Critical Mass Effect and Restructuring in the Transition Towards a Market Economy

In this paper we argue that restructuring firms in a transition economy produces an effect similar to a network externality, in that the profitability of restructuring depends on the number of firms that have already decided to adopt this strategy. While other papers assume the existence of a "critical mass effect", we want to investigate under what conditions such a critical mass exists. We define a "critical mass" as a situation in which such externality is positive and - as long as a sufficiently large number of firms have restructured - restructuring spurs imitation, possibly leading to the eventual transformation of the whole economy. We find that a critical mass effect exists when the main effect of restructuring is an increase in total value added (i.e., aggregate demand) rather than an increase in the firm's ability to compete against rival home firms. The critical mass case becomes the typical one when competition improves firms' efficiency