Further, the institutional and regulatory infrastructure that can provide for the growth of corporate securities markets is currently lacking in these countries. Bond rating agencies, investment advisory firms and securities regulatory bodies are in the very early stages of development if they exist at all. This suggests that it will be a long time before corporate securities markets in the transition countries approach the breadth and liquidity of even the Japanese and German securities markets, let alone those of the Anglo-Saxon countries.

# _Restructuring requirements offirms_

The restructuring requirements of firms in eastern Europe and Russia are very diverse. A large number of firms will have to undergo radical downsizing and even liquidation. Others must be relieved of their debt burden and restructured. In almost all cases there is an urgent need for a complete reorientation of the management of the business. This will require the replacement of management in many cases. As Phelps et al (1993) point out, the need to replace old management with new is hard to underestimate in the transition countries, where the old managers have a skill set appropriate for success in a command economy but in many cases completely inappropriate for success in a market economy. In other firms, the infusion of new funds will be necessary to invest in new technologies and new lines of business. Finally and perhaps most important, there will almost always be the need for additional expertise in marketing, accounting and finance.<sup>23</sup> Obviously all these elements are linked. Firms that are well managed will have better access to external finance and will more quickly attain the necessary business skills. In practice, however, marketing and financial skills may often be better imported through foreign trade partners or investors.

In sum, there appears to be a premium in the transition economies on a corporate governance system which can effectively fire unsuitable managers and that involves the active investor contributing to the firm's expertise in financial and accounting skills.

# **B. Conditions in the banking sector**

# _Non-performing loans_

The appearance of a large portfolio of non-performing loans was to be expected once the reform of eastern European economies was under way<sup>24</sup> . As a result of market-oriented reform and the shocks stemming from the collapse of CMEA export markets, a large number of existing enterprises became unprofitable. Not surprisingly, a substantial debt overhang developed: many firms could cover operating costs but were not able to service their debt. Banks were saddled with a large stock of non-performing loans and often found themselves with negative net worth.

> 23 The Czech economy provides a vivid example of this point. Arguably, the Czech's have advanced the furthest in addressing problems of governance and access to external finance by enterprises. Yet, some success stories notwithstanding, a large number of firms still languish, suffering from an acute lack of marketing and financial skills.

24 This and the following paragraphs draw on Dittus (1995), "Bank reform and behaviour in central Europe", Joumal of Comparative Economics, forthcoming.

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