The aim of this paper is to review the dynamics of economic development in the Baltic Sea region surrounding the last two waves of European Union enlargement, i.e. the accession of Austria, Finland and Sweden in January 1995; and the Baltic States and Poland joining the EU among 10 new member states in May 2004, assessing the quality of economic change and prospects for future development.

We believe that economic development is path-dependent and therefore, to understand properly the observed developments, one should study carefully both the macro-economic trends and the evolution of the specialisation patterns as characterised by the changes in the structure of industry and trade – the emergence of new higher value added industries at the expense of the gradual ceasing of mature industries. Longer-term economic development is rarely smooth and sustained. The ever increasing competition stemming from the globalisation of trade, capital markets and technology leaves policy-makers therefore with a complex task of handling the Schumpeterian creative destruction.

In the following working paper, we take the beginning of the 1990s as the starting point of our review, as it appeared to be an important turning point in time for many of the countries in the region, which denoted in many ways an end of an era and a start of a new one. It was the time that brought about the reunification of Germany and the collapse of the Soviet Union, but it was also a point in time when several Nordic countries suffered from a severe economic crisis followed by a miraculously rapid recovery. In contrast, the crisis in the former USSR endured longer and was also much deeper. The Baltic States were the first to manage to stabilise their economies, yet at the cost of the loss of previously overwhelmingly dominant Eastern markets and a large part of the inherited industrial assets. The growth resumed in Russia only after the 1998 crisis.

Even though the events were triggered by a set of fairly different events, we notice that both the public policy responses to the crisis and the outcomes of the resolution of the crises varied significantly. While the Nordic countries employed rather pro-active approaches for upgrading the existing competitive assets, the Baltic States, Poland and Russia focused predominantly on the stabilisation of the macroeconomic framework, paying relatively little attention to the actual capability of the industry to cope with rapid changes. As could be easily expected from a common-sense point of view, the above developments led to a strengthening of the industry in the Nordic countries and to the demolition of a large part of inherited, although largely uncompetitive, industries in the Baltic States as in the majority of the rest of the former Soviet block.