Summary: This paper analyzes the process of institutional transformation in Bulgaria and assesses the extent to which it has established institutions and policies fostering domestic economic activity and integration into global markets. After a brief review of characteristics and achieved progress in first-generation reforms, that is, removal of central control over prices, liberalization of foreign trade and exchange rate regimes, the paper first assesses in the comparative perspective the progress made in the quality of governance and structural reforms. It then takes a look at the extent to which this has impacted foreign direct investment inflows and was translated into improved business environment in its domestic and external dimensions. The external dimension relates to backbone services facilitating trade and Bulgaria's trade policies. As far as the latter are concerned, the discussion highlights tensions that emerge from duality-regional versus multilateral-in Bulgaria's trade policy. Despite significant progress in implementation of structural reforms and converging to the EU acquis communautaire that has led to a significant enhancement in the quality of governance and market supporting institutions, "macro" institutional improvements are yet to be fully transplanted to a micro-level, as three areas appear to remain a binding constraint: First and foremost is the low quality of the judicial system and, by the same token, weaknesses in the enforcement of property rights and contracts. Second, backbone services facilitating trade remain a barrier. Bulgaria ranks low relative to the levels of efficiency achieved on average by both EU-8 and the EU-15 countries in management of ports, information technology infrastructure, and customs. Third, there are recurrent complaints among businesses of government bureaucracy, poor infrastructure, and frequent changes in the legal framework including taxation. As a result, the regulatory burden remains huge. There are still redundant and excessive sector-specific regulatory regimes. Bulgaria's markets for industrial goods are fully contestable for pan-Europe (EU-25, European Free Trade Association, Romania, and Turkey), exposing local producers to duty-free competition from imports. With relatively high most favored-nation tariff rates, the level of reverse discrimination significantly increased over the past couple of years. While this has not resulted in perceptible trade diversion, organizational arrangements preventing that to happen unnecessarily increase administrative intervention in the economy.
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