying weights to non-manufacturing firms, summary statistics are unweighted in the following analysis. 39

progress in improving the business environment. For instance, the enactment of the LARACEA Act in 2003 is considered a significant step forward by policymakers and experts. The accession to the EU also carried the requirement of transposing the acquis communautaire in the national legislation, as well as the need to follow EU policies of â&#x20AC;&#x153;Better Regulationâ&#x20AC;?. This progress has been achieved due to close coopearation of the Bulgarian Government with a variety of international partners, like EU, OECD, World Bank, among others. The adoption of the Better Regulation Program 2008-2010 became the cornerstone of regulatory reform in Bulgaria. As part of this Program, the Better Regulation Unit at the Council of Ministers Administration was setup in 2008, followed by trainings of administration personnel and preparation of several regulatory impact assessments of important legislation. However, there are substantial drawbacks identified in the legislation, policy and institutional areas. For instance, the LARACEA Act is not functioning well, which creates a burdensome regulatory environment. Moreover, regulatory impact assessments of important legislation are done only ad hoc. Furthermore, the Better Regulation Unit, which manages, monitors and controls the implementation of the Better Regulation Program, lacks both official mandate with a direct linkage to the Prime Minister and its own budget. As far as the role of business associations is concerned, about one-third of firms in each sector reported that they belonged to a business association. Of these, about half reported receiving benefits from the association. The most common forms of benefits were resolving disputes and obtaining information and contacts in domestic markets. There is less evidence that business associations were highly successful with respect to providing information on regulation. Only about one in four members reported that they got information on regulation from the business associations, and members of business associations did not report that regulation was more predictable or less burdensome compared to non-members. Even fewer firms reported that they felt that they benefited from the business associationsâ&#x20AC;&#x2122; lobbying for better regulation. Having no Business Associations Act in Bulgaria is what makes business associations underfunded, functionally weak and rather scattered.

SECTION

VII

CONCLUSIONS AND KEY RECOMMENDATIONS Although Bulgaria has benefited from EU membership, foreign investment and an improved regulatory environment, convergence with the EU-average would require continued reforms to create a more friendly business environment. Bulgaria often takes the last position in terms of indicators of competitiveness among the EU-27 and the country is behind the EU-average in terms of ease of doing business. In addition, the export orientation of the economy and the economic growth in recent years are hampered by the global financial crisis through output decline, closure of businesses, and layoffs. The credit crunch and shrinking EU market have particularly hit the SMEs. Targeting convergence with the EUaverage would require enhanced international competitiveness and focused attention on continuing further improvement of the regulatory environment, which will contribute to creating a more friendly business environment. This final section of the report will present conclusions from general and specific findings, as well as key policy recommendations. General findings are based on comparative data from the BEEPS and Enterprise Surveys on the new EU-10 economies from Central and Eastern Europe, communications and reports from the European Commission, Government, OECD and World Bank, as well as secondary literature. Specific findings of the analysis are derived from a specially designed Administrative and Regulatory Costs Survey of about 320 firms (mainly SMEs) that was conducted in Bulgaria between May and October 2009. The key policy recommendations target three areas — policy, institutional and legislative.

7.1

General Findings

The adoption of legislation, as well as the adoption of policies and institutional reforms that address the Better Regulation Agenda have contributed to Bulgaria’s recent progress in improving the business environment. The enactment of the Limiting Administrative Regulation and Administrative Control on Economic Activity (LARACEA) Act in late 2003 is considered a significant step forward by policymakers and experts in the area of reducing the administrative burden and improving the regulatory environment. The accession to the EU also carried the requirement of transposing the acquis communautaire in the national legislation, as well as the need to follow EU policies of Better Regulation to reduce the administrative and regulatory barriers to business. In recent years, the Bulgarian Government cooperated with a variety of international partners (EU, OECD, World Bank, etc.) to improve the institutional setup for regulatory policies, monitoring of activities and control. In this respect, the adoption of the Better Regulation Program 2008-2010 became the cornerstone of regulatory reform. As part of this Program, the Better Regulation Unit at the Council of Ministers Administration was established in 2008, followed by trainings of administration personnel and preparation of regulatory impact assessments of important legislation. The new Government has also contributed to the improvements in the “Better Regulation” area. In spring 2010, the Ministry of Economy, Energy and Tourism developed an Action Plan to reach the target of 20 percent reduction of the administrative burden by 2012, whereas government authorities prepared a new Better Regulation Program to cover the period until 2013, which was adopted by the Council for Economic Policy in late April 2010. As a whole, regulation in Bulgaria is not as burdensome as it is in many countries in the world. Bulgaria Surveys evidence suggests that the burden of regulation on managers in 41

Bulgaria appears to be continuing to fall in recent years. Senior managers report spending less time on dealing with regulations in 2009, compared to 2008 and 2007. In fact, in 2008, Bulgaria entered the list of Doing Business Top 10 reformers in the world. As per Doing Business, reductions in the number of procedures, the time to register, the cost of registration, and the minimum capital requirement have made starting a business considerably easier since 2004. Moreover, recent governmental measures for reducing paid-in minimum capital from EUR 2,500 to EUR 1 for registration of limited liability companies have been introduced, responding to business needs. Furthermore, Bulgaria has made a step forward by reducing corporate taxes, improving the regimes of contract enforcement and paying taxes in recent years. Yet Bulgariaâ&#x20AC;&#x2122;s position is less favorable than that of many EU countries, and there is room for improvement. As far as closing a business is concerned, it was found that in recent years there has been progress in reforming the bankruptcy and insolvency procedures. In addition, a new governmental measure, aiming to simplify the procedures and reduce the time spent for insolvency cases, is provisioned as well in a program of 60 anti-crisis measures, adopted in March 2010 by the new government. However, implementation results to reduce time and cost for closing a business are yet to be seen. Furthermore, an emphasis was made on the state fees regime which continues to be burdensome for the business due to outdated legal framework, weak institutional structure and lack of government policy for setting state fees. In addition, concern about the predictability and consistency of regulation remains higher in Bulgaria compared to the other new EU entrants from Central and Eastern Europe. There are several reasons for that. Firstly, the LARACEA Act is not functioning well, which creates a burdensome regulatory environment and also creates conditions for non-transparency and corruption (e.g. illegal application of local regulatory regimes, duplication of submission of documents, non-transparency of procedures in applying for licenses, compulsory certificates, etc.). Secondly, regulatory impact assessments of important legislation are done only ad hoc. Thirdly, the Better Regulation Unit lacks both official mandate with a direct linkage to the Prime Minister and its own budget. Therefore, although Bulgaria has achieved progress in the legislative, policy and institutional areas over the past few years, there is still room for improvement.

7.2

Specific Findings for Manufacturing and IT Firms

The 2009 ARC Survey has provided some other specific findings about regulatory and administrative burdens in Bulgaria for new manufacturing firms (established after 2006), older manufacturing firms, and IT firms. On one hand, firms were relatively happy with company registration procedures, only few firms had complaints about the delivery of service by inspectors, and few firms rated tax rates or tax administration as serious problems. In fact, perceptions about regulation and taxation have improved in recent years. Fewer firms said that tax rates, and tax administration were serious problems in 2009 than did in 2007. Moreover, fewer firms said that regulations were applied inconsistently or unpredictably. On the other hand, firms complained about a number of issues: ď&#x201A;ˇ

New firms and IT firms spend more time dealing with regulations. It is important to emphasize that senior managers of IT firms and new manufacturing firms report spending more time on dealing with regulations compared to old manufacturing firms.

ď&#x201A;ˇ

Getting compulsory certificates is more costly compared to getting licenses, but it takes less time. Firms apply for compulsory certificates more often than for operating or trade licenses. Getting compulsory certificates was also more costly compared to getting licenses, but it took less time.



Interactions with inspection bodies are frequent. Interactions with inspection bodies (e.g. Tax, National Social Security Institute, Hygiene) take place often. It is likely that businesses are subject to numerous inspections due to multiple types of administrative regulations.



Firms did not complain about quality of service delivered by inspection bodies but the cost was high. Firms did not complain about the quality of service of inspection bodies, and the time for dealing with inspections was quite low. However, the cost of being inspected was high. For instance, IT firms reported highest median cost in dealing with inspections, while new manufacturing firms reported highest median number of days in dealing with inspections.



Few firms use electronic business registration. Although the number of companies registering electronically is increasing, relatively few firms use electronic business registration.



Informality, corruption and access to finance were identified as serious problems for manufacturing firms. The areas that manufacturing firms were most likely to say were serious problems were informality, corruption, and access to finance, as per the ARC Survey findings. Earlier surveys also found a very high percentage of companies identifying unfair competition practices from informal business and corruption as major impediments.



Instability, corruption, crime, informality, courts, and access to finance were identified as serious problems for IT firms. IT firms were most likely to say that instability, corruption, crime, informality, courts, and access to finance were serious problems. IT firms were also more likely to report losses due to crime and were more likely to say that they spent money on security.



Frequency of changes in tax rules and rates and tax penalties are the most common concerns in the area of taxation. In the area of taxation, the most common concerns for manufacturing and IT firms were frequency of changes in tax rules and rates and tax penalties.



Regulation is more burdensome for small firms than for large firms. Managers of small firms were more likely to say that regulations were serious problems compared to large firms. In addition, small firms were more likely to say that most areas of taxation were a serious problem than those of large firms were (e.g. treatment by tax authorities, appeals mechanism, and tax rates). Furthermore, managers of small firms were more likely to complain about access to finance and access to land than managers of large firms were. Finally, small firms did appear to be affected more significantly by corruption and informality.



Business associations are only partly successful in helping their members with information on various aspects of government policy. About one-third of firms in each sector reported that they belonged to a business association. Of these, about half reported receiving benefits from the association. The most common forms of benefits were resolving disputes and obtaining information and contacts in domestic markets. There was less evidence that business associations were highly successful with respect to providing information on regulation. Only about one in four members reported that they got information on regulation from the business associations, and members of business associations did not report that regulation was more predictable or less burdensome compared to non-members. Even fewer firms reported that they felt that they benefited from the business associations’ lobbying for better regulation.

7.3

Key Recommendations

The Government of Bulgaria is advised to relaunch the Better Regulation Agenda in line with the policies proclaimed by the European Commission. A clear Road Map is needed for the Government to proceed in the area of cutting regulatory and administrative burdens in consultation with key stakeholders and in line with EC policies. 44 Apart from the specific recommendations discussed below, the 2009 ARC Survey findings reported areas that require further study, namely: i) business exit procedures; ii) role of the competent authorities and mechanisms set up by the competition protection legal framework; iii) relationship between regulatory constraints and innovation.

7.3.1

Policy

Consult national business associations and other key stakeholders on a regular basis to increase predictability and transparency of the Better Regulation Policy. Within the framework of the new Better Regulation Program, the national business associations and other key stakeholders need to be consulted regularly on proposals for reduction and simplification of regulatory regimes and administrative procedures in order to increase predictability and transparency of the regulatory policy. A consultation mechanism could be the internet portal www.strategy.bg, but also consultative mechanisms such as the Council for Economic Growth and the Administrative Reform Council need to be used on a regular basis. Appoint a Spokesperson and devise Communication Strategy 2010-2013 to improve communication channels in the Better Regulation Policy area. The Government of Bulgaria has adopted the Better Regulation Program 2008-2010 as the main government document in the area of regulatory reform. Several line ministries are responsible for particular measures for reducing regulatory and administrative burdens for businesses but it can be said that the main champion is the Economic and Social Policy Directorate at the CoM Administration. It is supported by the Ministry of Economy, Energy and Tourism, and by the Ministry of Finance (in the area of Administrative Reform). Apart from the first Annual Report by the Better Regulation Unit at the CoM Administration (released in April 2009) and the publication of relevant information and reports on www.strategy.bg, there is little that has been done in terms of communicating the results from the Better Regulation Program. Hence, the full potential of reaching the desired audience has not been exploited yet. A radically different approach is needed. A successful strategy might be for the government to appoint a spokesperson to regularly brief the public on successes of the reform and next steps. In line with this, developing a Communication Strategy 2010-2013 on regulatory reform may help the government authorities. Develop a policy on state fees. General policy should be adopted to guarantee a coherent approach. Issues to be addressed in a policy statement would be: what shall be the function of state fees? Should there be â&#x20AC;&#x153;subsidizedâ&#x20AC;? administrative services? If so, what would be the criteria, and which services would qualify? Can fees be used to fulfill policy objectives like restricting access through high fees? What are the general criteria to calculate a fee? Which agencies should be allowed to retain fee revenues for their own budget and which not (selection criteria)? What shall be the institutional framework to assess and monitor the setting of fees? How shall the fee regime be monitored (e-government/etracking of fees), etc.?45

44 45

See COM (2008) 800 and COM (2009) 15. As per policy recommendations in World Bank (2009b).

7.3.2

Institutional

Give official mandate to the Better Regulation Unit. The Better Regulation Unit needs to be created as a separate authority within the structure of the CoM Administration with a strong mandate, reporting directly to the Prime Ministerâ&#x20AC;&#x2122;s office and with solid long-term financing for the management, monitoring, and control of the Better Regulation Program. It is advisable that it starts operation in January 2011 so that the budget for its functioning is approved within the framework of the next budget period. Set up satellite Better Regulation Units at line ministries. Satellite Better Regulation Units at line ministries should be set up with people that have been already trained to use RIA. Such units currently exist only at the Ministry of Economy, Energy, and Tourism. It is advisable that the satellite Better Regulation Units also report to the Better Regulation Unit at CoM. Set up an Administrative Register to improve compliance with rules and regulations, raise predictability and transparency. Setting up an Administrative Register in Bulgaria is a long-term project without any concrete results by now. There is a strong need to install an electronic Administrative Register with all regulatory regimes at the central and local level. In such a way, businesses would know how to comply with rules and regulations and the administrative procedures will be more transparent, reducing corruption practices, decreasing the informal sector, and improving predictability of the government policies. Initiate a Working Group to develop an Action Plan on setting up most frequently used public services by business to be accessible electronically. It seems there is room for improvement regarding the time to register a business. Providing more information to business about company e-registration possibilities could be useful. More importantly, business access to more e-government services would improve compliance, transparency, and predictability and reduce business time and cost (administrative and â&#x20AC;&#x153;briberyâ&#x20AC;?). In this line, a working group on e-government, chaired by the Ministry of Transport, Information Technologies, and Communications, could be created to develop an Action Plan on setting up most frequently used public services by the business to be accessible electronically. Empower an authority to deal with the state fees regime and adopt a model for setting up state fees to limit unjustifiable increase of state fees for business. It is recommendable that a state authority is entrusted with the management, monitoring, and control of the regime of state fees; it is advisable that a model of setting state fees based on the single cost calculation is introduced.

7.3.3

Legislative

Strengthen the competition regulation function of the IT sector and undertake a review of the regulatory framework. Given that IT firms suffer more compared to manufacturing firms in respect to instability of the regulatory environment, the time dealing with regulations and that they have higher concerns about the competition protection policy, there is a need to strengthen the competition regulation function of the IT sector and undertake a review of the regulatory framework. Introduce amendments to the LARACEA Act to reduce superfluous regulation at the municipality level. Irregular regulatory regimes still exist, mainly at the municipal level. This results from non-compliance with the provisions of the LARACEA Act. The World Bank in cooperation with the Ministry of Economy, Energy, and Tourism has prepared an Ex-post Impact Assessment of the LARACEA Act (2010a). The legislative program of the Bulgarian Government provisions amendments of the LARACEA Act. Therefore, it is advisable that priority is given to the amendments of this Act in the upcoming parliamentary hearings. 45

Introduce RIA as a mandatory tool. Regulatory Impact Assessment (RIA) is currently not a mandatory tool accompanying important legislation. The new Draft Law on Normative Acts in fact introduces RIA as a mandatory tool. The RIA document may include a special focus on the regulatory impact on SMEs, with an assessment of the administrative burden on SMEs. The draft law has received a mandatory opinion by the European Commission for Democracy through Law (called the Venice Commission) in September 2009.46 It is expected that the introduction of RIA will improve significantly the quality of legislation and policies by reducing the frequency of changes in rules (as for instance, manufacturing and IT firms in Bulgaria perceive frequency of changes of tax rules and rates and tax penalties as serious problems). Moreover, the RIA tool could be used for EU legislation that has to be transposed in Bulgarian legislation in order to justify the need to use specific country-context policies when drafting national legislation. Hence, it is advisable that the Draft Law on Normative Acts, introducing RIA as a mandatory tool, enters the National Assembly rather soon. Revise the legal framework regarding the regime of state fees. The current Law on State Fees is not sufficient to support the application of a modern fee structure. Any change of the current policy needs to be reflected in the legal framework and would show at two places: the principles and procedures to set fees for administrative services; and the actual fees due. Therefore, new and modern legislation based on the policy decision should be adopted. There are generally two options in this respect: (i) the Government of Bulgaria can amend the existing Law on State Fees; or (ii) adopt a new Law. Both options can achieve the goal, and the choice is more a question of political feasibility. Amend the LARACEA Act to set up an external sanctioning and control mechanism over civil servants, improve the coordination among inspection bodies, and increase the fines for business non-compliance with rules and procedures. The high frequency of inspections of businesses is due to multiple administrative regulations and probably the lack of good coordination among inspecting bodies, which produces a burden for the business. This requires that the LARACEA Act is amended to set up an external sanctioning and control mechanism over civil servants and improve coordination among inspection bodies in order to reduce the frequency of inspections. There is also a need to increase the fines for those businesses that do not comply with rules and procedures. Adopt a Business Associations Act. The 2009 ARC Survey reports that new manufacturing firms and IT firms are less likely to be members of business associations in comparison with older manufacturing firms. Moreover, the survey finds that firms consider business associations not that supportive â&#x20AC;&#x201C; the common support being resolving disputes with government officials, workers or other firms. The business associations can become more active and more supportive of the business environment if a Business Associations Act is adopted. It should specify concrete criteria, functions, and activities of business associations to help firms in various aspects of government policy (information sharing, market promotion, training, drafting of laws for business promotion, and the like). The new law would also give a stimulus to the business associations themselves to be more active in the national and international arena by increasing the number of their members and by becoming financially more viable.

See opinion No.536/2009 of the Venice Commission on: www.venice.coe.int/docs/2009/CDL(2009)115-e.asp.

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Hallward-Driemeier, Mary, and Reyes Alterido (2009). "Comparing Apples with...Apples: How to Make (More) Sense of Subjective Rankings of Constraints to Business." World Bank 5054. Washington DC. Hausmann, Ricardo, and Andres Velasco (2005). "Slow Growth in Latin America: Common Outcomes, Common Causes?" Kennedy School of Government: Boston MA. Processed. Hellman, Joel, Geraint Jones, Daniel Kaufmann, and Mark Schankerman (1999). "Measuring Governance and State Capture: The Role of Bureaucrats and Firms in Shaping the Business Environment." EBRD Working Paper 51. London, UK. IMF (2009). World Economic Outlook: Sustaining the Recovery. Washington DC Jensen, Nathan M., Quan Li, and Aminur Rahman (2008). "Heard Melodies Are Sweet, But those Unheard Are Sweeter : Understanding Corruption Using Cross-National Firm-Level Surveys." Policy Research Working Paper 4413. World Bank, Washington DC. Available on line at http://go.worldbank.org/FVMFX9KVJ0. Johnson, Simon, Daniel Kaufmann, and Pablo Zoido-Lobaton (1998). "Regulatory Discretion and the Unofficial Economy." American Economic Review Papers and Proceedings 88(2):387– 92. Kikeri, Sunita, Thomas Kenyon and Vincent Palmade (2006). Reforming the Investment Climate: Lessons for Practitioners. World Bank: Washington DC. Klapper, L. and Juan Manuel Quesada Delgado (2007). New data on business creation and how to promote it. The World Bank Group FPD VP, Note No.316, November 2007. Kox, Henk (2005). Intra-EU differences in regulation-caused administrative burden for companies. CPB Memorandum No.136, Rev.1. Krammer, Sorin (2009). “Drivers of national innovation in transition: Evidence from a panel of Eastern European countries,” Research Policy, Vol. 38/5, June 2009, pp.845-860. Lewis, William (2004). The Power of Productivity: Wealth, Poverty and the Threat to Global Stability. Chicago: University of Chicago Press. Max Everest-Phillips and Richard Sandall (2009). Linking Business Tax Reform with Governance. Note 2, February 2009, FIAS. www.fias.net. Ministry of Finance (2009). Economic Measures aimed at the Recovery of Bulgaria’s Economy (27 July 2009-27 April 2010). Document of the Government of Bulgaria. Ministry of Finance (2008). Report of the Consolidated State Budget as of 31 December 2008. National Statistical Institute (2010), preliminary data. OECD (2010). Investment Reform Index 2010. Monitoring Policies and Institutions for Direct Investment in South-East Europe. OECD: Paris. OECD (2008). Assessment of Regulatory Management Capacities of Bulgaria. SIGMA/OECD, Draft report. Open Europe (2009). Out of Control: Measuring a Decade of EU Regulation, February 2009. www.openeurope.org.uk. Polatajko, Tony and Peter Ladegaard (2007), report for the Donor Committee for Enterprise Development, entitled “Better Regulation for Growth – Improving the Governance Framework for Investment. Renooy, Piet, Staffan Ivarsson, Olga Van der Wusten-Gritsai, and Remco Meijer (2004). "Undeclared Work in an Enlarged Union." European Commission: Brussels, Belgium.

Rita Ramalho, Jorge Rodríguez-Meza, Judy Yang (2009). How are firms in Eastern and Central Europe reacting to the financial crisis. World Bank Group. Enterprise Note No.8. Schatz, Matthias, M. Schiebold, S. Kiefer and H. Riedel (2009). Handbook for Measuring Regulatory Costs. Bertelsmann Stiftung: Gütersloh. Schneider, Friedrich, and Robert Klinglmair (2004). "Shadow Economies Around the World: What Do We Know?" Discussion Paper 1043. Institute for the Study of Labor (IZA), Bonn, Germany. Schneider, Fredrich, and Dominik Enste (2000). "Shadow Economies: Size, Causes and Consequences." Journal of Economic Literature 38(1):77–114. Shah, Anwar (2007). Performance Accountability and Combating Corruption. World Bank: Washington DC Shleifer, Andrei, and Robert W. Vishny (1993). "Corruption." Quarterly Journal of Economics 108(3):599–617. Svensson, Jakob (2005). "Eight Questions About Corruption." World Bank Research Observer 19(3):19–42. World Bank (2010а). Bulgaria: Ex-Post Impact Assessment of the Act on Limiting Administrative Regulation and Administrative Control on Economic Activity. Report No.55728-BG. Washington DC: World Bank. World Bank (2010b). Mapping Bulgaria’s Future: Inclusive Growth and Productive Jobs. World Bank: Washington DC. World Bank (2009a). "Enterprise Survey and Indicator Surveys: Sampling Methodology." World Bank: Washington DC. Available on line at www.enterprisesurveys.org/ documents/Sampling_Note.pdf. World Bank (2009b). Bulgaria: Reforming the Regime of State Fees. Report No.55729-BG. Washington DC: World Bank. World Bank (2009c). Doing Business 2010: Reforming Through Difficult Times. Washington DC: World Bank. World Bank (2008a). Doing Business 2009. World Bank. Washington DC. World Bank (2008b). Bulgaria: Investment Climate Assessment. World Bank. Washington DC. World Bank (2007a). Bulgaria: Accelerating Bulgaria's Convergence: The Challenge of Raising Productivity. World Bank: Washington DC. World Bank (2007b). Review of the Dutch Administrative Burden Reduction Programme. February 2007. World Bank (2005). Doing Business in 2005: Removing Obstacles to Growth. New York: Oxford University Press. World Bank (2004). World Development Report 2005: A Better Investment Climate for Everyone. New York: Oxford University Press. World Bank. 2003. Doing Business in 2004. Washington DC: World Bank. World Economic Forum (2009). The Global Competitiveness Report 2009-2010. Geneva, Switzerland. World Economic Forum (2008a). The Global Competitiveness Report 2008-2009. Geneva, Switzerland. World Economic Forum (2008b). The Lisbon Review 2008: Measuring Europe’s Progress in Reform. Geneva. Switzerland. 49

______(2010). Convergence Program 2009-2012. January 30, 2010. Document of the Government of Bulgaria. ______(2009a). Definition and Measurement of the Administrative Burden, Resulting from the Notification Obligation by the Business and Proposal for its reduction. Report for the Ministry of Economy and Energy, June 2009. ______(2009b). Analysis of State Fees, Administered at the Central Level and Proposals for Undertaking of Measures, Draft report of Working Group under the Ministry of State Administration and Administrative Reform Internet sources: Better Regulation Program 2010-2013, available at www.strategy.bg Action Plan for reduction of the administrative burden for business by 20 percent until 2012, available at: http://www.mee.government.bg/bids.html?id=314522. Opinion No.536/2009 of /docs/2009/CDL(2009)115.

the

Venice

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www.venice.coe.int

ANNEXESÂ Annex 1. The importance of regulatory reform for economic growth Improving the business environment is a major objective for policymakers. There is broad understanding among policymakers and development practitioners that microeconomic reforms aimed at strengthening property rights, unleashing competition, and reducing the cost of doing business are critical in creating a sound investment climate and promoting economic growth (World Bank 2004; World Bank 2005; Lewis 2004). It is also commonly agreed that these changes need to be credible and sustained for private firms to respond by increasing investment and production (World Bank, 2006). The private sector responds far more when they have confidence that the state will not reverse regulatory decisions or supersede them by future changes in policies or legislation. Hence, the more uncertain and risky the legal and administrative environment for economic activity, the more likely it is that aggressive rentseeking and short-term profit-taking will replace longer-term investment (FIAS, 2009). Successful regulatory reform is therefore not just about cutting the immediate regulatory barriers or administrative burden47 but also about making a good investment climate an ongoing objective in policymaking. Regulatory and administrative barriers and policy inconsistency, instability, and unpredictability are among the most significant impediments to both foreign and domestic investment. On the one hand, badly designed and administered regulations48 impose major constraints to growth and productivity and create strong incentives for small businesses to remain in the informal economy (Polatajko, T. and P. Ladegaard, 2007). On the other hand, effective regulatory reform processes and institutional structure improve the business environment by reducing policy risks and cutting administrative and regulatory burden for businesses. Regulatory and administrative costs and risks affect businesses. It is often assumed that when regulatory burden and risks rise for companies, private investment and production decline. This is not always valid, however. Instead if governance is poor and public services are of low quality, this relationship is indeed almost always inverse (FIAS, 2009). Administrative costs for businesses are generally defined as business costs, incurred in order to respond to legal obligations for information delivery for their activity, whereas regulatory costs are generally defined as those costs incurred by norm addressees in their adherence to or carrying out of statutory duties requiring actions, also called compliance costs (see, Box below).49 Categories of Regulatory Costs for Businesses Operating or transaction costs. Sometimes called administrative costs, these include costs imposed by paperwork, formalities, corruption, and operating procedures such as information disclosure. Such costs usually last for the life of the company, so their net present value tends to be high. These costs also have a fairly high fixed component, and are particularly hard on small and medium-size enterprises. Unless they can be passed on to consumers, these costs reduce profitability. Capital costs. Capital costs usually refer to the costs of buying new equipment and land. Though often high upfront, they fall over time as new equipment characteristics are built into equipment design and 47

Administrative burden: The costs to a company of providing information to the Government or a third party (consumers or shareholders), including keeping records, completing returns and reports, cooperating with audits and inspections, applications for permission, exemption or authorization, etc. 48 Regulation is often used to mean legal or administrative instruments to achieve policy objectives. 49 Statutory duties requiring actions can be information duties, payment duties, cooperative duties, supervisory duties, training duties, and target fulfillment and other requirement fulfillment duties (see Schatz et al. 2009). 51

ANNEXESÂ investment planning. In the early years of a business, capital costs can distort basic decisions such as on the trade-off between labor and capital. Regulations imposing capital costs diminish investment in productive activities and so reduce firm innovation and productivity. Reductions in the value of business assets by eliminating opportunities for higher returns. Regulators can impose such costs by allowing monopolies or imposing other barriers to market entry, slowing innovation, reducing business flexibility (say, in labor decisions), or forcing businesses to spend resources on strategic behavior. These lost opportunities force investment decisions into lower-return activities. Source: FIAS (2009).

On the one side, regulatory burden seriously affects productivity, competitiveness, and growth of firms and influences decisions regarding locations of investments and operations of foreign and local businesses. High taxation or uneasy access to tax payments drives firms to stay informal; high red tape creates a business environment of unfair competition and represents a substantial obstacle for business operations; the existence of regulatory and administrative barriers reduces the opportunities for market actors to move faster in a competition-driven economy. Relatively easy access and exit from the market force inefficient firms to pull out of the market and allow for the existence of new dynamic firms. In order to become fully operational and to continue to operate, firms also need to obtain licenses and deal with inspectors for standards, health, safety, and environmental protection. Superfluous, inefficient administrative procedures and inspections or illegally practiced regulatory regimes at the central and at the municipal level cost businesses unnecessary time and money, reducing their productivity and incentive to grow. Slow process of contract enforcement in courts and bribes paid to speed up delivery of public services force firms to incur illegal costs when interacting with the public sector. On the other side, well-designed and applied administrative procedures can help stimulate business activities, productivity, and growth of firms. The private sector is the most obvious beneficiary of streamlining administrative processes because it becomes more competitive and operates more easily and predictably under established rules. However, government also benefits from improved regulatory environment. Innovative or so called â&#x20AC;&#x153;smart regulationâ&#x20AC;? reduces the regulatory burden for businesses when procedures and regimes are simplified and streamlined. Then, the public sector becomes more efficient as it requires less resources and less time to administer. Finally, high red tape in the court system, tax administration or other institutions, and inspections by public authorities increase the corruption cost for businesses, thus reducing the incentives for firms to expand. Similarly, high street crime, theft and disorder create a more vulnerable business environment and make firms incur more expenses for security instead of investing in productive resources. Informality and corruption need to be monitored regularly because they can be symptoms of burdensome regulation, red tape, and taxation.50 Informality is both difficult to define and difficult to measure. No doubt, it is endemic to firms in developing and emerging economies. Although firms pay a price for staying informal,51 it is often asserted that firms prefer to stay informal in order to avoid the burden of regulation (Johnson et al., 1998). Moreover, cross-country studies demonstrate that informality is more prevalent in economies with greater entry regulation and rigid labor laws (Djankov, S. et al., 2002; Djankov, S. and R. Ramalho, 2008). Informality is also linked to failure in governance and to the tax system and 50

See, Friedman, et al., 2000; Djankov, S. et.al, 2002a; Schneider, F. and R. Klinglmair, 2004; Svensson, J., 2005; Johnson, S. and D. Kaufmann and Pablo Zoido-Lobaton, 1998; Schneider, F. and Dominik Enste, 2000; Shleifer, A. and Robert W. Vishny, 1993; World Bank, 2003). 51 Companies in the informal sector try to avoid being caught in the radar of the tax administration. Thus, they avoid growing in order not to attract attention. These firms also lack access to finance through appropriate financial channels. The firms need to frequently change location or pay bribes. These firms often have lower productivity because they do not invest in human capital and in their business. 52

ANNEX 1 the way taxes are raised (Max Everest-Phillips and R. Sandall, 2009). The linkages are reflected in three ways: (i) revenue collection depends on efficient administration, trust in government, and political stability; (ii) the way in which states obtain revenue affects the quality of their governance. Sound and fair domestic taxation systems promote good governance because raising taxes efficiently requires the consent of the tax-paying population; and (iii) the formal sector typically bears heavy financial and time burdens in complying with tax obligations. These burdens may create a strong disincentive. Thus, micro and small firms can disappear into informality, and medium-sized businesses may emerge as the group targeted for fair and effective tax reforms. Hence, the impact of the tax system on small and mediumsized enterprises to a great extent defines the growth prospects of the economy. As far as corruption is concerned, it is often defined as the exercise of official powers against public interest or the abuse of public office for private gains. Constraints to bribery and corruption relieve the business environment and promote business competitive behavior. Most certainly, public sector corruption is a symptom of failed governance. Corruption is not manifested in one single form; as we know, it typically takes at least four broad forms.52 This report shall discuss only perceptions of businesses on bureaucratic corruption.

Anwar Shah (2007) discusses the four types of corruption: (i) Bureaucratic corruption. Isolated transactions by individual public officials who abuse their office by demanding bribes and kickbacks; (ii) Grand corruption. The theft or misuse of vast amounts of public resources by state officials — usually members of, or people associated with, the political or administrative elite — constitutes grand corruption; (iii) Regulatory capture. The collusion by private actors with public officials or politicians for their mutual, private benefit; and (iv) Patronage, paternalism and clientelism. This is when officials use their official position to provide assistance to clients or colleagues of the same geographic, ethnic, or cultural origin so that they receive preferential treatment in their dealings with the public sector. 53

ANNEXES

Annex 2. Sources of information The main source of information is the ARC Survey, conducted between May and October 2009. The survey covered 318 manufacturing and information technology (IT) firms. The survey was commissioned by the Better Regulation Unit at the CoM and was conducted by AFIS Agency. The research tool was developed by the World Bank team. The main objectives of the survey were to:  provide feedback from enterprises on the constraints faced by the private sector;  provide special insight into the distinct problems of start-ups, innovative enterprises in the manufacturing sector, and companies in the IT sector;  provide special understanding of the problems which Small and Medium-sized Enterprises face and present a comparison of their costs and constraints to those of other firms;  measure the quality of governance and public services delivery with regard to key procedures and formalities with which businesses must comply;  evaluate and benchmark the types and magnitude of costs imposed on private enterprises by administrative and regulatory procedures and pinpoint areas of excess or unnecessary cost that might benefit from reform or streamlining;  provide the basis for follow-up monitoring and self-assessment by government agencies to assess the impact of reforms. There were three sets of firms covered in the ARC Survey: manufacturing firms; new manufacturing firms (established after 2006); and firms in the IT sector. The survey was conducted in four large economic regions of Bulgaria: Sofia, Plovdiv, Varna, and Bourgas. The main characteristics of the ARC Survey sample are shown in Table A. The survey instrument was based upon the World Bank’s Enterprise Survey.53 The ARC Survey, however, has a narrower focus on administrative and regulatory costs and procedures than the Enterprise Survey. As a result, many questions were omitted and additional questions on regulation were included. The surveys were delivered in face-to-face interviews with senior management such as Chief Executive Officers (CEOs), deputy CEOs, owners, chief accountants, heads of human resources, and head of sales departments in each of the regions.

The survey instrument is available on the Enterprise Survey website (www.enterprisesurveys.org). You may also refer to World Bank (2009a).

ANNEX 2 Table A: Main characteristics of the Bulgaria ARC Survey sample Variables

Distribution

Location

Sofia Varna Plovdiv Bourgas Large (>250) Medium (50-249) Small (10-49) Micro (<10) Private-domestic Foreign share State-owned Other Limited Partnership Sole Proprietorship Shareholding Company with shares traded privately Other Shareholding Company with shares traded on stock market Partnership >2006 2000-2005 1990-1999 <1990 Manufacturing New manufacturing IT sector

Firm size

Firm Ownership

Firm legal status

Year of Establishment

Type of firms54

Sample percentage 21.4 35 20 23.6 9.3 9.7 34 46 95.6 2.9 1.2 0.3 54.4 24.2 10.4 7.5 1.9 1.6 37.4 18.4 34.5 9.7 35 29 36

Source: Authors’ estimates, based on the ARC Survey (2009).

Manufacturing firms were randomly selected from a list that was constructed by combining two of the leading business directories (econ.bg55 and Golden Pages). All firms in the manufacturing sector in the regions covered were selected from these lists. A stratified random sample that oversampled larger firms was constructed. Since larger manufacturing firms were oversampled, weights have been constructed.56 IT firms and new manufacturing firms were selected using a different procedure. These firms were identified through local business organizations, business directories, and local newspaper advertisements. In this respect, the samples of IT and new manufacturing firms are not purely random. Because the sampling methodologies were different, it is not possible to pool the samples to produce sample statistics for the combined sample. As a result, data from the samples are presented separately in the relevant tables. The 2008-09 BEEPS and the 2007 Enterprise Survey The results from the ARC Survey will often be compared with results from two earlier surveys: the 2008-09 BEEPS and the 2007 Enterprise Survey. These surveys provide complementary information to the ARC Survey and allow for cross-time comparisons along some dimensions. The two surveys were general investment climate surveys and lacked the detailed information on regulation that was included in the ARC Survey. The BEEPS also allows for cross-country comparisons along some dimensions because it was conducted in multiple countries. 54

Distribution of manufacturing firms by sector: Other manufacturing (31 percent), Food, Beverage, and Tobacco (11.3 percent), Machinery and Equipment (5 percent), Garments (4.7 percent), Plastic and Rubber (3.8 percent), Fabricated Metal Products (3.5 percent), Chemicals (2.8 percent), etc. 55 econ.bg includes more than 189,000 companies that are active or have been active since 2002. 56 The telephone numbers or addresses were outdated or invalid in at least 15 percent of the cases. In addition, 26 percent of the companies had suspended activity. This is relevant to the Financial Crisis Survey conducted by the World Bank, which reported, as mentioned already above, that 16 percent of the firms in the sample were impossible to locate. 55

ANNEXES In 2008-09, the World Bank and the European Bank for Reconstruction and Development completed the fourth wave of the BEEPS. The BEEPS was substantially restructured in comparison with earlier surveys in terms of both questionnaire and survey coverage to make the survey compatible with the Enterprise Surveys that were conducted in other regions by the World Bank. The survey had a broader coverage than the ARC Survey encompassing all manufacturing sectors (group D), construction (group F), services (groups G and H) and transport, storage, and communications (group I). The BEEPS was completed in 27 countries in Eastern Europe and Central Asia in late 2008 and 2009. The Bulgaria survey was conducted between September 2008 and December 2008 (see Table B). The timing of the survey meant that it was completed after the global financial crisis had already started. In particular, the survey occurred after the March sale of Bear Stearns to JP Morgan Chase and most occurred after the collapse of Lehman Brothers and the US Government’s rescue of American International Group Inc. Most of the surveys, however, occurred before the major impact of the crisis was felt in international markets. Table B: Timing of Surveys in the 2008‐09 BEEPS Month of Survey

Number of firms

Percent of firms

September 2008

111

October 2008

132

November 2008

December 2008

Total

288

100

An additional survey, using a survey similar to the 2009 ARC Survey and almost identical with the 2008 BEEPS, was conducted between July and December 2007. The Bulgaria 2007 Enterprise Survey has been designed as part of the World Bank’s Enterprise Survey rollout. For instance, the 2007 Enterprise Survey was used in the 2008 Investment Climate Assessment (World Bank, 2008). The Enterprise Survey covered the same sectors as the 2008 BEEPS.

ANNEX 3

Annex 3. Standards and certification in Bulgaria Under the right conditions, improving standards can accelerate technological progress, improve productivity and increase trade. Global buyers demand products and services that meet rigorous standards to ensure that these products and services integrate flawlessly with other components of the supply chain, satisfy final customer requirements and comply with a maze of technical regulations in importing countries. Yet, firms can only fully exploit the benefits of standards when a supportive national quality infrastructure is in place. Certification to international standards involves a long and costly preparation process that often requires training, consulting services and sometimes additional testing and calibration of equipment. Although Bulgaria has all of the necessary institutions for a complete national quality system, some areas could be improved further. In the past five years, the national quality system has undergone significant restructuring, and the institutions involved in standardization, accreditation, market surveillance, certification, and scientific and legal metrology have been segregated into independent bodies. The government offers consulting services on quality improvement by the Bulgarian Small and Medium Enterprises Promotion Agency. Some government ministries also promote certification through procurement requirements, although this is not a widespread practice in Bulgaria. Business associations are also active in the area of quality and standards. In addition, EU Structural Funds are expected to support new measures for the diffusion of standards and quality practices in firms. The Operational Program “Development of the Competitiveness of the Bulgarian Economy” approved by the EC in September 2007 includes a program to help firms achieve compliance with internationally-recognized standards. However, quality policies and programs could be further improved. World Bank (2008b) made several recommendations along these lines: Accreditation. Private sector accreditation stakeholders have limited influence in the governance of the national accreditation body in Bulgaria under the Bulgarian Accreditation Service Act. In Bulgaria, both the public and private sectors are represented in an Accreditation Council, but this body is granted a largely advisory role. Moreover, most of the executive power rests with an Executive Director appointed by the government. In contrast, in countries such as Spain, the United Kingdom, Turkey, Hungary and Romania, the accreditation body has a general assembly of private and public sector members who have a voice in the governance of the institution. Further, the Executive Director plays a role in the appointment of accreditation personnel and technical experts in Bulgaria. In other countries, the selection of the workforce is not the responsibility of political appointees. Metrology. Compared to other EU accession countries, the National Metrology Institute, BIM, provides few calibration services, and only a small share is provided to commercial calibration laboratories. For example, BIM provided a tenth of the calibration services of clients of the national metrology institute in Hungary. Moreover, only 25 percent of all of BIM’s calibrations were performed for commercial calibration laboratories (primary calibrations), the rest being performed for end industrial users (secondary calibrations). Although Bulgaria performs better than Hungary and Turkey in this area, its share of primary market calibrations is low compared to Poland and other EU countries where commercial calibrations laboratories account for the vast majority of the National Metrology Institute clients. Standardization. Bulgaria has a large and growing stock of voluntary standards. The BDS standards catalogue lists 26,954 standards, slightly fewer than in Romania and Turkey, but more than in most other countries, including the United Kingdom and Korea. The standards stock has significantly grown in the past few years (up from 15,257 standards in 2000). About 1,621 standards were adopted in 2005 alone. Streamlining these standards could reduce the burden on firms in these areas. Source: World Bank (2008b)

ANNEXES

Annex 4. Regulatory barriers to investment: survey results An interesting question is whether there are systematic differences in perceptions about the investment climate among firms of different types. One way of doing this would be simply to compare average responses across firms of different types. For example, it would be possible to look at how many firms of different types rated a particular investment climate issue as their biggest constraint or how many firms rated it as a major or very severe constraint. Although this approach is intuitive, there are at least two problems associated with it. First, the sub-samples of different types of firms are relatively small. Second, there are also systematic differences in other firm characteristics across types of firms. Exporters tend to be both larger than non-exporters and more likely to be foreign-owned. Differences in perceptions between managers of exporters and non-exporters might therefore reflect differences in size or ownership rather than whether their firm exports. Annex 4 presents econometric results that deal with both these issues. First, by using a multivariate regression approach, it is possible to look at differences in perceptions after controlling for other systematic differences between firms. Second, it is possible to look at the statistical significance of the results (i.e., to see whether it is likely that the differences are due to random variation). Methodology The methodology used in this section is similar to the methodology used in a recent paper by Gelb, Ramachandran, Shah, and Turner (2006) that used data from seven countries in Africa (Kenya, Madagascar, Senegal, South Africa, Tanzania, and Uganda) to look at differences in perceptions within and between countries. The question of how different factors, including ownership, affect access to credit for microenterprises is examined by estimating different versions of the equation below: Perception about ICi  1   2 Ownershipi   3 Size   4 Exporteri   5Sector   5 Region   i

The dependent variables are index variables indicating whether the firm manager rates that area of the investment climate as no obstacle, a minor obstacle, a moderate obstacle, a major obstacle or a very severe obstacle. For the regressions with the dummy variable indicating a major or very severe obstacle, all obstacles are used in dependent variables. The independent variables are a dummy variable indicating firm ownership (whether the firm is foreign-owned), firm size (number of workers), a dummy variable indicating whether the firm exports, dummies indicating whether the firm is an IT firm, a dummy variable indicating whether the firm is a ‘new’ manufacturing firm, and a series of dummies indicating location. The error term is assumed to be normally distributed. Because the dependent variable is a dummy variable, the model is estimated using standard maximum likelihood estimation. Results Results for whether the firm manager said each of the general areas related to infrastructure, other inputs, and crime, asked about in the earlier BEEPS and Enterprise Survey and in the 2009 ARC Survey, were serious problems are shown in this Annex, Table B. Results for whether the firm manager said areas related to the areas of taxation and regulation, asked about in both the 2007 Enterprise Survey and the 2009 ARC Survey, were serious problems are shown in Table C. Results for whether the firm manager said each of the specific areas of regulation, asked about only on the ARC Survey, are serious problems are shown in Table D. Finally, results for each of the specific areas of taxation, asked about only on the ARC Survey, are serious problems are shown in Table E.

ANNEX 4 Table A: Regression of perceptions about consistency of regulatory policy on firm characteristics Regulations are interpreted inconsistently 286

Observations Sector New manufacturers (dummy) Information technology (dummy) Firm Characteristics Workers (log) Exporter (dummy) Foreign-owned (dummy) Produced new product (dummy) Location (Sofia omitted) Plovdiv (dummy) Varna (dummy) Bourgas (dummy) Pseudo R-squared

0.132 (1.62) 0.100 (1.22) -0.000 (-0.13) -0.033 (-0.38) 0.330 (1.63) -0.039 (-0.62) -0.253*** (-2.87) -0.245** (-2.51) -0.199** (-2.04) 0.04

Source: Authors’ calculations using data from Bulgaria ARC Survey (2009).

Table B: Regression of general perceptions on firm characteristics (1 of 2)

245

Worker Education 273

Access to Finance 282

-0.083 (-0.35) 0.379* (1.71)

-0.174 (-0.68) 0.090 (0.36)

0.020 (0.11) 0.127 (0.68)

-0.001 (-1.23) 0.110 (0.48) 0.199 (0.37) 0.451** (2.56)

0.001** (2.41) -0.055 (-0.24) 0.541 (1.14) 0.143 (0.84)

-0.002* (-1.85) 0.034 (0.13) 0.799 (1.33) 0.610*** (3.06)

1.314*** (4.29) 0.739** (2.16) 1.479*** (4.56) 0.08

-0.276 (-1.27) -0.120 (-0.49) -0.256 (-1.04) 0.05

-0.326 (-1.31) 0.158 (0.57) -0.048 (-0.19) 0.06

Telecom

Electricity

Transport

Access to Land

290

279

-0.031 (-0.12) 0.148 (0.54)

-0.177 (-0.79) -0.054 (-0.24)

-0.000 (-0.34) -0.206 (-0.71) 0.861 (1.53) 0.215 (1.05) 4.777 (0.03) 4.144 (0.03) 4.894 (0.03) 0.10

Courts

Crime

265

274

0.159 (0.87) -0.040 (-0.22)

-0.442** (-2.15) -0.216 (-1.07)

-0.453** (-2.16) 0.498** (2.54)

0.000 (0.94) 0.046 (0.24) 0.244 (0.54) -0.059 (-0.41)

-0.001* (-1.75) 0.054 (0.29) 0.122 (0.26) 0.295** (2.11)

-0.000 (-0.15) 0.293 (1.46) -1.147* (-1.70) -0.079 (-0.50)

0.000 (1.01) -0.308 (-1.49) 0.151 (0.30) 0.031 (0.20)

0.160 (0.84) -0.155 (-0.71) 0.410* (1.91) 0.01

-0.528*** (-2.85) -0.074 (-0.36) -0.066 (-0.32) 0.02

-0.062 (-0.31) 0.047 (0.20) 0.133 (0.57) 0.02

-0.056 (-0.29) 0.035 (0.16) 0.174 (0.81) 0.05

Source: Authors’ calculations using data from Bulgaria ARC Survey (2009). Note: ***,**,* Significant at 1, 5, and 10 percent significance levels.

ANNEXES Table C: Regression of general perceptions on firm characteristics (2 of 2)

283

Tax Admin 285

Trade Regulation 256

Labor Regulation 278

Business Licensing 267

0.089 (0.48)

-0.489** (-2.52)

-0.244 (-1.24)

0.127 (0.46)

-0.125 (-0.63)

-0.171 (-0.79)

0.121 (0.66)

-0.240 (-1.32)

-0.235 (-1.26)

0.014 (0.07)

0.419* (1.67)

-0.026 (-0.14)

-0.168 (-0.78)

-0.001** (-2.06) 0.106 (0.56) -5.190 (-0.06)

-0.001** (-2.02) 0.137 (0.74) 0.199 (0.36)

-0.001* (-1.74) 0.053 (0.27) -0.186 (-0.37)

-0.000 (-0.63) 0.258 (1.32) -4.895 (-0.04)

0.001*** (2.59) 0.075 (0.30) 0.387 (0.74)

0.000 (0.19) 0.246 (1.28) 0.056 (0.12)

-0.000 (-0.82) -0.280 (-1.23) 0.431 (0.83)

0.337** (2.36)

-0.022 (-0.16)

0.221 (1.49)

0.107 (0.71)

0.369* (1.87)

0.065 (0.44)

0.050 (0.30)

-0.043 (-0.23) 0.101 (0.47) 0.106 (0.50) 0.03

0.062 (0.34) 0.250 (1.22) 0.557*** (2.70) 0.03

-0.627*** (-3.26) -0.472** (-2.21) 0.075 (0.36) 0.05

-0.206 (-1.05) -0.261 (-1.18) -0.088 (-0.40) 0.02

-0.897*** (-3.71) -0.602** (-2.27) -0.289 (-1.12) 0.11

-0.145 (-0.77) -0.359* (-1.65) 0.070 (0.32) 0.01

-0.720*** (-3.40) -0.931*** (-3.70) -0.426* (-1.83) 0.05

Corruption

Informality

Tax Rates

269

278

-0.206 (-1.10)

Source: Authors’ calculations using data from Bulgaria ARC Survey (2009). ***,**,* Significant at 1, 5, and 10 percent significance levels.

Table D: Regression of perceptions about regulation on firm characteristics

Observations Sector New manufacturers (dummy) Information technology (dummy) Firm Characteristics Workers (log) Exporter (dummy) Foreignowned (dummy) Produced new product (dummy) Location (Sofia omitted) Plovdiv (dummy) Varna (dummy) Bourgas (dummy) Pseudo Rsquared

Compulsory certificates 254

266

Inconsistent Application 253

Instability Policy 255

Standards and Certification 266

Environmental Regulation 264

Competition Protection Law 269

-0.428* (-1.88)

-0.465** (-1.98)

-0.029 (-0.15)

0.008 (0.04)

-0.296 (-1.44)

-0.249 (-1.21)

-0.218 (-1.09)

-0.597** (-2.56)

-0.584** (-2.40)

0.093 (0.49)

0.200 (1.04)

-0.185 (-0.89)

-0.585*** (-2.69)

-0.143 (-0.73)

-0.001* (-1.92) -0.066 (-0.28)

0.000 (0.13) 0.153 (0.64)

-0.000 (-0.77) 0.560*** (2.90)

-0.000 (-0.12) 0.355* (1.83)

-0.001 (-1.57) 0.118 (0.56)

-0.000 (-0.57) 0.457** (2.21)

-0.000 (-0.74) 0.019 (0.09)

-0.142 (-0.21)

-0.136 (-0.22)

-1.472** (-2.52)

-1.229** (-2.30)

-0.087 (-0.17)

-0.745 (-1.23)

-5.060 (-0.04)

0.164 (0.92)

-0.217 (-1.16)

0.108 (0.73)

0.282* (1.89)

0.097 (0.62)

0.087 (0.53)

0.094 (0.63)

-0.112 (-0.48) -0.513* (-1.75) 0.011 (0.04)

-0.212 (-0.84) -0.071 (-0.26) -0.208 (-0.74)

-0.142 (-0.75) 0.079 (0.35) 0.065 (0.31)

-0.218 (-1.14) 0.310 (1.37) 0.220 (1.05)

-0.797*** (-3.83) -0.606*** (-2.59) -0.095 (-0.43)

-0.153 (-0.69) -0.123 (-0.50) 0.080 (0.34)

-0.146 (-0.73) 0.015 (0.07) 0.556** (2.52)

0.0339

0.0414

0.0235

0.0278

0.0459

0.0399

0.0338

Inspections

Source: Authors’ calculations using data from Bulgaria ARC Survey (2009). Note: ***,**,* Significant at 1, 5, and 10 percent significance levels.

ANNEX 4 Table E: Regression of perceptions about taxation on firm characteristics

Treatment by Tax Authorities 279

Availability of information 281

Tax Forms

Tax Inspections

Tax Audits

Frequency of Changes

Tax Penalties

279

269

245

275

256

Appeal Mechanis m 252

-0.172 (-0.73)

-0.357 (-1.63)

0.093 (0.42)

-0.161 (-0.74)

-0.043 (-0.17)

-0.225 (-1.17)

-0.327 (-1.44)

-0.408* (-1.95)

-0.131 (-0.55)

-0.147 (-0.69)

-0.351 (-1.49)

-0.253 (-1.15)

0.461* (1.93)

-0.248 (-1.32)

-0.466* (-1.94)

-0.340 (-1.64)

-0.002** (-2.13) 0.512** (2.20) 0.150 (0.24)

-0.001 (-1.29) 0.087 (0.39) -0.442 (-0.68)

-0.001 (-1.59) 0.280 (1.21) 0.125 (0.21)

-0.001 (-1.51) 0.340 (1.58) -4.180 (-0.04)

-0.001 (-0.94) 0.271 (1.16) -4.365 (-0.02)

-0.001 (-1.40) 0.393** (2.09) -0.303 (-0.62)

-0.001 (-1.57) 0.102 (0.43) -4.053 (-0.03)

-0.001** (-2.07) 0.182 (0.88) 0.289 (0.51)

-0.100 (-0.54)

0.147 (0.86)

-0.064 (-0.36)

0.398** (2.24)

0.088 (0.48)

0.106 (0.72)

0.184 (0.98)

0.257 (1.57)

0.024 (0.09) 0.231 (0.83) 0.194 (0.67)

0.469* (1.91) 0.686*** (2.59) 0.566** (2.07)

0.198 (0.77) 0.295 (1.04) 0.308 (1.09)

-0.027 (-0.12) 0.030 (0.11) 0.466* (1.81)

-0.771*** (-3.28) -0.329 (-1.23) 0.217 (0.83)

0.184 (0.92) 0.436** (1.97) 0.842*** (3.76)

0.455* (1.72) 0.022 (0.07) 1.170*** (4.02)

0.486** (2.15) 0.658** (2.57) 0.902*** (3.59)

0.03

0.04

0.08

0.04

0.08

0.04

Source: Authors’ calculations using data from Bulgaria ARC Survey (2009). ***,**,* Significant at 1, 5, and 10 percent significance levels.

Annex 5. Problems with perception data It is important to realize that perceptions are not a perfect measure of the investment climate. There are three broad questions about perception-based data. The first question is whether firm managers can provide consistent and reliable information about the constraints they face. That is, are they able to answer the questions consistently and is it possible to aggregate their responses in a meaningful way. Assuming that firm managers are able to answer the questions consistently and that researchers can aggregate these responses in a meaningful way, a second question is whether the perceptions of the enterprise managers interviewed in the survey reflect what the biggest constraints really are in the country. Even if perception-based questions allow the researcher to say what firm managers see as the biggest constraints, managers’ views might not provide accurate information on how these constraints affect the economic performance of the whole economy. For example, enterprise managers might see competition as a serious problem in that it makes it hard for their enterprise to be profitable. But although competition might be bad for individual enterprises, it might be good for the economy as a whole. The final question is whether perception-based data provides reliable information on constraints that allows researchers to make cross-country comparisons. That is, is it possible to say that because enterprise managers in a country were more concerned about corruption than in another country then is it possible to say that corruption is a greater problem in the first country than in the second country? To do this, the researcher would need to have reasonable confidence that he is able to aggregate managers’ responses and that these responses are meaningful in the first place. It would also be useful to know that the responses actually reflect the constraints in that country. The most serious concerns are related to the first issue – whether managers are able to rate various aspects of the investment climate in a consistent and predictable way and whether these views can be aggregated by researchers. Are managers willing and able to accurately report their perceptions about the investment climate? If not, then it will be difficult to get any useful information from data on firm perceptions. One response to this question is that if enterprise managers do not know about immediate problems that they face with respect to their day-to-day operations, then it is hard to believe that outside experts in government, international organizations, or academia will have a better understanding of these problems. Moreover, it is important to note that in practice the areas of the investment climate that are asked about are fairly broad (e.g., tax rates, labor regulation, licensing, and access to finance) not very specific problems that require detailed knowledge about that area of the investment climate (e.g., about specific tax laws or specific aspects of labor regulation). Even if managers can rank or rate constraints correctly, there is and additional problem of aggregating perceptions across firms. Constraints affect different firms to different degrees and perception-based data cannot be aggregated as easily as objective data (for example, costs measured in local currency). This makes it difficult to rank obstacles. For example, it is not clear whether an issue that one firm considers a very serious problem and another firm considers a minor problem, is more or less of a problem on aggregate than one that both consider a moderately serious problem. Or is a problem that one says is the biggest problem and another firm says is the seventh largest problem a greater or lesser constraint than one that both rank as the third greatest constraint? It is difficult to conclusively show whether managers are able to answer these questions or to show that their perceptions can be aggregated across firms. In this study, we approach this question by looking at whether the two perceptions questions asked on the investment climate survey – on whether each area is a serious obstacle and what the biggest obstacle is – and 62

ANNEX 5 checking that the responses are broadly consistent. To the extent that they are – and taking into account that the aggregation procedures are different – this might suggest that this is not a serious concern. The second issue is that even if you accept that firm managers know about the problems that their firm faces and that the aggregation that has been used is acceptable, it is still possible that their responses do not provide useful information on what the major constraints are in a country. That is, even if the responses and aggregation provide information on what managers believe are the major constraints in the country, it is possible that these concerns might not reflect the true barriers to private sector development and growth. That is, these rankings might represent what the main problems that the firms face are, but that these beliefs might not describe what the true barriers are. One reason why this might be the case is that the views of interviewed managers might not reflect the views of non-interviewed firms. The Enterprise Surveys are conducted in the main cities in each country – usually between 3 and 5 locations – and only cover firms with over five full-time employees in the manufacturing and service sectors.57 So, for example, rural firms and firms in primary production (agriculture and mining) are excluded from the survey. Since the concerns of small, medium-sized and large manufacturing and service firms might not reflect the concerns of microenterprises, rural firms, farms or mines, the results need to be interpreted in this light. In addition to not reflecting the concerns of firms that are excluded purposely from the survey (e.g., firms in mining or agriculture or microenterprises), the survey might also not reflect the views of other omitted firms. One group of unintentionally omitted enterprises is potential new entrants. These firms might have different concerns about the investment climate than managers of existing firms. For example, managers of existing enterprises that have already completed registration procedures might not be concerned about entry costs even if they remain high. It is important, therefore, to think about how constraints might affect new and potential entrants as well as how they affect the managers of existing firms interviewed during the survey. More broadly, another omitted group is firms that are unable to operate in a country due to problems in the investment climate. For example, in countries where the power supply is particularly binding, firms that rely upon constant and cheap power might simply be unable to operate. Only firms that are able to cope with unreliable power will operate. Similarly, if the ports and custom facilities are particularly poor, very few firms might operate in exportoriented industries. Or if transportation costs are especially high in some areas, existing firms might only be located close to transportation facilities or might provide their own transport. Since you can only interview firms that exist—and by definition these are firms that have managed to overcome the binding constraints—surveys of existing firms may underestimate the barriers due to particularly binding constraints.58 A separate problem unrelated to possible differences between the perceptions of interviewed firms and non-interviewed firms is the problem that enterprise managers’ interests might not always be consistent with society’s interests. Most managers would like subsidized credit or to be charged less for electricity or water if they believed that the cost of providing these services would be borne by someone else. They would also prefer that the burden of taxes fall on others rather than themselves. And most would be happy to face less competition even if the cost to society outweighed the benefits to their firm. It is important, therefore, to keep the costs of 57

The survey covers all manufacturing sectors (group D) and computer and related activities (sub-group 72 of group K). 58 Hausmann, Ricardo, and Andres Velasco (2005) illustrate this point with an analogy to camels and hippos. They note that the few animals that you find in the Sahara will be camels, which have adapted to life in the desert, rather than hippos, which depend heavily upon water. Asking the camels about problems associated with life in the desert might not adequately represent the views of the missing hippos. 63

ANNEXES interventions in mind and to think about how policy changes will affect other stakeholders (e.g., workers and taxpayers) before adopting programs to reduce constraints. Related to this it is also important to note that although managers may be aware of a problem, they might not be aware of the underlying causes. For example, they might know that it is difficult to get bank loans to finance new investment, but might not know why this is (e.g., lack of competition in the banking sector, government debt issues crowding out private investment, or problems with land registration that prevent firms from using land as collateral). As a result, additional information is needed to assess how to release any given constraint. These concerns emphasize that it is important to keep in mind the limits of perception-based data. That is, it is important to keep in mind that the perceptions of the interviewed firms do not necessarily reflect the perceptions of firms that are not interviewed either due to conscious omissions or other reasons. It is also important not to unconditionally accept the views of the managers. The final question is that perceptions might not provide enough information to make crosscountry comparisons of investment climate constraints. One reason to suspect this is that cultural differences or persistent differences in expectations about how the investment climate should look might affect perceptions. For example, if it is more culturally acceptable in some countries to complain about government policy than in others, then we would probably see more complaints about all aspects of the investment climate in these countries than we do in other countries where complaining about policy is less acceptable. Similarly, expectations about political freedom and freedom of speech might affect whether managers are willing to complain to interviewers about the investment climate more than it affects their willingness to answer objective questions.59 This can make cross-country comparisons of perception-based data difficult and means that these comparisons should be treated carefully. In many ways, the final concern about cross-country comparability is a narrower concern than the first concern. It is plausible that enterprise managers might be able to provide useful information on the relative constraints that various aspects of the investment climate impose upon then (i.e., telling the interviewer whether tax rates are a greater or lesser problem than access to finance) even if this does not allow the researcher to make valid cross-country comparisons. On the other hand, it seems unlikely that cross-country comparisons would be valid if internal comparisons were invalid. That is, if measures of the investment climate are so flawed that it is impossible to rank constraints within the same country based upon the responses of firm managers, it is very unlikely that it would be possible to make cross-country comparisons. On the other hand, it might be possible to make within-country comparisons even if cultural or other differences make cross-country comparisons difficult. Although the concerns about using perception-based data are serious, it is important not to overemphasize these problems. Recent work suggests that perception-based measures line up reasonably well with objective macro- and micro-economic indicators even on a cross-country basis.60 That is, despite concerns about subjective measures, they seem to provide useful information. Moreover, some things are very difficult or costly to measure objectively — for example, how ‘fair’ or ‘reliable’ the court system is. In these cases, perceptions give valuable information on things that would otherwise be very costly or difficult to measure.

This appears to be true for both sensitive and less sensitive questions. Jensen et al (2008) show that nonresponse patterns and lying reduce measured corruption in politically repressive environments. But similar patterns also appear for less sensitive questions. In particular, Clarke et al. (2006) show that firms appear to complain more about access to finance in countries that are more free politically than in other countries after controlling for other country and firm characteristics. See also Jensen, Nathan M., Quan Li, and Aminur Rahman (2008) and Clarke, et al. (2006). 60 See, for example, Gelb and others (2006) for work using data from Africa or Hellman and others (1999) for work using data from Eastern Europe and Central Asia. See Gelb, Alan, et al. (2006) and Hellman, Joel, et al. (1999). 64

ANNEX 5 It is also important to remember that there are concerns about objective data as well — particularly for sensitive and difficult questions.61 In comparison to many of the objective questions, the perception questions are both relatively easy for the managers to answer — no implicit or explicit calculations are needed — and many would appear to be less sensitive than their objective counterpart questions. For example, it would seem to be less controversial for a manager to say that corruption is a problem than to answer objective questions such as whether ‘firms like theirs’ typically pay bribes or whether ‘inspectors requested bribe payments when your enterprise was last inspected.’62

For example, some work has shown that managers in Africa appear to find it difficult to answer questions that involve calculating percentages. Clarke (2008) shows that managers that report bribes as a percentage of sales report bribe payments that are between four and fifteen times higher when they report them as a percent of sales than when they report them in monetary terms. This does not appear to be due to outliers, differences between firms that report bribes in monetary terms and firms that report them as a percent of sales, and the sensitivity of the corruption question. Lying is also a problem. Azfar and Murrell (2009) show that even broad questions about corruption, including questions about ‘firm like yours’, suffer from serious problems with lying and non-response that can lead to substantial underestimates of the extent of corruption. See also Clarke (2008). 62 In the Enterprise Survey, many objective questions on sensitive questions are asked indirectly to reduce these concerns. For example, on the issue of corruption, firms are asked the question “we’ve heard that establishments are sometimes required to make gifts or informal payments to public officials to get things done with regard to customs, taxes, licenses, regulations, services etc. On average, what percentages of total annual sales, or estimated annual value, do establishments like this one pay in informal payments/gifts to public officials for this purpose?” There are also a series of direct questions about bribe requests for licenses and utility connections and during inspections. For example, in the question on utility connections, firm managers that reported applying for utility connections were asked whether ‘a gift or informal payment was expected or requested’ not whether a bribe was paid. Thus, they can admit that a bribe was requested without actually admitting whether it was paid. Azfar and Murrell (2009) argue that even broad questions about corruption, including questions about ‘firm like yours’, suffer from serious problems with lying and non-response. 65

ANNEXES

Annex 6. Comparison with the 2008 BEEPS and 2007 Enterprise Survey The most notable difference between the BEEPS 2008 and the ARC 2009 survey was in terms of access to finance and tax rates. Whereas only about 17 percent of firm managers said that access to finance was a major or very severe problem in 2008, about 30 percent said the same in 2009. This has a large impact on the relative rankings of access to finance based upon the percent of firms that said it was a serious problem. In 2009, more firms said that access to finance was a serious problem than any other area except for informality and corruption. In 2008, access to finance only ranked as the ninth biggest constraint. In contrast, fewer firms said that tax rates were a problem in 2009. It is likely that the global financial crisis has impacted corporate lending in the past couple of years, as reflected in the firm-level survey results. Most of the specific areas of regulation asked about in the two surveys were not rated as serious problems in either of the two surveys. Fewer firms said that trade regulation was a problem in both years than any other area of the investment climate. Business licensing was rated as a serious problem by 12 percent of firms in 2009 and by 9 percent in 2008, although it ranked slightly higher in 2009 (10th compared to 14th). More firms rated labor regulation as a serious problem in 2008 than in 2009 (13 percent compared to 2 percent), but it ranked among the smallest constraints in both years. Figure A: Informality and corruption also ranked among the top concerns in the 2008 BEEPS in Bulgaria

Source: BEEPS (2008‐09).

Although about 20 percent of managers said that access to finance was a problem in 2007, slightly higher than in 2008 and lower than in 2009, it only ranked as the 13th greatest constraint in 2007. In comparison, it ranked as the 3rd greatest constraint in 2009 and the 9th greatest constraint in 2008. The increasing concern about access to finance between the surveys probably reflects the growing impact of the global financial crisis that hit Bulgaria in late 2008. As in the 2009 ARC Survey and the 2008 BEEPS, very few firms said that trade regulation was a serious problem in the 2007 Enterprise Survey. Only about 3 percent of firms said that trade regulation was a serious problem in 2007 – about the same as in 2009 (0 percent). 66

ANNEX 6 In contrast, although neither labor regulation nor business regulation ranked among the topmost concerns in the 2007 Enterprise Survey, firm managers were far more likely to say that both were serious problems in 2007 compared to 2008 or 2009. In 2007, about 21 percent of managers said that business licensing was a problem and about 20 percent said that labor regulation was a serious problem. In comparison, only about 12 percent of firms said that business licensing and only about 2 percent said that labor regulations were serious problems in 2009. That is, although neither ranked among the top concerns in either year, fewer firms were concerned about them in 2008 and 2009. Figure B: Informality and corruption also ranked among the top concerns in the 2007 Enterprise Survey in Bulgaria

Source: World Bank Enterprise Survey (2007).

ANNEXES

Annex 7. Innovation indicators Excessive regulatory and administrative laws and procedures have a negative impact on private innovation intensity, and studies have found evidence to this effect.63 A reason why we could expect a negative relationship is that unnecessary regulatory and administrative measures hamper the normal operation of the corporate sector and force companies to divert productive resources into activities that yield no return. Excessive regulation reduces the flexibility to introduce new products, creating artificial market barriers and limiting the willingness to make investments, expand facilities, import machinery, and change the composition of workforce. There is a reverse causality, as innovation and technology absorption, particularly in information and communication technologies (ICT), can reduce the regulatory burden. For example, new technologies rolled out as part of e-government initiatives help companies to slash the cost and delays to get compulsory certificates and licenses, carry out inspections, etc. Bulgaria has made progress in this area but further efforts will be needed to catch up with EU leaders. Bulgaria could also utilize ICT to transform education, agriculture, and R&D. Government can leverage ICT to connect university, research, and business communities, thereby strengthening R&D in the economy and technology adoption and innovation among SMEs (World Bank, 2010b). This Annex presents the 2009 ARC Survey findings on innovation propensity of firms.64 The ARC Survey asks several questions regarding the innovative activities of firms:

 In the last three years, has this establishment introduced any new products and services?  In the last three years, has this establishment introduced any new or significantly improved production processes including methods of supplying services and ways of delivering services?  In the last three years, has this establishment significantly changed its organizational or management structure?  In fiscal year 2008, did this establishment spend on research and development activities, either inhouse of contracted with other companies?  In the last three years, has this establishment upgraded an existing product line or service?

Figures A-E show the percentage of firms65 answering in the affirmative to each of these questions broken down by size (micro, small, medium, large) and type of the enterprise (new manufacturing, established manufacturing, IT sector).

A clear policy statement was formulated by the European Commission’s independent expert group, chaired by former Prime Minister of Finland Esko Aho, which recommended that European governments: “Provide a harmonised regulatory environment across the EU favourable to innovation and based on early anticipation of needs” (EC, 2006). Negative consequences of the regulatory burden for corporate dynamism have been discussed in Djankov, S. et al. (2002). An example of a recent econometrics study that finds a negative relationship between innovation and the regulatory burden is Krammer (2009) which uses panel data for several transition countries. 64 Innovation is conceived broadly, so that it includes the introduction of new products and processes, organizational innovation, R&D activities, and upgrading of product lines. Innovation includes a continuum of activities from incremental, informal new-to-the-firm adaptation of existing technologies—because in practice adoption and imitation of an available technology is always accompanied by some adaptation in order to make improvements in how things are done, that are usable in a new context—to high-risk radical new-to-the-world creation of patentable disruptive products and processes based on formal R&D expenditures. 65 This assumes the EU definition of firm size: small firms 0-49 employees; medium 50-249; large 250+. 68

ANNEX 7 Figure B: Product innovation by Firm’s size and industry Percentage, % 0 10 20 30 40 50 60 70 80 90 100

Percentage, % 0 10 20 30 40 50 60 70 80 90 100

Figure A: Participation in R&D by firm’s size and industry

51.43 38.10

19.61 14.71

33.33

16.67

12.50

10.00

35.48

7.69 0.00

0.00

Micro

Small

Medium

IT Established Manufacture

Large

100.00100.00 90.48

70.59

69.44 64.71

62.50 50.00

48.72

44.12 36.36 29.41

Micro

New Manufacture

Small

Medium

IT Established Manufacture

Large New Manufacture

Number of Companies: Micro: EM=11, NM=35, IT=34; Small: EM=16, NM=39, IT=51; Medium: EM=34, NM=18, IT=21; Large: EM=38, NM=3, IT=1

Source: ARC Survey 2009

Percentage, % 0 10 20 30 40 50 60 70 80 90 100

Figure C: Product upgrading by firm’s size and industry 100.00

100.00100.00 94.74

87.50 78.79

78.00

75.76

73.68

72.22

Small

Medium

72.73

47.06

Micro

Large

IT Established Manufacture

New Manufacture

Number of Companies: Micro: EM=11, NM=35, IT=34; Small: EM=16, NM=39, IT=51; Medium: EM=34, NM=18, IT=21; Large: EM=38, NM=3, IT=1

Source: ARC Survey 2009

Figure E: Process innovation by Firm’s size and industry

100.00

33.33 25.00 17.65

15.69 3.13

Micro

23.81

33.33

36.84

20.59

12.82

0.00

Small IT Established Manufacture

Medium

Large New Manufacture

Percentage, % 0 10 20 30 40 50 60 70 80 90 100

Figure D: Organizational innovation by firm’s size and industry

100.00

80.95 66.67

62.50

60.00

69.44

52.00 44.44 43.75 37.84 30.30 21.88

Micro

Small IT Established Manufacture

Medium

Large New Manufacture

Number of Companies: Micro: EM=11, NM=35, IT=34; Small: EM=16, NM=39, IT=51; Medium: EM=34, NM=18, IT=21; Large: EM=38, NM=3, IT=1

Source: ARC Survey 2009

Several results on innovation emerge from the 2009 ARC survey findings. First, the percentage of firms introducing product or process innovations, the two most frequently used indicators of innovative effort, is about 50-60 percent of the sample. This seems high when put against the most recent Eurostat data66, which estimate that only 20 percent of enterprises in Bulgaria are involved in innovation activities, around the same as in Latvia, Hungary, Romania and Lithuania. The difference between these two sources calls attention to the difficulty of having a consistent measure of innovation and the usefulness of relying on multiple complementary indicators. Second, upgrading of existing product lines is much more frequent than the introduction of innovation, with close to 90 percent reporting that they had done so in 66

As per Eurostat news release (2009), the countries with the highest proportion of enterprises involved in innovation activities are Germany (63 percent of enterprises), followed by Belgium (52 percent), Austria and Finland (both 51 percent). 69

ANNEXES the last years. Third, organizational restructuring is infrequent, occurring in around 20 percent of firms. Fourth, R&D activities are undertaken by a much smaller share of firms than introduction of new products/processes is. Fifth, there is clear positive correlation between the size of the firms and the propensity to innovate for all of the variables mentioned which holds within each subgroup of companies–i.e. larger IT firms are more likely to have product innovation, process innovation, and R&D spending. Lastly, as expected, IT sector enterprises have a higher propensity to innovate than manufacturing firms do. The 2009 ARC Survey asks similar questions to the questions of the 2008 BEEPS, which makes it possible to check the consistency of the two sources of information and better understand the drivers behind these decisions. Looking at the data indicates that the responses of firms in the ARC survey are broadly in line with the (larger) sample in the BEEPS, and the same positive trend between firms’ size and innovation propensity also features in the data. Based on firm characteristics and location, determinants of the propensity to innovation, as per 2009 ARC Survey findings are presented in the table below. The econometric results show that private innovation propensities are linked to the sectors in which firms operate. Firms dedicated to IT, which need to be constantly adapting just to keep up with technological change at the global level, have an appreciably higher probability of introducing product innovations. Newly-established manufacturing companies have a low probability of investing in formal R&D (see Table A below). There is a positive association between innovation propensities and firm size as per the 2009 ARC Survey findings, which is consistent with Schumpeter’s hypothesis that larger firms have more incentives and resources to carry out innovation. Lastly, formal R&D is strongly associated with achieving all types of innovative results. The location of the firm is also correlated as per the 2009 ARC Survey with the innovation propensity, with innovating firms generally more likely to be in Sofia (see Table A). There are many explanations for this. The economics of agglomeration suggests firms in larger cities enjoy better access to the public R&D base, can hire workers with better skills, and so on. Bulgarian R&D and innovation activities are highly concentrated in regional terms. Sofia and the nearby area are the most developed in the country with around twice as much R&D spending as the other locations (Applied Research and Communications Fund, 2009). Sofia has a privileged political and economical role, FDI is prone to come to the capital, and there is a high concentration of universities and research institutions. There also exists an uneven distribution of qualified workforce in the country with the majority residing in Sofia. This results in higher employment in the high-tech sectors in the capital.

ANNEX 7 Table A: Determinants of the propensity to innovate in Bulgaria

Observations Sector Information technology (dummy) New manufacturers (dummy) Firm Characteristics Workers (log) Exporter (dummy) Foreign-owned (dummy) R&D activities (dummy) International Certification (dummy) Business licensing and permits represent obstacle to operations (dummy) Age (dummy) Location (Sofia omitted) Bourgas (dummy) Plovdiv (dummy) Varna (dummy) Pseudo R-squared

Product Innovation 249

Process Innovation 244

R&D Activities 249

International Certifications 249

0.67 2.63*** 0.15 0.57

0.17 0.66 -0.07 -0.27

0.06 0.21 -0.77 -2.38**

0.15 0.52 -0.04 -0.13

0.12 1.39 -0.00 -0.01 -0.18 -0.31 1.09 3.89*** 0.12 0.51

0.12 1.43 0.21 0.79 0.46 0.7 0.94 3.57*** 0.31 1.32

0.19 1.93* 0.46 1.74* 0.33 0.64 0.37 1.4

0.65 6.12*** 0.02 0.08 1.09 1.41 0.48 1.82*

-0.02 -0.06 -0.00 -0.85

0.05 0.12 -0.01 -0.97

0.54 1.37 -0.00 -0.54

-0.15 -0.34 -0.00 -0.57

-0.22 -0.81 -0.11 -0.44 -0.53 -1.96** 0.14

0.08 0.28 -0.69 -2.76*** -0.92 -3.26*** 0.19

0.43 1.31 0.58 2.07** -0.43 -1.18 0.23

-0.46 -1.37 -0.44 -1.56 -0.02 -0.05 0.37

Source: Authors’ estimates based on the ARC Survey (2009). Note: ***,**,* Significant at 1, 5, and 10 percent significance levels.

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