As the largest of the Central European countries, Poland is simultaneously a wide-open investment market and a potentially serious competitor to the staid Western European economies. A country that has earned a reputation for being fiercely independent, it has become something of a disobedient child in the eyes of the French and Germans. What was particularly notable about Britain’s gesture of friendship was that France and Germany did not immediately follow suit. They did, however, respond by inviting Poland and Britain to join them, along with Spain and Italy, in a six-member EU directorate. That is distinguished company for Poland and indicative of its ability to take its place in the EU.

Poland faces growing competition itself from its Central and Eastern European neighbors, all of which are benefiting from the region’s dynamic export-led growth. Spurred by the economic rebound in Poland that has brought a 6 percent surge in GDP in 2004, compared with 3.7 percent last year, Eastern Europe’s overall growth is expected to be about 5 percent this year, with a 20 percent rise in exports. Over the next decade, the region’s largest economy will have to carve out a comparative advantage for itself within the “new” Europe.

The more economically successful Poland is, the more likely it is to assert its independence within the EU.

While Poland does not have a great deal of natural resources or an iconic product along the lines of French wine, Italian leather or German machines, it has a geographic advantage and, increasingly, a cultural advantage of standing as a bridge between East and West, so that in business deals it understands both sides. As an exporter, it can accommodate both the high-priced, quality-conscious market in the West and the price-conscious market in the East. My firm has recently made investments in Romania and Bulgaria and, to strengthen the businesses, brought in Polish managers, who are more experienced than their local counterparts. Its market of 38 million consumers and a well-educated workforce, with many people who know the languages and ways of the West available at much lower wages, are an important attraction to investors.

Poland and its eastern neighbors, however, have also been the target of public outcry in the West, where jobs are being lost as companies outsource manufacturing and back-office business services to the low-wage former Eastern bloc. The French finance minister, Nicolas Sarkozy, has proposed offering financial aid for companies that do not outsource. There also have been charges that the low corporate tax rates in the East constitute an unfair advantage. Poland levies a nominal corporate tax rate of 19 percent, while Germany’s is 38 percent and France’s 36 percent. This is an odd charge, given that the Western powers invited the emerging Eastern Europe economies into the club in the first place. They have, it seems, opened Pandora’s box.

Poland is already into its second generation of managers, who have been to business school, often in the West, and are very much aware of the need to measure up to Western standards.

Sarkozy has taken the approach that the EU should reduce aid for countries with low tax rates, but, so far, other countries have rejected his proposal. The Netherlands has taken the opposite tactic, proposing to lower its corporate tax from the current 34.5 percent to 30 percent by 2007. Austria, Portugal and Spain have also lowered their tax rates.

The more economically successful Poland is, the more likely it is to assert its independence within the EU, which will make for relations that are, to say the least, interesting. Witness, already, the way it joined the United States in Iraq, a decision that was a slap in the face to France and Germany after they had lectured Poland and some other countries about how they should act. The Poles were very upset about being told what to do. They want their legitimate say in European matters, and they do not want to be treated as poor cousins.

A Surplus of Opinions
Poles, in my experience, tend to be forceful and opinionated. It is not by accident that they set the groundwork for the end of the Soviet Union. If you talk with three politicians or three economists in a room, you will hear three—or more—different views. One of the issues they are debating right now is which model of capitalism to follow: the French and German one with its emphasis on tight government regulations or the comparatively freewheeling U.S. one. Actually, the way they have functioned so far bears more of a resemblance to Italy’s economic pragmatism amidst political upheaval. Poland has had 10 different prime ministers in 15 years, yet the economic policies remain in place.

Poles are also very much aware of a need to lessen their dependence on Germany as their largest export market, not because of any bilateral bickering, but because every economic downturn in Germany has a negative effect on Poland. The political rift between the two countries is two centuries old, and even when the Poles gets feisty over Germany’s attempts to lecture them about policies, they are nothing if not pragmatic about their business interests. They know that as an export-led economy they have to cultivate the market of 200 million people that EU membership gives them, which they are beginning to do with a particular emphasis on Scandinavia. Outside of Europe, they are looking at developing more trade ties with the Middle East. Polish engineering and construction companies have been there before, and the Middle East seems to harbor goodwill toward Poland.

The Poles have been quick studies in mastering the economic strategies they need to get ahead since the fall of communism. When I first went there in 1990, with a $240 million U.S. government grant to invest, they had only a vague idea of the meaning of such concepts as equity, return on investment and corporate governance. I once went to a 9 am meeting at a bank where our hosts served coffee, tea and cognac. (We were special guests, so we rated cognac instead of vodka.) The drinking culture disappeared for the most part, especially among executives, within a few years. One of the local partners in our firm had previously worked as a translator and another was an engineer by training, but after nearly 15 years of experience in a free market economy, they have become exceptional investment managers. Back then it was not uncommon for Polish manufacturers to send their products to Germany or Austria for finishing so that they could be sold as Western-made brands, figuring that a “Made in Poland” label would carry the same sort of stigma of inferior quality that “Made in Japan” did a half-century ago. The Poles are still hesitant to go to market nose-to-nose with the Western Europeans, but that is changing.

Managerial Brass
What propels any company forward is smart managers, and Poland has plenty of these. The whole region has an ambitious young managerial class coming into its own, but Poland is already into its second generation of managers, who have been to business school, often in the West, and are very much aware of the need to measure up to Western standards. I see in them the same kind of energy level and adaptability that brought technology wealth to places such as Silicon Valley, Boston and the North Carolina Research Triangle.

Now the Polish government and business leaders know that they have to work hard, and rapidly, to stay ahead within the former Soviet bloc. There is no reason that they should not see GDP growth of around 5 percent in the next few years—6 percent is probably not sustainable—but the moves they make now will be something of a barometer for whether EU membership is truly a good idea for economies that are still in the emerging stage. There are several vital signs to watch. Poland will be well on its way to being a first-world economy, riding no one’s coattails, if it succeeds in all of these areas:

Establishing recognizable brands and service-industry capabilities is going to be important. This is particularly so because foreign investment in Central and Eastern Europe is moving away from privatization and production for local markets and into export-oriented operations, including business-service outsourcing. Hungary is ahead of Poland in taking advantage of intellectual capabilities in the software industry, although Poland will certainly be getting more into information technology. Poles have something of a reputation for good engineering and production processes, particularly in semi-tech products. Their creativity is becoming more apparent in the fashion area, and their proprietary retail stores have the potential to become better known.

It will need to create research and development capabilities and a viable technology sector, and enforce the laws to protect intellectual property. In the early 1990s, our firm looked at some software development deals in Poland. While we believed software manufacturing for the Western markets made sense from a cost standpoint, it was at a time when the world was in a tech frenzy, and, for the most part, potential joint venture partners and investors saw no reason to go all the way to Poland when there were so many opportunities in locales that already had all of the necessary infrastructure. Today, Poland has enough science graduates to staff biotechnology and pharmaceutical manufacturing ventures at around one-tenth the cost in Western Europe. We have seen some pharmaceutical companies go from making commodity products to licensing and importing technology from major U.S. concerns. Still, such ventures can go only so far without stricter enforcement of patent laws. Poland has the D in R&D but so far has not been able to achieve the R.

The government will conquer rampant inflation. Since Poland joined the EU, demand for its food products has soared, causing food prices to rise by as much as 27.7 percent. This is a situation that is great for farmers, but terrible for consumers. The central bank is predicting an inflation rate of 6 percent in the first half of 2005. The good news is that National Bank of Poland Governor Leszek Balcerowicz is an inflation hawk who has instituted tough monetary policies to keep it under control. To address the problem, the Monetary Policy Council recently hiked basic interest rates. As a result, the zloty has become stronger, a move that, at least in the short run, may take steam out of Poland’s exports and reduce investor willingness to pursue new projects; but a precipitous drop in domestic purchasing power would be a more serious problem.

It is able to create enough jobs to ease the 20 percent unemployment rate. A growing body of young, educated people remains in need of interesting career opportunities, and an impoverished rural community needs a new direction. Political stability rests on the government’s ability to replace the protective social safety nets that have been discarded over the last 15 years. There are political parties that lean very strongly toward the old communist system, and in any election the unemployment problem has to be addressed.

My expectation is that Poland will be so successful that it may usher in an era of repercussions with France and Germany. The Poles, and other Central and Eastern Europeans, are going to be reluctant to give up corporate tax incentives. If France and Germany have to capitulate to a new order and change their own tax and regulatory structures, the new EU players will be the force behind a drastically new Europe.

Robert Faris is president and CEO of Enterprise Investors, a private equity firm that has invested more than $700 million in Poland.